Key Points
1. Economic data continue to point to a broadening acceleration of growth within the United States. This should help corporate earnings and equity markets.
2. The political backdrop should remain supportive of growth and financial markets, but rising uncertainty over Donald Trump’s presidency is a growing risk.
Investors focused on politics last week, specifically the debate over tax changes that could include a controversial border adjustment provision, possible regulatory changes and the ongoing immigration fight. U.S. equity indices were little changed for the week and sector performance was mixed.1 Health care and consumer staples were standouts, while telecommunications, materials, industrials and energy were all down more than 1%.1
Weekly Top Themes
1. The jobs market continues to be a source of strength. Nonfarm payrolls rose 227,000 in January, while average hourly earnings were up just 0.1% (putting the year-over-year rate at 2.5%).2 Restrained wage growth should be a positive for corporate earnings and profits.
2. Manufacturing appears to be improving. The January ISM manufacturing index came in higher than expected and reached its highest level since November 2014.3 New orders remain strong and demand appears to be steady.
3. The Federal Reserve expects continued growth. At last week’s policy meeting, the Fed forecasted moderate growth and inflation and a robust jobs market.
4. Corporate earnings may accelerate in 2017. Fourth quarter earnings are on track to grow 8%.4 Encouragingly, forward guidance has turned positive.
5. Despite all of the positives, headwinds to growth remain. We would point to the rise in the dollar, climbing interest rates, higher energy prices and a likely slowdown in China.
6. Regulatory reform is hazy, but should be a positive for financial markets. President Trump signed executive orders designed to lead to repealing or modifying the Dodd-Frank Act and the Department of Labor’s Fiduciary Rule. The exact outcomes of these efforts remain unclear, but have the potential to ease financial market regulations.
7. We expect the post-election market leaders to reemerge. In January, the S&P 500 Index rose 1.9%,1 but we also saw a reversal in the themes that dominated the post-election landscape. Last month, financials lagged, small caps underperformed large caps and cyclical sectors generally trailed.1 We believe cyclical strength will reemerge as 2017 progresses as economic growth accelerates and pro-growth economic policies begin to take shape.
We Expect Equity Prices and Bond Yields to Rise Unevenly
Twelve months ago, investors were worried about global recession, deflation and declining corporate earnings. Since that point, we have seen a sharp rise in global economic activity. Manufacturing around the world has improved, trade levels have recovered and, in the U.S., the jobs market remains an important source of strength. Corporate earnings have also bounced back from their year-plus recession. We expect these developments to be reinforced by possible U.S. fiscal stimulus, which could include tax reform, tax cuts, fiscal stimulus and deregulation.
Largely as a result of these developments, equity prices have risen dramatically since their low almost one year ago. At the same time, bond yields have advanced as investors have become more optimistic about growth prospects. We anticipate that all of these trends are likely to continue this year, which underlies our view that a pro-growth, pro-risk investment stance is warranted.
We also believe the U.S. political backdrop is becoming more of a wildcard and potential risk. Simply put, investors like economic growth, but they dislike political uncertainty—and Donald Trump may deliver both. Following the election, we stressed that President Trump’s areas of focus would prove critical to how the economy and markets responded to his efforts. We hoped that he would focus on tax, regulatory and fiscal issues. And while he has, to some extent, done so, the early days of his administration have been dominated by pushes for immigration and trade restrictions. These efforts may appease Trump’s political base, but they also have the potential to hurt corporate confidence, interrupt global supply chains and damage international relations. For now, we continue to believe that economic growth will accelerate and that the path of least resistance for equities is up, but acknowledge that the potential for political turbulence is rising.
Bob Doll is chief equity strategist at Nuveen Asset Management.
1 Source: Morningstar Direct, as of 2/3/17
2 Source: Bureau of Labor Statistics
3 Source: Institute for Supply Management
4 Source: RBC Capital Research