Trump’s proposed tax plan sparks rally in stocks, Dow up 1%

In my opinion, there are two key concepts that investors must master: value and cycles. For each asset you’re considering, you must have a strongly held view of its intrinsic value. When its price is below that value, it’s generally a buy. When its price is higher, it’s a sell. In a nutshell, that’s value investing. –  Howard Marks, founder and co-chair of Oak Tree Capital Management

Lately the stock market seems to be paying closer attention to what President Donald Trump has been saying than to either fourth quarter corporate earnings reports or the weekly economic data. Last week proved to be no exception as stocks were in a holding pattern until Trump announced on Thursday that he would make a major announcement on taxes in the next few weeks. Adjectives that he used to describe the tax plan included “big league” and “phenomenal” and these superlatives were enough to bring stocks out of their doldrums and ignite a two-day rally to end the week on a positive note. All of the major stock averages closed at record highs with gains of about 1%. Quarterly profits continue to impress as more than 65% of the companies that have reported earnings so far have posted better-than-expected results. Walt Disney and General Motors were two of the most notable companies that beat analysts’ estimates last week. Fourth quarter earnings are on track to post a gain of over 8%, almost double the gain in the third quarter, and the outlook for 2017 is even rosier, with double-digit gains expected in the first two quarters. With stock valuations on the high side, it’s imperative that earnings growth kicks in for the market to continue its upward trend. There was little in the way of economic data last week, but jobless claims declined by 12,000 to only 234,000 and marked 101 straight weeks that claims have been below 300,000. This is the longest streak in more than four decades as layoffs remain low and the labor market remains at or near full employment. This solid underpinning should bode well for the U.S. economy as the year progresses.

Last Week

The Bureau of Labor Statistics’ Job Openings and Labor Turnover Summary (JOLTS) reported that monthly job openings were 5.5 million in December, in line with estimates. Import prices rose more than expected in January but inflation remains contained. The preliminary consumer sentiment index for February came in less than expected as uncertainty over Trump’s economic and immigration policies were negative factors.

In a speech, St. Louis Federal Reserve President James Bullard said that he doesn’t see any evidence of inflationary pressures building in the economy and believes that interest rates should remain low. He also said that Trump’s pro-growth economic policies won’t affect the economy in 2017.

For the week, the Dow Jones Industrial Average gained 1% to close at 20,269 while the S&P 500 Index rose 0.8% to close at 2,316. The Nasdaq Composite Index jumped 1.2% to close at 5,734.

This Week

Both the producer price index (PPI) and the consumer price index (CPI) are expected to be up 0.3% in January, the same increase as in December. After posting a big increase in December, retail sales for January are forecast to rise only modestly. January industrial production is expected to be flat and housing starts for January should be in line with the number of units reported last month. Leading economic indicators for January should register a healthy increase similar to the one in December.

There will be no slowdown in quarterly earnings reports this week as American International Group, Devon Energy, Duke Energy, Marathon Oil, CBS, Marriott International, Pepsico, Campbell Soup, Applied Materials, Cisco Systems, Deere, Fluor and Waste Management are among the most notable companies scheduled to report.

Portfolio Strategy

Although international equities underperformed the U.S. stock market last year, there are reasons to be optimistic about the outlook for foreign stocks this year. One international fund whose performance stood out last year was the Oakmark International Fund (OAKIX), which posted a total return of 7.91%, easily beating the MSCI World ex. U.S. Index return of 2.75%. After trailing the benchmark for much of the year, the fund posted strong performance in the fourth quarter by significantly overweighting financials, consumer cyclicals and industrials while underweighting sectors perceived as safe such as consumer staples and utilities. Comprising almost one-third of its fund assets, financials were able to increase their loan portfolios, reduce their expenses and increase their fees, all of which led to stronger earnings growth at a time when many of the these companies were trading at single-digit price earnings ratios and below their book value. This fund’s long-term track record is also excellent as it has beaten its benchmark over the last ten years, earning the fund a 5-star rating by Morningstar. International equities have performed better than U.S. stocks so far in 2017 and that trend may continue as valuations are far more compelling in Europe and Japan and earnings growth could be stronger. While elections in the Netherlands, Germany and France this year could cause increased volatility in European stock markets, the fact that international equities have underperformed their U.S. counterparts for so long suggests that the tide may have turned in favor of international stocks.