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27 October, 2018 Market Commentary

Market Commentary - Week 43 2018

Market Commentary - Week Ending 10/27/2018

Summary

  • The market’s selloff has remained orderly and, from one long-term perspective, suggests the bull market could continue to run
  • U.S. Gross Domestic Product came in stronger than expected at +3.5% for the third quarter
  • Amazon and many other stocks suffer following disappointing earnings reports

Market Performance Summary

Source: S&P Compustat, www.yahoo.com/finance for Commodities

Notable Market Headlines

Stocks fell around the world with nearly all markets now in correction territory after peaking about a month ago. It’s been a pretty fast correction but one that is not showing signs of panic by investors. At the close of the week U.S. large stocks were lower by -3.9% as measured by the S&P 500 and now in negative territory year-to-date by -0.6%. The selling was not totally indiscriminate as 79 of the 500 stocks in the S&P 500 actually posted a gain for the week. The weakest sector was Energy stocks, down -7.4% for the week, as investors fear many of these companies have taken on too much risk at a time when demand for energy could soften.

The NASDAQ Composite, a tech-heavy index, fell -3.8%, very comparable to the S&P 500, in spite of some of the largest technology names having a terrible week. In spite of this decline, as well as the index now being in correction territory with a loss of -10.7% since its September high, it remains positive for the year by +3.8%.

Small U.S. stocks, the leaders of the market earlier in the year, declined by -3.8% also for the week. Arguably investors are fearful that a potential economic slowdown and continued higher interest rates could hit these companies hard. They are off -14.8% since their August 31 highs and are now negative year-to-date by -3.3%.

As is typical during market selloffs, volatility has picked up during the past few weeks. As an example, during the past week the Dow Jones Industrials moved an average of 513 points each day from high to low. As the accompanying graph illustrates this is clearly a ramp up in volatility but only about half what was experienced earlier in the year. Furthermore, it’s worth pointing out that, even during “normal” times, if there is such a thing, the Dow has a range from high to low of about 200 points.

Source: www.YahooFinance.com, 5-day average

It’s understandable that we all get caught up in the market’s short-term moves as we watch them day –by-day but it’s important to always take a step back and look at the bigger picture. The current bull market has been running since March 2009 or about 9 ½ years making it one of the longest. We need to remember that the decade that preceded the start of this bull run was one of the market’s worst.

As the accompanying graph shows, market returns have been abysmal when going back to December 1999, the peak of the market before the tech-wreck bear market of 2000-2002. The cumulative gain for the S&P 500 has been just +81% and the NASDAQ is up just +76%. That means $1.00 invested in the S&P 500 has grown to just $1.81 over nearly 18 years! This compares to average market returns, which are about +10% annually, that would have returned $5.97 for every $1.00 invested. From this one perspective, the bulls on Wall Street could argue there is much more room to run.

Source: S&P Compustat, Long-term Market Average: Investopedia

International markets did little better than the U.S. with developed country markets losing -3.6% and now lower by -12.6% in 2018. Emerging markets, generally considered to be riskier than others, were off -2.5% but are lower by -17.9% year-to-date. This week’s performance for emerging markets is a relatively good sign that investors are not abandoning all riskier assets.

The non-traditional assets in a diversified portfolio really helped mitigate some risk and losses this week. Gold was actually higher by +0.7%, the best performing of the three we follow. Also doing very well relative to the markets was real estate losing just -0.4% and commodities were lower by -1.4%. Again these returns are encouraging and really demonstrate the value of having these assets in a well-diversified portfolio.

Bonds overall rallied this week, common during significant stock market selloffs as investors seek safer havens for their money, gaining +0.4%. The yield on the benchmark 10-Year U.S. Treasure did fall but remains solidly above the critical 3% level.

