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Mixed Signals: Dow Slips as Earnings Vie With Macro Fears

By John Persinos on May 1, 2018

The “analysts” on financial news television act as cheerleaders for the stock market, regardless of underlying conditions. They seem perplexed that stocks are in negative territory for the year. They point to strong corporate earnings and massive tax cuts. Surely the next big rally is just around the corner!

Comedian Jon Stewart put it best: “If I’d only followed CNBC’s advice, I’d have a million dollars today. Provided I’d started with a hundred million dollars.”

The Dow Jones Industrial Average closed lower on Tuesday, after paring losses in the final minutes of trading. The S&P 500 and Nasdaq closed higher in choppy trading. All three indices spent most of the session in the red. The tech-heavy Nasdaq rose largely on expectations that Apple (NSDQ: AAPL) would post strong profit growth after the market closes today.

To be sure, corporate earnings are generally strong and tax overhaul provides stimulus. The average analyst expectation is that year-over-year earnings growth for the S&P 500 in the first quarter will come in at 18.3%. But the stock market is a leading indicator and to savvy investors, the future suddenly doesn’t look so bright.

To assuage the concerns of America’s key allies, the White House announced on Monday that it has postponed the imposition of steel and aluminum tariffs on Canada, Mexico and the European Union until June 1. The Trump administration also has agreed to permanent exemptions for Argentina, Australia and Brazil.

Instead of feeling relief, investors are actually unnerved by the president’s vacillations on trade policy. Corporations are having difficulty in planning.

The European Commission said in a statement on Tuesday: “The U.S. decision prolongs market uncertainty, which is already affecting business decisions.”

Negotiations over U.S. steel and aluminum tariff exemptions for Canada and Mexico have become intertwined with talks this week to revamp the North American Free Trade Agreement (NAFTA). America’s stance on NAFTA frequently changes, often according to presidential tweets. Meanwhile, various political scandals afflicting the White House aren’t going away.

Confusing crosscurrents…

All of this disarray in politics and policy is confusing investors. Rising interest rates and the specter of inflation further heighten Wall Street’s anxieties. That said, the market also boasts a few powerful positives.

On the bright side, not all asset classes are hurt by rising interest rates. Notably, higher rates boost the net interest spread that determines banks’ profit margins. Financial stocks enjoy tailwinds this year, while rate-sensitive utility stocks should continue to struggle.

Additional advantages for banks include rising energy prices. Many banks carry onerous energy loans on their books; rising oil and gas prices make it easier for energy companies to pay off that debt.

Oil prices seem to have found a floor in the high $60s/low $70s per barrel. The following chart shows the price of West Texas Intermediate (WTI), the U.S. benchmark, and Brent North Sea crude, on which international oils are based, from May 2017 to May 2018 (according to U.S. Energy Information Administration data):

Investors rightfully interpret rising crude prices as a reflection of economic health. Part of the rise in energy prices is due to temporary geopolitical risk. But most importantly, the supply-and-demand equation is reaching equilibrium as OPEC production cuts hold firm.

On Tuesday, WTI fell 1.69% to close at $67.41/bbl. Brent fell 1.97% to close at $73.22/bbl. Reports today of surging production from Iran helped drive the price of crude lower, but the longer trend is for a sustained rise in oil prices.

However, crude’s resurgence is likely to fuel inflation, which would in turn compel the Federal Reserve to more aggressively hike interest rates. We’ll know better when the Federal Open Market Committee announces its plans tomorrow afternoon, at the conclusion of its two-day meeting.

On Tuesday, the 10-year Treasury bond yield edged higher to hit 2.97%. The yield is poised to once again breach the 3% threshold, a prospect that rattles investors. Rising bond yields indicate higher borrowing costs, as well as the growing appeal of bonds as an alternative to riskier stocks.

What should you do in this extraordinarily volatile investment climate? Seek defensive growth. Stick to companies with strong balance sheets, growing earnings, and quality products that address important human needs. Over the long haul, markets exhibit an upward bias and the cream rises to the top. But for the short term, expect more turbulence as we witnessed today.

Tuesday Market Wrap

  • DJIA: -0.27% or -64.10 points to close at 24,099.05
  • S&P 500: +0.25% or +6.75 points to close at 2,654.80
  • Nasdaq: +0.91% or +64.44 points to close at 7,130.70

Tuesday’s Big Gainers

Medical tech provider reports robust earnings.

Hospital operator’s earnings surprise on the upside.

Weight loss company beats on earnings.

Tuesday’s Big Decliners

Communication infrastructure builder disappoints on earnings.

Defense firm reports weak operating results.

Hardwood flooring retailer issues unimpressive guidance.

Letters to the Editor

“What’s the difference between a managed mutual fund and an exchange-traded fund?” — Lyubov L.

An exchange-traded fund (ETF) is a security that tracks an index, a commodity, bonds, or a basket of assets like an index fund. Unlike actively managed mutual funds, an ETF trades like a common stock on a stock exchange.

ETFs can be passive or active. Passive management is based on investing in exactly the same securities and in the same proportions as an index such as the S&P 500 or Dow. Active investing attempts to outperform the market, which is represented by an index or benchmark.

Fund managers analyze corporate fundamentals, as well as trends in the market and economy, to glean insights not available via passive investing.

Active ETFs and mutual funds are typically more expensive than passive ETFs. Fund managers don’t work for free.

Questions about fund investing? I’m here to help:

John Persinos is managing editor of Personal Finance and chief investment strategist of Breakthrough Tech Profits.


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