We have just completed one of the most volatile quarters in stock market history ... and most of the credit goes to our Federal Reserve friends. Phil Orlando, chief equity strategist for Federated Investors, captures the action better than any:
In our view, the Fed's disconnect from economic reality at the beginning of the year, in which the central bank appeared to be on a pre-set glide path to hike interest rates by four quarter-point increments over the course of 2016, contributed to the equity market's worst-ever 11% correction in the first three weeks of the new year.
But the Fed has since figured out that it can't hike rates four times this year against a challenging economic growth and weak corporate-earnings backdrop. The central bank passed on a hike, correctly in our view, at policy-setting meetings in both January and March, and Chair Janet Yellen's recent speech in New York set a dovish tone that the Fed was going to be very patient before raising interest rates again. We believe that the market's realization that the Fed has found religion on future rate hikes has certainly contributed to the equity market's recent rebound.
He goes on to forecast a passive Fed going forward:
Looking forward, we think that an April 27 rate hike from the Fed is off the table, due to our concerns about poor results from first-quarter 2016 GDP, revenues and EPS. We also think that June 15 is off the table, because of "Brexit" fears the following week, as Great Britain votes on whether to leave the European Union on June 23. While we think the odds of "Brexit" are low, Chair Yellen has noted her concerns about international developments as justification for the Fed to keep interest rates in place here.
So the earliest the Fed may hike rates again is at its Sept. 21 policy-setting meeting. But with the presidential election scheduled for November 8, there's some question among investors as to whether the Fed may prefer to hold off until after the election, perhaps at its Dec. 14 meeting. That suggests the Fed may consider one or two additional quarter-point rate hikes in the second half of this year, depending upon the recovery from the current economic soft patch.
So one of the primary concerns in my last newsletter now seems to be off the table. With the Fed on hold, we believe that the world's central bankers have now kicked the can down the road for (possibly) several more months.
WILL OIL PRICES STABILIZE? One of the primary concerns to investors the past two years has been the price of oil (and the effect it is having on our industrial economy and financial system). We continue to believe that oil prices cannot stabilize until production drops further. Producers -- independent producers as well as foreign nations dependent on the oil revenues -- will continue to maximize cash flow by pumping all they can produce until they literally go broke. Therefore, we continue to expect lower oil prices and additional volatility in the stock market.
WILL CONSUMER SPENDING CONTINUE TO POWER OUR ECONOMY? Although lower fuel prices and continuing job growth should provide the consumers with additional money to spend, it seems everyone is still being cautious with their spending. Auto sales fell off significantly in March, but housing starts were impressive in February, possibly helped by the unusually mild weather this winter ... so, consumer spending is an important metric to keep an eye on.
WILL COMPANIES BOOST CAPITAL SPENDING? Just like consumers, company CEOs tend to be conservative in their spending when their business feels soft. For the most part this means cuts to investments in big-ticket items ... think machinery, new factories, computer systems, etc. ... which has a big impact on the economy. Currently companies are going slow on the big investments unless the investment produces a quick payoff in efficiency -- not helpful to the markets.
WHICH WAY WILL INFLATION AND INTEREST RATES GO? We believe the slow global economy will continue to keep inflation and interest rates low for the foreseeable future. The global oversupply of labor and commodities will quickly fill all the needs we may have at competitive prices (not a recipe for higher inflation). Thus, if interest rates remain low while inflation remains under control, neither of those factors will threaten to derail the stock market rally.
HOW WILL THE UPCOMING EARNINGS SEASON LOOK? The quarterly earnings season will begin before you receive this newsletter, but expectations are for an 8-9% DROP in earnings in the reports this quarter! This will be the fourth quarter in a row where earnings growth is negative. While the market has overcome the previous reports and held up, the comments by the CEOs about future quarters will be watched closely.
There continue to be numerous reasons for caution with our investing. But, as we noted, the catalyst for a major selloff caused by Fed action seems to be delayed for a time. Although we will move our market barometer from slightly negative to slightly positive, we will continue to favor "safe-haven" stocks for the majority of our portfolios. We believe that dividends will provide the majority of our returns this year.
Again, please let us know if there is a specific concern you have that we need to be aware of. As I have said many times, the most important quality of an investment is that it allows us to sleep well at night. Sometimes that just means a better understanding of the reason behind the selection. If that is the case, please give us a call.
Dividends are not guaranteed and must be authorized by the company's board of directors. The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete, it is not a statement of all available data necessary for making an investment decision, and it does not constitute a recommendation. Any opinions are those of Dave Crouch and not necessarily those of Raymond James.