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Stocks rebound for week but pare gains after strong jobs report

Stock market corrections, although painful at the time, are actually a very healthy part of the whole mechanism, because there are always speculative excesses that develop, particularly during the long bull market. – Ron Chernow, American writer, journalist and historian

All three major stock averages rebounded strongly last week with gains of more than 2% as investors were glad to put the month of October behind them. The S&P 500 Index suffered its worst month since 2011 with a loss of nearly 7%. For the most part, third quarter corporate earnings continued to be favorable as average earnings growth for S&P 500 companies has been over 20%. Economic data released last week was also mostly positive, particularly the reports on the U.S. labor market. In a precursor to the government jobs report, ADP said that a better-than-expected 227,000 private sector jobs had been created in October. Weekly jobless claims also fell and the October employment report released on Friday showed that 250,000 new jobs were created, much better than forecast, while the unemployment rate remained at 3.7%. More encouraging to workers was the fact that average hourly earnings rose by an annualized rate of 3.1%, the best pace of wage growth since 2009. Over the past 12 months, monthly job gains have averaged a solid 211,000. Ordinarily, the stock market would have cheered this news by climbing higher, but it fell on Friday due to a key corporate earnings report and conflicting news on trade with China. After the market close on Thursday, Apple reported earnings that beat analysts’ estimates but iPhone shipments fell short of expectations and the company offered disappointing guidance for the fourth quarter. Apple was the last of the FAANG stocks (Facebook, Amazon, Apple, Netflix and Google) to report quarterly earnings and its stock price plunged on the news, putting a damper on the rebound in the technology sector. Also on Thursday, President Trump said that he and President Xi Jinping of China had a productive discussion on trade, raising hopes that a trade deal was imminent between the two countries. The next day, however, the President’s top economic advisor, Larry Kudlow, dismissed the notion that a trade agreement was near and said that there is no trade plan for China in the works. Hopefully, the two leaders will meet at the G-20 meeting scheduled for later this month and make progress on a trade deal. At the moment, the uncertainty over trade seems to be the biggest obstacle that is holding back the market.

Last Week

The jobs data wasn’t the only economic data that was positive last week. U.S. consumer confidence in October rose to the highest level in 18 years, suggesting that strong economic growth should continue. U.S. productivity was also much better than expected in the third quarter and reflected a vibrant economy. U.S. factory orders were higher than forecast in September as demand was strong for transportation equipment and although construction spending was flat, the month of August was revised substantially higher. The October ISM manufacturing index fell slightly and was less than expected but was still comfortably above the 50 threshold, a sign that manufacturing is still expanding.

For the week, the Dow Jones Industrial Average rose 2.4% to close at 25,270 and the S&P 500 Index also gained 2.4% to close at 2,723. The Nasdaq Composite Index jumped 2.6% to close at 7,356.

This Week

It will be a relatively quiet week for economic data as the producer price index (PPI) for October is expected to rise modestly in line with the increase in September and the preliminary November University of Michigan consumer sentiment index is expected to remain at a historically high level.

The Federal Open Market Committee (FOMC) has its two-day meeting this week and is widely expected to keep the federal funds interest rate unchanged at 2% to 2.25%.

The most notable companies scheduled to report quarterly earnings this week include Sysco, Archer Daniels Midland, Marriott International, Walt Disney, Eli Lilly, CVS Health, Cardinal Health, Emerson Electric, Johnson Controls, Qualcomm, Prudential Financial, Occidental Petroleum and Marathon Oil.

Portfolio Strategy

If history is a guide, the volatility and wild swings in the stock market during the month of October should subside after the mid-term elections on Tuesday. Right now most polls and forecasters believe that the Democrats will likely take control of the House while the Republicans will maintain a slight majority in the Senate. If this scenario happens, most pundits feel that this would be modestly bullish for the stock market. The probability of the Republicans retaining control of both the House and the Senate or the Democrats gaining control of Congress is less likely and would be somewhat bullish for stocks in the former case and modestly bearish for stocks in the latter case. Forecasting is more art than science and polls have been known to be wrong with the 2016 presidential election the most recent example. Whatever the outcome, though, a look back at history to World War II shows that in all years where there was a mid-term election, the S&P 500 Index closed higher at year end than its lowest October close with an average gain of over 10%. Once the uncertainty of the election is over and investors focus once again on fundamentals and the strong seasonal factors associated with the months of November and December, stocks should regain their footing. While it may be tempting to make major investment decisions based on political forecasts or views, investors would be wise to ignore the election results and maintain their current asset allocation that fits their investment objective.