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Stocks rebound on strong earnings, stimulus hopes

That is one of the mysteries of our business, and it is a mystery to me as well as to everybody else. We know from experience that eventually the market catches up with value. It realizes it in one way or another. – Benjamin Graham

The stock market rebounded in the holiday-shortened week to post solid gains as optimism spread over the possibility of another economic relief package worth $1.9 trillion and quarterly earnings were strong. The tech-heavy Nasdaq Composite Index was the big winner with a gain of 4.2%, fueled in part by strong earnings and subscriber growth by Netflix, which easily beat estimates for global paid subscriber additions in the quarter. The other so-called FAANG stocks, namely Facebook, Apple, Amazon and Alphabet (Google), that had been star performers last year took their cue from Netflix and also surged last week. The rise in their shares was due to increased optimism over their upcoming earnings announcements as well as a leveling off in the 10-year Treasury yield, which now stands at 1.10%. While rising yields are usually a sign of an improving economy and benefit sectors such as financials, they make growth stocks such as those found in the technology sector less attractive from a valuation standpoint. In addition to Netflix, other notable companies that reported better than expected earnings included Goldman Sachs, Morgan Stanley, Bank of America, UnitedHealth Group and Intel. The only major disappointment came from former technology bellwether IBM, which announced lower than expected revenue, its fourth straight quarterly revenue decline. While there were hopes for additional stimulus money that would revive economic growth and boost corporate earnings, there were also concerns about a new strain of the coronavirus and slower than anticipated rollout of the vaccines. These legitimate concerns could hamper the economic recovery, which is another reason why cyclical companies that are economically-sensitive underperformed last week while technology companies rallied. For both the economy and the market to do well, it’s imperative that the virus be brought under control by increasing the number of people being vaccinated. Then and only then can the economy return to normal.

Last Week

Existing home sales in December increased and were much higher than December 2019, bringing total home sales in 2020 to the highest level since 2006. The numbers would have been even higher but record low supply and record high prices limited strong demand. Housing starts in December were also better than expected and rose at the fastest pace since 2006. The National Association of Home Builders (NAHB)/Wells Fargo Housing Market Index fell in January from its record high level two months ago but was still extremely positive as confidence among builders remains high. Weekly jobless claims were 900,000, slightly better than expected and less than the previous week’s total of 926,000.

For the week, the Dow Jones Industrial Average rose 0.6% to close at 30,996 while the S&P 500 Index  gained 1.9% to close at 3,841. The Nasdaq Composite Index surged 4.2% to close at 13,543.

This Week

Fourth quarter gross domestic product (GDP) is expected to be 4.3%, compared to an annualized rate of 33.4% in the third quarter and a decline of 31% in the second quarter due to the pandemic. New home sales in December are forecast to be higher than in November and durable goods orders are expected to increase modestly. The consumer confidence index for January is forecast to be better than in December but still way below levels before the pandemic.

The Federal Open Market Committee (FOMC) meets and is expected to leave the federal funds rate unchanged at near zero and maintain its bond purchases at $120 billion a month, although it may indicate a change in this amount in subsequent months.

This will be the busiest week of the earnings season and the most prominent companies scheduled to report include 3M, General Electric, Lockheed Martin, Boeing, Caterpillar, Advanced Micro Devices, Microsoft, Apple, Facebook, Texas Instruments, American Express, Johnson & Johnson, Abbott Labs, Eli Lilly, Starbucks, McDonald’s, Mastercard, Visa, Verizon, AT&T, Chevron, Tesla, Raytheon and Honeywell.

Portfolio Strategy

This promises to be an important week for the markets as more than one fifth of the S&P 500 or over 100 companies report their earnings results, including technology heavyweights such as Apple, Microsoft and Facebook. Johnson & Johnson also reports their earnings and the company could make an announcement about their vaccine candidate, which requires just one dose as opposed to the other vaccines that require two doses. Any positive news about its vaccine results and eventual rollout could be a boon for the markets. The most important piece of economic data released this week will be fourth quarter GDP, which is expected to show growth of over 4%. But recent data suggest growth has been slowing as December retail sales were weak and the labor market has seen an increase in the jobless numbers. Much of this weakness could be attributed to the spike in the number of Covid-19 cases and new restrictions placed on businesses to combat the spread of the virus. The Federal Reserve also has its two-day meeting this week and although no changes are expected in monetary policy, Fed Chairman Jerome Powell will likely make dovish comments that interest rates will remain low for the foreseeable future and that the economic outlook depends on the path of the virus and the rollout of vaccines. He also will probably emphasize the need for additional stimulus from the federal government, which could be problematic since the size of the package may ultimately be smaller and the timing of its approval may be longer.