Wednesday, December 05, 2018

Stock Market Misery Runs Deeper Than Trump and the Fed
Sarah Ponczek, Luke Kawa and Vildana Hajric
December 4, 2018

(Bloomberg) -- At first glance, investors got what they wanted: a less aggressive Federal Reserve and calming words on trade. That they still aren’t pleased suggests a bigger issue is underscoring their anxiety.

That issue is the possibility economic and earnings growth will slow down or stop next year, a scenario that unlike the trade war and interest-rate policy defies any obvious quick fix. The S&P 500 plunged 3.2 percent, the Dow Jones Industrial Average sank almost 800 points and bond yields tumbled.

Reading too much into day-to-day moves is usually a mistake and a half dozen explanations exist for Tuesday’s walloping, including selling pressure ahead of Wednesday’s market closure honoring former President George H.W. Bush. At the bottom of virtually all the other narratives, however, lurks concern that the market sees something to suggest the decade-long expansion that has fueled the bull market is in greater jeopardy than economists realize.

“The fundamental data is just not pricing in a robust, exciting, and upwardly sloping market,” Alicia Levine, BNY Mellon Investment Management chief strategist, said on Bloomberg TV. “The bond market is clearly giving a different signal than the equity market has in the last week. And the bond market is concerned about slowing global growth.”

Of course, a strong jobs report Friday could go a long way to alleviating concern that a significant slowdown is imminent. Recent readings on U.S. manufacturing and personal spending also showed that any impact from the trade tensions has not fed through to the world’s largest economy, at least not yet. And while one part of the Treasury yield curve inverted for the first time since 2007, the relationship most closely watched by the Fed is emitting a more muted warning.

For now, though, equity bears have wrested the upper hand in markets and focus is squarely on the risks they’re flagging:

Yield Curve Signal

Noise abounds in stock gyrations but coincidences bother traders. One fact that stands out right now is that the market abandoned its single-session celebration of Donald Trump’s trade truce on the same day the yield on three-year Treasuries fell below the 5-year rate for the first time in a decade. A more closely watched relationship, the spread between 2- and 10-year yields, remains positive, though the gap keeps getting slimmer.

“As parts of the yield curve invert, investors are getting spooked about potentially receiving a recession signal,” said Michael O’Rourke, JonesTrading’s chief market strategist.

Decelerating Earnings

Could the focus on trade and central-bank policy have been a red herring? Those who say so got a boost Tuesday. Progress on both fronts failed to sound the all clear in markets, putting the focus back on a fundamental backdrop that while robust now, is virtually certain to slow in 2019.

Decelerating global growth and concerns about margin pressure from higher labor costs as well as tariffs on imported goods have seen analysts trim their estimates for earnings growth in 2019. And there might be further downside yet. Despite the plunge in crude oil prices, expectations for profit growth among energy companies next year are in excess of 20 percent.

Defensive Posture

Since the S&P 500 peaked in late September, defensive areas of the market have continued to gain traction -- another fact that is cited by doomsayers as portending a slowdown. Utilities, real estate and consumer staples are the only sectors that have provided a positive return, while groups more closely associated with the economic cycle have yet to emerge from a correction. That has some weighing recession odds, wondering if the market has sussed out a slowdown.

“The only stocks up today are those that go up when people think the economy is slowing down,” Donald Selkin of Newbridge Securities said by phone. “That’s another sign -- those defensive stocks are the ones people run into when we have perceptions of economic slowdowns."

Trade, Fed Walk Backs

Even the news that pushed the S&P 500 to a 6 percent rally in the prior six sessions may not be great news. While the meeting between Presidents Donald Trump and Xi Jinping in Argentina produced positive headlines and a trade truce for now, its positive extent is already being questioned as few details emerge.

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