The big three U.S. equity indices (DJIA, S&P 500 NASDAQ) all finished at record highs last week as the GOP tax overhaul and a stopgap funding bill to keep the government funded through mid-January both were signed. The fifth largest tax cut in U.S. history lowered the corporate tax rate to 21% and reduced personal income taxes. The $1.4t fiscal stimulus package is expected to propel growth well into the new year. While equity markets got a head start pricing this in, it seems the bond market finally gave a nod to the stimulus last week with an increase in bond yields across the curve – particularly on the longer end.

Market Anecdotes

  • Going into the final week of the year, the Nasdaq 100 Index of growth stocks has been the top performer year-to-date with a gain of 32.93% compared to 8.81% for the Russell 2000® Value index.
  • Many economists project growth of more than 3.0% in the fourth quarter which would be the first time since 2004-05 that GDP growth has exceeded 3.0% for three consecutive quarters.
  • The yield curve steeped quickly after the 2016 election and has been flattening ever since. Economic and policy events last week resulted in a steeper yield curve with 3-month and 2-year yields rising 0.02% and 0.07% respectively while yields over 10-years climbed 0.13% to 0.16%.
  • The BoJ reaffirmed continuance of their extremely accommodative monetary policy for ‘as long as necessary’ last week: Policy rate of -0.10%, targeted 10yr JGB yield of 0%, no change in the ¥80 trillion bond buying program, ETF and REIT purchases of ¥6 trillion and ¥90 billion respectively.
  • The average P/E ratio of the FAANG stocks is 115x, a huge premium to the 22.5x multiple on the S&P 500. Be wary of chasing that performance and be familiar with index composition when evaluating passive allocations.
  • A University of Pennsylvania Wharton School model illustrated the front end loaded nature of the corporate tax cut. It estimates that companies will pay an average effective tax rate of 9% next year but in 10 years, baring changes, that will double to 18%.
  • Complacency? Bianco Research points out that we have had 156 consecutive days of ‘risk on’ flows, where capital flows into risk assets has been greater than capital flows into risk off’ assets – the longest such streak since the data series began in 2000. We are 286 days since we’ve seen a 3% correction in the S&P 500 – the longest on this data series since 1928.

Economic Release Highlights

  • PCE and core PCE for November remained stubbornly low at 1.8% and 1.5% y/y respectively.
  • November wages grew a respectable 0.4%.
  • Consumer spending was strong, rising 0.6% m/m. Unfortunately, much of the gain is attributed to an increase in gasoline prices and a sharp fall in the savings rate to 2.9%, the lowest savings rate in 10 years.
  • The market for new homes has pivoted higher in recent months. November housing starts of 3.3% matched an equivalent result in October. Starts shot higher in September and seem to have maintained throughout the quarter.
  • The third estimate of 3Q GDP came in at 3.2%, confirmation of the improved growth environment in the U.S., albeit a slight downward revision due to lower personal consumption.
  • Durable goods orders increased 1.3% m/m, a modest result but on the low end of expectations. Robust aircraft sales and other core capital goods are likely to be additive to the 4Q GDP tally.