Economic and Stock Market Commentary for the week of October 30, 2018
The Federal Reserve is assuming a more restrictive monetary stance, an adjustment that is leading to steadily rising interest rates. And that is not sitting well with investors. The Fed, not surprisingly, no longer describes its monetary policy as accommodative, a change that acknowledges the solid economy, low jobless rate, and selective rise in inflation.
The economy seems capable of handling a tougher monetary stance, as most sectors continue to press ahead at a healthy pace. One especially welcome barometer, the index of leading indicators, has risen for 12 straight months. True, growth may decelerate somewhat in the coming months, but the conditions needed for a major slowdown are not at hand.
Meanwhile, monetary policy remains a balancing act. Clearly, economic trends are supportive at home, and that should help the Fed to stay the course. However, things are less upbeat overseas, where equities continue to hit new lows; budget woes persist in Italy; and Britain is striving to exit the European Union. In addition, tensions are building with China and relations with Saudi Arabia are strained. In time, such ills may threaten our upturn. For now, though, the economy and the central bank should be able to handle these headwinds.
On another note, earnings season is in full swing. And for the most part, the news is good, with some 80% of the S&P 500 companies reporting thus far topping net forecasts for the third quarter. Overall, a good showing seems assured, with decent gains also likely in the final stanza, aided by solid demand and lower taxes.
So, why are investors so worried? In part, it is because of the Fed’s shifting policy stance. Indeed, with unemployment low and inflation up at the bank’s desired 2% target, the authorities appear sufficiently comfortable to move toward a normalized monetary structure that should give it the wherewithal to tackle the next business downturn. Also, there are uncertainties regarding next week’s elections and concerns about the global outlook. Finally, while current earnings are strong, there are worries about 2019, when comparisons will be tougher.
Conclusion: The fundamentals remain sound, suggesting that equities should be able to overcome the occasional headwinds, such as we are experiencing now.