Highlights

• While economic growth appears to be improving around the margins, some inflation readings are moving higher, which could complicate the outlook for Fed policy.

• Stocks have been quite resilient in the face of risks. We think downside risks to prices may be limited, but at the same time, we don’t see signs of a significant breakout to the upside.

U.S. stocks broke their three-week winning streak, as the S&P 500 Index fell 0.5%.¹ The Federal Reserve was the main focus of last week’s markets. The central bank enacted a 25-basis-point rate cut and stepped into the short-term funding market to ease strains through a series of liquidity injections. For the week, REITs, utilities and energy stocks outperformed, while communication services, financials and industrials lagged.¹

Weekly Top Themes

1. Additional Fed easing is slowly seeming less likely. The Fed explained its decision to cut rates last week by citing continuing weakness in global growth and stress from trade issues. Given some recent upside surprises in the economic data and an uptick in inflation, the future direction of policy is looking less clear.

2. Both the U.S. and China are starting to see more economic tailwinds. The U.S. has seen a modest improvement in housing data and some signs of manufacturing improvement. And China has witnessed some progress in manufacturing, exports and auto sales over the past couple of months.

3. We don’t expect the recent spike in oil prices to cause significant economic damage. To be sure, the geopolitical risks associated with the attack on Saudi oil production are serious. But from an economic perspective, the global economy is less reliant on oil than it used to be, low oil prices are not yet restricting economic activity and higher prices would likely boost investments in the energy sector.

4. Inflation may be slowly rising. The August core Consumer Price Index showed its fastest annualized pace of growth since 2008.² We don’t think we are at the forefront of broad inflation, but this suggests the U.S. is not mired in a structurally low inflation world.

5. The recent shift from growth to value could still have legs. Value styles have outperformed growth styles in recent weeks, as part of a broader move that has seen outperformance by small caps and underperformance by momentum and low-volatility stocks.¹ A key factor behind these shifts has been the rebound in government bond yields and signs that trade tensions may be easing.

6. The 2020 U.S. elections could cause a shift in labor policies. Democratic candidates have been advocating for a range of worker-friendly policies, including a higher minimum wage, regulatory changes to make unionization easier, a federal ban on state right-to-work laws and stiffer penalties against workplace violations. Such policies would likely help increase wages, but could also detract from corporate earnings.

7. We don’t expect a substantive trade deal, but modest concessions are possible. The U.S. and China seem far apart on many key areas, but both parties are looking to avoid significant political and economic damage.

Equity Markets Are Likely To Remain Range-Bound

Equity markets and other risk assets have experienced many downside risks since the start of 2018, including a contraction in trade and manufacturing, rising political uncertainty, surging bond yields last year and shifting Fed policy. Yet, U.S. stock prices remain roughly equal to the start of last year, and other risk markets have held up reasonably well.¹ Last week was a microcosm of this trend: Stocks and other risk assets barely flinched in the face of fears of a collapse in Saudi oil production and escalating tensions between the U.S. and Iran.

To a large extent, this resilience can be attributed to the underlying strength of the non-manufacturing parts of the global economy and a renewed phase of global monetary policy easing. Given these trends, we do not expect recession risks to grow for the next six to 12 months. Extremely low government bond yields are forecasting a likely recession, but we do not think those signals are accurate. We’re not expecting a sharp rise in yields, but we wouldn’t be surprised to see further upward movement in the near term.

For the time being, we think these important economic and policy supports will remain, meaning that downside risks to stocks may be limited. But at the same time, there are no apparent catalysts that would push prices notably higher. Those would include a rebound in manufacturing (and we see only limited evidence of that happening), and an easing of trade tensions (where meager progress is the best hope). As such, we think stock prices are likely to remain range-bound for now.

Robert C. Doll is chief equity strategist and senior portfolio manager at Nuveen.

¹ Source: FactSet, Morningstar Direct and Bloomberg
² Source: Department of Labor