THE WEEK AHEAD
Bonds still under pressure.
Stocks waiting for earnings.
Stocks had a good start to the year, large caps up around 1.7% and outperforming small caps for the first time in months. Technology stocks had a good week but they had lagged since November so there was a natural catch up.
What's interesting about the market is that there is precious little to go on. It’s too early for earnings season so CEOs can't talk about positive sentiment. And no company has announced big plans based on any policy change.
The market does have an air of confidence about it, however. That’s an elusive but powerful concept. Certainly, management and consumers “feel” better than they have for a while.
What Was Important Last Week
1. Fed Minutes
The FOMC published the December minutes. Curiously, there were six mentions of expansionary fiscal policy, which, they felt, justified a cautious outlook and a rise in rates. To us, this is extraordinary. The Fed manages employment and inflation. We have not one iota of information on any tax or spending policy. Their economic outlook makes little sense. A 0.1% increase in GDP for 2017 (which is $18bn!) and a slow down in 2018. We expect very modest rate rises in 2017.
2. Not-bad job numbers
December is a funny month for jobs. Many seasonal jobs aren't counted. Still, we saw 156,000 new jobs and a minor increase in the unemployment rate.
The interesting number is the 2.9% increase in average hourly earnings. We've been looking for this for a while because earnings have been stagnant for years. Now, this does carry some inflationary risk and Treasuries sold off a bit. But we think that may be the unwind of tactical trades. Shorting Treasuries has been the “obvious” trade since mid-December. The balance we’re looking for is wages to increase spending but not inflation. For now, the balance is in favor of spending.
3. Modestly Improved Economic Data
Notably from the Purchasing Managers Index for manufacturing and services. We put together a GDP-weighted index of the two to reflect the much higher importance of services in the economy.
Any number above 50 is positive and we saw the highest number since mid-2015, just before the energy recession took hold. We think both numbers reflect very positive post-election confidence.
4. Old Economy/New Economy
There’s a lot of nonsense written about the death of industries from technology, robotics and automation. But in one area, the old way of doing things seems doomed. Here's a chart of the relative performance of Macy’s, Sears and Kohls, where investors lost between 30% and 70% of their capital in the last two years.
But compare that chart to this one below, which shows the steady, seven-year unbroken increase in dividends from stocks. Currently, the S&P 500 yields just under 2%, which seems to us a good valuation compared to bonds.
Expect small and mid cap stocks to regroup.
Bonds may remain under pressure as we near the new administration formally taking office.
Stocks will trend for a while until earnings season comes up.
Please note that this discussion of our investments and investment strategy (including our research and investment process) represents our investments and investment strategy at the date of this commentary, and is subject to change without notice. We cannot assure that the type of investments discussed in this commentary will outperform any other investment strategy in the future, nor can we guarantee that such investments will present the best or an attractive risk-adjusted investment in the future. This is for general informational purposes only; references to an individual security should not be construed as a recommendation to buy or sell that security. The securities mentioned in this commentary are only several of the successful as well as unsuccessful investments by us, and do not represent all of the securities we have purchased, sold or recommended. Although we deem reliable the sources of the statistical and other information referred to in this commentary, we cannot guarantee the accuracy or completeness of any statements or numerical data. Past performance is no indication of future results.
All charts from Factset unless otherwise noted.