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CHAPMAN & CARDWELL WEEKLY MARKET REVIEW

April 23, 2018

U.S. Markets: U.S. stocks rose for a second week as first-quarter earnings reporting season began in earnest. The week began with somewhat of a relief rally as investors appeared reassured that Russia did not respond to the U.S., France, and UK’s air strike on Syria. But the enthusiasm waned by the end of the week, and stocks gave back most of their gains. Nonetheless, the Dow Jones Industrial Average rose 102 points, or 0.4%, to close at 24,462. The technology-heavy NASDAQ Composite added 0.6% to close at 7,146. By market cap, smaller caps showed relative strength over large caps with the S&P 400 mid cap index and small cap Russell 2000 index both rising 0.9%, while the large cap S&P 500 index added 0.5%.

U.S. Economic News: Claims for new unemployment benefits fell slightly to 232,000 last week, remaining near a 45-year low, according to the Labor Department. The reading reflects a booming jobs market where work is easy to find and companies are eager to find help. Initial jobless claims dipped 1,000 this week, slightly missing economists’ estimates for a 230,000 reading. The more stable monthly average of new claims rose by 1,250 to 231,250. The number of people applying for unemployment benefits is at levels not seen since the early 1970’s. Continuing claims, which counts the number of people already receiving benefits, fell by 15,000 to 1.86 million.

Confidence among the nation’s home builders retreated a fourth consecutive month after hitting its highest level since 1999 last December. The National Association of Home Builders (NAHB) reported its sentiment index ticked down one point to 69, missing estimates for a reading of 70. In the details, the gauge of current sales conditions was off by two points to 75, while the index of future sales expectations declined one point to 77. The index of buyer traffic remained unchanged at 51. While overall the reading is still strong, the fact that confidence is declining so steadily is notable. In late 2005, when the NAHB’s index started to fall, it was one of the signals that foreshadowed the coming housing bust.

Home builders broke more ground last month, and earlier estimates were revised up, as momentum in the housing market appears to have been better than originally reported. Housing starts ran at a seasonally-adjusted 1.32 million annual pace last month, up 2% from February and up 10.9% from the same time last year, the Commerce Department reported. The reading beat economists’ forecasts of a 1.255 million annual pace. Analysts were quick to point out that the Commerce Department’s reports are based on small samples and readings are often heavily revised. Permits, which are viewed as an indicator of future building activity, were also strong. Permits were up 2.5% from February’s reading and 7.5% higher than the same time last year.

The Commerce Department reported s¬ales by U.S. retailers rose more than expected last month, its first gain in four months. Receipts advanced 0.6% in March, exceeding economists’ expectations of a 0.4% rise. Eight of thirteen major retail categories showed increases. Auto dealers posted their best month since last September, rising 2%. Internet retailers, pharmacies, and home furnishings stores were other big winners. Consumer optimism has held at relatively high levels thanks to factors including job-market strength, rising wages and lower taxes. Some analysts believe refunds from 2017 returns may have also given retail sales a boost in March.

Industrial production, which measures output at factories, mines and utilities, rose half a percent last month according to data from the Federal Reserve. While exceeding analysts’ estimates of a 0.3% gain, it was a sharp slowdown from the previous month’s advance. In the details of the report strong gains in mining and utilities were offset by a dramatic plunge in manufacturing. Mining output rose by 1% reflecting strong gains in oil and gas extraction, while utilities rose 3% prompted by an unusually cold March that extended the heating season. Manufacturing is believed to have been held down by concerns over escalating U.S.-China trade tensions and by supply bottle necks due to sanctions against other countries.

The New York Federal Reserve reported manufacturing activity in the New York-region gave up most of its gains from the previous month, falling almost 7 points to 15.8. In the details of the report, the new-orders index fell 7.8 points to 9, while the shipments index fell 9.5 points to 17.5. In employment, the readings were mixed. The number of employees gauge lost 3.4 points to 6, while the average workweek jumped 11 points to 16.9. Of concern, the 6-month outlook fell 26 points to 18.3, its lowest level in two years. T.J. Connelly, head of research at Contingent Macro Advisors noted, “The decline [in the six-month outlook] is coincident with concerns around trade wars and increased tariffs [and] should put us on high alert for further deterioration in business sentiment.”

In the city of Brotherly Love, the Philadelphia Federal Reserve’s Manufacturing Index added 0.9 point, rising to 23.2 for April. The increase, which was driven by a rise in input prices and prices received by manufacturers, exceeded economists’ forecasts of 20.1. Other categories that saw growth were the number of employees and average employee workweek. These readings support continued strength for employment in the manufacturing sector. Of concern for future growth, however, was weakness in both new orders and shipments. Another forward-looking index in the report, general business activity six months ahead, also reported weakness. Similar to the New York Fed’s report, the manufacturers in the Philadelphia region are also reporting concerns over trade tariffs announced by the Trump administration.

