Key Points

• Investors are waiting for a catalyst that could cause a sustained positive or negative breakout in equity markets.
• Risks appear relatively balanced to the upside and downside, but we think equity markets will likely continue grinding higher.

Although economic data was positive and earnings continued to be strong, U.S. equities were mixed last week.1 Markets appear to be in a holding pattern, with investors waiting for more news on Federal Reserve balance sheet normalization and tax policy. Financials and utilities sectors were the standout performers last week, while materials lagged.1 In other asset classes, Treasuries and the dollar were both up while gold and oil prices fell.1

Weekly Top Themes

1. The July jobs report confirmed economic growth remains strong while inflation remains subdued. 209,000 new jobs were created and the unemployment rate dropped to 4.3%.2 At the same time, average hourly earnings rose only 0.3%, keeping the year-over-year increase at 2.5%.2

2. Corporate earnings are capping off another strong quarter. With more than 80% of companies reporting second quarter results, revenues are on track to grow 5%, earnings are up 10% and earnings-per-share growth is up over 11%.3

3. The odds of a recession appear low, but so does a significant acceleration in growth. The regulatory environment is loosening, consumer spending appears solid and jobs growth remains strong. As such, we do not expect a recession any time soon. At the same time, however, we see no catalyst to push the economy into a higher gear unless the White House and Congress make progress on their pro-growth agenda.

4. Republicans are focusing on tax reform, but a long road lies ahead. Before Congress can tackle tax legislation, the government must pass a budget (or agree to a continuing resolution) and address raising the debt ceiling. If the debate over health care is any indication, these issues are likely to be contentious.

5. Active large cap equity managers continue to enjoy solid results. This group had another strong month in July, with 58% of managers outperforming their benchmarks.4 This marks the fifth consecutive month of outperformance, the best streak since 2009.4

Risks Appear Tilted to the Upside for Stocks

For several months, volatility has remained low while equity prices have grinded unevenly higher. This has prompted many investors to look for signposts that could cause a change in direction. There is a pervasive sense among investors that the equity bull market is getting old, but it is unclear what catalysts would cause an end to the current cycle. Possible dangers could include the end of emergency zero-interest-rate policies, high global debt levels, slow productivity growth or political instability caused by such issues as widening income inequality or rising protectionism.

In reality, however, most of these issues have been present for years and equities and other risk assets have continued to climb higher. Investors have been well rewarded for adopting pro-growth investment stances and overweighting risk assets. So what to expect from here? Positive and negative factors appear pretty well balanced, as seen in the following list adapted from J.P. Morgan:5

In our view, the positive factors at least slightly outweigh the negatives. If economic growth remains decent and corporate earnings continue to rise, those factors should remain tailwinds for equity markets. The political backdrop is highly uncertain, but we think political pessimism may be overdone. Even the slightest sign of progress on tax reform could be good news for the markets. As such, we think the pro-growth investment stance that has worked for some time still makes sense.

Bob Doll is chief equity strategist at Nuveen Asset Management.

1 Source: Morningstar Direct, as of 8/4/17
2 Source: Bureau of Labor Statistics
3 Source: RBC Capital Markets
4Source: Bank of America Merill Lynch
5Source: J.P. Morgan Research, August 4 “Bull vs. Bear Debate”