Market Strategy 5/6/2019

• Asian stock markets moved lower on Sunday night and futures markets indicated a lower opening in New York after President Trump threatened to escalate the tariff war as early as this coming Friday.
• With stocks at near-record levels supported by economic and corporate fundamentals a near-term pullback on a trade negotiations setback could present buying opportunities for intermediate and longer-term investors.
• Corporate earnings continue to surprise mostly to the upside with 78% of companies in the benchmark having reported.

As the week came to a close last Friday investors could ponder a brace of good news that had crossed the transom in the week just ended. The non-farm payroll report released on Friday surprised with more jobs added than had been expected in a prior survey of Wall Street economists. The headline unemployment rate dipped to its lowest level since 1949, and the average hourly wage gain year over year signaled a moderate gain in wage growth that would be unlikely to trigger worries of untoward levels of inflation ahead.

Other data released last week including ISM index levels for manufacturing and services illustrated continued growth even if at a somewhat slower pace than in their prior reading while the Federal Reserve’s preferred inflation tracking gauge showed levels which are not likely to raise central bankers’ concerns. (see page 4 of this report). The Fed’s FOMC meeting concluded Wednesday with the benchmark rate unchanged (as expected) even as Fed Chair Powell’s remarks after the announcement once again caused some questioning among market participants.

Revenue and earnings growth reported last week by member companies of the S&P 500 continued a trend of surprising to the upside sufficiently to keep traders from having itchy trigger fingers for another week. With some 390 of 499 or 78% of companies in the benchmark having reported, earnings are up 1.7% on the back of 4.6% revenue growth. Taking into account the recent moderation in economic pace as well as tough comparisons against corporate results in 2018 (year one of the tax reform effect) results have so far exceeded previously reduced expectations from consensus analyst projections before the start of earnings season (see page 3 for details on Q1 earnings results).

Then on Sunday afternoon news of a Presidential tweet that expressed disappointment with the pace and quality of progress in the trade negotiations—accompanied by a threat of a potential increase in existing tariff levels and additional tariffs by next Friday if there was no progress—caused consternation.

Within about an hour of the tweet, the news story about it had become the most read headline on the Bloomberg terminal and within a few hours of that equity futures were indicating a lower start to trading stateside when markets open for the week.

Our take thus far on said tweet is that raising the level of existing tariffs to 25% from 10% appears clearly to be a consideration for next Friday and not a decision at the start of the week.
“Reports from the front” on the tariff war have been clear to point out from the start that the process has been complex, laborious and difficult for both sides. With that in mind we would not take the President’s tweet as referring to an action planned that is set in stone but rather more an expression of frustration as talks have dragged on without reaching a resolution.

We expect that any near-term downside moves by the equity markets could be quick to reverse as the US Presidential election of 2020 and a goal of “Made in China 2025” remain paramount respective agenda items for the leadership of the US and China.

In our view these key dates along with the potential considerable economic cost of a protracted trade war (for both countries as well as for their allies and trading partners) will dictate a positive resolution to the current trade dispute sooner than later notwithstanding a near-term “increase in hostilities.”

We suggest that investors consult their shopping lists for stocks that might have “gotten away” from them in the recent rally should some “tweet-linked” volatility waft through the markets and push stock prices lower. We have found the adage, “know what you own, why you own it and have realistic expectations of how your investments will perform in various scenarios” to have served us well in recent periods of market volatility and more so since the market began its rally from the Great Financial Crisis more than a decade ago. The quality of economic and corporate fundamentals in our view carries the equity market in good stead for now.

On Friday the Dow Jones Industrial Average and the S&P 500 closed at 26,704.95 and 2,945.64, respectively. Both closed the week near record highs and respectively higher 13.6% and 17.5% from the start at the year. At these levels equity market benchmarks appear to be capable of weathering some “tweet-related” turbulence.

With stocks at levels where they ended last week we are of the view that near-term volatility arrived at on the back ofthe President’s tweet on Sunday afternoon could more likely create a buying opportunity in the week ahead rather than a dash for the exits. Fundamentals stateside—and even those elsewhere around the world (based upon green shoot sightings and well embedded secular trends powering global growth) suggest there’s room to ponder on how the Presidential tweet is interpreted by both sets of negotiators and the markets over the course of this week.

Late Sunday night news reports indicated that Chinese officials were considering delaying trade talks scheduled for this Wednesday after the Trump tariff threat.
Contracts on the S&P 500 Index and Dow Jones Industrial Average respectively were down a little less than 2% as of 11:15 p.m. in New York (per Bloomberg data) as we prepared to go to press on Sunday evening. Asian markets were sharply lower with the Hang Seng and the Shanghai Shenzhen CSI 300 indexes off 3.45% and 5.24%, respectively.