December 13, 2017

While the leading averages rose once again yesterday, the NASDAQ had a disappointing session amid profit taking. Although the Dow Jones Industrials and the S&P 500 have been setting new records almost daily, the NASDAQ has yet to set a new high on any date in December. If you are a tech investor, there is probably little reason to be overly concerned. While stock prices are below all-time highs, the action appears to be more like churning, rather than setting the stage for any sort of collapse. Markets could be rotating with leadership moving away from tech to some other group like financials. But I don’t see it quite that way. Tech stocks simply went too far too fast and some consolidation is both healthy and necessary. If you step back and look at our economy, what is driving growth are major technological forces, everything from cloud computing, to artificial intelligence, data analytics, the Internet of things, a move toward autonomous driving, and yes, even blockchain, the backbone to the bitcoin craze.

Leadership has actually been rather narrow. In recent weeks, as often happens near year end, the best performing stocks have been those that were the worst performers since the start of the year. There are two reasons. First, just as tech stocks may have gone up too far too fast, perhaps the department stores and generic drug companies aren’t headed for the kind of near oblivion built into stock prices by late fall. Second, in a strong up year like 2017, tax selling is concentrated within the small group of substantial losers. While tax selling can continue until the end of 2017, most investors have already realized their losses. Thus, that part of the selling pressure has started to abate.

In reality, only a small handful of stocks are helping to push the Dow to record levels. The most prominent is Boeing. The company has a backlog that stretches for years and would also benefit from lower tax rates and increased military spending. While the company will invest some of its tax savings into growth initiatives, it announced yesterday a 20% increase in its dividend and a new $18 billion stock buyback program. Boeing won’t be the last to return a healthy part of its tax savings to its shareholders.

The big event overnight was the election of Doug Jones to the Senate to fill the seat left vacant by Jeff Sessions. It was a surprising win even considering the obvious flaws of his opponent, Roy Moore. Most polls had Mr. Jones trailing. There were several takeaways from this election. First, the margin of victory was less than the number of Republican write-ins for an alternative to Mr. Moore. In other words, Moore’s character was the direct cause of the loss, not some greater political trend. However, with that said, Democrats were energized to come out and vote while Republicans were not. This follows the same trends in the November gubernatorial elections in both Virginia and New Jersey. Republicans need to energize their base. That certainly isn’t going to happen without good candidates. The final point to note was the 30-40 point swing in the affluent suburban counties from Donald Trump’s margin of victory in November to Doug Jones margin yesterday. Although one may not be able to translate an Alabama election nationally, a swing of this size suggests that while there is a Trump core solidly behind the President, there was a significant pool of Trump voters last November who may or may not be votes the Republicans can count on in the future.

The vote will change the mix in the Senate from 52-48 to 51-49, but the change probably won’t happen before the tax reform vote. Each of Alabama’s 67 counties has to certify results and then pass them on to the Senate. That process isn’t likely to happen until after December 22, after the scheduled vote on tax reform and while the Senate is in recess. Thus, Mr. Jones will almost certainly not be seated until early 2018. Democrats will scream to delay the tax vote, but that won’t happen unless at least two Republicans agree to that, an unlikely outcome. What will get delayed are the spending authorizations. Right now the government is operating under an umbrella spending authorization that expires on December 22. A vote to either pass the necessary spending specifics or extend that deadline requires 60 votes, and therefore, some Democratic support. Ultimately, Democrats are going to want some Republican concessions to support their spending packages. They will have more leverage with the one additional vote. No doubt they won’t agree to anything until Mr. Jones is seated. The election of Mr. Jones will also stall other purely partisan initiatives in 2018, especially yet another possible attempt to repeal and replace Obamacare.

Today is also the last FOMC meeting under Chair Janet Yellen. The Fed is widely expected to raise rates 25 basis points. Any post-meeting commentary will have to be taken less seriously than normal because there will be new Fed leadership in 2018. Jerome Powell, the new nominee, is not expected to make any significant changes, at least not right away. But as time elapses in 2018, there will be at least some nuances the market will have to react to.

Today, Taylor Swift is 28. Jamie Foxx turns 50. Dick Van Dyke is 92.

James M. Meyer, CFA 610-260-2220

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