23 Sept 2019
The U.S. Stocks Have Climbed Higher but Economic and Trade Uncertainties Remain
U.S. stocks have broken out of their recent trading range and moved closer to all-time highs as trade tensions have marginally subsided and the European Central Bank (ECB) has engaged in further easing. Despite this move, attitudes among investors have been less than enthusiastic as the Ned Davis Research Crowd Sentiment Poll (CSP) recently dipped into extreme pessimism territory and has rebounded only slightly into a zone that has historically been the best in terms of the S&P 500’s annualized performance. We remain cautious despite the recent move and still-supportive investor sentiment measures as trade news continues to dominate market behavior, and that is virtually impossible to predict.
Attempting to trade around short-term news has proven to be a treacherous task; and though hope has emanated from anticipated trade talks in October and the delay of the October 1 tariffs, a comprehensive deal remains elusive. Additionally, while the topic has garnered less attention than the trade dispute with China, the United States-Mexico-Canada Agreement (USMCA) still awaits Congressional approval. A failed ratification may increase trade tensions and sour investor attitudes. More broadly, sentiment around the world has also marginally improved. Yet, no major issues have been resolved and we believe there is heightened risk of volatility, keeping us in line with our theme of “be prepared.”
Mixed picture but weakness could be deepening
Google reported that search volume for “recession” recently hit highs last seen in 2009—when the U.S. was in a recession. Though recession chatter has persisted, overall economic data doesn’t show that one is imminent. Key, larger components of the economy—including services and the consumer—have held up well in light of trade uncertainty; while manufacturing has weakened further. The Institute for Supply Management’s (ISM) Manufacturing Index fell to 49.1 in August and the forward-looking new orders component dropped even further to 47.2.
The survey highlighted firms’ continued concerns related to trade uncertainty. Unsurprisingly, apprehension over the trade dispute between the United States and China has brought down planned and actual capital expenditures. Absent a comprehensive deal and reigniting of corporate animal spirits, it is difficult to envision a near-term rebound in these measures.
Manufacturing’s malaise has yet to spread to the larger services/consumer segments of the economy. Unlike manufacturing, services has strengthened of late, as the ISM Non-Manufacturing Index surprised to the upside in August, ticking up to 56.4. The labor market has also continued to show strength, as the four-week average for jobless claims recently moved down to 213k and the unemployment rate stayed at 3.7% in August (Department of Labor). Yet, last month’s addition of 130k jobs missed the 160k consensus; and revisions for the prior two months revealed a net loss of 20,000 jobs. Should payrolls start to weaken and jobless claims tick up, consumer confidence—as measured by The Conference Board—may start to weaken and catch down to The University of Michigan Consumer Sentiment Index. Important to note is the tendency for confidence to peak ahead of recessions, which is why cracks in the labor market and/or consumer are worth paying attention to.
Monetary Policy Rethink?
With trade uncertainty high, inflation sitting below the Fed’s 2% target, and global interest rates remaining extremely low, investors continue to price in numerous rate cuts over the next six months. Fed Chairman Jerome Powell has downplayed expectations of a rate-cutting cycle, calling the July cut a “mid-cycle adjustment;” and some Fed Presidents, such as Eric Rosengren, have pointed to gradual increases in wages and prices to justify holding rates steady. Doing so could disappoint investors and result in increased volatility. Regardless, we still have doubts that rate cuts are the elixir for what ails the economy. As other central banks have continued to engage in easier monetary policy, some global rates have fallen into negative territory— but the effectiveness of such moves are now being questioned with incoming ECB President Christine Largarde saying when asked about negative interest rates, that while the effect “continues to be positive, we need to be mindful about their potential side effects, and we have to take the concerns of people seriously.” We’ll have to wait to see how things actually develop, but a rethink of monetary policy would likely cause some consternation among investors as they adjust to a new potential new reality.
Stocks have climbed higher but we don’t recommend attempting to trade around short-term moves; rather, investors should remain disciplined and diversified, and use any volatility to rebalance as needed. The consumer continues to drive the economy, while weakness is mostly still concentrated in manufacturing. Yet, the potential for volatility remains, as a comprehensive trade deal is not in sight, tariffs on consumer goods are still set to kick in on December 15, and monetary policy’s ability to spur growth and inflation may be waning. We continue to favor large caps over small caps and are neutral to U.S. and global equities.
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Diversification and rebalancing a portfolio cannot assure a profit or protect against a loss in any given market environment. Rebalancing may cause investors to incur transaction costs and, when rebalancing a non-retirement account, taxable events may be created that may affect your tax liability.
Past performance is no guarantee of future results. Forecasts contained herein are for illustrative purposes only, may be based upon proprietary research and are developed through analysis of historical public data.
The S&P 500 Composite Index is a market capitalization-weighted index of 500 of the most widely-held U.S. companies in the industrial, transportation, utility, and financial sectors.
The Institute for Supply Management (ISM) Manufacturing Index is an index based on surveys of more than 300 manufacturing firms by the Institute of Supply Management. The ISM Manufacturing Index monitors employment, production inventories, new orders and supplier deliveries.
The Institute for Supply Management (ISM) Non-manufacturing Index is an index based on surveys of more than 400 non-manufacturing firms by the Institute of Supply Management. The ISM Non-manufacturing Index monitors employment, production inventories, new orders and supplier deliveries.
The Consumer Confidence Index is a survey by the Conference Board that measures how optimistic or pessimistic consumers are with respect to the economy in the near future.
The University of Michigan Consumer Sentiment Index is a consumer confidence index published monthly by the University of Michigan. The index is normalized to have a value of 100 in December 1964. Each month at least 500 telephone interviews are conducted of a continental United States sample (Alaska and Hawaii are excluded). Fifty core questions are asked.
Indexes are unmanaged, do not incur management fees, costs and expenses, and cannot be invested in directly.
The Schwab Center for Financial Research is a division of Charles Schwab & Co., Inc, and the source of comments provided here.
About the author:
Liz Ann Sonder, Senior Vice President, Chief Investment Strategist, Charles Schwab & Co., Inc.
Jeffrey Kleintop, Senior Vice President and Chief Global Investment Strategist
Brad Sorensen, CFA, Director of Market and Sector Analysis, Schwab Center for Financial Research