The Federal Reserve’s ‘Beige Book’, a summary and analysis of economic activity and conditions compiled from each of the district Federal Reserve banks, reported activity remained at a “modest to moderate pace” in March, despite widespread concerns about trade policy. In the labor market, the report stated wage pressures “did not escalate.” As has been the case for over a year now, labor markets continue to be tight, with continued reports of labor shortages for skilled workers. Nine of the twelve Fed regional banks expressed concerns about trade tariffs. Business owners were reported to be upset with the price rises for metals in the wake of the Trump administration’s decision to place penalties on steel and aluminum imports.

Finally: Is the U.S. stock market undervalued or overvalued based on its historical Price/Earnings (P/E) ratio? It turns out, the answer could be both! Market analyst Mark Hulbert wrote in a recent column for marketwatch.com that it all depends on how you calculate the measure. Some financial institutions calculate the current P/E ratio of the market based on its last 12-months of earnings (currently richly valued at 24.92), while others base it on the estimated next 12-month earnings (currently a much lower 16.98).

The dramatic difference between the two numbers leads to a world of confusion for individual and professional investors alike. Note that traditionally, the gold-standard for P/E calculations is using the prior 12-months of earnings. Therefore, the next time you hear an argument about whether the market is overvalued or undervalued on the basis of its P/E ratio, make sure that you make the proper distinction between the competing methods.

And, as Hulbert points out, be particularly wary of analysts who misleadingly mix the two by (typically) comparing the forward estimate with the backwards historical value. Hulbert says “Because analysts are almost always too optimistic, projected earnings will be markedly higher than trailing earnings. That in turn means that P/Es based on projected earnings will be significantly lower than P/Es based on trailing earnings. It’s an apples-to-oranges comparison.”

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)

Opinions expressed in the article are those of the author and are not necessarily those of Raymond James. All opinions are as of this date and are subject to change without notice. The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. There is no assurance any of the trends mentioned will continue or forecasts will occur. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Investing involves risk and investors may incur a profit or a loss.

The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index. The Dow Jones Transportation Average is an unmanaged index of 20 transportation stocks. The Dow Jones Industrial Average (DJIA) is a price-weighted average of 30 significant stocks traded on the New York Stock Exchange (NYSE) and the NASDAQ. The NASDAQ Composite is a stock market index of the common stocks and similar securities listed on the NASDAQ stock market. Investing in small cap stocks generally involves greater risks, and therefore, may not be appropriate for every investor. The prices of small company stocks may be subject to more volatility than those of large company stocks. . Investors may not make direct investments into any index. Past performance may not be indicative of future results. Individual investor's results will vary.


April 16, 2018

U.S. Markets: Stocks recorded solid gains and reversed the previous week’s losses, but volatility remained. Investors appeared to be more focused on the turbulent political theater going on in Washington rather than the first quarter’s upcoming corporate earnings reports. The Dow Jones Industrial Average added 427 points last week, closing at 24,360 - a gain of 1.8%. The technology-heavy NASDAQ Composite led all major U.S. indices by vaulting 2.8% to end the week at 7,106. By market cap, the large cap S&P 500 added 2.0%, while the mid cap S&P 400 and small cap Russell 2000 rose 1.6% and 2.4%, respectively.

U.S. Economic News: The Labor Department reported that the number of people applying for new unemployment benefits fell by 9,000 to 233,000 last week, remaining near a 45-year low. The less-volatile monthly average of new claims rose by 1,750 to 230,000. The number of claims retreated from the recent highs following the holiday-related boost at the end of March. Companies continue to report reluctance to letting employees go due to the shortage of skilled labor, and the unemployment rate remains near a 17-year low of 4.1%. Continuing claims, which counts the number of people already receiving benefits, increased by 53,000 to 1.87 million.

Prices at the wholesale level increased more than expected in the Labor Department’s latest reading, leading some analysts to speculate that inflation will be picking up this year. The Labor Department said its Producer Price Index (PPI) for final demand rose 0.3% last month, following a 0.2% increase in February. Economists had expected just a 0.1% increase. Services such as medical care, cable TV, and air travel all rose sharply last month, accounting for most of the increase in the PPI. Core PPI, which excludes food, energy, and trade services, rose 0.4% last month, its third consecutive gain. Over the past year, core PPI is up 2.9%, the biggest increase since August 2014.

