Weekly Newsletter

Winning Streaks End

U.S. stock benchmarks closed mostly lower last week, putting an end to multi-week winning streaks by the major indexes as traders expressed nagging anxiety about a possible delay in much-anticipated corporate tax cuts due to major differences between the House and Senate versions of the tax bill. However, some strong corporate earnings results limited the declines and kept the Nasdaq in barely positive territory, supported by strength in semiconductor stocks. As traders grew more defensive during the week, they increasingly favored consumer staples stocks, which saw good gains. Energy stocks were especially strong at the start of the week, after oil prices rose in response to the arrests of numerous Saudi Arabian officials and members of the royal family over the previous weekend. Oil prices fell back a bit later in the week, however, partly due to news of a rise in U.S. oil inventories.

For the week, the Dow fell 0.5 percent while both the S&P and the Nasdaq lost 0.2 percent. Both the Dow and the S&P had risen for eight straight weeks, while the Nasdaq fell off after a six-week rally. All three indexes are hovering near record levels and hit all-time highs during the week. The Russell 2000, meanwhile, rose 0.1 percent on Friday. However, that index of small-capitalization stocks, which is seen as having a higher correlation to the prospects of tax reform, fell a more pronounced 1.2 percent over the week.

In economic news, the personal savings rate falls to a 10-year low while consumer sentiment fell from 100.7 to 97.8, below the 100 level that was expected. The economic calendar was particularly light.

On Thursday, the Senate Finance Committee released its draft tax bill, which differed significantly from the House Republicans’ plan. One key divergence is a proposal to defer implementing a cut in corporate tax to a 20 percent rate from 35 percent until 2019, rather than next year as put forward in the House plan. The two versions of the tax overhaul will be further debated and negotiated before the final vote, of course, and traders seem to be losing faith that the bill will be passed before year-end. The prospect of a major tax plan has been one factor propping up the U.S. stock market recently in that many traders see tax cuts supporting company earnings and boosting the economy.

Traders also followed President Trump’s visit to Asia, where he delivered a strong message on trade, defending economic nationalism and saying the U.S. won’t enter into multilateral deals that “tie our hands.” Speaking at the Asia-Pacific Economic Cooperation summit in Vietnam, the president declared he won’t “let the United States be taken advantage of anymore.”

Asian stock markets closed mostly lower last week, while the major European indexes were lower across the board.

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Narrowly Mixed

The major domestic stock indexes closed last week mixed. The large-cap indexes outperformed, and the broad S&P 500 managed to extend its string of weekly gains to eight, its best stretch in four years. The Dow and the Nasdaq were marginally higher as all three closed the week at record highs. It was the Nasdaq’s 63rd record close this year, the most ever On the other hand, the small-cap indexes recorded losses, extending a pattern of underperformance that has been in place for a month. On a sector basis, tech, energy, and the small real estate segment led the gains within the S&P, while materials and consumer discretionary shares lagged.

Last week was again an active one for third-quarter earnings reports, with firms representing nearly one-quarter of the S&P 500’s market capitalization reporting results. On Thursday evening, Apple, the largest firm in terms of market cap, reported results that generally exceeded analysts’ expectations, providing a particular boost to the tech-focused Nasdaq on Friday morning. Analysts polled by data and analytics firm FactSet continue to expect an overall slowdown in earnings growth in the third quarter, however, with profits for the S&P 500 rising by roughly 6 percent on a year-over-year basis, as compared with double-digit gains in the first half of 2017. However, many observers expect earnings to pick up as hurricane-related disruptions recede.

The week’s political calendar was also exceptionally busy. On Monday, Special Prosecutor Robert Mueller announced the first indictments and a guilty plea in his investigation into Russian interference in the 2016 election, which weighed somewhat on sentiment. Traders also seemed to react poorly to rumors that the GOP’s tax reforms would phase in corporate tax cuts, rather than lower them immediately. These fears proved unfounded when Republican House leaders released their draft bill on Thursday, which called for an immediate cut in the top corporate rate to 20 percent. Less favorably for the market, the draft bill also incorporated a one-time tax on repatriated profits, new limits on the deductibility of interest expenses, and a five-year sunset on the deductibility of capital investments. Finally, President Trump announced on Thursday his nomination of Federal Reserve Governor Jerome Powell to become the next chairman of the central bank. Powell is widely considered likely to follow his predecessor’s gradualist approach to rate increases.

Longer-term U.S. Treasury yields rallied back from multi-month highs in reaction to both Powell’s nomination and mixed economic signals. Personal spending increased at a solid pace in September, and the Conference Board reported that its gauge of consumer confidence had reached its highest level in nearly 17 years. A gauge of manufacturing activity, while still strong, slightly missed expectations, however. Friday’s closely watched monthly payrolls report also fell short of expectations, despite a slight reduction in the unemployment rate (to 4.1 percent), but many observers noted that the hurricanes were still creating volatility in the data. Oil prices held mostly steady last week after ending the previous week at a nine-month high.

