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Financial Markets Updates

Monday, October 16th 2017

U.S. stocks continued to make new highs last week with the Dow gaining 0.4% and both the S&P 500 and the Nasdaq up 0.2% advancing into record territory, marking the fifth consecutive weekly gain for the large-capitalization Dow Jones Industrial Average and S&P 500 indices. However, the small-cap Russell 2000 index lagged and recorded a modest loss for the week. The week brought the first releases of major third-quarter earnings reports, with JPMorgan Chase and Citigroup falling Thursday after reporting lower fixed income trading revenues and higher set-asides for credit card losses. Wells Fargo reported an earnings decline on Friday, further weighing on the broader financials sector. Consumer staples stocks performed well, boosted by a surge in Wal-Mart shares after the retail giant announced a massive share repurchase program and predicted a strong rise in online sales. Airlines shares gained on a better-than-expected earnings from Delta Air Lines, along with upbeat investor updates from United Continental and American Airlines, both of which report earnings later this month. All three airlines indicated that pricing competition has stabilized, which should aid industry profitability and assuage investor concerns heading into the busy holiday travel season.

With stock valuations well above historical averages, I expect market gains will need to be driven by increasing corporate profits. This can come to fruition as earnings are expected to rise by 3% in the third quarter even with heightened concerns that the U.S. will leave the North American Free Trade Agreement. This week, 52 companies in the S&P 500 Index report earnings results which include industry bellwethers such as Johnson & Johnson, Goldman Sachs, International Business Machines, Verizon Communications, General Electric, Procter & Gamble, Schlumberger, and Honeywell International. Also, Netflix will provide its quarterly update with its stock price gaining more than 60% year-to-date and is one of the popular FAANG (Facebook, Amazon, Apple, Netflix and Google) companies that have led the stock market’s advance, and captivated investor interest for much of the year. The broad swath of earnings reports will provide a comprehensive view of the economy and could contribute to increased trading volumes and market volatility over the near-term. During bouts of market volatility, short-term thinking is often an investor’s worst enemy. Investors who cannot look beyond the market’s quick moves up and down may overreact and do more harm than good to their portfolios. History has confirmed that these periods of decline do not last forever as noted in the following chart.

Even with the onset of earnings season, the tumultuous political environment continued to play a large role in driving sentiment last week. Health care services stocks stumbled early in the week as rumors surfaced that President Donald Trump was preparing to loosen regulations to allow less comprehensive and cheaper insurance plans. Stocks of hospitals and other health care providers fell when President Trump signed an executive order allowing such plans on Thursday, and shares fell further on Friday following news that the administration would also stop providing subsidies to insurers in order to reduce premiums for low-income enrollees in state insurance exchanges.

Economic data were broadly positive and continue to point to healthy economic conditions. September retail sales grew at their fastest pace since March 2015, due in part to hurricane-related replacement activity for autos and automotive supplies. Building materials sales were strong, gaining 10.7% year-over-year, while online retailers (+9.2%) continued to take share from traditional “brick-and-mortar” stores. Inflation increased slightly as both the consumer price index (+2.2%) and producer price index (+2.6%) were higher compared to August. The data should enable the Federal Reserve to raise interest rates in December. Meanwhile, the U.S. dollar weakened for the first time in over a month and year-to-date, the dollar has declined roughly 9% against a basket of major trading currencies. As noted in the following chart, the dollar is down nearly 11% against the euro as the European economy has strengthened and the European Central Bank prepares to curtail its bond-buying program. In this instance, the declining dollar is a function of improved economic growth overseas rather than an indication of a faltering domestic economy.

While a weaker dollar many help Wall Street and larger multinational companies, it is not such a benefit to Main Street America and smaller companies, as it makes products and raw materials from overseas more expensive. On the other hand, a lower dollar can help multinational companies because it lowers the price of U.S. exports, making them more attractive for foreign consumers, and it also increases the dollar value of profits and sales made overseas.

