Current economic events
U.S. economic data appears sufficient for the Federal Reserve (Fed) to continue rate increases this year, but overall growth remains modest.
- Retail sales and inflation data through March softened, indicating the economy is not accelerating despite strong positive data from confidence surveys for both consumers and small businesses. Jobs market data (including declining jobless claims and a rebound in job openings) are solid, giving support to further Fed rate increases this year, which in our view, will likely be two more.
- We believe the U.S. economy continues on its slow growth trajectory of about 2 percent for 2017, based on a solid jobs market, stabilizing inflation pressures and some recovery in business spending this year. Acceleration in economic growth likely requires stimulus from fiscal policy, which has been struggling through our legislative process.
Economic activity in China has seen a modest acceleration, but we believe this is likely to be short-lived, with growth moderating slightly over the rest of the year.
- In China, first quarter gross domestic product (GDP) growth was up 6.9 percent year over year, up from 6.8 percent in the fourth quarter. Stimulus measures from late last year continue to work through the economy. During the first quarter, the People’s Bank of China tightened monetary policy in an apparent effort to limit credit growth and unwind the stimulus. Inflation data for China have started to moderate, likely reflecting the influence of tighter policy.
- We believe policymakers in China are likely to try to hold economic activity in a Goldilocks zone, not too fast/not too slow, ahead of this fall’s Communist Party Conference. Policymakers are looking to maintain jobs and confidence before setting the next five-year plan for structural reforms and economic and political evolution.
European economic data appears to be pointing toward further improvements ahead of the upcoming French election. In our view, these positive trends should continue and may ease fears of a victory for the right-wing candidate Marine Le Pen.
- Sentiment data has improved over the course of this year, along with rising inflation and improving employment. Odds have slipped for Marine Le Pen, with pro-European sentiment appearing still positive across France. Markets remain cautious, as evidenced by the higher yield on debt for France relative to Germany.
Contributed by: Robert L. Haworth, CFA — Senior Investment Strategist
Equity markets ended last week’s holiday-shortened week amidst a rising wall of worry.
- The Dow Jones Industrial Average (DJIA), S&P 500 and Russell 2000 indices declined, with eight of the 11 S&P 500 sectors posting loses. Utilities, Real Estate Investment Trusts (REITs) and Consumer Staples were the three sectors that posted modest gains for the week, reflecting tempering investor sentiment and a near-term risk-off bias.
Rising geopolitical concerns, pro-growth agenda uncertainty and technical deterioration are among reasons accounting for increased volatility and a near-term risk-off bias.
- Speculation about military engagement with North Korea, last week’s bombing in Afghanistan, ongoing tensions surrounding Syria and Russia, and the upcoming elections in France are among items contributing to rising geopolitical concerns that are weighing on investor sentiment.
- The euphoria and equity price gains immediately following the presidential election and President Trump’s pro-growth agenda (lower taxes, infrastructure spend, less regulation and reflation) are in give-back mode, with the magnitude and timing of potential changes being fluid and largely unknown, but with the general appearance of occurring later than previously believed.
While near-term sentiment has weakened, our outlook remains for equities to grind higher in 2017, absent evidence of a looming recession or widespread inflation.
- Our S&P 500 price target remains 2,475, based on a multiple of 19 times our 2017 earnings per share (EPS) estimate of $130. Stabilizing conditions within Energy and accelerating earnings of Financials and Information Technology sectors are among drivers of year-over-year earnings growth.
- While geopolitical concerns are weighing on sentiment, earnings, too, are expected to impact equity prices over the next four weeks. As of last Thursday’s close, 30 S&P 500 companies have reported first quarter results. Currently, consensus expectations are for first quarter year-over-year earnings to increase roughly 9 percent. A strong earnings season would help provide support for risk assets.
- Select areas within Technology, Consumer Discretionary and Healthcare seem well positioned to benefit from favorable growth and valuation profiles, particularly on pullbacks.
Contributed by: Terry D. Sandven — Chief Equity Strategist
Fixed income markets
The 10-year Treasury yield ended the week at the lowest levels of the year due to negative surprises in both inflation and retail sales. March core Consumer Price Indexes (CPI) declined 0.1 percent, marking the first such decline in more than seven years. Headline inflation similarly dropped by a surprising 0.3 percent in March. Yields dropped by approximately 10 basis points to 15 basis points across the curve, with the two-year to 10-year curve dropping to 103 basis points, its flattest level since the beginning of November, reflecting a softening in investor inflation expectations.
Geopolitical uncertainty continues to weigh on global growth expectations and investor risk appetite. There is significant uncertainty as U.S. forces deployed the largest non-nuclear bomb on an ISIS target in Afghanistan. This action comes on the heels of a U.S. missile strike at a Syrian airbase in retaliation for chemical weapons attacks by Syrian President Assad. Markets have reacted to the initial signs of a more active military policy and the potential commitment to displace the Assad regime. The French political landscape also remains quite uncertain as Le Pen and Emmanuel Macron remain front runners for the French presidency. However, polls show a late surge from left-wing populist Jean-Luc Melenchon. Le Pen and Melenchon would not be expected to win a second round election against any candidate, but there is a growing possibility of a runoff between them. This would leave Le Pen or Melenchon as the next French president, although either candidate would have limited power given the lack of a party majority in parliament. The first round of the French presidential election is scheduled for April 23.
We continue to be wary of sovereign debt. The U.S. dollar has remained range bound for the last few months because Fed policy rate increases are expected to continue supporting widening interest rate differentials. The European Central Bank (ECB) is expected to remain more accommodative than the Fed in 2017, even though there is little expectation for a policy move coming from next week’s meeting. The Bank of Japan (BOJ) is also expected to remain relatively accommodative in 2017. BOJ board member Masai expressed that, “the BOJ will maintain highly accommodative financial conditions, with a view to achieving the price stability target of 2 percent, and ensuring the overcoming of deflation.” Modest U.S. dollar strength should serve as a headwind for sovereign security performance in the near term as investors price in anticipated Fed rate increases.
Contributed by: Gregory L. Powell, CFA — Senior Fixed Income Analyst
Oil prices have rebounded over the past three weeks, with the S&P GSCI Energy Index adding 4.5 percent so far in April. We believe these gains are likely to be somewhat short-lived and see oil prices generally remaining range bound for 2017.
- Seasonal demand improvements, declining U.S. oil inventories, hopes for OPEC to extend their production cuts and surprise conflict-related shutdowns in oil production from Libya, all lifted the market. In our view, headwinds remain in place for oil prices. These include continued increases in U.S. oil investments, with oil rig counts at two-year highs (up double from the May 2016 low) and rising U.S. oil production (up 800 thousand barrels per day from the July 2016 low).
Contributed by: Robert L. Haworth, CFA — Senior Investment Strategist
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Past performance is no guarantee of future results. All performance data, while obtained from sources deemed to be reliable, are not guaranteed for accuracy. Indexes shown are unmanaged and are not available for direct investment. The Dow Jones Industrial Average (DJIA) is a price-weighted average of 30 actively traded blue chip stocks and is the most widely used indicator of the overall condition of the U.S. stock market. The S&P 500 Index consists of 500 widely traded stocks that are considered to represent the performance of the U.S. stock market in general. The Russell 2000 Index measures the performance of the 2,000 smallest companies in the Russell 3000 Index and is representative of the U.S. small capitalization securities market. The S&P GSCI is a composite index of commodity sector returns, representing an unleveraged, long-only investment in commodity futures that is broadly diversified across the spectrum of commodities.
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