A busy calendar of corporate earnings and solid economic data pushed European stocks into positive territory fast week. The STOXX Europe 600 Index ended the week higher, almost touching a 10-year high midweek before it receded. The blue chip German index DAX 30 also performed well, reaching an all-time high. Spain’s IBEX 35 ended flat but was strengthened early in the week, as sentiment improved after a lack of a violent reaction to the Spanish government taking control in Catalonia over the weekend. Across Europe, solid manufacturing data from China supported mining and automobile stocks.

In Japan, the major stock market benchmarks advanced, marking their eighth consecutive week of gains. The bellwether Nikkei 225 advanced 2.41 percent last week and is up 17.92 percent for the year to date.

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Even More All-Time Highs

Most of the major domestic equity benchmarks closed higher last week and moved further into record territory. The broad market S&P 500 recorded a seventh consecutive weekly gain, its best stretch in nearly three years. The tech-heavy Nasdaq performed best, helped by a surge in Microsoft, Amazon, Alphabet (Google’s parent company), and Intel at the open of trading on Friday following the release of better-than-expected earnings reports the previous evening. The small-cap Russell 2000 lagged and recorded a small loss for the week. Tech stocks led the week’s gains, while health care shares fared poorly.

Last week brought the heaviest flow of third-quarter earnings reports, with 180 of the S&P 500’s constituents reporting results. The pace of important reports picked up in particular on Tuesday, when strong results from Caterpillar, 3M, General Motors, and Corning provided a boost to the industrials sector and the overall market. The health care sector lagged as investors were disappointed in sales trends for some major drug-makers. Drug stocks also suffered later in the week from President Trump’s speech on efforts to address the opioid crisis and his vow to crack down on “bad actors” in the industry. News that Amazon had filed for drug distribution licenses in several states also weighed on health care service providers.

The week’s economic data were generally favorable. On Wednesday, the government reported that durable goods orders had risen by a healthy 2.2 percent in September, while new home sales in the month were much stronger than expected. Friday brought news that the economy had grown at an annualized rate of 3.0 percent in the third quarter, in line with the previous quarter’s 3.1 percent and evidence of resilience in the face of hurricanes in August and September. The last time the economy had two consecutive quarters of 3 percent growth was in 2014. The government said it could not say exactly how much hurricanes Harvey and Irma sliced from growth in the quarter. Because Puerto Rico is not a state, hurricane Maria does not factor in the government’s GDP calculations.

Rebuilding activity in the wake of the hurricanes should help growth remain relatively strong in the fourth quarter, outstripping the roughly 2 percent pace of expansion over the past few years. The University of Michigan reported consumer sentiment in October was the strongest it has seen in 13 years. The strong data may have weighed on overall sentiment by suggesting that the Federal Reserve might step up its pace of interest rate increases, but financial stocks benefited as higher interest rates augur well for bank lending margins while interest rate sensitive holdings (e.g., REITs) suffered.

The dollar rose across the board after the House of Representatives passed a budget resolution on Thursday, which was viewed as an encouraging sign for tax cuts. Oil prices were higher but gold was lower.

The positive economic signals had a direct effect on the bond market too, helping push the yield on the benchmark 10-year U.S. Treasury note to its highest level since March on Friday morning. Progress in Congress on GOP efforts to develop tax reform legislation also contributed to rising yields, although reports Friday morning that President Trump was favoring Fed Governor Jerome Powell as the central bank’s next chair seemed to send yields lower at the end of the week. Many view Powell as likely to continue Janet Yellen’s patient approach in raising short-term interest rates.

At the end of trading on Thursday, Bill Gates occupied the top spot in the Bloomberg Billionaires Index, with a net worth of $88 billion. Amazon’s Jeff Bezos was second at $83.5 billion, but a jump in Amazon stock of 13.5 percent on Friday due to huge earnings pushed Bezos ahead, despite a very good day for Microsoft too.

Corporate earnings, central bank moves, and political instability were all key drivers for European stocks last week. The STOXX Europe 600 Index ended the week higher, with tech and consumer shares providing a lift at the end of the week. Germany’s DAX reached a record high following good economic news and a string of positive earnings reports. While the blue chip FTSE 100 ended flat, it was supported by a weaker pound, which boosts the value of many of its listed companies that bring in revenue from outside of the UK.

The European Central Bank (ECB) announced that will halve its bond-buying program to €30 billion from €60 billion a month from January through September 2018, or longer, if necessary, until inflation is revived. The move was widely expected, with the market generally delivering a muted response following the news. The ECB left its guidance on interest rates unchanged, promising to maintain its current rates until well beyond the end of its asset purchases.

