December 18, 2019

The old saying, “When the going gets tough, the tough get going,” is exactly where the bullish camp is sitting at this point. The time for excuses and finger-pointing (at politics or non-economic macro events as to why the market is correcting) is over. History is on the side of “fundamentals winning out,” if in fact the fundamentals are intact. If the most recent data for the U.S. economy points to strong economic growth in 2019 of around 2.5%, then the stock market should hold up, but the piling on of the negative rhetoric within the financial media is heavily skewing the narrative toward the bearish case.

At this point, it is rational to assume that the market has priced in a further rise in the level of tariffs yet to be levied on Chinese goods, as well as the Fed’s decision to raise the Fed funds rate to 2.25%-2.50% (currently a 76.6% probability). And up until early last week, it seemed as if the market had adjusted to both scenarios. But a lingering concern for the bulls got more concerning as of late last week. The latest pothole for the market has been the fear of an economic contraction within the eurozone. The Composite Purchasing Managers’ Index slumped to 51.3 in December, the weakest reading since November 2014.

Nevertheless, the ECB also confirmed that this month will mark the end of its €2.6 trillion money-printing Quantitative Easing (QE) program, which began in early 2015 to ward off the threat of deflation, a move that had Italian bond yields spiking over the past week, hitting their highest levels in four years, as the populist government in Rome has threatened to bust the European Union’s borrowing rules. The ECB is now projecting eurozone GDP growth of 1.9% this year, falling to 1.7% in 2019. This is down from its 2.0% forecast for 2018 and 1.8% for 2019 in its September outlook.

Most market veterans I talk to on a weekly basis are as confounded by the actions of the ECB and the Fed as I am. The eurozone is slowing down and the ECB is not extending QE to manage the Italian bond bubble and the dual-party budget that abandons austerity, or the fluid Brexit crisis, the end of the Greek bailout, riots in France and the unforeseen impact that the trade war will have on the fragile recovery.

The Fed on the other hand is hell-bent on raising short-term rates that will likely push the dollar higher, invert the yield curve, put more stress on the housing market and further impair investor sentiment. Come this Wednesday, when the Fed meets, they should heed the words of Dallas Fed President Robert Kaplan, who said, “one of the key tools we have as a central bank is patience” As I noted last week, historically there is a lag period of 8-12 months between when an interest rate hike takes place and when it impacts the overall economy. This implies that the most recent three rate hikes have not been fully measured.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Clearly, all eyes and ears are on the Fed’s policy statement. Investors are looking for Fed President Jerome Powell to deliver a dovish dot plot plan for 2019. The ‘one and wait’ chant that is now being bantered all around Wall Street hasn’t done much to ease the pain of the recent selling pressure. Once the FOMC meeting is in the books, it will once again be up to the economic calendar to deliver a Santa Claus rally as the start of the fourth-quarter earnings announcement season is a full month away.

The Global Grinch Stole the U.S. Santa Claus Rally

The global Grinch is currently pushing the S&P 500 down to a monthly loss of 5.8%. Friday’s sell-off was a function of poor sentiment driven by global growth concerns and repositioning of portfolios to more defensive sectors in the equity markets and more bond exposure. The overseas selling took on a harsher tone when China reported weaker-than-expected industrial production and retail sales data.

In addition, some weaker-than-expected preliminary manufacturing PMI readings out of the eurozone helped feed into concerns over economic growth and corporate earnings prospects. Below are the current forecasts for 2019 in the world’s key economies. They lay out a pattern of continued uncertainty about economic growth, trade, politics, and the path of interest rates keeping buyers on the sidelines.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Now for the good news. A solid November U.S. Retail Sales report shows that the market’s decline has had little impact on America’s holiday shopping momentum. Total retail sales increased 0.2% (month over month). If you exclude auto, gasoline station, building materials, food services and drinking places, sales increased 0.9%. That’s important because core retail sales are used in the computation of the goods component for personal consumption expenditures in the GDP report.

This week is pivotal for the stock market in how it reacts to the Fed’s decision to raise rates and offer what should be a dovish post-FOMC meeting statement. Even with earnings revisions being lowered in a number of stocks and sectors, the S&P currently trades at a P/E multiple of just 15.1, well below the five-year average of 16.4. This is an attractive valuation assuming the GDP forecast of 2.5% growth for the U.S. is anywhere close to accurate. But what is becoming ever more obvious in light of the slowing growth rate is that if there is a Santa Clause rally, it will be characterized by quality and not quantity with stock picking and active management at a super-premium to that of passive index investing.

About The Author

Bryan Perry

Bryan Perry

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license.


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