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Wall Street hits fresh highs

By David Morrison  |  24/01/2018 15:46

”stockmarketrally”/
As US stock indices hit fresh records, this article looks at the drivers for the rally and a few potential obstacles.

Shutdown reprieve – for now

The three-day US government shutdown ended on Monday evening after the Senate voted in favour of a stopgap funding bill. Both Republicans and Democrats were quick to claim victory for the break-through, although there was plenty of bitterness after the vote. Democrat Minority Senate Leader Charles Shumer was slammed by members of his own party for agreeing to the deal which is seen as letting the Republicans off lightly. The feeling is that Republicans have earned concessions in return for only the vaguest of promises - chiefly to hold a vote on DACA (“Dreamers”) replacement legislation by 8th February – something they may choose to back away from.

Another excuse to buy

News that the shutdown had ended, however temporarily, gave investors the excuse they needed to drive the major US stock indices up to fresh record closing highs last night. This was despite there being little overall concern about a government shutdown in the first place. Certainly, previous (and lengthier) occurrences have had a marginal effect on either financial markets or the US economy itself. Many commentators actually consider government inactivity a positive market development. The only time a shutdown becomes an issue is when it is triggered to avoid the debt ceiling being breached. However, this could come as early as March so another short extension in a few weeks’ time may be taken more seriously.

Netflix soars

Netflix was up over 12% in early trade today following the release of its fourth quarter results. The company added 8.33 million subscribers in the last three months of 2017, way more than the 6.39 million forecast by analysts. Despite this, earnings and revenues were just in line with expectations although forward guidance was positive. Investors chose to ignore a cash burn of $2 billion in 2017 which is expected to rise to between $3 and $4 billion this year. The latest share price move means that Netflix now has a market capitalisation of over $100 billion.

Solid fourth quarter results

There’s no doubt that the earnings season has got off to a solid start and this is helping to goose both US and global equities. According to financial analysis group FactSet, of the S&P 500 companies that have reported so far 72% have beaten analysts’ earnings forecasts and 80% have come in above target on sales estimates.

Tax cuts priced in?

Meanwhile, in a report yesterday Morgan Stanley’s chief equity strategist suggested that the tax cuts agreed at the end of last month have already been fully priced in by the markets. This view runs contrary to that expressed by Bank of America (and others) that investors have so far only accounted for around 50% of possible gains. This is despite the S&P500 rallying over 6% since reforms passed through Congress last month, while the 2018 prospective earnings-per-share for the index have soared to $152 from $146 in less than a month.

Infrastructure spending next?

President Trump has delivered on tax reform and is steadily tearing up Obama-era regulations which he claims have stifled business activity. That’s not bad and it can certainly be argued that the President is following through on his campaign promises in a way that his predecessors never did. However, we’re still to hear more about the infrastructure spending which was also one of Trump’s promises. At least we were until yesterday when an outline of a $1 trillion infrastructure spending plan was “leaked” from the White House. But there was little specific market reaction as investors were already charging back into the market following news that the government shutdown was over.

Volatility slides as yields rise

But market-wise, stock market volatility (as measured by the VIX which considers 30-day S&P options) is rising even as the S&P itself hits record highs. This is unusual. On top of this we have the issue of rising US bond yields. This is most obvious in the 10-year Treasury where the yield is holding above 2.6% - a signal (according to some of the world’s biggest bond investors) that the 35-year rally in fixed income may finally be at an end. But if one or both of these phenomena are potential red flags for equity markets, no one has taken a blind bit of notice so far.

Protectionism: a risk?

Meanwhile, there has been anger from some of the US’s trading partners including China, Mexico and South Korea after the Trump administration slapped tariffs on imported goods like solar panels and washing machines. Once again, Wall Street commentators weren’t particularly worried by this development, pointing out that talk of tariffs is generally a precursor for trade discussions while impacts take time to filter through. Time will tell. 

 

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