The dramatic escalation of a political crisis in Spain hit that country’s benchmark stock index on Friday. Losses on the Ibex 35 reached nearly 2 percent after separatist leaders in the wealthy region of Catalonia voted to establish an independent state. The euro also weakened against the dollar, reflecting fears that the dispute could escalate into another major crisis in Europe. The declaration drew an immediate response in Madrid, where the national Senate voted to seize control of the autonomous region. Spanish stocks and the euro both recovered some lost ground following the response from the central government.

In Asia, most markets rallied. Japanese stocks remained on an upward trajectory, marking seven weeks of gains. Although the string of consecutive daily gains (16 trading days) ended on Wednesday, it was the Nikkei’s longest-ever winning streak and took the benchmark to a 21-year high.

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More All-Time Highs

The major domestic benchmark stock indexes all moved higher last week – which included the 30th anniversary of the famous “Black Monday” crash of 1987 – to close at record levels. The driving forces seemed to be some good third-quarter earnings reports and Thursday evening’s Senate passage of next year’s federal budget, a key step on the road to tax cuts. “This resolution creates a pathway to unleash the potential of the American economy through tax reform and tax cuts, simplifying the overcomplicated tax code, providing financial relief for families across the country, and making American businesses globally competitive,” the White House said in a statement. To this point, the potential impact of an anticipated deficit growth of $1.5 trillion on account of the proposed tax cuts has not seemed to register.

The narrowly-focused Dow Jones Industrial Average advanced 164 points to 23,326, and was up 2.0 percent for the week, with a 9 percent jump by IBM on better than expected earnings driving the bus. JNJ also reported stronger than expected earnings. The Nasdaq Composite Index gained 24 points (0.35 percent), to close at 6,629. The S&P 500 was up 13 points to 2,575, up 0.9 percent for the week. Financials outperformed as higher interest rates boded well for bank lending margins. Consumer staples gave back some of their previous week’s gains, while energy stocks fell alongside oil prices late in the week as data showed an increase in U.S. inventories.

As evidenced by a steep (if temporary) decline in GE stock following its report of a drop in earnings on Friday, not all of the week’s earnings reports were greeted favorably. It also appears likely that the overall pace of earnings growth is likely to slow in the third quarter, following double-digit advances in the first half of the year. Data and analytics firm FactSet is currently anticipating earnings for the S&P 500 as a whole to have grown under 2 percent for the quarter on a year-over-year basis. Disruption from hurricanes in August and September seems to have been at least partly to blame for the slowdown, however, and investors appeared to look forward to a rebound in profits growth in 2018.

Expectations for stronger economic growth also appeared to support last week’s equity gains. Manufacturing signals remained solid in the face of the recent hurricanes, and weekly jobless claims fell to their lowest level since 1973, when the U.S. labor force was roughly 60 percent of its current size. Housing permits and starts declined more than expected in September, but existing home sales rose and surprised on the upside.

The Dow and the S&P 500 closed out their fifth straight day on Friday with all-time highs and a sixth straight weekly gain, while the Nasdaq notched its fourth straight positive week. This is the longest stretch of weekly gains for the Dow since a seven-week rally that ended in December. Last week’s positive economic data and hopes for further stimulus through tax cuts pushed U.S. Treasury yields higher.

European stocks ended last week flat to slightly lower although the German DAX index, which is heavily weighted in major multinational companies, touched an all-time high and the French CAC 40 Index surged to its highest level in five months. Japanese stocks powered higher for the week and have posted 14 consecutive daily gains, the longest stretch in 30 years. Elsewhere in Asia, China’s economy grew a robust 6.8 percent in the third quarter but Chinese stocks only closed modestly higher for the week.

In the current political climate, it can be hard to contextualize what is happening in the markets. Last week, President Trump tweeted the following: “It would be really nice if the Fake News Media would report the virtually unprecedented Stock Market growth since the election.” As Bloomberg reported last week, the stock market rally since President Trump’s election has been terrific, but it is hardly “virtually unprecedented.” The S&P 500 has gained 19 percent since the 2016 election, which is outstanding growth, but less than that of rallies after the election of John F. Kennedy in 1960 (24 percent), Franklin D. Roosevelt in 1944 (28 percent), George H.W. Bush in 1988 (31 percent), Herbert Hoover in 1928 (35 percent), Bill Clinton (again) in 1996 (38 percent), and Roosevelt (his first election) in 1932 (41 percent). Over this same 11-month time period, the rally here in the U.S. is not as strong as the world median – its progress has been less than market rallies in Germany France, Italy, Spain, and even Greece. More to the point, however, presidents have much less to do with market performance than is generally assumed. That said, there is no reason to be disappointed in market performance over the past 11 months.

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Domestic stocks continued their advance into record territory, marking the fifth consecutive weekly gain for the large-cap Dow and S&P 500 indexes. The gains were modest, however. The small-cap Russell 2000 lagged and recorded a modest loss for the week. Thus far in 2017, the Dow has gained nearly 16 percent, the S&P has risen 14 percent, and the Nasdaq has returned about 23 percent.

