Treading Water

The S&P 500 remains less than 2% below its all-time high. Despite initially strong action off of better than expected earnings reports, the market continues to tread water waiting for more detail to emerge out the U.S./China trade negotiations. Early earnings have been strong enough to sustain current levels, but have not impressed enough to take the market to new highs. A more definitive catalyst is still needed to break through the ceiling that has been in place for the last 3 and a half months.

The earnings scorecard is looking quite a bit better than analysts predicted. With roughly 15% of the S&P 500 reporting, EPS has surprised to the upside by around 4%. So far, earnings in the 3^rd quarter have declined by 3% year-over-year on sales growth of 3%. This reflects tough comps to 2018’s tax cuts and possible margin compression. Still, there has been quite a bit to like in the early reports particularly amongst banks. Even with yields plummeting and the yield curve spending a good chunk of the 3^rd quarter inverted, banks have found ways to grow revenues and earnings. They have continued to expand their loan bases, they have grown non-interest income through higher fees and volumes, and they have taken advantage of the heightened volatility in their trading departments. This has been nice surprise to start the season and has driven a resurgence in financials thus contributing to the outperformance of value vs. growth of late. The earnings season really gets going next week and we’ll start to get a better picture of the trade war’s impact as more industrial names report.

On the trade front, it was another week of uncertainty. Last week’s phase 1 announcement was a positive step, but the news flow continues to sow a seed of doubt as to what exactly was agreed upon. The details remain murky to say the least. Still, the market maintains a cyclical tilt through the noise. Trade isn’t getting worse for the time being and that has been enough to hold up sovereign yields, keep semiconductors and banks moving, and sustain the recent momentum surge in foreign stocks. The economic data coming out of the US and China is acting as a magnet pushing the two sides closer to a deal. China’s “reported” economic growth is slowing to multi-decade lows while currency pressure and the devastating impact of the African Swine Flu is starting to drive significant inflation in food prices. In the US, the consumer showed its first signs of cracking with retail sales missing expectations and declining from the prior month. These paths are unsustainable for much longer and lend optimism to the hopes of some deal in the near future.