Geopolitics, Fed Take Center Stage Amid New Batch of Retail Earnings

The market seems a bit nervous this morning about the China trade and North Korea negotiations, while retail earnings continue to pour in and Fed minutes are due later.

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(Wednesday Market Open) Suddenly the geopolitical picture that looked so positive earlier this week seems a little shakier, and the impact could potentially weigh on stocks Wednesday. The situation with North Korea seems more volatile and although news about trade with China has been fairly positive, concern developed after yesterday’s remarks from President Trump.

The market dip began Tuesday afternoon when Trump told the media he’s not happy with China trade talks and that a June summit with North Korea might not happen. Basically, the market got a jab and a hook from the President’s words. Geopolitics could start having an outsized influence now that earnings season is basically over, and that appeared to be what happened as stocks tumbled late Tuesday and stock futures continued to slide in the pre-market hours Wednesday.

None of this seems too surprising when you consider that negotiations like these aren’t all wine and roses. It’s also not surprising to see the market swing back and forth, because this is a week where we’re heading into a holiday and volume has been light. In this environment where there’s not a lot of market-related news, people are liable to jump on outside issues.

Meanwhile, the retail earnings parade continued early Wednesday as Target (TGT) missed Wall Street analysts’ consensus expectations with earnings of $1.32 a share. The consensus had been for $1.38, and it marked the second straight earnings miss for the company. On the positive side, TGT’s same-store sales came in above consensus at 3%, but that wasn’t enough to stop a 7% decline in its shares in pre-market futures trading. In this market, a retailer that misses expectations is liable to get punished.

Other retail results this morning seemed to receive a more positive view from investors, at least early on. Lowe’s (LOW) and Tiffany’s (TIF) both rallied in pre-market futures trading despite LOW missing analysts’ consensus for EPS. TIF shares spiked more than 12% after the company crushed the Street’s expectations on both top- and bottom-lines. Same-store sales rose 10%, an impressive performance that speaks well for U.S. tourism since many people shop at the company's iconic New York store.

Fed Takes Stage This Afternoon

It may not have the red-carpet pizazz of an actual Fed meeting, but Fed minutes this afternoon could set off some flashbulbs as many investors await the latest insights on inflation and economic growth.

Minutes from the Fed’s meeting earlier this month are due at 2 p.m. ET. If you recall, one of the big takeaways from that gathering (at which the Fed left rates unchanged) was its post-meeting statement about inflation. The Fed said inflation has moved closer to its 2% goal and is expected to run near that over the “medium term.” The previous statement had said inflation was running below the target.

Today, the curtain gets pulled back a little. The minutes could provide a better hint at whether FOMC members are leaning toward a fourth rate hike this year and show how they feel about wage growth and inflationary pressures.

As far as the market’s expectations, not much has changed since the meeting in early May. Fed funds futures now see a 95% chance of a hike by the June meeting and about an 80% chance of another hike by September. That would get the Fed to three rate increases for the year, something it had previously forecast. The chance of another increase by the end of 2018 rests just below 50% now, according to futures, but we’ll see if that changes following the minutes.

Those Earnings Conference Calls...

Retailers sagged Tuesday, weighed down in part by a 6% drop in shares of Kohl’s (KSS). The KSS losses came as something of a surprise considering the company’s solid earnings results first thing Tuesday morning, but then the earnings conference call began and the mood quickly changed. In the call, KSS attributed much of the company’s good sales to an early Mother’s Day marketing promotion. What doesn’t give Wall Street happiness is when you say something positive was a one-time event. It may not be exactly what the company meant, but the call did appear to take a lot of the pop out of what was a pretty nice earnings story.

We saw this earlier in earnings season with Caterpillar (CAT), when words on the conference call played a role in taking down shares. It comes back to what’s been happening a lot this quarter: Many investors don’t seem happy with companies simply beating expectations—they expect that and more. If a company appears to give people an excuse to sell, they often tend to do so. The psychology has slowly changed over the last month, but we’re not out of the woods. For long-term investors, the important thing is to ignore the daily noise and keep long-term goals in mind. That said, it’s almost mid-year and that could mean it’s a good time to re-examine allocations (see below).

While the retailers struggled, chip makers moved higher by about 1% overall, with Micron (MU) helping lead the charge as it announced a major stock buyback. Financials also climbed, but most sectors weren’t able to find traction and the market treaded water most of the day.

Figure 1: Different Paths: If there’s one chart that really helps tell the story of the month so far, this might be it. Crude oil (candlestick) is up about 10% from its lows of early in May, while the VIX, which measures market volatility (purple line) continues to sink. What this chart does show is that while oil remains elevated and at three-year highs, it hasn’t gained much ground in the last week, and VIX has also flattened out at relatively low levels. Data sources: Cboe, CME Group. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Putting Brakes On China Auto Tariffs: Not to rain on any parades, but some of the excitement stirred in the automotive sector this week about easing trade relations with China might have gone into overdrive. While China’s announcement that it will cut tariffs on U.S. cars to 15% of their wholesale value from the previous 25% is certainly positive, you have to consider the full picture. Both Ford (F) and GM (GM) manufacture the majority of their cars sold to Chinese customers in China, according to a recent CNN report. The tariff doesn't apply to cars made in China. The news might actually be more of a boost to Tesla (TSLA), which is just starting to get a foothold in China with the company reporting $2 billion in sales there last year. TSLA has said that it is planning a factory there, however.

Durable Orders Loom Friday: The week began with a surprisingly light U.S. economic data calendar, but things start to perk up today with new home sales and weekly crude inventories. On Friday morning, durable orders for April could give investors a better sense of business sentiment when it comes to buying longer-lasting goods like machinery and airplanes. Durable orders in March rose 2.6%, but were flat if you strip out a surge in transportation that month. The key takeaway was a 0.1% decline in purchases of non-defense capital goods excluding aircraft, according to Briefing.com, which called business spending that month, “soft.” Shipments of non-defense capital goods play into gross domestic product measurements for Q2, but analysts aren’t looking for an April improvement. In fact, the Wall Street analyst consensus is for a 1.8% drop in durable goods for April, Briefing.com said.

Balancing Act: It’s almost mid-year, and that means if you’re a long-term investor this might be a good time look at your portfolio. A mid-year financial checkup could help you determine if your asset allocation still reflects your risk tolerance, and if your portfolio is positioned for a rising-rate environment. It might also reveal if you’re potentially over-weighted in a particular asset class or sector given the current market conditions. Depending on market performance, this could potentially mean shifting some money between fixed income, equities, and cash. And if life has changed in a big way, you may need to consider re-allocating your assets. More cash might be necessary if you’re about to start paying college bills, for instance.

Good Trading, 

 JJ

@TDAJJKinahan 

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