Market Commentary

Weekly commentary providing analysis with an outlook for the equity market.

January 23, 2020

Scott Wren, Senior Global Equity Strategist


Key takeaways

  • A number of major countries and global regions are reporting economic data that is beating expectations.
  • These positive economic surprises have helped fuel the stock rally we have seen in recent months.

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Investors may frequently hear comments that stocks are “priced for perfection” when a rally is underway or, at other times, that there is “a lot of bad news priced into the market”. Market action relative to underlying fundamental economic expectations is one gauge used for the comparisons. Of course, in our experience the stock market can be a pretty good indicator for anticipating what the forward macroeconomic environment may look like. But many economists? Not so much. At least not on a consistent basis.

For those regular readers who like to get down deeper into the weeds, there is a series of economic “surprise” indices that tell observers whether or not the data coming in was better or worse than expectations. Positive readings (above zero) mean that net-net, economic news in aggregate beat consensus estimates. Negative readings (below zero) mean the data fell short of “Street” expectations. In brief, these gauges measure whether economists as a group have been overly optimistic or overly pessimistic.

The good news is that in recent months the surprise indices for most of the major countries and regions of the world have moved into positive territory and are trending higher (i.e., U.S., eurozone, China, globe, etc.). Japan is the only major economic power that is showing negative readings after its surprise index tumbled over the last three months. That wasn’t the case at the start of 2019 and as we moved into the middle portion of the year. The stock market, however, after a meaningful pullback in the last quarter of 2018 (and especially during December), moved steadily higher in the face of less-than-optimistic forecasts by economists.

So why are these international surprise indices important? When you consider that nearly 40% of S&P 500 company revenues come from outside the U.S., it makes sense that investors are paying attention. We need help from these international economies to reach our earnings expectations. The appearance of a more stabilized to slightly improving international economy combined with accommodative global central banks and at least a time-out in terms of trade tensions have all combined to push equities noticeably higher over the last four months. When investors perceive reduced risks and a more reliable economy ahead, stocks typically benefit.

Our outlook for the S&P 500 Index this year calls for mid-single digit earnings growth over last year and steady valuations. In addition, hints of better-than-expected economic growth abroad should give investors more confidence that U.S. stocks can post positive returns after the big gains last year. We favor the Information Technology, Financials, and Consumer Discretionary sectors. We believe now is not the time for investors to get overly defensive. The potential for positive surprises exists this year.

Risk Considerations

Forecasts are not guaranteed and based on certain assumptions and on views of market and economic conditions which are subject to change.

Each asset class has its own risk and return characteristics. The level of risk associated with a particular investment or asset class generally correlates with the level of return the investment or asset class might achieve. Stock markets, especially foreign markets, are volatile. Stock values may fluctuate in response to general economic and market conditions, the prospects of individual companies, and industry sectors. Foreign investing has additional risks including those associated with currency fluctuation, political and economic instability, and different accounting standards. These risks are heightened in emerging markets.

Sector investing can be more volatile than investments that are broadly diversified over numerous sectors of the economy and will increase a portfolio’s vulnerability to any single economic, political, or regulatory development affecting the sector. This can result in greater price volatility. Risks associated with the Consumer Discretionary sector include, among others, apparel price deflation due to low-cost entries, high inventory levels and pressure from e-commerce players; reduction in traditional advertising dollars, increasing household debt levels that could limit consumer appetite for discretionary purchases, declining consumer acceptance of new product introductions, and geopolitical uncertainty that could affect consumer sentiment. Investing in the Financial services companies will subject an investment to adverse economic or regulatory occurrences affecting the sector. Risks associated with the Technology sector include increased competition from domestic and international companies, unexpected changes in demand, regulatory actions, technical problems with key products, and the departure of key members of management. Technology and Internet-related stocks, especially smaller, less-seasoned companies, tend to be more volatile than the overall market.

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