- The Federal Reserve’s “patient” approach to interest rates continues to be in focus.
- Strong start to 2019 should incline investors to concentrate on fundamentals rather than changing market sentiment.
Equity markets continued their advance in February, for their best start to a calendar year in three decades in the US. Gains were driven by improving sentiment led by the Federal Reserve reiterating a “patient” approach towards interest rate hikes and improved trade sentiment. At the end of month trade negotiations between the US and China progressed to the point that President Trump announced an extension to the March 1 deadline for the imposition of further tariffs on Chinese imports. Further boosting major averages were better than expected fourth quarter earnings. Overall, more than 70% of the companies in the S&P topped analyst expectations in the fourth quarter according to FactSet data. Overall profits for the S&P grew at nearly 13% versus expectations of a 11% rise. The Dow witnessed its longest weekly winning streak since 1995 adding 3.7% in February, while the S&P gained 2.9% and the Nasdaq Composite advanced 3.4%.
In his semi-annual testimony before Congress, Fed Chairman Powell reiterated the central bank’s patient approach to monetary policy and stressed the need to remain flexible in the face of changing economic conditions. While Powell suggested the US economy remains strong, he did warn that “over the past few months we have seen some crosscurrents and conflicting signals.” While financial markets had seen much turbulence in the fourth quarter due to what we perceived to be a crisis of confidence, non-farm payrolls for January jumped by 304,000, well above expectations of a 170,000. Meanwhile, the US Consumer Confidence Index rebounded sharply in February as financial markets recovered. We believe the decline in the fourth quarter was an indication of a crisis of confidence rather than anything fundamentally weak with the US economy. This was evident when the Commerce Department reported the economy grew at 2.6% in the fourth quarter well above the anticipated 2.2% rise. WTI crude prices capped the best two-month start on record, increasing by 6.4% in February—another sign of improving confidence.
The crosscurrents as mentioned by Powell were seen in retail sales where the Commerce Department reported the sharpest monthly decline in nearly a decade in December. Additionally, existing home sales and new home sales fell to multi-year lows and small business optimism slumped for the fifth straight month. We believe the Federal Reserve’s indication of interest rate hikes combined with their balance sheet run-off were causing financial conditions to tighten beyond the economy’s ability to handle them in an orderly fashion. Treasury yields increased following the GDP report. The benchmark 10-year note finished February at 2.73%, slightly above where it closed in January.
Investors should remain disciplined in their approach to investing as equity markets continue their strong start to 2019. We strongly suggest investors focus on the fundamentals rather than ever changing market sentiment. We continue to remain bullish on equity markets and are growing even more so. With the Federal Reserve’s patient approach to further increases in interest rates, a possible trade deal with China, and the potential for easier monetary conditions in the coming few months, downside risks appear limited after the fourth quarter decline. Surprises will be to the upside in equity markets over the course of the year. MCF will continue to redeploy cash balances on a tactical and strategic basis continuing to favor equities over bonds.
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Sources: Wells Fargo Advisors, Dan Miller, “Monthly Market Commentary,” March 6, 2019. FactSet, John Butters, “Earning Insight: Q4 By the Numbers [Infographic],” March 6, 2019.
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