Last week brought the first releases of major third-quarter earnings reports, with JPMorgan Chase and Citigroup falling Thursday after reporting lower fixed income trading revenues and higher set-asides for credit card losses. Wells Fargo reported an earnings decline on Friday, further weighing on the broader financials sector. Consumer staples stocks performed well, boosted by a surge in Wal-Mart shares after the retail giant announced a massive share repurchase program and predicted a strong rise in online sales.

Even with the onset of earnings season, the tumultuous political environment continued to play a large role in driving sentiment. Health care services stocks stumbled early in the week as rumors surfaced that President Trump was preparing to loosen regulations to allow less comprehensive and cheaper insurance plans. Stocks of hospitals and other health care providers fell when the president signed an executive order allowing such plans on Thursday, and shares fell further on Friday following news that the administration would also stop providing subsidies to insurers in order to reduce premiums for low-income enrollees in state insurance exchanges.

The Trump administration also said it won’t certify Iran’s compliance with a 2015 nuclear agreement, declaring Tehran a regime that continues to sponsor terrorism and alleging that Iran “intimidated international expectations” sent to inspect it from building up nuclear armaments. The president laid out a new strategy to deal with Iran and warned that he could cancel U.S. participation in the nuclear pact at any time. The strategy includes placing additional sanctions on the Iran regime to block its “financing of terror,” said Mr. Trump.

A series of positive economic reports seemed to help compensate for the ongoing political disruption. Initial jobless claims during the previous week fell sharply, as the impact of Hurricanes Harvey, Irma, and Maria on the labor market appeared to be dissipating. Retail sales also jumped in September, reflecting further resilience in the face of the natural disasters. Best of all, consumers entered October feeling better about the economy than they had in 13 years, according to the University of Michigan’s gauge of consumer sentiment, released Friday.

The hurricanes did have a large impact on September headline inflation data, which jumped in response to a temporary surge in gas prices following the shutdown of Gulf Coast refineries. Recent weakness in monthly core inflation data has drifted further away from the Federal Reserve’s annual inflation target of 2 percent, but most analysts believe the Fed is likely to continue on its path of gradual interest rate increases, with the next rate hike likely to be in December. Policymakers remain concerned that the current level of interest rates is too low and is driving elevated equity valuations. The tame inflation data also fed into a decrease in long-term U.S. Treasury yields last week.

European stocks were higher last week too, with two key benchmark indexes, Britain’s FTSE 100 and Germany’s DAX 30, reaching record highs. A slide in the pound boosted confidence in the multinational companies that dominate the FTSE and generate sales in foreign currencies. Mining stocks were strong, buoyed by solid import demand from China. The pan-European benchmark Stoxx 600 ended the week marginally higher. European equity funds posted solid weekly inflows overall, according to EPFR Global data.

Spanish stocks and government bonds rallied as political concerns eased slightly after Catalan leader Carles Puigdemont symbolically declared independence but stopped short of making a formal declaration. Earlier in the month, Catalonia held a referendum on independence that Madrid ruled illegal and invalid. The yield on 10-year Spanish government bonds had fallen to 1.61 percent by Thursday’s close, well below the peak of over 1.78 percent it reached on October 4. However, Spanish equity funds suffered their second-largest outflows on record last week.

Japanese stocks powered higher last week as the Nikkei 225 surpassed its 1996 peak, but the market still traded at about half of the all-time high it set nearly three decades ago. Recent improvement in the Japanese economy — recording six consecutive quarters of growth through the second quarter — has (yet again) raised hopes that, together with an improving global economy and Bank of Japan stimulus, this could be the catalyst for the long-awaited and endlessly discussed Japanese growth and inflation cycle. Elsewhere in Asia, China stocks advanced as its exports grew strongly in September and the country’s foreign exchange reserves rose for the eighth straight month.

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Stocks maintained their winning streak for much of the week, sending the major indexes to a new round of records, despite the devastating shooting in Las Vegas last Sunday evening, which claimed the lives of more than 50 people and injured over 500 others. The large-cap S&P 500 Index notched its eighth consecutive daily gain before falling back a bit on Friday – its longest winning streak since 2013. The S&P also set its sixth consecutive record closing level on Thursday before some profit-taking on Friday ended the streak. It was the index’s longest streak of records since 1997.

As has often been the case in recent months, last week’s rally coincided with exceptionally low volatility. On Thursday, the CBOE Volatility Index (the “VIX”) closed at the lowest level on record since its inception in 1993. At the start of the fourth quarter on Monday, the Morningstar Fair Value ratio for all rated stocks was 1.03, suggesting that the market is slightly overvalued overall.