European stocks ended last week higher, with two key benchmark indexes, Britain’s FTSE 100 and Germany’s DAX 30, reaching record highs. A slide in the pound boosted investor confidence in the multinational companies that dominate the FTSE 100 and generate sales in foreign currencies. Mining stocks were strong, buoyed by solid import demand from China. Japanese stocks powered higher in the holiday-shortened trading week and the widely watched Nikkei 225 Stock average surpassed its 1996 peak, but the market still traded at about half of the all-time high it set nearly three decades ago. For the week, the Nikkei gained 2.6% and closed at 21,230.00. For the year to date, the Nikkei is up 11.2%The yen strengthened and closed near ¥112 per U.S. dollar, which is about 4.1% stronger than ¥117/dollar at the end of 2016.

GOLD - Gold is in a very broad and choppy, but slightly bullish, range as the most recent significant technical move (in early September) was to new relative highs. The previous move was one to new lows back in early July, so the technical outlook is very cloudy. From a fundamental standpoint, interest rates failed at their key levels last week (2.40% in the 10 year) and that leaves the path of least resistance still lower for yields, which is a positive for gold. Bottom line, the gold market is in a volatile and mostly trendless trading phase right now, but the benefit of the doubt does remain with the gold bulls.

OIL – In the energy markets, oil rallied about 4.2% last week and the focus turned to the Gulf Coast as Hurricane Nate passed through, shutting more than 90% of Gulf oil production as companies took preventative action and evacuated workers. After initial assessments, there does not appear to be much damage, and the oil flow should resume pretty quickly. However, once again we will likely see a sizeable drop in U.S. production numbers. However, as the price of oil moves higher, more U.S. fracking and drillers will come online keeping rising prices in check.

"Oh what a price I had to pay." Fats Domino. Consumers were not afraid to spend in September after holding back in August. Folks were spending in September, according to the most recent Retail Sales report issued by the Commerce Department. This was welcome news, as consumer spending makes up about two-thirds of the U.S. economy. Sales were up 1.6 percent from August, just below expectations, and up 4.4 percent from September 2016. Increases in gas, auto and building material sales led the way due to hurricane-related boosts. When stripping out autos, sales rose a solid 1 percent in September from August.

The Bureau of Labor Statistics reported that consumer inflation via the Consumer Price Index (CPI) jumped 0.5 percent in September from August, though this was softer than expected. However, the more closely watched Core CPI, which excludes volatile food and energy, was up just a meager 0.1 percent in September. This left year-over-year Core CPI at 1.7 percent for the fifth month in a row, meaning it still remains below the Fed's inflation target of 2.0 percent. Wholesale inflation also ticked up in September as energy prices rose following Hurricane Harvey. The Producer Price Index (PPI) rose 0.4 percent from August, in line with estimates, while annual PPI jumped 2.6 percent, the biggest gain since February 2012. Core PPI, which strips out volatile food and energy, rose 0.2 percent as expected from August to September, while the annual Core PPI was up 2.1 percent.

The Federal Open Market Committee meeting minutes from August revealed the Fed said the economy is strong enough to withstand an increase to the Fed Funds Rate later this year. This is the rate banks lend to one another overnight. However, the Fed will be closely watching inflation readings and other key economic reports in the coming weeks and months, and it remains to be seen if any data will impact this decision.

Weak economic news normally causes money to flow out of Stocks and into Bonds, helping Bonds and home loan rates improve. In contrast, strong economic news normally has the opposite result. The chart below shows Mortgage Backed Securities (MBS), which are the type of Bond on which home loan rates are based. When you see these Bond prices moving higher, it means home loan rates are improving. When Bond prices are moving lower, home loan rates are getting worse. To go one step further, a red "candle" means that MBS worsened during the day, while a green "candle" means MBS improved during the day.

Chart: Fannie Mae 3.5% Bond Friday October 13th

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Information contained herein is obtained from industry sources believed to be reliable. The information presented comes from different sources on a weekly basis and is intended to provide a commentary related to market events and is not intended to be used as investment advice or represent any specific product or service. Market information and performance information is provided from different industry sources including, but not limited to TD Ameritrade;  MMG; Barron’s; BBC; NPR; Reuters; MFS Research; CNBC; CME; The Wall Street Journal Online; Bloomberg News; Financial Times; Forbes; CNNMoney; J.D. Power Valuation Services; The Economic Times; USA Today; stockcharts; CotSignals; Bespoke; Manheim; FreeStockCharts; The Fed; Econoday; U.S Bureau of Economic Analysis; Bespoke; Hulbert Ratings; World Development Indicators database from the World Bank and the Internet.