The WMA Weekly Market Wrap v. 180220

February 20, 2018
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Bounce Back

Domestic stocks carried over the momentum they recaptured on Friday of the previous week and last week recorded their best weekly gain since early 2013. The tech-heavy Nasdaq performed best, aided by solid gains from Apple and Cisco Systems. Along with information technology, financials, health care, as well as industrials and business services outperformed within the S&P 500, while energy shares lagged despite a sharp rally in oil prices on Wednesday. Having entered correction territory (a decline of 10 percent or more off recent peaks) the previous week, the indexes ended Friday with YTD gains and only 4-5 percent off their January (all-time) highs.

The market’s rebound appeared to be driven in large part by diminishing fears about higher inflation and interest rates despite some evidence of inflation in the data. Wednesday morning’s CPI came in a bit higher than expected, on both a core (excluding energy and food prices) and overall basis. Stock futures dropped on the release of the figures, but the market recovered its footing later in the day and ended solidly higher. A sharp rise in the prices of apparel as well as home furnishings and supplies was responsible for much of the rise in core inflation, but a similar spike in those categories a year ago was offset by declines in later months. PPI, released on Thursday, was in line with consensus estimates overall, but higher than anticipated on a core basis. This report didn’t seem to register much impact either.

Volatility measures fell back last week too, while trading volumes declined Tuesday to their lowest level in over a month. ETFs and systematic trading vehicles, while continuing to play a higher-than-average role in trading activity, also seemed to diminish somewhat in perceived importance. Nevertheless, some traders were keeping an eye on risk parity funds (an investment strategy that involves shifting allocations between assets in response to volatility) as a potential source of further selling, even though there is little evidence that these funds are a problem.

Aside from inflation, the week’s economic data were mixed. Retail sales fell 0.3 percent in January, with core retail sales (excluding autos and gasoline) falling 0.2 percent, the largest drop in nearly a year. December sales were also revised downward. Weekly initial jobless claims rose slightly but remained near historic lows. Industrial production also fell slightly in January, weighed down by a decline in mining output. Corporate profit growth seemed to be continuing to fire on all cylinders, however. Data and analytics firm FactSet again revised its estimate of fourth-quarter profit growth for the S&P 500 upward, to 15.2 percent (on a year-over-year basis), its best pace since late 2011.

Perhaps reflecting the balance between higher inflation data and mixed economic signals, the yield on the benchmark10-year U.S. Treasury note touched a new four-year high of 2.93 percent but ended last week only modestly higher. The midweek release of January inflation and retail sales data appeared to weigh on sentiment a bit.

European stocks ended last week higher too, with most major indexes showing strength in a variety of sectors as concerns about rising interest rates and inflation seemed to ease there as well. The pan-European STOXX 600 index couldn’t recover the steep losses it logged from the week before, but the appetite for European shares was nevertheless robust, as the STOXX 600 rose around 3 percent for the week. Blue chip indexes, including Germany’s DAX 30 and the UK’s FTSE 100, also strengthened. Tech, banking, and natural resources shares were some of the notable outperformers.

As in the U.S., volatility also trended lower in Europe last week while the euro strengthened against the dollar. A strong euro versus other countries depresses revenue for European companies that sell their goods in overseas markets.

Asian markets also advanced nicely last week, although activity was fairly light there due in large part to a holiday-shortened week. Departing from its usual practice, the People’s Bank of China reportedly drained $216 billion from the country’s financial system in the weeks preceding the Lunar New Year holiday. The PBOC’s recent austerity — following years in which the central bank routinely pumped money into markets to ensure ample liquidity for banks and investors — was seen as part of Beijing’s ongoing crackdown against excessive risk-taking fueled by readily available money.