Last week’s bullish bias had its roots in last week’s run to record highs, which was sparked by the release of the GOP’s latest tax reform outline. The House kept the ball rolling this week by passing a budget that slashes government spending in anticipation of decreased tax revenue. The GOP still has a long way to go, given its difficulty getting things done this year, but traders liked the apparent progress.

Excited by the idea of a tax overhaul, the S&P 500’s financial sector climbed 1.9 percent last week to finish comfortably ahead of the broader market. The financial sector has added 10.6 percent since closing at a three-month low on September 7 and now trades just a tick behind the benchmark index for the year.

Automakers were also strong last week after reporting largely solid U.S. sales figures for the month of September, which were helped by the replacement of vehicles lost to Hurricane Harvey and Hurricane Irma. GM showed particular strength, climbing 11.3 percent, after reporting a year-over-year increase of 12.0 percent. Netflix also did well, up 9.2 percent and hitting a fresh all-time high, after UBS raised its target price to $225 from $190 and following news that the company will raise the price of its standard and premium video-streaming services.

Equities did end the week on a down note, however, following a noisy employment report for September issued on Friday. The U.S. economy lost 33,000 jobs in September – the first monthly decline in jobs for seven years – in the aftermath of the damage done by Hurricanes Harvey and Irma. Consensus expectations called for a gain of 90,000 jobs, after accounting for the hurricanes, well below the monthly average of 175,000 so far this year. Harvey shut down activity in Houston for days, while Irma hit businesses in Florida. As those businesses re-open, jobs should return. Meanwhile, the jobless rate dropped to 4.2 percent, its lowest level since 2001.

As a reminder, average hourly earnings growth, which is positively correlated with inflation, has been tepid in recent months, putting the Fed’s rate-hike forecast into question. However, following Friday’s jobs report, the market now strongly seems to believe the U.S. central bank will hike rates one more time this year, thereby achieving its goal of three rate hikes in 2017. The fed funds futures market now places the chances of a December rate hike at 93.1 percent, up from last week’s 77.9 percent.

U.S. Treasury yields increased following the jobs report, an indication that traders were focusing on the strong wage gains in the report rather than the payrolls decline. The yield increase followed a modest rise earlier in the week, fed by the strong economic data and recent comments from Philadelphia Federal Reserve President Patrick Harker, who noted that he had “penciled in” a December rate hike despite low inflation readings. Rising yields helped the U.S. dollar climb to its highest level since July.

Rising tensions between the Spanish government and secessionists in Spain’s Catalonia region cast a shadow over European markets during the week. Spain’s main index, the IBEX 35, tumbled in what was one of its worst weeks in two months, with bank shares recording steep losses following concerns among investors about key lenders headquartered in Catalonia. However, while the future of the independence movement remains uncertain, Catalonia is not likely to become independent anytime soon. Still, a lengthy dispute on that score would, of course, weaken economic growth in Spain.

The British pound had a very rough run last week, shedding more than 2 percent against the dollar. The currency has declined 13 percent since the Brexit vote. Prime Minister Theresa May turned in what many saw as a lackluster performance at an annual meeting of her Conservative Party early last week, raising questions about her leadership. The pressure on May increased on Friday when a political rebellion aimed at removing her from power burst into the open. May has pledged not to step down, but her position seem less stable by the day.

With several major Asian markets closed for holidays last week, Japanese stocks posted good gains in quiet trading. Chinese stocks had a great week as manufacturing activity there surged in September, suggesting that Beijing’s efforts to clean up the country’s indebted financial system and crack down on polluting industries haven’t yet curbed economic growth.

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The U.S. large-cap benchmarks closed modestly higher last week, while the small-cap indexes scored more substantial gains. These advances brought most of the indexes to new intraday highs on Friday, but the narrowly focused Dow remained a bit below the peak it established the previous week. The performance of the small-cap Russell 2000 was particularly notable, as it finally managed to surpass the intraday high it had reached in late July. On a sector basis, tech stocks were especially strong, helped by a rebound in Apple shares and strength in semiconductor stocks. Consumer staples and utilities shares lagged.

With the third-quarter earnings reporting season set to begin in a couple of weeks, traders generally appeared to remain focused on the political and economic environment. A further escalation in North Korean tensions last weekend weighed on sentiment when trading opened Monday. Stocks quickly regained their footing, however, helped in part by the unveiling of the Republican tax reform plan on Wednesday. Specifically, traders appeared to react positively to President Trump’s description of plans to lower the top tax rate, eliminate the alternative minimum tax, and treat foreign corporate profits currently accumulated overseas as already repatriated. The announcement of the tax plan seemed to foster at least a temporary revival in the “reflation trade” of late 2016, which saw small-caps and value stocks lead the market higher. Indeed, the Russell 2000 Index recorded its best daily gain on Wednesday since the previous November.

