InnOvation Capital & Management, LLC
IntelDigest
LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR
NOVEMBER 8 , 2017
Contact Richard Power with comments or questions. IntelDigest is intended for the use of our clients and colleagues. Material may not be reproduced, forwarded or shared without express permission.
In the August 30 issue of IntelDigest, we stated our expectations for the equity markets:
“…. expect the stock market to stay strong through the end of this year, attributable in part to a ‘melt-up in earnings’ … interest rates remain at historically low levels …
“…. we believe that the single most important factor in the current market climate is Interest Rates. While ultra-low rates have done immense damage to fixed-income investors over the last several years, investors in equities have done very well. There have simply been no easy options for investors, so they have invested heavily in stocks and stock funds, driving Price-to-Earnings Ratios to unusually high levels.”
Last week, we reiterated our position that this “Melt Up” would continue into the new year, and republished our September 6 issue, which listed a number of sectors which should continue to do well.
So, why do the stock markets continue to push higher, when they are already at “frothy” levels? And, why do we think that the “Melt Up” in U.S. and global economies will extend further into 2018?
There are a number of factors and indicators, which add up to a positive environment for the markets. These include low Interest Rates, improving economic growth around the world, and strong earnings.
Strength of Earnings
The Third Quarter earnings announcements have shown strength in many industries; results have been better-than-expected. Among the S&P 500 companies which reported actual results for the most-recent quarter, earnings growth … on an annualized basis … is coming in at approximately 4.7%, and sales growth at 5.7%. Various estimates for 3Q had forecast 2.1% earnings growth and 5% sales growth.
According to FactSet, 55% of S&P 500 companies have thus far released results from the most-recent quarter … 76% of those companies have announced positive earnings surprises. In addition, 67% of the companies posted positive sales surprises. These results have placed a nice foundation under the stock market.
Strength of Technology
Technology continues to lead the markets higher, especially among the Tech Titans referred to as the FAANG stocks … Facebook, Amazon, Apple, Netflix, and Google (Alphabet is now the holding company which is the parent of Google). Better-than-expected results from Amazon and Google, as well as sold-out orders for the new Apple iPhone X, have boosted technology stocks overall.
Tech is reasserting its leadership, which should continue to support the overall stock market as we head into the time of Holiday Gift-Giving, a seasonally strong time of year for businesses.
Strength of the U.S. Economy
However, the strength of the U.S. Economy is more broad-based than just the Techs … U.S. GDP growth remains strong. Last week, the Commerce Department published its preliminary estimate for third-quarter GDP growth. It came in at an annual pace of 3%, higher than economists’ consensus estimate of 2.7%. Second-quarter GDP growth was also revised higher to a 3.1% annual pace.
Despite continued political turmoil and three major hurricanes, the U.S. Economy has continued to grow at a faster pace than in recent years. In the third quarter, consumer spending grew at a 2.4% annual pace, and business spending increased at a 3.9% annual pace. Exports moved up by 2.3%. Rising exports would work to reduce the U.S. trade deficit, which would further boost overall GDP growth.
U.S. GDP growth has lingered around 2% per year in recent years. These recent results point to a persistent 3% annual growth rate moving forward.
Strength of the Holiday Season
According to Bespoke, November is one of the strongest months of the year for the Dow and S&P 500. In the last 20 years, the Dow has rallied an average 1.93% in November. Since 1983, the S&P 500 index has posted an average 1.19% gain in November … during the bull market of the last eight years, the index has performed even better, averaging a 1.75% gain in November.
Further, investment guru Louis Navallier points out that small- and mid-cap stocks tend to outperform large-cap stocks in November, and well into the New Year. Navallier says that:
“Typically, an early “January effect” commences in mid-November right before the Thanksgiving holiday. During this time, small-cap stocks benefit from year-end pension funding and other seasonal buying pressure, including gifts to grandkids.”
Finally, the U.S. dollar has reasserted itself in recent weeks. A stronger U.S. dollar favors domestic companies and small- to mid-cap stocks. As long as U.S. GDP growth remains strong, the U.S. dollar should continue to dominate and support higher prices in U.S. equities.
Technical Indicators Signal Continued Strength
Another sign of market strength comes from technical indicators. There are hundreds of technical statistics and charts which stock analysts use to try to predict the future price levels or the general price direction of various securities, often by analyzing past patterns. Each, alone, does not carry much weight, and should be taken with a large helping of salt!
However, when indicators act together, and move in parallel directions, they tend to support each other. Here are a few indicators which have been moving in tandem … therefore, we see them as lending support to continuation of the “Melt Up” thesis in the markets.
Advance/Decline Line is still moving up … this is a Market Breadth indicator representing the difference between the number of advancing stocks versus the number of declining stocks. This index is considered one of the best indicators of market momentum.
S&P 500 Equal Weight Index rising … this indicator gives equal weight to all the companies in the S&P 500, showing that even the smaller-cap companies continue to move up, not just the giant companies.
Russell 2000 index of smaller-cap companies continues to rise in tandem with the larger S&P 500.
We will continue to monitor these and other indicators as we move through the end of the year, and alert you of any change in direction.