by Connor Darrell CFA, Assistant Vice President – Head of Investments
Equities posted healthy gains for the week despite a mixed bag of economic data and tempering expectations for Q1 2019 earnings growth. Market optimism seemed to be bolstered by reports from Chinese media outlets of progress in the U.S./China trade negotiations, as well as an easing of concerns over Brexit negotiations.

On the economic front, the housing and manufacturing sectors produced results that fell below consensus estimates, continuing a recent pattern of weakness. New home sales dropped by almost 7% in January despite the recent decline in mortgage rates easing affordability. Some of the weakness can likely be attributed to the government shutdown and poor Q4 equity market performance which may have eroded the confidence of potential buyers. On the positive side, January retail sales bounced back after a poor December reading and a preliminary gauge of consumer sentiment came in higher than expected. The mixed signals from economic data are typical of a late cycle environment.

Earnings and Prices Have Diverged
Equity investors have had a difficult time over the past 15 months. 2018 was characterized by very strong earnings growth and a healthy economy, yet the stock market performed poorly. This led to P/E multiples (where “P” refers to the price of stocks and “E” refers to corporate earnings) contracting as prices declined and earnings rose. Thus far in 2019, the opposite has been the case. The expectations for corporate earnings growth have deteriorated as global economic growth has subsided, yet stock prices have pushed higher amid a shift in rhetoric from the Federal Reserve and an evaporation of pessimism following December’s market bottom.

Over the long-term, earnings growth is a key input to determining the trajectory of the stock market, but throughout 2018 and 2019, the two have diverged. In order to justify continued multiple expansion, markets will likely require the support of some positive developments on geopolitical issues which have been a major source of uncertainty not only for investors, but also for business leaders. With last week’s news that British lawmakers voted against leaving the European Union without a deal in place, some of that uncertainty was lifted.  But the darkest cloud remains the ongoing trade saga between the United States and China. An eventual agreement that materially addresses the key concerns of U.S. negotiators and business leaders (who have had a difficult time making long-term investment decisions as a result of the uncertainty) could be the catalyst needed to move the ceiling for equities higher.