The devastation resulting from recent natural disasters also drew market attention. The Mexican earthquakes and Hurricane Maria have added $10 billion to insurance losses in the third quarter of 2017 on top of over $50 billion in losses from Hurricanes Harvey and Irma. Some analysts think that these latest catastrophes may act as a tipping point for the property and casualty marketplace as combined events will likely push third-quarter 2017 losses close to those experienced after Hurricane Katrina in the third quarter of 2005. Insurance losses in the first quarter of 2017 ran high as well, so 2017 is likely to break all-time industry catastrophic loss records.

While many details of the Trump administration tax plan remained undecided – and its ultimate passage far from certain – expectations that the plan would also add to the federal deficit and result in increased issuance of U.S. Treasury paper helped push longer-term U.S. Treasury yields higher last week. On Thursday, the yield on the benchmark 10-year U.S. Treasury note touched its highest level since July before decreasing a bit. Some solid economic data may have also contributed to the increase in long-term yields. Durable goods orders rose solidly in August, with a significant increase in core capital goods orders pointing to an increase in business confidence in investment.

In Europe, the STOXX Europe 600 advanced about 1.1 percent last week, as the Trump administration’s tax plan helped spur gains in European markets too. German stocks, as represented by the DAX index, were up about 1.6 percent last week following the country’s election on September 24. Angela Merkel won a fourth term as German chancellor, but her centrist coalition lost ground while the nationalist AfD party became the first far-right party to enter parliament since the 1950s. Initial fallout from the election included the announcement that Finance Minister Wolfgang Schäuble, one of the leading advocates of further European integration as well as fiscal austerity, would be leaving his post. In Spain, stocks were volatile as the country prepared for a contentious referendum on independence for Catalonia.

Yields on most eurozone government bonds increased, tracking moves in U.S. Treasuries following the announcement of potential tax reform in the U.S. Ten-year German bunds briefly rallied early last week following the German election. In economic news, Eurostat, the European Union’s statistical office, reported that prices rose 1.5 percent for the 12-month period ended in September, the same annual rate recorded in August. The inflation rate remains below the European Central Bank’s 2 percent target. In separate reports, eurozone economic sentiment rose more than expected in September, and UK retail sales surpassed forecasts and reached their highest levels in two years.

In Asia, Japanese stocks posted modest gains for the week while the yen weakened. Prime Minister Shinzo Abe dissolved the lower house on September 28 and has called a snap election, which is slated for October 22. The move, announced at a press conference on Monday, was not a surprise for traders because rumors of the election had been circulating for two weeks. Abe said that he would run on a platform that included strengthening Japan’s economic foundations, a tough stance on the missile threat from North Korea, and increased spending for education.

In China, policymakers appear to be serious about deleveraging the financial sector, an effort that has been gathering steam for several months. Many analysts had believed China’s policymakers would be tough on financial sector tightening until the economy started to slow below the politically sensitive 6.5 percent gross domestic product growth threshold, at which point they would start to ease up on tightening measures. China’s economy reportedly grew at a surprisingly strong annualized rate of 6.9 percent in the first half of 2017, putting it on track to meet its official 6.5 percent annual growth target. But looking ahead, some analysts think that 6.0 percent annual growth will be the “new politically acceptable” lower bound. Chinese stocks traded off as a consequence.

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Domestic stocks closed a quiet — felt like summer — week on Friday with the market’s recent upward momentum intact, although continued geopolitical uncertainty limited buying appetite with major indexes near records. North Korea returned to the forefront after the country’s foreign minister Ri Yong Ho said late Thursday at a United Nations meeting that his country might consider a nuclear bomb of “unprecedented scale” in the Pacific. While geopolitical tensions have been elevated, some analysts think the stock market has become desensitized to the threats posed by conflict on the Korean peninsula.

The major indexes closed last week generally mixed overall. The large-cap benchmarks were flat to modestly higher, with both the S&P 500 and the narrowly focused Dow Jones Industrial Average setting record highs early in the week before falling back a bit. The tech-heavy Nasdaq also hit new highs but ended the week down moderately. The smaller-cap benchmarks performed best for the week but stayed below the peaks they established in late July. Interest rate-sensitive utilities and real estate names performed poorly for the week as U.S. Treasury yields increased, and consumer staples shares also lagged. Energy stocks fared well as oil prices hit a three-month high, aided by increasing demand from refineries in the Gulf of Mexico coming back online. Financials also recorded solid gains on the increase in rates.

Some traders think that political developments continue to play a large role in driving sentiment, but there is no decisive directionality. Volatility was muted, and trading volumes remained subdued. Markets did not appear to react to President Trump’s strong words about North Korea on Tuesday, and the new threats in response from North Korea early Friday morning appeared to have only a limited impact when trading opened in New York, as noted above. Likewise, new Republican efforts to pass a health care bill (which took a hit Friday when Sen. John McCain (R-AZ) announced that he would not support the latest bill) seemed to have little broad impact, although health care services stocks — particularly those of companies heavily reliant on Medicaid clients — fell sharply on Tuesday before recovering somewhat.

