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Week in Review: April 24, 2017

What's Important

The U.S. earnings season opened with surprises to the upside


Investors are becoming too complacent with overseas political volatility



Promising corporate earnings and rising optimism on a tax deal pushed stocks up for the week. Stocks have wavered in April as investors reduced their expectations for a tax program from the Trump administration. Last week, the outlook for tax cuts brightened after encouraging comments from Treasury Secretary Mnuchin. The shifting political winds have not materially changed our investment views. We expected the political process to be bumpy in 2017 and produce results that were likely to be smaller and occur later than many investors believed at year end. The bond market may have a similar view. Longer term interest rates – which have decreased significantly since mid-March – had little immediate reaction to the prospect for faster economic growth and rising inflation that substantial tax reform could bring.


Politics temporarily steal the spotlight from fundamentals


So far in 2017, investors have been compensated well to remain committed to their long-term strategies.  Stocks are up broadly, 5.5% year to date for the S&P 500, and bonds are up too, across high quality bonds, municipal bonds and high yield debt. Among the factors helping returns, we think two are especially important and require monitoring: (1) better-than-expected corporate earnings and (2) continued aggressive buying of bonds by the overseas central banks. We will know more on both of these factors in the upcoming weeks.

On corporate earnings, the results for the first quarter of 2017 look promising. According to FactSet, the original expectation is for 9% earnings growth in the first quarter.1  However, we believe the first quarter growth rate could exceed 11% over 2016. For many investors, this growth seems unbelievable since we were in an earnings recession between late 2014 and mid-2016. It’s worth remembering that most of those quarterly drops were due to the energy sector; that sector is now recovering as oil prices have stabilized. We are also broadly optimistic for profit margins and growth outside the energy sector. Greater use of technology helps companies stay lean with costs, so that when sales rise (even a little bit) the earnings rise at a faster rate. The test of our view will come as actual results are announced over the next several weeks.

Central bank liquidity is a second key factor behind market moves - central banks have purchased almost $12 trillion of global bonds since the 2008 financial crisis.2  This has provided a natural base of support for financial markets. Having said that, some clients are asking the very logical question of what happens if the expansionary policies stop. Generally, expansionary policy stops when a central bank has confidence that economic growth can continue without the support of monetary policy. The Federal Reserve is close to that point as it considers gradual, data-dependent increases in interest rates. The next test of this outlook will be in the week ahead. The European Central Bank and the Bank of Japan have meetings late next week. We believe each central bank will hold to its established, accommodative program as economic growth has not yet accelerated to a high enough level.

While we expect the U.S. political process to ultimately produce business-friendly policies, political uncertainty overseas remains high. The French elections are seen as a test of the nationalistic sentiment in Europe. Over the weekend, France held its first round of voting to elect its next president. For the final vote on May 7, the French will choose either Emmanuel Macron, a centrist independent and a staunch EU supporter or Marine Le Pen, leader of the far-right who would remove France from the euro.  From an investment perspective, a Le Pen victory would be more disruptive; yet, in our view, markets are pricing in a low probability of that outcome. We think European stocks are likely to be volatile until France sets its new economic direction. Therefore, we counsel investors to remain opportunistic when adding exposure to foreign stocks.    

Key releases in the week ahead include: for the U.S., new home sales (Tuesday), durable goods (Thursday) and the advance estimate of first quarter GDP growth (Friday); for the Eurozone, sentiment (Wednesday),y confidence and the European Central Bank meeting (Thursday) and inflation (Friday); for China, reports on manufacturing activity (Saturday and Monday, May 1).  


1FactSet Research Systems, Inc. April 7, 2017

2Yardeni Research, Inc. April 21, 2017



Market Returns (USD)

1-Week

Quarter-to-Date

Year-to-Date

1-Year

Global Equities

MSCI All Country World

0.5%

-0.4%

6.5%

11.6%

S&P 500

0.9%

-0.5%

5.5%

14.7%

Dow Jones Industrial Average

0.5%

-0.5%

4.7%

17.3%

NASDAQ

1.8%

0.0%

10.1%

21.0%

Russell 2000

2.6%

-0.4%

2.1%

23.3%

MSCI EAFE

0.2%

-0.5%

6.7%

6.7%

MSCI Emerging Markets

0.2%

0.5%

11.9%

15.3%

Hard Assets

MSCI US REIT

0.9%

2.9%

3.6%

8.5%

Alerlan MLP

-0.5%

-1.6%

2.3%

15.5%

Bloomberg Commodity Index

-2.8%

-1.6%

-3.9%

0.8%

Fixed Income

BofA Merrill Lynch 1-12 Municipal Bond

0.2%

0.8%

2.2%

0.6%

Bloomberg Barclays Intermediate Government/Credit

0.1%

0.7%

1.5%

1.2%

Bloomberg Barclays High Yield Bond

0.1%

0.5%

3.2%

13.4%

JPMorgan GBI Emerging Markets Global Diversified

0.4%

0.9%

7.5%

4.8%

Market Levels

Friday

Week Ago

Year End

Year Ago

S&P 500

2,349

2,328

2,239

2,091

Dow Jones Industrial Average

20,548

20,453

19,763

17,983

10-Year U.S. Treasury Yield (Constant Maturity)

2.24%

2.24%

2.45%

1.88%

Gold ($/oz)

$1,284

$1,286

$1,148

$1,259

Crude Oil ($/barrel)

$50

$53

$56

$47

U.S. Dollar / Euro ($/)

1.07

1.06

1.05

1.13

U.S Dollar / British Pound ($/£)

1.28

1.25

1.23

1.43

Japanese Yen / U.S. Dollar (¥/$)

119.1

108.6

117.0

109.5