Government retail sales figures for December were substantially worse than expected.
While some suspected that the data was corrupted somehow by the government shutdown, the reality appears to be that consumers are notably less confident today than they were two months ago prior to Christmas. Perhaps the government shutdown and negative press has had more of an emotional impact than some perceive. Weekly unemployment claims have been rising as well. While still close to historic lows, they represent an important factor to watch. We are not yet seeing any sign of material layoffs but any indicator that suggests less job security is worrisome.
Nonetheless, stocks quickly rallied off their early morning lows yesterday. The government data wasn’t the only news affecting investors. It appears likely that President Trump will accept the compromise reached in Congress and sign legislation today that will prevent another government shutdown. Of course, the President always wants the last word and his last word this time is likely to be a declaration of a State of Emergency that will allow him to move funds, mostly from the Defense budget, to build his wall to a greater extent. The move is certain to be challenged both in Congress and in the courts. Claimants will include those harmed by the absence of Federal funding diverted from the Defense budget as well as landowners where the additional wall construction will take place. The issue may still be tied up in the courts at the time of the 2020 election.
The other big news story currently occupying investor minds is the trade negotiations with China. Treasury Secretary Mnuchin yesterday tweeted that progress is being made, whatever that may mean. But investors jumped on the news anyway and pushed prices higher in the afternoon. While all this has been happening, bond prices have been trading in a narrow range and the 2-10 yield spread has been persistently stable within a 14-18 basis point range. The dollar as also remained within a tight band.
Investors are also getting used to the idea that earnings are likely to fall in the first quarter largely due to currency related headwinds. By the end of March, this will be old news and the worst of the headwinds will be behind us.
On the surface, that might suggest that bright sunshine is about to appear providing an opportunity to extend the 2019 rally. But stocks look forward for guidance. The real question is after the government shutdown is averted and after trade talks are resolved, hopefully in a positive manner, what news is likely to lift stock prices that have already returned to historic norms? Indeed, that’s the key question.
The current reality is that growth rates are shrinking around the world. Europe is on the brink of recession. Japan may already be there. There are two culprits. First, while central banks are mostly behaving in an accommodative fashion, several, notably the Federal Reserve, are less accommodative than they were in the past. The Fed over the past few months has stepped back from somewhat hawkish rhetoric but it is still less accommodative than it was when interest rates were near zero. Europe, likewise, is no longer cutting rates and it has set a timetable to stop buying bonds. Key rates overseas remain close to zero. But politics get in the way. Brexit is one fear. Macron and Merkel are increasingly unpopular with their electorates and are being forced to lean left. Spain and Italy now face similar assaults from their extremes.
Back home, investors have largely chalked off the Green New Deal as extremely hyperbole but the decision by Amazon to abandon its initiative to build a second headquarters in New York City is testimony that protests from the left have an impact. Many who don’t like Donald Trump note his persistent distortion of the facts. But the left does exactly the same. There was never going to be a $3 billion handout to Amazon but, in the end, the incentives that could have reached $3 billion were apparently a key component in the decision by Amazon to build in Long Island City. While it is proper for Amazon to seek economic benefit for itself based on its ability to create 25,000 high paying local jobs, if there were messages within the failed venture, two stand out. First, any large company like Amazon that is going to make a decision that has both broad economic and political implications better understand both and not rely just on the former. Second, extremists always shout louder than the center. That allows the extremists often the opportunity to set the agenda over the muffled protests from the middle. In the case of Amazon, that scuttled the deal. In 2020, should Democrats nominate a candidate too far left for the quiet center to accept, they will learn the consequences in the voting booth.
Ultimately, looking forward, with central banks largely in a neutral state, if there is going to be an end to the deceleration process it will either come from natural forces, including an expansion in the labor force and further improvements in productivity, or from a more business friendly political environment. Corporate managements have proven adept at winding their way through the barriers imposed by both politics and policy but fewer barriers make like easier. Currency headwinds will dissipate but not disappear in the second half of 2019. But with equities now near fair value, further gains won’t be quite so easily attained as they have been year-to-date.
Matt Groening, the genius behind “The Simpsons”, turns 64 today.
James M. Meyer, CFA 610-260-2220
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