What’s Next for the Markets?

Posted by Brad McMillan, CFA, CAIA, MAI

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This entry was posted on Oct 16, 2018 12:03:08 PM

and tagged Commentary

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marketsAfter declines in the markets last week, the question at the start of this week was whether they would continue. The news from yesterday was, frankly, not all that encouraging. Markets did try to rally, only to fall at the end of the day. Nonetheless, there are reasons to believe that the markets are stabilizing and may even be headed higher over the next couple of weeks.

Markets not panicking

First, while markets bounced around Friday and yesterday, they have stayed within a range rather than resuming the earlier decline. This behavior is typical of a market trying to find its feet after a run of bad news—not one that is shaken and headed further down. Of course, we don’t yet know exactly where we will come out of this. But it appears it will be fairly close to where we are now. Markets are no longer panicking, and that is a good sign.

Good news for earnings

Second, we are now starting to get some good news from the earnings reports as earnings season begins. While we are still in early days, almost 7 of 8 companies are beating earnings estimates, and almost 7 of 10 are beating sales estimates—both of which are well above normal. Companies continue to do very well, and earnings growth is in line with expectations, so far, at more than 19 percent. These are very strong numbers and should help support the market.

Diminished trade worries

Third, so far at least, the comments on earnings show that while there are headwinds, they come mostly from the strong dollar—not from tariffs. Dollar strength is an old, well understood, and solvable problem that companies and the markets can work around. Tariffs were more feared and potentially less amenable to solutions. But companies, thus far, seem less affected than had been feared. Since trade concerns have been a major driver of market angst, this is good news.

Interest rates stabilizing

Fourth, interest rates have pulled back a bit from recent increases and seem to have stabilized. Higher rates are not necessarily a bad thing, especially when (as in this case) they are a response to faster growth. It was the speed of the increase that rattled markets, and the subsequent pullback should help reduce fears going forward.

What’s the big picture?

Big picture, there were—and are—real concerns about the underlying fundamentals that pulled markets down last week; however, most of those factors have moderated in the data released since then. Market price action, therefore, is reflecting the data. Prices are lower than before, to account for some of those risks, but really not by much, as the actual news hasn’t been nearly as bad as was feared. Looking forward, as more earnings news is released, what can we expect if the trends remain positive? Market fears should be further eased, which should be constructive.

It is worth noting there is one more tailwind for the market that looks likely to pick up in coming weeks: renewed company stock buybacks. In the weeks leading up to earnings season, companies typically suspend their purchases, which is likely one of the reasons behind recent declines. As they resume purchasing after their announcements, though, this should be one more factor supporting better performance in the rest of the quarter.

Markets should move with fundamentals

With the bad news not turning out as bad as expected and more good news potentially to come, last week’s reaction could end up being just a blip. While risks certainly remain, the fundamentals continue to be sound—and markets typically move with the fundamentals.

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