A Pause in an Upward Trend

Stocks continued to rebound following the volatile end to 2018, cautiously climbing a wall of worry as equities adjusted to better than feared forward guidance while anxiety over a looming recession subsided. The market has almost fully recovered to its prior highs, with a decisive move likely to play out over the upcoming earnings season. Underlying fundamentals of the US economy remain resilient enough to keep the economy chugging along, with stronger consumer wage growth and employment numbers continuing to act as a tailwind. While negotiations for a trade deal between the US and China persist, both sides have taken a more conciliatory tone, soothing investor concerns as the market begins to price in an optimistic outcome. The Fed’s decision to walk back their planned two rate hikes to zero in 2019 also created a more supportive environment for equities, as credit markets reacted by driving down bond yields, subsequently reducing borrowing costs for companies investing for growth.

Globally, China’s economy has started to show signs of firming, and recent data points have led China’s growth forecasts to actually revise higher for the year. This reacceleration should provide a boost to the rest of the world, especially once international trade disputes with their major trade partners, the US and the EU, are resolved. The EU remains in flux as Brexit has again been delayed, this time to October. We also feel it is important to point out that the US Congress still needs to ratify the replacement NAFTA agreement, known as the United States-Mexico-Canada Agreement (USMCA), which has subsequently been approved by Mexico and Canada.

As indicated previously, we think we are in the midst of an economic soft patch, but also expect growth to rebound later this year. The Federal Reserve has paused in its tightening campaign, but we don’t think it is done for the current cycle. And that’s good news, since further Fed tightening would signal that the economy has improved. Similarly, we think the U.S. dollar will peak and begin to decline in value later this year, which would be a positive for U.S. corporate earnings.

In any case, we do think the odds of an economic acceleration this year are better than the odds of a recession. The recent flattening of the yield curve has unnerved investors, causing some to believe that we are close to the end of the economic cycle. We don’t think that is the case. While the yield curve inversion shouldn’t be ignored, we don’t see other signs that would typically accompany the end of a cycle, such as rising inflation or rising unemployment. As such, we think there is room for stock prices to make further gains once conditions become clearer.

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