Traders also kept a close eye on the Federal Reserve’s policy meeting on Wednesday, but the results of the meeting were largely in line with expectations. The Fed kept rates steady but announced that, beginning in October, it would reduce the amount of payments on its reinvested bond holdings. The Fed had little impact on stocks but yields on the benchmark 10-year U.S. Treasury note briefly touched their highest levels since early August following the meeting. An increased chance that the Fed will raise rates at its December meeting was partly behind the increase in yields, but some positive housing data may have also been a factor, with both August housing starts and new housing permits coming in above expectations.

The pan-European Stoxx 600 Index closed Friday a bit higher on the week. Eurozone economic data continued to show modest but steady improvement. Driven by strong results in France and Germany, the eurozone composite purchasing managers’ index, a common measure of economic activity, exceeded expectations and reached a four-month high. Consumer prices in the eurozone increased 1.5 percent year-over-year in August, the highest inflation reading since April and a modest increase over the prior month. Inflation is rising gradually, although it remains below the European Central Bank’s 2 percent target rate. Eurozone consumer confidence improved more than expected in September, according to the European Commission, and reached its highest level since April 2001.

German government bond yields largely tracked U.S. Treasuries directionally as Germans prepared to go to the polls on Sunday in federal elections. Ten-year German government note yields were somewhat higher for the week, finishing at around 0.45 percent. Angela Merkel’s Christian Democratic Union is widely expected to return as the largest vote-getting party, but pundits are uncertain if she will be able to garner the absolute majority necessary to form a government without coalition partners.

In Asia, Japanese stocks posted solid gains last week while the yen weakened and closed near ¥112 per U.S. dollar, which is about 4.2 percent stronger than at the end of 2016. After what had been a good week to that point, Chinese stocks fell on Friday after S&P cut its credit rating for China a notch to A+ from AA- over the country’s rising debt risk, an embarrassing setback for China’s government as it tries to preserve the appearance of economic stability before a key leadership transition next month. The decision marks S&P’s first ratings cut for China since 1999 and the second sovereign downgrade for China this year after a similar move in May by Moody’s.

“The downgrade reflects our assessment that a prolonged period of strong credit growth has increased China’s economic and financial risks,” S&P announced in a statement. Though China’s government has lately stepped up measures to curb rising corporate leverage that could stabilize risk in the medium term, “we foresee that credit growth in the next two to three years will remain at levels that will increase financial risks gradually,” the agency added.

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Domestic stock benchmarks carved out another round of records on Friday to close out a good week, with a big assist from rallying telecommunication and bank shares, as Wall Street shook off North Korea’s latest missile launch. A great Monday, seen by many as something of a relief rally, set the tone for the week as multiple major benchmark indexes reached record highs multiple times. Monday’s burst of optimism came after the initial reports of damage from Hurricane Irma were not as severe as some pre-U.S. landfall estimates had projected. Stocks across the range of market capitalizations enjoyed similarly strong performance for the week.

Tech bellwether Apple announced the 10th anniversary version of the iPhone on Tuesday. Apple’s press event had little impact on the broader tech sector, and the company’s stock declined modestly on the day of the introduction before recovering to finish the week little changed. Apple shares had gained almost 40 percent in 2017 through the beginning of the week.

On Thursday, core inflation was up by a more than expected amount…and that got everyone talking. The Department of Commerce reported that the consumer price index (CPI) rose 0.4 percent in August, breaking a recent string of lower-than-expected monthly inflation readings. Most observers think that this solid CPI number supports the Federal Reserve’s view that the recent inflation soft patch was transitory. A rate hike at the Fed’s December policy meeting now seems to be roughly a 50:50 proposition. Higher interest rates last week (see below) supported bank stocks. Higher long-term interest rates allow banks to generate more interest income from lending, helping to boost their profits.

The inflation news got the market’s chattering class returned to that golden oldie, “the Fed is behind the curve.” They may be right, of course, but it may also be just a routine jolt higher to a measure that, overall, has been “surprising” economists for years.

From Bloomberg:

Inflation may finally be getting back on track to reach the Federal Reserve’s goal, as the U.S. cost of living accelerated following a weak stretch of readings, Labor Department data showed Thursday.

The 0.2 percent rise in the core gauge ends a five-month streak of weaker-than-expected readings, and may soothe some concerns that inflation is slowing more broadly, though it will take more readings to determine whether the pickup can be sustained. The increase in the lodging category indicates the earlier decline in the sector was transitory.

Energy prices rose by the most since January and may reflect some impact from Hurricane Harvey. CPI data is collected throughout the month, and since the storm occurred in late August, the Bureau of Labor Statistics expects most of the data to come from before the storm, BLS economist Steve Reed said Wednesday. Data collection was disrupted in two of the 87 U.S. urban areas where prices are gathered.

