Look at market fluctuations as your friend rather than your enemy; profit from folly rather than participate in it. – Warren Buffett
Increased uncertainty over the strength of the economy and the possibility of an interest rate hike by the Federal Reserve continued to weigh on stocks last week but the S&P 500 Index still managed to post a modest gain. The Nasdaq Composite Index bucked the trend with over a 2% increase and was helped by the stock of Apple, which soared on news of strong iPhone 7 sales. In contrast to hawkish comments by Boston Fed President Eric Rosengren the previous week, Fed Governor Lael Brainard struck a dovish tone in her remarks, saying it would be wise for the Fed to keep monetary policy loose even though the economy was making progress. She went on to say that it’s difficult for her to see Fed Chair Janet Yellen raising rates at the Federal Open Market Committee (FOMC) meeting this week. The fed funds futures market seems to agree with her, too, as the odds of a rate hike dropped to less than 20% last week. Although the Fed has been anxious to begin normalizing monetary policy for quite some time now, economic data in recent weeks has been weaker than expected and not indicative of a strengthening economy. If the Fed really is data dependent as it claims to be, then last week’s mostly soft economic data should cast serious doubt on an interest rate hike at their meeting this week. The biggest disappointment last week came from U.S. retail sales in August, which fell more than expected on weak automobile sales. This report, coupled with weaker job growth recently and a slowdown in manufacturing activity, is disconcerting and makes investors question the Atlanta Federal Reserve forecast of 3.3% growth in the third quarter. Whatever decision the Fed reaches on Wednesday, uncertainty over the economy and volatility in the markets are likely to remain, although Janet Yellen will do her best to calm investors’ nerves on both counts.
In addition to the weak core retail sales data in August which corresponds more closely with the consumer spending component of GDP, U.S. industrial production that includes manufacturing, mining and utilities also fell more than expected last month. Import prices declined more than forecast and in the 12 months through August, they dropped 2.2% due to the strong dollar and cheap oil. The producer price index (PPI) was unchanged in August and increased only 1.2% in the 12 months through August while the consumer price index (CPI) rose slightly with the core CPI that excludes food and energy rising 0.3%, the biggest increase since February. This uptick in inflation should be welcome news for the Fed as inflation appears to be approaching its target of 2%.
German drug and agricultural chemical firm Bayer agreed to buy Monsanto for $66 billion. The International Energy Agency (IEA) slashed global demand projections for oil this year and next. The Bank of England announced that interest rates would remain unchanged for now but signaled a cut is likely in the near future.
For the week, the Dow Jones Industrial Average rose 0.2% to close at 18,123 while the S&P 500 Index added 0.5% to close at 2,127. The Nasdaq Composite Index jumped 2.3% to close at 5,244.
Existing home sales and housing starts for August are expected to be consistent with those from July and indicative of a healthy and steadily improving housing market. Leading economic indicators for August are forecast to edge up slightly but be well-below the increase posted last month.
The Federal Open Market Committee (FOMC) meets this week and will likely keep interest rates unchanged while the Bank of Japan (BOJ) also meets to review its interest rate policy.
The most prominent companies due to report quarterly earnings this week include Adobe Systems, Carnival, General Mills, AutoZone, CarMax and Bed Bath & Beyond.
Ever since the European Central Bank (ECB) decided not to extend the deadline for its bond-buying program and kept key interest rates unchanged, uncertainty has increased over what, if any, action both the Federal Open Market Committee (FOMC) and the Bank of Japan (BOJ) will take this week when they meet to address monetary policy. Volatility in the markets has increased as investors have begun to question the effectiveness of quantitative easing and low interest rates in spurring economic growth. There is speculation that the BOJ will adjust its policy on negative interest rates and security purchases, both of which have fallen short in boosting Japan’s inflation rate to its 2% target. Similarly, data released last week in the U.S. on wholesale prices, consumer prices and import prices showed that inflation remains under control and still below the Fed’s own target of 2%. Wage growth has also been sluggish and partly responsible for the low inflation. Despite calls by some Fed officials for an interest rate hike at this week’s meeting, recent economic data tells a different tale and raises questions about the contention that economic growth has rebounded strongly in the current quarter. Fed Chair Janet Yellen has always maintained that the Fed is “data dependent” when determining whether or not an interest rate hike is appropriate. If this is truly the case, the Fed will likely stand pat and wait until the data become more convincing.