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Weekly Market Commentary – October 14, 2019

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Chinese and U.S. negotiators reached a tentative agreement to step back from policies designed to inflict damage on each other’s economies as they seek to negotiate a more permanent trade deal. The Chinese agreed to accelerate purchases of U.S. agricultural products, and the U.S. will not increase tariffs from 25% to 30%. Progress was reported in other areas, too, but no firm agreements were reached on currency, intellectual property protection, and other key issues.

Key Points for the Week

  • U.S.-China trade negotiators agreed to the key points of a “Phase 1” deal.
  • Corporations announcing earnings in coming weeks are expected to report a slight drop.
  • The S&P 500 rose 0.7% in the third quarter as markets rallied on the news of a potential trade agreement between the U.S. and China.

Global stocks welcomed the news. The S&P 500 climbed 0.7%. The MSCI ACWI index of global stocks slipped 1.3%. The Bloomberg BarCap Aggregate Bond Index sank 1% as hopes of a trade deal raised optimism for future economic growth. Bond prices often fall when economic growth is expected to increase.

Two events are likely to shape markets this week. Earnings season begins in earnest and will provide insight into how trade wars and slowing business investment are affecting corporate profits. The European Union also meets this week, and investors will be looking for signs of progress toward a negotiated Brexit.

earnings growth 

Measuring Up to Expectations

Welcome to the expectations game! Novice investors learn early that good results are only good news for investors if they weren’t already fully reflected in the current price. Expectations can also be so low that even mediocre results are viewed as wildly positive. Three major investment issues are benefiting from reduced expectations and the possibility for OK news to be treated by the market as if it were very good.

Last week’s trade discussions between the U.S. and China helped push markets higher as the framework for a limited agreement between the two countries, and hints of more talks to come, was positive enough to beat expectations. While the outline of a deal seemed positive to markets, it will likely resolve only short-term issues and doesn’t provide a remedy to the uncertainty faced by many companies. The uncertainty has contributed to lower business investment that is slowing economic growth.

Expectations were low that British Prime Minister Boris Johnson and the European Union could reach a deal before the October 31 deadline. So the world was surprised when a meeting with the Irish prime minister produced positive momentum into additional negotiations scheduled this week. Johnson’s efforts in his short time as PM have been met with multiple defeats, pushing expectations lower. But his efforts have clarified issues in a deeper way, and the hope of a Brexit deal either just before or after the deadline has increased.

Early October involves leaves changing colors and corporations announcing earnings. Nowhere is the expectations game so well played as when corporations deliberately push earnings expectations lower, just so they can beat them by a slight margin. Expectations have been pushed low enough that earnings are now projected to fall for the third straight quarter. As the accompanying chart shows, expectations for an earnings decline in energy and technology are cancelling out small growth in other sectors. Because corporations generally beat these expectations, there is still an outside chance earnings could be barely positive. As with the other issues, when expectations are low enough, even a little growth could push the market higher.

The investment environment isn’t extremely attractive as earnings growth has slowed and there are known areas of risk. The key is most of this bad news is already known. Continued progress in each area has the potential to push markets to new highs.

Fun Story

Um, what noise do you make when you pause? Uh, I don’t know.

Conversational English uses the sound “uh” and “um” to let listeners know the speaker is still going to say something but hasn’t figured out exactly what. Like many things in today’s America, there seems to a sharp divide. The Northeast and Southeast, as well as the Bay Area, all use “uh” more frequently. “Um” seems to predominate in the Ohio area and has spread west. So, next time you don’t know what to say, or write about, you can pick which one comes naturally for you.

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