Semifinalist #3: Federal Reserve

The Federal Open Market Committee (FOMC) acted boldly at its March 15 – 16, 2016 meeting. Citing “global economic and financial developments of recent months,” the Fed’s policymaking arm said it planned just two 25 basis point (0.25%) rate hikes this year instead of the four that it had previously projected. The Fed also lowered its long-run neutral fed funds rate projection by 0.25% to 3.25%. Those two shifts went a long way toward further resolving the imbalances that wreaked havoc on global markets at the start of 2016. The Fed’s move has helped ease the upward pressure on the U.S. dollar, which has positive implications for earnings, commodity prices (notably oil), and emerging market countries with dollar-denominated debts. Stocks have not moved much since the announcement, but the progress toward resolution may help limit the magnitude of potential market pullbacks when they occur.

As we noted in last week’s Weekly Economic Commentary, “The Fed’s Spring Surprise,” the Fed’s decision to help resolve some of the global imbalances may come at a cost, if financial markets and, perhaps more importantly, U.S. consumers begin to see an unwanted uptick in inflation in the coming months. That possibility warrants monitoring, particularly as oil prices recover. The Fed has perhaps become less of a risk to markets following its latest communication, but we continue to believe its path of interest rates will remain in focus.

Semifinalist #4: oil

We could have predicted this entrant into our tournament before this year’s college basketball season even started. Oil’s collapse from late 2014 through early 2016 has been a primary concern for market participants for several reasons: the oil and gas industry’s massive capital spending, energy companies’ impact on corporate profits, the risk of energy company defaults, and pressures on emerging market countries reliant on energy exports.

Oil’s latest rebound back to around the $40 level has alleviated some of this pressure on markets. Oil production in the lower 48 United States has dropped by 7% from its mid-2015 peak. The Organization of the Petroleum Exporting Countries (OPEC) agreed, in principle, to a “freeze” in production. These moves, if sustained, may help to reduce the global oil glut, further stabilize oil prices, and perhaps reverse some of the related financial stresses. OPEC has scheduled a meeting for April 2016 to assess the freeze and discuss if an actual cut in production is warranted. We are skeptical that OPEC will have much impact, but we do expect additional U.S. supply to come off the market in the coming months and potentially balance oil supply and demand in the second half of this year.

Bottom line, we continue to see some potential upside to oil prices between now and year-end; however, as with stocks, the path to get there is likely to be a volatile one. More of our thoughts on oil can be found in the Weekly Market Commentary, “Oil, Oil, Everywhere but Not a Drop to Buy?”

Upsets

March Madness has also brought us some shocking upsets — none more shocking than Middle Tennessee State’s upset of popular tourney champ pick Michigan State. In the financial markets, the oil rebound has certainly surprised many who were calling for sustained prices in the $20s — oil is up 7% year to date. Other surprise winners this year include market leadership from the telecom and utilities sectors (which we do not expect to continue), and emerging markets — segments of the market without a lot of fans entering this year. The same could be said for the U.S. dollar, which has been a consensus bullish pick among many strategists but has fallen 3% year to date.

Comebacks