Fed in Focus: Key Meeting Starts Tomorrow As Investors Lick Wounds

The new week begins with focus firmly on the Fed as investors await a rate decision. Inflation data, a small batch of earnings, and a fresh look at Q3 GDP also loom.

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5 min read

Key Takeaways

  • Fed meeting starting tomorrow is front and center in last full week of year

  • Chances remain around 76% for a rate hike, according to futures prices

  • Full slate of earnings and data on tap in coming days, with Oracle later today

(Monday Market Open) Still no sign of Santa yet on Wall Street this holiday season.

Instead, investors enter the new week licking their wounds after days of struggles. Friday’s sharp plunge amid growing concerns about world economic weakness didn’t offer much hope for any sort of “Santa Claus” rally, though we still have a couple weeks left in the year.

Despite the fast approach of Christmas and what’s usually a relatively quiet period, this looks like it might be a busy week as markets struggle through the worst quarterly performance for major indices since 2011. Front and center is a key Fed meeting starting tomorrow as debate heats up about the next rate move. With the U.S. economy still looking pretty impressive despite eight-month lows for the S&P 500 Index (SPX), futures trading indicates a 76% chance that the Fed will execute its fourth hike of the year Wednesday.

There’s also a batch of key earnings reports looming, along with a fresh look at Q3 gross domestic product (GDP) and U.S. inflation. Some of the major companies due to report ahead of the holiday include Nike (NKE), FedEx (FDX), Micron (MU), and Walgreens Boots Alliance (WBA). 

This little mini earnings season gets underway after today’s close when Oracle (ORCL) reports. Over the last few years, ORCL has been transitioning to more cloud-based services—meaning its earnings might help investors get a sense of current trends in that area of the tech industry. The company has a track record of regularly beating Wall Street analysts’ earnings expectations in recent quarters, so we’ll see if that holds up.

Washington drama could affect trading, too, this week, as Congress and the White House spar over what appear to be growing chances of a possible government shutdown. Historically, shutdowns haven’t often had a huge impact on the market, but in these volatile times, the political finger-pointing might add to what’s already a pretty full basket of factors outside of investors’ control. 

Global stocks were mostly lower to start the final full trading week of the year, and the dollar index is down a little after approaching its 2018 highs late last week. Investors might want to consider watching the dollar this week. Lately, strength in the dollar has often corresponded with weakness in stocks.

Fed Meeting Looms Large

For major economic news, it’s going to be hard to compete with the Fed’s interest rate decision, expected Wednesday. Based on the futures market, most investors seem to be expecting the central bank to raise its key rate by another 25 basis points.

With a Fed rate hike this week likely already baked into the cake, investors are probably more focused on Fed comments accompanying the announcement as they try to glean any fresh tidbits about where policymakers think the economy and inflation could be headed. Fed Chair Jerome Powell’s post-meeting press conference could provide clues about next steps,with the futures market projecting just 50/50 chances of another rate hike in 2019. 

As of September, the Fed projected about three hikes next year, but the updated “dot plot” from the Fed on Wednesday could help investors glean whether they should still expect such an aggressive tightening strategy. 

Combing Through the Data

Investors also are scheduled to get another clue about inflation later in the week when the government reports November personal consumption expenditure (PCE) data. According to the Fed, core PCE numbers are the central bank’s preferred inflation gauge. A similar number, the core consumer price index, showed prices rose an as-expected 0.2% in November even while headline consumer prices were flat month-over-month.

One economic uncertainty that’s been percolating, perhaps a bit under the radar, is the state of the U.S. housing market and its effect on the broader economy. Recent numbers have been mixed, but overall it seems that higher mortgage rates have been eating into home affordability even as input prices for steel and lumber also rise.

So investors may want to pay attention to reports on November building permits and housing starts on Tuesday and existing home sales for last month on Thursday. 

Investors are also scheduled to see the government’s third estimate for Q3 gross domestic product, arguably the mother of all economic reports because it includes the total value of the goods and services produced in the country. The last estimate was 3.5%.

Meanwhile, a fresh reading Friday from the Atlanta Fed’s GDPNow model estimated that Q4 GDP would come in at a seasonally adjusted annual rate of 3%. The estimate rose from 2.4% on Dec. 7 after the U.S. retail sales report helped boost Q4 PCE growth expectations along with a stronger-than-expected showing for U.S. industrial production in November.

Other notable economic reports in coming days include November data on leading indicators, durable goods orders, and personal income and spending. As with the other report, a stronger-than-expected data point, while good for the economy, can spark worries on Wall Street that the Fed might tighten rates too quickly and put an artificial damper on economic and corporate growth. Weaker-than-forecast readings can boost the market, while as-expected figures can be non-events.

Friday Follies

All three major U.S. indices fell around 2% Friday after retail sales data from China showed slower-than-expected growth and the weakest reading in five years. Industrial output there grew the slowest in three years, a potential sign of the effects of the ongoing trade war with the United States. Meanwhile, private sector business activity in Europe also fell, news that came just one day after the European Central Bank sliced its growth and inflation forecasts. European and Asian shares fell across the board.

The data from China contrasted with retail sales and industrial figures from the United States, where November U.S. retail sales growth of 0.2% that matched Wall Street analysts’ expectations and U.S. industrial production in November increased by 0.6%, ahead of the 0.3% forecast in a Briefing.com consensus.