As always, we cannot be anything close to sure. But it surely is too soon to making portfolio changes as a consequence.

U.S. Treasury yields increased last week, with much of the selling pressure coming at the beginning of the week as demand for safe-haven assets waned on North Korea and Hurricane Irma news. The strong August CPI report compounded the sell-off, particularly in shorter maturities that are more sensitive to increases in the federal funds rate, by boosting the odds that the Fed will raise rates at its December policy meeting. Prices of fed funds futures contracts at the end of last week showed that traders were pricing in an approximately 50 percent chance of a rate hike in December.

European equities ended last week higher too, as auto and tech stocks gained and favorable economic news provided a lift for key indexes. Eurozone statistics agency Eurostat reported that wages in the region rose 2 percent year-on-year in the second quarter, when the eurozone grew at its fastest pace in two years. Banks and mining stocks headed lower, reflecting some shifting by investors out of riskier assets into safer havens. On Friday, a morning rush hour explosion at a southwest London Underground station, labeled by police as a “terrorist incident,” dragged down travel and leisure stocks most notably, though a broad swath of sectors tumbled following the explosion.

The major Japanese stock market benchmarks posted solid gains last week. The widely watched Nikkei 225 was up 3.29 percent on the week. The yen closed the week at 110.66 versus the U.S. dollar, a gain of 2.54 percent against the prior week. However, the yen has declined 5.44 percent against the dollar YTD. Elsewhere in Asia, China’s latest batch of monthly indicators showed that the country’s economy unexpectedly slowed in August, offering more evidence that it has entered a slowdown after a sluggish July. Large cap Chinese stocks were still up a bit last week.

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Domestic stocks recorded modest losses last week. Energy stocks were strong early in the week as crude oil prices advanced, while health care, utilities, and real estate stocks ended the week with some positive momentum. Consumer discretionary, financial, and tech names lagged. Mid-cap shares were particularly weak and ended the week the furthest off their recent peaks, down roughly 4.3 percent from their record highs earlier this summer.

The markets took a big hit on Tuesday after the holiday weekend. Lots of ideas were floated as to why the markets reacted to circumstances that were not new and had not caused a major reaction previously. Pick from a typical parade of horribles: an increasing likelihood of military conflict between North Korea and the U.S., including the possibility of nuclear showdown; the lack of political consensus on raising the debt ceiling; the economic impact of hurricanes Harvey, Irma, Jose and whatever the next one after that is called. Maybe it was the disappointing jobs report the previous Friday. Perhaps it was summer ending, and everyone back at their desks and lighting up out of a plethora of caution. All or none of those could have been “the” reason, if a reason exists. As ever, I am skeptical of assigning any reason to the random nature of short-term market movement.

Sentiment may also have been dampened by a speech by Minneapolis Federal Reserve Bank President Neel Kashkari, who stated that recent Fed rate hikes have been detrimental to the U.S. economy. Kashkari’s comments appeared to push down long-term U.S. Treasury yields in particular (see below), which weighed on bank stocks. The financial sector also took a hit from insurance stocks, which wavered in anticipation of losses from Hurricane Irma on top of those from Hurricane Harvey.

Stocks regained some strength midweek, thanks in part to news of a deal in Washington to delay debt ceiling and budget fights until December. With deadlines looming at the end of September to fund the government and raise the debt ceiling, President Trump and Democratic congressional leaders agreed Wednesday to surprising three-month extensions for both in legislation attached to emergency funding for Hurricane Harvey relief. President Trump’s new willingness to work with Democrats and cut-out Republicans led to new worries about how he would get along with his ostensible party on tax reform, however. Reports that the conservative House Freedom Caucus had begun drafting its own tax plan seemed to weigh on sentiment on Thursday, along with continued worries about Irma and North Korea.

The yield on the benchmark 10-year U.S. Treasury note decreased sharply on Tuesday, reaching its lowest level since just before the November 2016 elections. The yield decline continued through Thursday morning. Falling longer-term yields and reduced expectations for another rate hike from the Fed in December contributed in turn to a decline in the U.S. dollar, which fell to its lowest level since the start of 2015, as measured against a basket of foreign currencies.

European equities, weighed down by geopolitical concerns, the euro’s strength, and some negative economic news, ended the week mostly lower. Within the pan-European benchmark Stoxx 600 index, the banking sector, most notably insurance stocks, was weak due to Hurricanes Harvey, Irma and the threat of Jose. The euro’s strength put further pressure on European exporters, whose goods become more expensive for overseas buyers as the eurozone currency strengthens.

In Asia, Japanese stocks declined last week and the yen dropped nearly two percent versus the dollar. Chinese stocks were lower too. Despite recent gains in Chinese reserves, a faster-than-expected slowdown and a resumption of capital outflows still pose risks to China’s outlook.

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