Investment Commentary – December 18, 2018

Year to Date Market Indices as of Market Close December 18, 2018
Dow 23,675 (-4.22%)
S&P 2,546 (-4.77%)
NASDAQ 6,783 (-1.73%)
Gold $1,253 (-6.36%)
OIL $45.91 (-6.69)
Barclay Bond Aggregate (-0.72%)
Fed Funds Rate 2.25% (last increase was 9/26/18)

Stocks stage modest rebound ahead of Fed decision, but fail to end at best levels

U.S. stocks closed higher Tuesday in a session that saw the Dow swing more than 400 points, with a crucial policy announcement set for Wednesday from the Federal Reserve.
How did the benchmarks perform?

The Dow Jones Industrial Average DJIA, +0.35% edged up 82.66 points, or 0.4%, at 23,675.64, while S&P 500 index SPX, +0.01% rose less than a point to close at 2,546.16. The Nasdaq Composite Index COMP, +0.45% climbed 30.18 points, an ascent of 0.5%, to 6,783.91.

All three benchmarks closed off their early morning highs, when the Dow climbed as high as 335 points, the S&P 28 points, while the Nasdaq rose 83 points, at its highest.
At its lows, the Dow fell as much as 77 points, the S&P 17 points, while the Nasdaq fell 20 points, at its lowest.

What’s drove the market?

Volatility continued to plague stock markets Tuesday, as fears that sluggish global growth will wash up on U.S. shores continued to unsettle investors, and as uncertainty surrounding U.S.-China trade relations and Fed interest rate policy convince many investors to remain on the sidelines.

Another day of tumbling oil prices only helped to reinforce fears of slowing global growth, as U.S. crude prices fell 7% to their lowest level in nearly 16 months, while equity traders struggled to understand how much of the fall is due to oversupply versus falling demand abroad.

Traders are hopeful, however, that the Federal Reserve will provide solace to investors in the waning days of 2018, as the central bank’s interest-rate setting committee, the FOMC, began its final meeting of the year Tuesday and will announce its decision on whether to raise interest rates Wednesday at 2 p.m.

To Hike or Pause: Fed Faces Tough Call as Trump Warns of Mistake

The Federal Reserve begins a two-day policy meeting Tuesday, perhaps its most scrutinized session in years as it takes direct fire from President Donald Trump. He has blasted the central bank for two days running, calling for officials to cease raising interest rates, a level of public pressure no president has put on the Fed in decades.

Against that thorny political backdrop, here are the main arguments for hiking and for holding:

The Case to Hike

The American jobs machine is still going strong. Employers have added an average 206,000 new jobs per month this year. Even the 170,000 average over the past three months is well above the level needed to keep unemployment steady.

Despite an increasingly mixed picture, the outlook for growth in 2019 is still solid. Analysts expect gross domestic product to expand 2.6 percent next year, comfortably above estimates for the economy’s long-run potential growth rate.

The Fed’s benchmark interest rate is still below officials’ estimates of the neutral setting that neither speeds up nor slows the economy. It may be getting close to the level at which policy will be restrictive, but it’s not there yet.

It’s only a quarter percentage-point increase. It’s more about the messaging that surrounds the hike about the Fed’s intentions in 2019. A dovish hike — with Fed Chairman Jerome Powell signaling officials will slow the tightening campaign next year — can ease concerns the Fed will hike too high.

Pausing under White House pressure and with the market still expecting an increase could significantly damage the Fed’s credibility. A December move was well telegraphed by policy makers in the minutes from their previous meeting, released Nov. 29, and they haven’t played down those expectations since then.

The Case to Pause

Financial conditions have tightened significantly, with stocks closing Monday at a 14-month low. Economists at Goldman Sachs Group Inc. call the shift to risk aversion “the elephant in the room’’ for this week’s Fed meeting.

A Bloomberg financial conditions index — which includes everything from risk spreads to volatility — has turned negative, signifying a headwind for the economy. While Fed officials expected some slowing in interest-rate sensitive sectors of the economy, they don’t want to overdo it and risk a deeper market rout.

There may be less cost to waiting than in prior months. Starting in January, Powell will hold a press conference after every meeting, instead of every other session — effectively doubling the opportunities to act. If policy makers don’t hike now, they could wait six weeks to look around and move in late January.

Economic risks around the world are rising, with forecasters expecting growth to slow in Europe and China. Adding to uncertainties are the U.K.’s Brexit negotiations, and Trump’s trade war with China.

Around the web

Fed ahead: The U.S. Federal Reserve Board is widely expected to approve another increase in short-term interest rates when it concludes a two-day meeting on Wednesday. If the Fed decides on another quarter-point increase, it would be the fourth this year, boosting the federal funds rate to a target range of 2.25% to 2.50%.

Trade progress: Concerns about the U.S.-China trade dispute eased after Chinese negotiators signaled their willingness to reduce tariffs on U.S. automobile imports and increase purchases of U.S. soybeans. However, it remained unclear whether the sides will reach a broader agreement prior to March 1, 2019, when further tariff increases could be implemented.

Brexit battle: The outlook for the United Kingdom’s exit from the European Union became somewhat less muddled as Prime Minister Theresa May withstood a test of her leadership by surviving a confidence vote among members of her Conservative Party. Earlier, the prime minister failed to secure parliamentary backing for the Brexit agreement she recently negotiated with European Union leaders.

The Markets 10 years ago vs. today

DOW 8,635/25,027 (+175%)
S&P 500: 845/2,700 (+188%)
Nazdaq: 1,509/7,158 (+337%)

Other Notable Indices (YTD)

Russell 2000 (small caps) -9.15
EAFE International -12.45
Emerging Markets -16.46
Shiller Annuity Index 2.41

The views presented are not intended to be relied on as a forecast, research or investment advice and are the opinions of the sources cited and are subject to change based on subsequent developments. They are not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investments.