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The Market Turns Risk Off After Disappointing Overseas Data

By TD Ameritrade (JJ Kinahan)Market OverviewDec 16, 2018 02:07AM ET
The Market Turns Risk Off After Disappointing Overseas Data
By TD Ameritrade (JJ Kinahan)   |  Dec 16, 2018 02:07AM ET
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(Friday Market Close) Weaker economic data from China were a mirror image to strong numbers from the United States, and as investors on Friday reflected on the two sets of figures it seems they focused more on the negative than the positive.

The losses on all three major U.S. indices were around 2% after retail sales data from China showed slower-than-expected growth and the weakest reading in five years. Numbers also showed 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 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.

JNJ Weighs on Healthcare Sector

Corporate news also weighed on the market, with Dow Jones Industrial Average ($DJI) component Johnson & Johnson (NYSE: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 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.

Lots of Data Scheduled

Friday’s ugly trading appeared to be data driven, and investors can expect the closely watched economic numbers to keep coming in the next few days. As the numbers come in, it could be interesting to see if investors continue to buy more bonds next week and continue exiting riskier positions.

Arguably the biggest bit of economic news would be 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, but the odds have dropped, and it appears that there is a not-insubstantial segment of the market thinking that monetary policy makers may stand pat on rates next week.

That could be because commentary from Fed officials in recent days has become seemingly more dovish. And the picture for rate moves into next year becomes more murky. Still, the futures market projects around a 75% chance of a hike next week, which would be the fourth this year.

Even with a Fed rate hike perhaps already baked into the proverbial cake, investors are still likely to comb through Fed comments accompanying the announcement to try to glean any fresh tidbits about where policymakers think the economy and inflation could be headed.

They’ll 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.

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.

Health Stocks Take A Powder
Health Stocks Take A Powder

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.”

TD Ameritrade® commentary for educational purposes only. Member SIPC. Options involve risks and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options.

The Market Turns Risk Off After Disappointing Overseas Data
The Market Turns Risk Off After Disappointing Overseas Data

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