The equity market selloff continued last week primarily on a Fed jolt and is now in the midst of its biggest correction since 2011. The dovish rate hike was not seen as dovish enough for the markets. That said, investors seemed to be nearing capitulation selling given the lack of negative fundamental news greeting the market. The S&P 500 is on track to post its worst December since 1931 despite constructive earnings and moderate economic data.
- Markets reacted very strongly to the FOMC meeting this week which we would categorize as moderate to dovish. The Fed stepped back its 2019 rate hike intentions from 3 to 2 but delivered the expected 0.25% hike (2.25%2.50%). The Fed and investors are not in sync. Futures markets are pricing in less than a 50% likelihood of a single 2019 rate hike.
- Not addressing balance sheet tapering pace may have been the lynch pin for market volatility. Balance sheet reduction and USD strength both have tightening effects on the market.
- Former FOMC member William Dudley made some hawkish comments which seemed to rattle markets. John Williams is Dudley’s replacement at the NY Fed and does have different views.
- Relief rally indicators have begun to flash. The put/call ratio (sentiment) spiked to extreme levels, the S&P 500 is over 11% below its 200-DMA, and only 17% of stocks are above their 200-DMA. These metrics are all near 2011 and 2015 market bottom levels.
- The -19.4% in 2011 (109 days) and -14.2% in 2015 (184 days) were both similar corrections in magnitude but took place over a longer period than the 63 day -15.8% correction this year.
- High yield spreads and equity market volatility both moved higher last week in sympathy with the selloff. Spreads are now over 500 bps and the VIX closed the week over 30.
- The Federal government went into partial (25%) shutdown mode last week over border funding disputes. Historically, shutdowns have not had a material impact on the economy or financial markets. There have been 19 shutdowns since 1976 for an average of 6.7 days. This one is likely to last until Congress reconvenes on January 3rd.
- China optimism? There has been an increase in optimism about a U.S.-Sino trade deal. Chinese levered stocks have shown some upside in the face of the market selloff and there has been fresh monetary and fiscal stimulus in China.
- Non-U.S. growth is a growing concern and existential risks (Brexit, EU auto tariffs, Japan weather, China trade conflict, French protests) have added to uncertainty. The BoE and BoJ both kept interest rates on hold last week.
- Estimated earnings and revenue growth for 2018 are 20.3% and 8.9% respectively - the best results since 2010 (e) and 2011 (r). S&P 500 Q4 earnings and revenue consensus numbers are 12% and 6.1% while CY19 forecasted earnings of $175.34 translate to a 15.5x P/E multiple.
- The Mueller probe may be completed by mid-February. There are currently 17 open investigations of Trump and with a Democratic house set to convene in January, odds of a Trump impeachment have risen to over 50%.
Economic Release Highlights
- November’s headline and core PCE of 1.8% and 1.9% remained below the Fed’s 2% target.
- Personal income of 0.2% missed consensus while consumer spending of 0.4% exceeded expectations and bodes well for fourth quarter GDP.
- Strong December Consumer Sentiment of 98.3 exceeded expectations, reflecting robust gains in current conditions - one of the strongest readings of the year.
- An uptick in aircraft orders lifted November durable goods orders to 0.8% but it still missed expectations for 1.4%. The ex-transportation reading of -0.3% and core capital goods of -0.6% show a factory sector that may be losing a little bit of steam.
- Final 3Q GDP registered 3.4%. Growth factors were 3.5% consumer spending, 2.5% business investment, 2.6% governmental spending, -3.5% residential spending, and an overdue inventory build.
- November Housing Starts and Permits both topped expectations moving to 4-month and 8-month highs respectively. Strength was pronounced on the multi-family side but remained weak in single family homes.
- November Existing Home Sales of 1.9% topped estimates and was the best reading in three months.