Dow Industrials flash warning: Headline risk is alive and well

By Peter Kenny, chief market strategist for Global Markets Advisory Group and owner of KennysCommentary.com

Themes:

  • US tax-cut bill passes the Senate, heads to reconciliation
  • CFPB, under Mulvaney, freezes hiring as staff and policy await re-ordering
  • An expected passage of the tax-cut legislation will likely lead to a surge in investment, hiring and ultimately productivity
  • Now that the eventual passage of the tax reform legislation is ultimately heading to President Trump’s desk, US equity markets are likely to take a breather from their torrid rise
  • Trump nominates Goodfriend for FOMC
  • CVS is buying Aetna for $65.5 billion, remaking the sector – Bloomberg

Last week’s release of economic data and corporate earning results provided yet more ballast for U.S. equity markets and our historic rally. However, though economic data and corporate results remain remarkably supportive, there remains a degree of risk aversion present in equity markets just below the surface of our rather tranquil and methodical melt-up. This was clearly evidenced by the sharp pull back in the Dow Industrials (^DJI) and simultaneous surge in the volatility “fear” index (^VIX) that emerged due to an erroneous report filed by ABC News investigative reporter Brian Ross that seemed to indicate, at least initially, that Trump directed former National Security Advisor Michael Flynn to contact Russian officials during the 2016 Presidential campaign.

The erroneous news report hit the tape at 11:05 a.m. Friday. The volatility index ripped 27.9% higher in minutes as the Dow Industrials tumbled 350 points. After the selloff, there was a sense that there may be issues with the report itself because it seemed to take the “Trump collusion” narrative well beyond what was expected to be even possible at this stage of the inquiry. Hours later, a tweet from a CNN reporter pointed out the Brian Ross’s story was not included in the official ABC News story, which provided support for the sense that the report may not have been entirely accurate. Several hours later ABC News issued a correction. The Dow Industrials ultimately managed a modest loss of 40.76 points, or 0.17%, on the session while the volatility index reverted back to 11.32, which is where it was trading before the news hit the tape. Brian Ross was suspended without pay for four weeks.

One might interpret the healthy recovery in equity prices as an indication that reason, economic fundamentals and earnings rule the day and that would not be entirely incorrect — until it isn’t. Friday gave investors a glimpse into what an unexpected variable can do to markets. Clearly the Mueller investigation represents a potential risk to equity market trends, but so also do the brewing hostilities between North Korea and the United States, a potential failure in the NAFTA talks and a variety of other themes — largely not economic data or earnings related.

Econ data on deck

As far as last week’s economic data is concerned, new home sales were well above consensus expectations for the month of October, coming in at 685k versus Bloomberg consensus of 620k and September’s revised reading of 645k. Though a bit weaker than expected, the Dallas Fed Mfg. Survey was in line with other Fed manufacturing readings for the month, which reflected a modest tick lower. The Productivity Index reading was 15.1, while the General Activity Index was 19.4. In a bit of good news for potential home buyers, the FHFA House Price Index for September was a weaker than expected 0.3% versus Bloomberg consensus of 0.6%. No question, September’s slip in pricing momentum led, in part, to the acceleration in home sales prices we saw in October. Not unexpectedly, home prices continue to rise. September was no exception. The S&P Corelogic Case-Shiller HPI was 0.5% in September. GDP for Q3 was revised upward to 3.3% from the initial reading of 3.0%. Corporate profits lurched higher to 10.0% from the prior reading of 7.4% in Q3 as well. Weekly jobless claims (238k), personal incomes and outlays (0.4%), and the PMI Manufacturing Index (53.9) were all in-line with consensus expectations.

Today, factory order data for October came in down 0.1%, which was not as bad as expected. On Tuesday, we receive the ISM Non-Manufacturing Index. Consensus is calling for 59.0 for the month of November, which would be in-line with October’s 60.1. On Wednesday, we receive the ADP Employment Report, which has increasingly become less directly correlated with the Employment Situation Report due out on Friday morning. The monthly job report from the BLS is expected to reflect a gain of 185k jobs in November while the official unemployment rate is expected to remain at 4.1%.

My call in last week’s note for a pause in crude oil’s trade higher materialize in spite of OPEC and non-OPEC producers agreeing in Vienna to an a extension of oil production cuts through the end of 2018. Crude for January delivery closed out the week at $58.29/bbl. on the New York Mercantile Exchange.

Commentary by Sam Stovall, chief investment strategist at CFRA Research

Though one day does not make a trend, this bull market could be initiating a sub-surface rotation out of the high-flying, market-leading tech sector (XLK) and into other cyclical sectors, such as financials (XLF) and industrials (XLI), as well as the more-defensive consumer staples (XLY) and health care (XLV) groups. CFRA continues to focus on the longer-term bullish bias for stocks, while acknowledging that pullbacks can occur at any time and that a self-righting digestion of gains is long overdue. Yet bull markets don’t die of old age, they die of fright and are most afraid of recession. We continue to monitor economic indicators that do not imply an impending recession, and we think a potential dip represents a reason to buy not bail. We see real GDP rising 2.9% in 2018 versus 2.3% anticipated for 2017 and continue to project a double-digit gain in EPS in the year ahead.

——————————————————-
WTI Crude Oil (Nymex) (CL=F) $57.48/bbl
Gold (Comex) (CL=F) $1,277.30/t. oz.
10-year Treasury Note yield (CBOE) (^TNX) 2.385%
Volatility S&P 500 (^VIX) 10.33
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Economic Calendar:

Tuesday
8:30 AM International Trade
9:45 AM PMI Services Index
10:00 AM ISM Non-Mfg. Index

Wednesday
7:00 AM MBA Mortgage Applications
8:15 AM ADP Employment Report
8:30 AM Productivity and Costs
10:30 AM EIA Petroleum Status Report

Thursday
7:30 AM Challenger Job-Cut Report
8:30 AM Weekly Jobless Claims
9:45 AM Bloomberg Consumer Comfort Index
10:00 AM Quarterly Services Survey
3:00 PM Consumer Credit
William Dudley, 8:30 AM

Friday
8:30 AM Employment Report
10:00 AM Consumer Sentiment
10:00 AM Wholesale Trade
1:00 PM Baker-Hughes Rig Count

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