Consumer prices posted their first drop in almost a year on (temporarily) lower energy prices. The Labor Department reported its Consumer Price Index (CPI) slipped 0.1% last month, its first drop since May of last year. Economists had forecast the CPI to remain unchanged. However, over the past 12 months through March the CPI increased 2.4% - its largest annual gain in a year. The so-called Core CPI, which excludes the volatile food and energy components, climbed 2.1%. Core CPI is now well above the 1.8% annual average increase over the past 10 years. The biggest contributors to the increase were healthcare costs and rising rents. Healthcare costs rose 0.4%, with prices for hospital care shooting up 0.6% and the cost of doctor visits rising 0.2%.

Sentiment among the nation’s small business owners drifted lower last month as concerns about the health of the economy outweighed the relief provided by lower taxes. The National Federation of Independent Businesses (NFIB) reported its small business confidence index fell 2.9 points to 104.7 last month. Despite the decline, the reading remains “among the highest in survey history”, according to the NFIB. Of note, the number of survey respondents that stated taxes were their number one business problem was the lowest since 1982. As has been the case for over a year now, owners continue to report having an increasingly difficult time filling jobs due to labor quality issues. In its release, the NFIB said “89% of those hiring or trying to hire report few or no qualified applicants for their open positions.”

Consumer sentiment slipped to a 3-month low as worries about how the Trump’s administration’s trade policies will impact the U.S. economy seemed to prompt a dip in consumer confidence this month. The University of Michigan reported its consumer-sentiment index was 97.8 this month, down from its 14-year high of 101.4 set in March. The reading missed economists’ expectations of a 100.0 reading. In a note to clients, JP Morgan Chase economist Daniel Silver wrote, “Some softening in sentiment is not too shocking given the weakening in equity markets over the past few months as well as what seems to be a string of negative headlines in the news.”

Minutes from the Federal Reserve’s meeting in March released this week revealed that “all” of the participants saw more interest-rate hikes as likely – no longer just “a majority”. The conversation centered on “how much” tightening would be needed rather than “whether” to hike at all. Several Fed officials thought the Fed might have to raise interest rates to a level that would act as a restraining factor for economic activity (some also argued that it might become necessary to signal this possibility in upcoming statements). The minutes showed the Fed is confident in its outlook that the economy would recover from its sluggish first quarter and that inflation would move up towards its 2% target.

Finally: A “Dow Theory” sell signal has been triggered after the Dow Jones Transportation Average closed below its February lows, following the Dow Jones Industrial Average in doing so.

In short, the theory states that poor performance from both the industrials and the transports at the same time bodes poorly for the broader market. The theory is a market timing tool that has stood the test of time for over 100 years. Spitting in the eye of the signal, the Dow rallied over 400 points the next day!

One well-known market analyst says “fuggedaboudit”. James Saut, Chief Investment Strategist at Raymond James, released a note to clients in his “Morning Tracks” of April 10, 2018 stating that many non-market related factors were at play such as the FBI raid of President Donald Trump’s lawyer’s offices sparking a sell-off, and that “we are going to ignore this sell signal” given that the earnings outlook is so strong. Similarly, Frank Cappelleri, Chief Market Technician at Instinet LLC, also downplayed any significance by saying that market timing tools like Dow Theory are “interesting signs and potential signals to point out, but sometimes they play out and sometimes they don’t.”

Dow Theory sell signal is flashing

 

(sources: all index return data from Yahoo Finance; Reuters, Barron’s, Wall St Journal, Bloomberg.com, ft.com, guggenheimpartners.com, zerohedge.com, ritholtz.com, markit.com, financialpost.com, Eurostat, Statistics Canada, Yahoo! Finance, stocksandnews.com, marketwatch.com, wantchinatimes.com, BBC, 361capital.com, pensionpartners.com, cnbc.com, FactSet; Figs 1-5 source W E Sherman & Co, LLC)

 

The information contained in this blog does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Chapman and Cardwell Capital Management and not necessarily those of Raymond James. Investing involves risk and you may incur a profit or loss regardless of strategy selected. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor's results will vary. Past performance does not guarantee future results. Future investment performance cannot be guaranteed, investment yields will fluctuate with market conditions. The Dow Jones Industrial Average (DJIA), commonly known as “The Dow” is an index representing 30 stock of companies maintained and reviewed by the editors of the Wall Street Journal. The NASDAQ composite is an unmanaged index of securities traded on the NASDAQ system. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. The S&P MidCap 400® provides investors with a benchmark for mid-sized companies. The index measures the performance of mid-sized companies, reflecting the distinctive risk and return characteristics of this market segment. The Russell 2000 Index is a small-cap stock market index of the bottom 2,000 stocks in the Russell 3000 Index.



In the ever-changing landscape of finance we must ensure our clients are properly invested based upon their investment goals and objectives.

Peter Chapman




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