Stocks were mostly higher yesterday, although the Dow fell on the heels of further decline in the price of Boeing’s shares after the plane disaster this past weekend. On Monday, stocks rallied strongly erasing much of last week’s losses. It appears that the recent mini-correction might have been contained. But first the leading averages have to show they can break through formidable resistance. For the S&P 500 that appears at the 2800-2820 level, just above where the average closed yesterday.
In favor of continuation of the rally are signs that recent economic softness has run its course. Housing demand shows sign of improvement as the traditional spring selling season gets a full head of steam. Exceptions continue to be California and New York City, both which continue weak. There are very few truly strong markets. But homes are selling if the price is right. Demographics, rising household formations and low mortgage rates are all positives. The lower interest rates may also give some lift to auto sales as the year progresses.
But corporations remain cautious spenders. Uncertainty over tariffs restrain companies from adding physical capacity until the tariff negotiations reach completion. Lest one forgets, the new treaty between the U.S., Canada, and Mexico has not been approved by Congress yet. Tariffs between the U.S. and Europe also loom as a possibility. In a further sign of worldwide isolationism and immigration protection, 22 nations in Europe are proposing that U.S. citizens traveling to those nations and beyond will need to apply for and get an authorization document good for three years beginning in 2021. While short of being called a visa, it is a barrier to cross, and you can bet that President Trump will retaliate in some fashion if the plan is implemented. World trade has already been impacted by all the related uncertainty. It doesn’t appear the process is near an end.
Back home, for the economy it remains business as usual. More jobs and higher wages are the driver of growth, and there is really no reason to presume that growth won’t continue for an extended period barring major barriers created in Washington. Interest rates remain low and inflation is still invisible. The new budget proposals from the White House won’t happen as presented but they set a beginning framework. The White House is proposing $1 trillion deficits for the next three years and those predictions are based on 3% sustained growth. Anything less (more than likely) will make the deficits even larger. All this is before the Democrats take their shot. No doubt the first thing they will do is restore many of the proposed spending cuts. What we have is a President not afraid of deficits and a Democratic Party never afraid to spend. That would be a toxic combination if interests rise even a smidge. Every 1% increase in debt service costs will soon raise the nation’s debt service bill by close to $250 billion. That is on top of rising entitlement costs set on autopilot unless Congress steps forward to alter the trajectory, hardly likely.
For the moment that is a problem for another day, but anyone who thinks low interest rates are here forever and debt service won’t be a problem in our lifetime is simply deluding him or her self. For now, it isn’t a reason to panic. But it is worth keeping the problems in mind. By the middle of the next decade, even with interest rates staying near current levels, debt service costs will be higher than defense spending.
Even assuming some increasing momentum in the last three quarters of this year from a combination of low interest rates and further government stimulus, earnings, at least in the first half of the year, will show little or no growth mostly because of the strong dollar. Since earnings are the biggest driver for stock prices and with interest rates staying in a narrow range, it is hard to see stocks moving far in either direction from here over the short term, especially in light of the sharp recent advance. Technically, the market has to digest recent gains, either by moving sideways within a narrow range for a while or enduring a modest correction. There will be bumps in either direction depending on the outcomes of trade talks and Brexit. Neither should come to a final conclusion over the next month or so. That will lead us into Q1 earnings season. I suspect that will be a mixed bag at best, suggesting Q2 may be a quarter of consolidation for investors.
Today, Common is 47. William H. Macy turns 69. Charo is 78.
James M. Meyer, CFA 610-260-2220