It wasn’t as if there was no news to get the market moving. We learned last Friday that new-home sales had surged in November, and that consumers are spending more and saving less. Congress passed its tax bill, which was then signed into law by President Donald Trump, and it also agreed on a stop-gap budget measure to keep the government funded through the middle of January.
Who could ask for anything more? The market, it seems. The Dow Jones Industrial Average gained 102.32 points, or 0.4%, to 24,754.06 last week, while the Standard & Poor’s 500 index advanced 0.3%, to 2683.34, and the Nasdaq Composite rose 0.3%, to 6959.96. It was something of a yawn, and trading even reflected it: Friday’s volume was the lowest for a full day this year.
Most of the easy money has already been made in the tax trade. When it became clear in mid-November that getting tax cuts passed by Christmas had become a real possibility, the S&P 500 rallied 4.6%. Stocks set to get a big earnings boost outperformed the overall market. “Much—but not all—of the tax-related benefits to earnings are likely reflected in stock prices already,” explains Credit Suisse strategist Jonathan Golub. He isn’t worried, however, because he believes earnings growth and higher valuations can push the S&P 500 up to his year-end target of 3,000.
Maybe so. But there’s no denying that everything is about to get a lot more complicated—including those earnings. Until last week, analysts had been reluctant to change their estimates to account for tax cuts because they didn’t know what a final bill would look like. Now they do, so they are tweaking their numbers, even if much of what we know at this point is still guesswork.
That could make for more turbulence during the first part of the year, as investors wait to see what the real impact of tax reform is, says JJ Kinahan, chief market strategist at TD Ameritrade. “I don’t know if the market will react as positively to the first couple quarters of earnings because people will be adjusting to what they mean,” he says.
And that’s not the only adjustment we’ll have to make. We’ve been on the lookout for signs of excess—a boom in mergers and acquisitions, a spike in capital spending—as a possible indicator that the market was peaking. But it’s the excesses that are fading away that could create the real problems in 2018, says Leuthold Group Chief Investment Officer Doug Ramsey.
One is the economy’s excess capacity, which, Ramsey notes, has closed, according to Congressional Budget Office estimates. That means there’s less potential for economic growth. The Federal Reserve’s quantitative-easing program also created excess liquidity in the market, with all the extra cash likely going into financial assets. But liquidity—as measured by growth in the money supply minus growth in industrial production—has also started to dry up recently, according to Ramsey. “The landscape is changing under our feet,” he says.
None of this points to an imminent end to the bull market. But it suggests that next year may be no holiday.
(Source: Barrons Online)