The WMA Weekly Market Wrap v.180703

July 3, 2018

Trade War Leads to Lousy Week

Domestic stocks had a lousy week. The tech-heavy Nasdaq and the smaller-cap benchmarks fared worst after outperforming the previous week. Within the S&P 500, energy stocks performed best as oil prices reached new four-year highs. Health care and consumer staples shares lagged, dragged lower by drug store operators amid concerns that Amazon’s acquisition of an online pharmacy could lead to intense price competition and possibly smaller profit margins for the sector.

The markets began the week on a markedly down note. On Monday, the S&P 500 suffered its worst daily decline in nearly three months while the Dow closed below its 200-day moving average for the first time since immediately after the surprise Brexit vote in 2016. Trade concerns were at the root of the problems, with traders concerned about new threats from the Trump administration to block Chinese access to U.S. technology. The Wall Street Journal reported on Monday that administration officials were planning to bar Chinese firms from investing in U.S. technology companies and to impose new limits on U.S. technology exports to China.

Trade worries deepened later Monday and into Tuesday after Harley-Davidson revealed in an SEC filing that it was planning to move some of its motorcycle production overseas to avoid retaliatory tariffs recently announced by the European Union. President Trump responded by harshly criticized the company in a series of tweets.

The president seemed to moderate his rhetoric at midweek, however, which may have helped the market recover somewhat. On Tuesday afternoon, Mr. Trump told a group of White House reporters that the government would continue to rely on the Committee on Foreign Investment in the United States in limiting Chinese investments in U.S. technology. On Thursday, the president spoke in Wisconsin at the opening of a plant operated by Taiwanese technology giant Foxconn — a source of foreign investment in the U.S. that he had celebrated early in his administration. Traders observed that his address was notable for its benign tone, with the president emphasizing how all the threats and hyperbole surrounding trade are part of a negotiation that will ultimately prove successful. The president also implied that the EU has reached out to discuss a compromise.

On a sector basis, notable developments during the week included the sharp rise in oil prices, which appeared to result from both falling U.S. supplies and reports that the Trump administration was aiming to shut down all Iranian crude exports by November 4. The higher prices boosted energy stocks, but traders noted that the rally in crude oil may have also weighed on the stocks of oil consumers. Financial shares helped lead an early rally Friday, as traders seemed to be relieved that all major U.S. banks cleared the Federal Reserve’s annual stress tests. A positive earnings surprise and favorable guidance from Nike also helped the major indexes move higher.

Bloomberg reported that companies in the S&P 500 rely upon foreign markets for about one-third of their revenue. According to Bank of America/Merrill Lynch, the current rise in tariffs will negatively impact S&P 500 profits by three to four percent. Goldman suggests a two to three percent decline. In any event, the impact is significant. Tech stocks have dominated market performance since 2016; foreign sales account for nearly 60 percent of their revenues. The next highest group within the S&P is the industrials sector at 38 percent of revenues.

The week’s economic signals were mixed. New home sales jumped in May, but housing prices softened. New durable goods orders fell 0.6 percent month-over-month in May, with core capital goods falling 0.2 percent, as orders were lower across the board. Growth in first-quarter gross domestic product was revised lower, from 2.2 to 2.0 percent, as small contributions from inventory growth and net exports were reduced and became drags on the estimate. Weekly initial jobless claims rose slightly but remained at historical lows. Personal income rose 0.4 percent in May and consumer spending rose 0.2 percent, both in line with estimates. The Atlanta Fed increased its estimate of second quarter GDP growth to 4.5 percent as we reached the six-month “anniversary” of the president’s tax cut plan. Other forecasters boosted their forecasts to 5 percent. The only time growth has topped 5 percent since 2003 was the third quarter of 2014, when the economy grew by 5.2 percent. The yield on the benchmark 10-year U.S. Treasury note decreased over the week.

Key European stock indexes also ended the week lower, weighed down by uncertainty about global trade and political wrangling over immigration. Trade volumes were down significantly at the beginning of the week, an indication of uncertainty about the direction of the markets. The pan-European STOXX 600 Index logged about a 1 percent loss and the export-heavy German DAX 30 was lower by close to 2 percent. Most of the losses came early in the week as traders seemed worried that a global trade war would drag down the European economy. Some of the heated trade rhetoric between the U.S. and European countries as well as China softened as the week progressed, as noted above, fueling a partial recovery in equities.

In recent weeks, investors have withdrawn billions of dollars from European equity and bond funds, concerned that trade frictions could dent a fragile economic recovery in a region heavily exposed to international trade. During recent sessions investors have been weighing signals from the U.S. and China about the future of their trading relationship, which some worry could hurt the outlook for growth.

In Asia, the Shanghai Composite Index, China’s benchmark stock index, lost 1.5 percent last week despite a sharp bounce higher on Friday after the country officially announced that it would further open its markets to foreign investment. The large-cap CSI300 Index fared worse, falling nearly 3 percent. June was the worst month for Chinese stock returns in more than two years, and both the Shanghai Composite and the CSI300 were among the poorest-performing major indexes in the world YTD. As in the rest of the world, but worse, fears of a trade war with the U.S. continued to weigh on investor sentiment toward China. Japanese stocks also lost about one percent last week.

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