This is a good time to remember that all bonds are not created equally. This week, for example, while the average bond gained +0.4%, U.S. Treasuries were higher by +1.0%. On the contrary, Investment Grade Corporate Bonds, those issued by some of the biggest companies, gained just +0.2% but riskier High Yield Corporate Bonds fell -0.8%. As the accompany graph shows, such behavior is not uncommon during market selloffs with High Yield Corporate bonds losing more than 1/3 of their value during the Financial Crisis of 2008-2009. If you are looking for bonds to help offset some risk in your portfolio, this performance data shows U.S. Treasury Bonds may be the best option.

Source: S&P Compustat; 9/30/2007 – 2/28/2009

Stock Highlights

It was an extremely busy week with many company reporting earnings resulting in big moves in many stocks. It’s not just been earnings report driving stocks though as the market selloff began more than a month ago before the start of earnings season. Some of the moves lower in prices have been tremendous with some larger notable names highlighted in the accompanying table. Surprising may be the fact that this list of biggest losers includes not only some popular technology company stocks but companies that are considered to be barometers of overall economic health.

Source: S&P Compustat

As noted earlier, there were several stocks that moved higher this week including the stock of Cadence Design (CDNS), a San Jose based software company. The company reported strong quarterly results with sales up +9.7% to $532.5 million and earnings per share jumping +40% topping analyst estimates. Earnings were driven by both the higher revenue and lower corporate taxes. The company further provided guidance for the fourth quarter that was better than had been expected. At the close of the week the stock was higher by +13.5% making it the best performing stock among the S&P 500.

Some other notable winners this week are the following:

Source: S&P Compustat

Among the biggest losers this week was chip maker Advanced Micro Devices (AMD). Through mid-September this stock had been one of the best performers for the year, up +218! but has since fallen from that high by -46.1% including this week’s -25.5% drop. There is a great deal of concern on Wall Street that the strong semiconductor cycle has run its course. That said, chip giant Intel (INTC) reported strong earnings and closed the week higher by +3.8%.

Amazon (AMZN) suffered a sharp loss this week in spite of posting record sales and earnings. The problem is that sales growth is slowing albeit still up +29.5% but just shy of Wall Street estimates while earnings per share easily exceed forecasts. Even more problematic was the company’s sales guidance for the holiday season of +10% - +20% growth over last year which is a far cry from the +30% last year. At the close of the week the stock was down -6.9% and now -19.5% off its record high. It’s worth noting that a selloff of this magnitude is not uncommon as highlighted in our blog from 2017.

Economic Indicator - Reported

U.S. third quarter Gross Domestic Product (GDP) grew by a better than expected +3.5% but was a slowdown from the very robust second quarter’s growth of +4.2%. Consumer spending was the driving force gaining +4.0%.

There was surprising weakness in business investment, up just +0.8%, after having been higher by an average of more than +10% in each of the two previous quarters. Some economists are worried that the stimulus of the corporate tax rate cut could be short lived which would not bode well for the growth rate in the coming quarters.

The inflation component of this report came in meaningfully below expectations up just +1.7%. This is something closely watched by the Federal Reserve when considering interest rate policy and is one data point that could suggest rates do not need to go meaningfully higher.

New Home Sales came in at an annualized rate of 553,000 homes, down -5.5%, which was well below economists’ forecast of 625,000 and below the prior months 585,000. The residential market has been among the weakest in the economy. It has been impacted by a variety of factors including tight supplies although this has improved meaningfully during the past year now at 7.1 months of inventory as compared to just 5.3 months a year ago.

Durable Goods Orders were mixed in the most recent month with the headline number strong due to orders for defense aircraft, a very volatile number, but otherwise weaker than expected.

Economic Indicators – Upcoming

The October Employment Report will be the big economic report of the week with economists forecasting 190,000 jobs added during the month after a disappointing 134,000 the prior month. The unemployment rate is expected to have held steady at a very low 3.7% while wage inflation is predicted to remain tame.

S&P Corelogic Case-Shiller Housing Price Index is expected to show a gain of +0.2% for the most recent month following a +0.1% in the prior month. This is a significant slowdown from gains that have been in the +6.0% range year-over-year.

Consumer Confidence is expected to remain near all-time highs and Productivity is estimated to have improved by +2.2% in the most recent quarter.

Contact Mark A. Patton :