Market Commentary - Week Ending 1/6/2018

Summary

Source: S&P Compustat, www.yahoo.com/finance for Commodities

Notable Market Headlines

Stocks continued their winning streak in the first week of the new year with every major U.S. market index hitting record highs including the Dow Jones Industrials topping 25,000 for the first time. The tech-heavy NASDAQ, after lagging behind during the final month of 2017, resumed its leadership role.

Large U.S. stocks, as measured by the S&P 500, gained +2.5% while the Dow Industrial Average was higher by +2.3%. This is a bit of a reversal from 2017 when the Dow outpaced the S&P 500. The NASDAQ was the clear leader though rallying +3.4% as technology stocks surged higher. Small U.S. stocks reached record levels as well but, continuing the trend of 2017, lagged behind larger stocks rising just +1.5%.

As strong as U.S. stocks were, international markets posted even bigger gains with developed markets up +2.9% and emerging markets surging +4.3%. Of the developed markets Spain was among the best performers gaining +4.3% while the United Kingdom’s markets lagged behind the average with a +1.6% gain. The emerging market leader was Brazil’s market surging higher by +5.9% and Russia’s up +6.7%. Interesting to note is that Brazil’s total market value is about double that of Russia’s.

With international stock markets outperforming U.S. markets in 2017 and now continuing that move in this first week of 2018, some investors are questioning how long this can last. It’s a question nobody can answer but, on this point, it is worth noting that international markets have yet to set new highs. As illustrated in the accompanying graph, developed markets, on average, remain about -14% below their 2007 highs while emerging markets are -9.5% below their more than 10-year ago highs. Compare that to the fact that large U.S. stocks reached above their 2007 higher more than 5 years ago!

Source: S&P Compustat

The less traditional asset classes of commodities and gold posted gains to start the year but did lag behind stocks. Commodities were higher by +0.7% and gold gained +1.4%. These asset classes lagged behind in 2017 which is not uncommon when stocks are rallying higher.

Real estate stocks continued to disappoint into 2018 declining -2.3%. One of the benefits investors find in real estate stocks is their higher-than-average dividend yield. Nearly any investment bought for its yield, or income producing nature, performed poorly in this first week and noted below in the Stock Highlights section.

Bonds, also income producing investments, started the year down -0.4%. It is widely believed that the Fed’s anticipated three interest rate hikes in 2018 will put downward pressure on bond prices throughout the year.

Winners and Losers by Sector

Source: S&P Compustat

Stock Highlights

The first week of 2018 was very strong for stocks with 396 of the S&P 500 stocks moving higher. Investors were clearly flocking toward higher growth stocks as those in the technology sector lead the way. This was also reflected in the average dividend yield for the top 50 performers versus the 50 worst performers as illustrated in the accompanying graph. The worst performing stocks have a dividend yield approximately 2.5 times that of the best performers. This could be a reflection the fact that dividend yields have less value in a higher interest rate environment.

Source: S&P Compustat

Advanced Micro Devices (AMD), the second largest computer chip maker in the world behind Intel (INTC), was the best performing stock in the S&P 500 with a gain of +15.6%. It had three very impressive back-to-back daily gains of +6.8%, +5.2%, and +4.9%! The good news for AMD this week was the bad news for Intel with reports that Intel computer chips put those computers at risk of vulnerabilities. This bad news for Intel is expected to put Advanced Micro Devices in a better market position.

SCANA Corporation (SCG), a California-based producer of electricity, is in an agreement to be acquired by the much larger Dominion Energy (D). It was reported this week that a law firm has commenced an investigation into the price that was negotiated between the two companies and whether or not SCANA’s board negotiated the best prices for SCANA shareholders. The stocks surged +13.2% for the week suggesting investors anticipate the possibilities of a better price.

L Brands (LB), a specialty retailer with brands including Victoria’s Secret and Bath & Body Works, was the worst performer in the S&P 500. The company reported sales for holiday shopping season that, overall, were higher by 3%. The disappointment though was the -6% drop in same store sales for Victoria’s Secret offset by a 4% increase for Bath & Body Works. The stock fell -16.4% for the week, wiping out a big chunk of its recovery during the past 6 months but still well above its 2017 lows.

Economic Indicator - Reported

The December Employment Report’s headline number was a disappointment with the economy creating only 148,000 jobs as compared to the consensus economists’ estimate of 191,000. Furthermore, revisions to the two prior months’ numbers resulted in a net reduction of 9,000 jobs. Surprisingly the market’s reaction to this report was positive as investors chose to look beyond the headline and found things to like in the report.

One clear positive in the report is the unemployment rate remaining at a 17-year low of 4.1%. This is clearly a positive but more interesting is the unemployment rate for African Americans. In December the African American unemployment rate fell by -0.4% to 6.8%. This is a record low going back to the early ‘70s when the Labor Department started tracking the statistic. And not only is this the lowest rate in history but it is now also the narrowest gap between it and the overall unemployment rate, as illustrated in the accompanying graph, at just 2.7% today.

Source: Bureau of Labor Statistics

Auto sales for December came in much stronger than economists had estimated at 17.9 million annualized. Aside from a couple of hurricane related months, December was the best month in 2 years and point to overall strong retail sales.

Factory Orders also came in better than expected with a gain of +1.3% in the most recent month. This compares to a decline of -0.1% in the prior month.

Economic Indicators – Upcoming

December Retail Sales are expected to have improved by +0.5%. This would be a good follow-up to November’s strong +0.8% gain.

Both the Consumer Price Index, retail inflation, and the Producer Price Index, wholesale inflation, are estimated to have increased by +0.2% in December when stripping out the volatile food and energy sectors. Inflation has remained surprisingly and persistently low for several years which has frustrated some members of our Federal Reserve.

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