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Financial Markets Commentary For the week of October 15, 2018

Key Market Data

10/05/2018 10/12/2018 One Week Change YTD One Year
S&P 500 Index 2,885.57 2,767.13 -4.10% +5.06% +10.57%
MSCI EAFE Index 1,927.14 1,850.75 -3.96% -7.10% -4.21%
Barclays Capital U.S. Aggregate Bond Index 1,994.67 2,003.39 +0.44% -2.10% -1.83%
10-year Treasury Note Rate 3.234% 3.162% -7.2 basis points +75.6 basis points +84.3 basis points

The mild concern about rising interest rates that began the week before last turned into near-panic last week, for two days, anyway, sending the major indexes tumbling – the Dow, for example, shed 1,377.74 points in forty-eight hours. Despite a solid rebound on Friday, the market had its worst week since March, with the Dow falling 4.2 percent, the S&P 500 4.1 percent, and the Nasdaq 3.7 percent. The yield on the ten-year Treasury retreated from its highest point since 2011, but it remained above 3 percent and shows no sign of falling soon given the strength of the American economy and the expectation that the Federal Reserve will continue to raise its benchmark rate.

Hardest hit were tech stocks, which have helped lead the major indexes to recent highs, and companies likely to be hit by higher interest rates. That said, on Wednesday and Thursday, all eleven sectors of the S&P 500 were down as were all thirty stocks that make up the Dow. President Trump, who had previously blamed the Fed for its timing, reprised that theme last week, saying the market’s plummet was “a correction caused by the Fed,” and that the Fed was “out of control.” But he also said he had no intention of firing Chairman of the Federal Reserve Jerome Powell, who he choose to succeed Janet Yellen. The White House’s economic adviser Larry Kudlow said the president has “never attacked the Fed’s plan or strategy” and Trump was merely giving his “informed opinion.” Secretary of the Treasury Steven Mnuchin, who said the state of the U.S. economy was “incredibly positive,” characterized the two-day drop as a “natural correction.”

China and trade

Beyond rising interest rates, investors are concerned about the impact of a trade war with China on the global economy, and last week maneuvering began to go ahead with a summit between Trump and China’s President Xi Jinping at the Group of 20 meeting in Buenos Aires in November. The meeting is not yet confirmed; however, and Mnuchin warned that China should expect to be pressed about the decline of its currency against the dollar, seen as a strategy engineered by the Chinese to make their exports more affordable. Last week the administration took steps that will only increase tensions with China, saying it will beef up its review of foreign investment in the U.S., seen as a way to stop the Chinese from stealing technology. The announcement was made on the same day that a Chinese agent was arrested in Belgium for trying to steal secrets from GE Aviation. And later in the week, the White House said that it would tighten restrictions on civilian nuclear technology exports to China.

Italy and Pakistan

Another looming issue for the global economy is Italy, which has recently changed its target for its deficit as a percentage of gross domestic product (GDP) to 2.4 percent, leading to a spike in yields for Italian bonds – and concern about its overstretched banks. The European Commission said Italy’s new budget plan was a “significant deviation” from agreed-upon fiscal policy, but Italy’s Minister of the Interior Matteo Salvini pushed back, saying, “The enemies of Europe are those sealed in a bunker in Brussels.” Meanwhile, Pakistan has asked the International Monetary Fund (IMF) for a bailout, but the IMF said that before any bailout happens detailed information about Pakistan’s debt had to be handed over – China has loaned Pakistan billions for an infrastructure program and the details of that loan’s terms and conditions have yet to be revealed.

Oil prices fall

The price of oil fell sharply last week after the latest reports showed that increased oil production by the Organization of Petroleum Exporting Countries (OPEC) and Russia was more than making up for the shortfall caused by sanctions against Iran and that U.S. inventories were up for the third week straight.

The Q3 earnings season begins; the U.S. Securities and Exchange Commission (SEC) will stick to quarterly reporting

Banks are among the businesses that would profit most from higher interest rates, and they began the third-quarter earnings season with a bang last week with JPMorgan Chase’s earnings up 35 percent, Citigroup’s 22 percent, and Wells Fargo’s 12 percent. FactSet estimates that third-quarter earnings for S&P 500 companies will be up 19 percent from last year, which would be down from the second quarter’s lofty 25 percent gain but still one of the best showings over the last decade. And, despite prodding by Trump, the SEC said it will not move from quarterly to biannual reporting, at least not for larger public companies, with the SEC’s Chairman Jay Clayton saying, “I don’t think quarterly reporting is going to change for our top names any time soon.”

A boost for retirees

The government announced that America’s 62 million Social Security recipients will get a 2.8 percent increase in 2019, the largest such boost since 2012, which will average out to about another $40 a month per retiree.

An American institution on the brink

Sears, an American retail institution that has been in business since 1892, filed for bankruptcy on Sunday, and investors will now wait to see if it survives in some scaled-down form or closes its doors forever. In other news, the Producer Price Index (PPI) rose 0.2 percent in September from August; Core PPI, excluding food, energy, and trade services, advanced 0.4 percent. For the year, PPI was up 2.6 percent, while Core PPI climbed 2.9 percent. The Consumer Price Index increased 0.1 percent for the month, less than expected, and 2.3 percent over the past year. Core CPI, excluding food and energy, was up the same 0.1 percent month over month and 2.2 percent for the year. Mortgage rates hit a seven-year high last week as the average rate for a 30-year reached 4.9 percent. The National Federation of Independent Business said its small business optimism index was 107.9 in September, down from August but still the third best reading in the index’s forty-five-year history. The University of Michigan’s preliminary Consumer Sentiment Index for October fell to 99.0 from 100.1 in September. And first-time jobless claims for the week ending Oct. 6 increased 7,000 to 214,000; the four-week moving average was up 2,500 to 209,500.

A look ahead

This week’s updates will include the latest on retail sales, business inventories, industrial production and capacity utilization, job openings, building permits and housing starts, existing home sales and the minutes of the Fed’s September meeting at which it raised its rate.