Election day has come and gone, yielding results that were in line with expectations in terms of party control. What was thought to be a volatility relief to begin the year end climb has failed to come to fruition. If you are asking yourself why stock markets have not embraced the outcome and subsequent reduction in uncertainty you are not alone. Volatility has increased following a drop shortly after the results and the indices look lost trying to find direction.
Prior to the election, market commentators had mentioned prior to the election that earnings numbers were strong, but the uncertainty of the voting turnout was prohibiting a rise in stocks. An overarching theme was that the markets would rally after voting day if the results were as expected. The following topics explore why the market has continued to decline despite quality earnings and strong economic data.
Continued selling has resulted in the formation of some bearish technical patterns which can be alarming to investors. On Wednesday, the Russell 2000 formed a bearish death-cross pattern in intraday trading. The death-cross, which occurs when the 50-day simple moving average crosses below the 200-day simple moving average, is a bearish pattern and may lead to continued selling. The last time this occurred was in 2015, after which the index continued to decline for five months before turning around. While not all death-cross patterns mean impending doom, they are generally not positive events.
October happened to be the worst month for hedge funds in 7 years, this on the heels of notable underperformance for some time. As investors receive their statements concern mounts that redemptions may be high. November 15 is significant as it is considered the final day for many funds to accept redemption requests. If many such requests are received, there could be a race to liquidate assets by these large funds, adding to selling pressure in the market
Oil and Dollar Strength
Oil has fallen quickly over the last six weeks after hitting almost four-year highs. The swift decline can be blamed on multiple factors, one of which is slowing global growth. An increase in stockpiles and decrease in demand could be an indicator of slower growth expectations, elevating fears of financial leverage.
Another leading factor is the strength of the US Dollar. Oil is a dollar denominated commodity, meaning a strong dollar puts downside pressure on oil prices. However, the inverse movements between the USD and oil have not been symmetrical. Likewise, a strong dollar puts pressure on earnings for US corporations that have international sales, and is typically a headwind for US markets. It should be noted however that the market weathered moves of greater magnitude and duration in 2014 and 2016 which were of more concern than the current fluctuation.
Instead of easing after the election, political uncertainty has added to concerns going forward. The door has been opened for increased partisan bickering leading to stalemates and indecision. Investigations will likely continue, and potential indictments lurk for various figures associated with Washington. Increased tensions between parties could prove challenging to budget negotiations, with temporary funding ending on December 8, 2018.
Likely the biggest concern for the markets is uncertainty over the ongoing “Trade War” with China. The process has endured longer than many had hoped, and a resolution is not expected soon. At times, both parties have provided positive commentary, but this has failed to lead to actual progress. An escalation of tensions between the two countries could aid in slowing growth in their respective economies and may have a domino effect on other global economies. With plans to add additional tariffs in the new year, a resolution may provide a significant boost to optimism.
Back to earnings, which have been a beacon of hope for the current climate. Quarter three has continued the trend for earnings and revenue growth this year. Earnings results from the S&P 500 through the end November 9, 2018 have been impressive when compared to the previous 30 quarters. Using reports from 450 of the S&P 500 companies, the quarter is on pace for the top spot in year-over-year earnings growth and percentage of companies experiencing growth. Earnings surprise percentage, revenue surprise percentage, revenue growth and companies experiencing positive revenue growth are all in the top five over this period.
Highlighting current headwinds is not intended to scare investors, but to identify events and patterns that are currently hampering the market’s advance. Volatility at current levels may continue and could prevent price improvements. We continue to monitor and analyze market and economic trends which impact our clients, and wish to keep you informed of hurdles to come.