Trade War Worries Bring February Lows Back in Focus – Week Ended 3/23/18

It was one of the worst weeks for equities in recent memory as the S&P500 skidded -6% and the tech-heavy Nasdaq gave back -6.5%. The pressure over the last two weeks is bringing the lows set back in early February (following a 9 day pullback that commenced after all-time highs were set on January 26) back in close proximity. Those who were feeling emboldened and relieved by a very abbreviated corrective phase and V-shaped recovery over the balance of February may be starting to feel less confident. Simply, the variety of troubling headlines in recent weeks are the most obvious catalyst for retesting lows set several weeks back and sentiment appears to be eroding based on continued developments around international trade (trade war fears) and ongoing White House drama (budget, scandal, personnel changes, etc). Troubling as those themes are, deteriorating sentiment is ordinarily a requisite condition for corrections to actually have any cleansing effect and deter risky investor behavior.

To quickly recap the market-moving headlines, not only did we get more definitive language around trade and investment restrictions that the Trump administration is floating against global heavyweight China, but also observed a fresh round of personnel changes that can only be interpreted by the public as ongoing stress and a volatile environment inside the White House. These do nothing to inspire investor or public confidence and the presidency continues to feel like a train wreck even to supporters of policy views. Further, Facebook which has been one of the biggest positive contributors to index performance in recent years saw its share price hammered on news that user data was used in ways the general public did not think were possible. Yet, from an economic perspective, the underlying data both in the US and abroad remains quite attractive. Last week we learned that corporate sentiment remains high, house prices are firming heading into the busier season, leading economic indicators are advancing, and durable goods orders remain healthy. Important also, early estimates for corporate earnings over the balance of this year imply strong gains and help to justify (if not cheapen) stock prices on the basis of multiples.

Despite the negative headlines about trade, and plunging stock prices that renew worries for everyday investors, we remain of the perspective based on respected macro-economic research we receive, that the economic cycle still has life. Said differently, the renewed selling pressure is more than likely part of a heathy correction; unlikely to turn into a more sinister bear market or mark the end of what is now a 9-year bull market (this is in no way intended to suggest that bull markets can run forever; we do believe we are in the latter innings of this game but extra innings are also possible). It is important to acknowledge that V-shaped corrections are rare and more often a correction is a process that involves not just an adjustment via price but also some length of time. According to market technicians, tradeable recoveries usually take the shape of a U (wherein a period of trading near the lows occurs) or a W (like appears to be developing at this time). We are also keenly watching credit spreads, which appear to be staying relatively calm during this period since late-January and imply that credit stress is not perceived to be escalating. We also believe that an all-out trade war will not develop as it is not in the interests of any country; headlines suggest that recent statements on that front are more bark-than-bite and we need to keep in context that Trump prides himself on keeping counterparties on-edge. Obviously this style leads to stress and volatile situations (and markets in this case). It is also worth pointing out that while the indexes have experienced abrupt damage, client portfolios of all objectives are holding up much better via use of active-managers who focus on owning quality companies with strong balance sheets and business models vs. those of less prideful quality. Q1 is nearing a close; but we believe 2018 extends the favorable run even if the pace enjoyed over the last two years looks certain to be more moderate and choppy and uncomfortable at times.

Posted in Blog Post.