/perspectives/weekly-viewpoint/new-year,-same-worries

New Year, Same Worries

The major market indices finished the week broadly lower as the selling pressure during the final weeks of 2015 carried over into the New Year. While the usual culprits—global growth concerns, weak oil, strong dollar—were part of the equation, the eye of last week’s storm seemed to be China’s devaluation of their currency.

January 11, 2016    |    By Mike Schwager

Performance for Week Ending 1/8/2016:

The Dow Jones Industrial Average (Dow) fell 0.79%, the Wilshire 5000 Total Market IndexSM (Wilshire 5000SM) dipped 0.32%, the Standard & Poor’s 500 Index (S&P 500) lost 0.34% and the Nasdaq Composite Index (NASDAQ) shed 0.21%. Sector breadth was negative with all 10 of the S&P sector groups finishing lower. The Materials sector (-7.82%) led the way lower followed by Financials (-7.45%) and Technology (-7.01%).

Index* Closing Price 1/8/2016 Percentage Change for Week Ending 1/8/2016 Year-to-Date Percentage Change Through 1/8/2016
Dow 16346.45 -6.19% -6.19%
Wilshire 5000 19706.80 -6.07% -6.07%
S&P 500 1922.03 -5.96% -5.96%
NASDAQ 4643.63 -7.26% -7.26%

*See below for Index Definitions
 

MARKET OBSERVATIONS: 1/4/16 – 1/8/16

The major market indices finished the week broadly lower as the selling pressure during the final weeks of 2015 carried over into the New Year. While the usual culprits—global growth concerns, weak oil, strong dollar—were part of the equation, the eye of last week’s storm seemed to be China’s devaluation of their currency.

The devaluation is being viewed as a sign that economic growth in the world’s second largest economy is weaker than advertised. The currency weakness is also worrisome as devaluation is seen as an effort of last resort. Since China is a major exporter, a weaker currency makes Chinese goods and services cheaper in the global marketplace, suggesting Chinese officials are looking to ramp-up exports to help stabilize their flailing economy.

After introducing a system to curtail downside moves in their equity markets, Chinese officials announced they would end the short lived (4-days) experiment with circuit breakers (which were designed to halt trading for 15 minutes when the market falls by 5% and close trading at a 7% decline). The flip-flopping underscores the impulsive nature of the country’s financial policy framework and may be starting to result in a crisis of confidence in the country’s leadership.

Oil prices also continued to slide with the US benchmark finishing near the lowest level in a dozen years. Oil prices are expected to be a wild card in the early part of 2016 reflecting the vastly oversupplied market. Our expectation is that oil prices will stay depressed, with some risk of additional downside into the 20’s, until sometime mid-year. We expect a slowdown in supply to combine with continued demand growth to allow prices to firm, with an equilibrium price somewhere in the $40-60 range in the intermediate term. Supply growth domestically is responding to prices, as new wells have ground to a halt, however global supply continues to increase, particularly with increased production and exports from Iran, Iraq, and Libya. Our macroeconomic team believes prices will stabilize and begin to recover in 2016, but not until later in the year.

Despite the rocky start to the market, 2016 is still expected to be a better year for risk assets than 2015. The broader narrative that has supported the markets over the past few year’s remains intact and assuming no broad based deterioration in the macro environment and the Fed sticks to a very gradual approach – the outlook should remain conducive to further upside: the US economy is in reasonably good shape, labor markets continue to recover, consumers should continue to benefit from lower energy costs, corporate America remains healthy and share buyback activity should remain a considerable driver of equity returns, and the interest rate environment should remain supportive of the equity markets.

With that said – 2016 is likely to produce only modest overall gains. With forward valuations at elevated levels, the pace of earnings growth will likely be the key driver of stock performance. Earnings are likely to grow in the mid-single digit range during the coming year, although if energy prices weaken and the dollar continues to strengthen, earnings may be subject to downward revisions. On the flip side, stabilization in the dollar/oil would suggest upside risk to our expectations.

Volatility is likely to be elevated in the coming year reflecting continued choppiness in commodity prices, divergent global central bank policies, the upcoming presidential election, and a likely up-tick in geopolitical tensions—especially if oil prices stay depressed.

The prospects of falling into a Bear market (i.e. a 20%-plus decline) still appear low. In studying Bear markets, there are almost always certain things in place: a sharp spike in oil prices, tight monetary conditions, and/or a growing probability of a recession. It’s not likely that any of these conditions will develop in the foreseeable future.

The Week Ahead:
Earnings season kicks off in earnest this week when Alcoa reports quarterly results Monday evening. In total nine members of the S&P 500 will report including Dow-components Intel Corp. and JPMorgan Chase. The data calendar will be backend loaded with the focal report—retail sales—coming on Friday. Other reports of interest include the November Job Openings and Labor Turnover Survey (JOLTS), the Fed’s Beige Book report, December industrial production and capacity utilization, the Producer Price Index, the University of Michigan’s January consumer sentiment survey and the January Empire State manufacturing index. Fed Heads will be out and about with investors seeking further clarity on the timing of the next rate hike and the pace higher. Atlanta Fed president Dennis Lockhart and Dallas president Rob Kaplan will speak on Monday; Richmond president Jeffrey Lacker on Tuesday; Boston president Eric Rosengren and Chicago president Charles Evans on Wednesday; St. Louis president James Bullard on Thursday; and New York president William Dudley on Friday. Other events of interest will be the President’s State of the Union address on Tuesday and the Republican debate on Thursday.

Definitions

The Dow Jones Industrial Average is a price-weighted average of 30 blue-chip stocks that are generally defined as the leaders in their industry. It has been a widely followed indicator of the stock market since October 1, 1928.

Wilshire 5000 Total Market IndexSM represents the broadest index for the U.S. equity market, measuring the performance of all U.S. equity securities with readily available price data. The index is comprised of virtually every stock that: the firm's headquarters are based in the U.S.; the stock is actively traded on a U.S. exchange; the stock has widely available pricing information (this disqualifies bulletin board, or over-the-counter stocks). The index is market cap weighted, meaning that the firms with the highest market value account for a larger portion of the index.

Standard and Poor's 500© Index is a capitalization-weighted index of 500 stocks. The index is designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.

The NASDAQ Composite Index is a broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market. The index was developed with a base level of 100 as of February 5, 1971.

Indices do not include any expenses, fees, or sales charges, which would lower performance. Indices are unmanaged and should not be considered an investment. It is not possible to invest directly in an index.

The individual companies mentioned in this piece were for informational purposes only and should not be viewed as recommendations.

The comments should not be construed as a recommendation of individual holdings or market sectors, but as an illustration of broader themes. This document contains forward-looking statements about various economic trends and strategies. You are cautioned that such forward-looking statements are subject to significant business, economic and competitive uncertainties and actual results could be materially different. There are no guarantees associated with any forecast and the opinions stated here are subject to change at any time and are the opinion of the individual strategist. Information in this report does not pertain to any investment product and is not a solicitation for any product. This material has been prepared using sources of information generally believed to be reliable. No representation can be made as to its accuracy.


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