Try to keep the Christmas glass half full

Equity markets once again started the week on a positive note, possibly in the hope that there was potential for good news in the coming days.  Three factors that had caused some of the recent market volatility, Italy, interest rates and trade may offer some comfort in the coming days. The first, Italy, as the government showed signs on Monday of a compromise by offering to reduce the deficit target to as low as two pct of GDP. This news had the effect of tightening the spread between the yields on German and Italian bonds. Other potential positives for the markets this week could be Jerome Powell’s speech, if he adopts a slightly more dovish tone than he has been recently. Thirdly Donald Trump meeting the Chinese leaders at the G20 meeting and a positive communique on trade negotiations may be the result. Here is an even more radical call, sterling may recover as Theresa May could start to find slowly but surely support for her Brexit bill.

Looking at how the equity markets have anticipated the week ahead, the Vix rose and the S&P 500 out-performed the Russell 2000. So possibly not a great deal of enthusiasm. The shorter end of the bond market has not anticipated much of a material change in interest rate policy

There is no doubt that there are signs of a slowing US economy. The Dallas Fed index has retreated, business investment plans have moderated, and hours worked has fallen sharply. Financial conditions continue to tighten, and US money supply growth continues to slow. In Europe, business expectations have started to slow. The euro area economic surprise index continues to weaken.

Sentiment provides so much in terms of market direction. As we can see there is enough to get the fund manager more cautious. This may provide the opportunity to become more optimistic. The bulls will argue, economic growth may be slowing but its not contracting. Corporate earnings are growing, just not as quickly. The next question has the correction in equity markets been enough to compensate for the weaker economic data? Possibly, valuations are now closer to historic norms. Alternatives are not necessarily any more attractive. Many speculators anticipate a Santa rally, it often does not come as anticipated, they then capitulate. As in some years past one may need to be patient for Santa, some may throw in the towel. Don’t give up just yet on the Santa rally.

Posted on November 27, 2018 .