That wasn’t enough to outweigh the concerns about economic growth abroad. Perhaps that’s because the overseas data come amid a backdrop of continued worry about global economic growth prospects as the trade war between the United States and China drags on. All three major U.S. indices are off 5.5% or more so far this month, making this the worst December open since 1980. The SPX and Nasdaq (COMP) are in correction, down more than 10% from their September highs.

JNJ Hit Healthcare Sector on Friday

Corporate news also weighed on the market late last week, with Dow Jones Industrial Average ($DJI) component Johnson & Johnson (JNJ) dropping more than 10% after a Reuters report said the company’s Baby Powder product was sometimes tainted with carcinogenic asbestos and the company kept the information from regulators and the public. JNJ issued a statement saying the Reuters article is “one-sided, false and inflammatory.”

JNJ helped weigh on the S&P 500 (SPX) healthcare sector, which was the worst performer of the day, but other healthcare names were also markedly lower. Some of the other selling could be coming as traders look toward “quadruple witching hour” next Friday, which refers to the last hour of the trading day when market index futures and options expire along with stock options and stock futures. This can result in volatility as traders unwind positions. 

The energy sector was also a loser as oil prices plummeted as market participants eschewed riskier assets and seemed to worry about demand for black gold amid concerns about global economic strength. A stronger dollar also seemed to help pressure dollar-denominated oil, making it more expensive for buyers using foreign currencies.

The strength in the dollar might have been one sign that investors were flocking to perceived “safe-haven” assets, though no investment is truly safe. Market participants were also buying up U.S. government debt, pushing yields lower. Wall Street’s main fear gauge, the Cboe Volatility Index (VIX) jumped after days of being on the decline. 

Figure 1:  Health Stocks Take A Powder: The health sector, which had been, well, pretty healthy lately, took a dive Friday along with the S&P 500 Index (purple line), hurt in part by shares of key component Johnson & Johnson (JNJ), which dived after a negative media report. Data Source: S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Not an Immaterial Selloff in 2018:  When looking at the various stock sectors, a few of them tend to grab a lot of the headlines, especially in 2018. Info tech, for example, has been the belle of the ball over the last few years, but lately has been dancing to a dismal tune. Crude oil's massive downturn has dragged energy shares down over 12% on the year. Financials, also down over 12% have been worth watching as a bellwether to not only the overall business climate, but also as sort of a proxy for the future of interest rates. But when you look at 2018 sector performance, it's Materials that has led the charge lower—down about 15% on the year.

It seems the sector has been dragged down by some of the same fundamentals pressuring energy and financials, namely concerns of a global economic slowdown. But pressure at a few individual names have certainly added fuel to the flame. DowDuPont (DWDP), which at 19% has the highest weighting in the S&P 500 materials sector index, has been the target of a number of analyst downgrades as it continues its plan to split into 3 companies (and likely loses its standing as a Dow component), according to media reports. Shares are down over 20% on the year. Other big names down over 20% include International Paper (IP), Vulcan Materials (VMC) and, the biggest laggard of all, mining giant Freeport-McMoran (FCX), down over 40% since the start of the year.

Cheap for A Reason: There’s a quote attributed to Thomas Jefferson that says: “Never buy what you do not want, because it is cheap; it will be dear to you.” He could have been talking about European equities. According to research firm CFRA, European stocks are cheaper when compared to historical averages. But just because something is cheap doesn’t mean it’s a good deal. In this column, we’ve often touched on problems facing Europe and weighing on investor’s minds. But with much of the geopolitical headlines these days dominated by news of the progress, or lack thereof, on the China-U.S. trade front, we thought it would be a good time to dig deeper into some of the headwinds that investors in Europe could face.

Various economic indicators have shown signs of slowing growth in Europe, according to the research firm. Even so, the European Central Bank announced recently that it will end its bond-buying program. And, although it may be easy to forget with all the tariff issues surrounding the U.S. and China, the United States still has tariffs on steel and aluminum from the European Union. Meanwhile, France is facing violent protests, and Italy’s budget remains an overhang. Even as Britain is enmeshed in trying to work out a negotiated exit from the European Union, Spain continues to face separatist pressure from people who want Catalonia to secede. While it may be tempting to chase what seems like a bargain, caution is always in order. “All told, a significant amount of uncertainty remains in Europe,” CFRA said. “Even though valuation is attractive with the S&P Euro 350 trading at 6% discount to its long-term average price-to- earnings ratio, CFRA remains on the sideline.”

Tech Time: From a technical perspective, it’s arguably bearish that the S&P 500 Index (SPX) closed just a smidgen below psychological support at the 2600 level on Friday. It was the first close under 2600 since last spring, and could potentially help set up a test of support near the year’s lows in a range between 2530 and 2550. Consider tracking the SPX closely today to see if it can claw its way back above 2600 by the close, which would possibly be a sign of underlying support at these levels.

Good Trading, 

JJ

@TDAJJKinahan 

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Economic calendar for week of Dec. 17. Source: Briefing.com
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Key Takeaways

  • Fed meeting starting tomorrow is front and center in last full week of year

  • Chances remain around 76% for a rate hike, according to futures prices

  • Full slate of earnings and data on tap in coming days, with Oracle later today

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