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S&P 500 closes slightly lower on weak retail earnings

Determine never to be idle. No person will have occasion to complain of the want of time who never loses any. It is wonderful how much may be done if we are always doing. – Thomas Jefferson

The stock market’s three-week winning streak came to an end last week as both the Dow Jones Industrial Average and the S&P 500 Index posted modest losses. The technology-heavy Nasdaq Composite Index bucked the trend and managed to close slightly higher. The convincing victory in the French election a week ago Sunday by centrist Emmanuel Macron over far-right candidate Marine Le Pen failed to ignite stocks, but enabled investors to breathe a collective sigh of relief. The election results eliminated a lot of uncertainty and anxiety in Europe. At home, quarterly corporate earnings results continue to be better than expected for most companies. For those keeping score, with over 80% of S&P 500 companies having reported their profit results, better than 75% of them have beaten earnings estimates while over 65% have exceeded sales estimates. Last week, however, there was weakness in the retail sector as Macy’s missed badly on both earnings and revenue and JP Penney reported same-store sales that fell more than expected. Nordstrom and Kohl’s also reported weaker results. These disappointing earnings results occurred despite the fact that retail sales rebounded strongly in April after a weak March, although they were slightly less than expected. While this trend may raise concerns about the strength of the consumer, it may have more to do with the internet and strong online sales. Since consumer spending accounts for over two-thirds of all economic activity, it is something that definitely warrants attention. Aside from earnings and economic data last week, the other major news story was the firing of FBI Director James Comey by President Donald Trump, which was yet another distraction that threatens to prolong this administration’s attempt to implement pro-growth policies that would be beneficial to the economy. The stock market’s reaction was muted, though, as investors remain hopeful that this, too, will blow over.

Last Week

There were several economic reports on inflation last week and the results were inconclusive. Import prices in April were higher than expected and the April producer price index (PPI) recorded the largest increase since January. In the 12 months through April, the PPI has risen 2.5%. The consumer price index (CPI), however, rose only 0.2%, matching estimates, after falling in March. Over the past 12 months, the CPI has risen 2.2%.

The price of oil rebounded last week to close around $48 a barrel as the Energy Information Administration (EIA) reported a larger than expected decline in crude oil inventories.

For the week, the Dow Jones Industrial Average fell 0.5% to close at 20,896 and the S&P 500 Index shed 0.3% to close at 2,390. The Nasdaq Composite Index rose 0.3% to close at 6,121.

This Week

There is very little in the way of economic data this week. Housing starts in April are expected to be higher than the previous month and consistent with a steadily improving housing sector. Leading economic indicators for April should increase by 0.4%, the same increase as in March, as the economy continues to gain strength.

As earnings season winds down, retailers will once again be the main attraction this week as Wal-Mart Stores, Target, Home Depot, Staples, TJX, Gap and Dick’s Sporting Goods are all scheduled to report. Other prominent companies on the agenda include Cisco Systems, Applied Materials and Deere & Co.

Portfolio Strategy

First quarter S&P 500 earnings are expected to grow by 15%, which is even more remarkable considering the fact that gross domestic product (GDP) in the first quarter increased by only 0.7%. Excluding the energy sector, which has witnessed a big turnaround since the price of oil bottomed in the first quarter of 2016, corporate profits will have risen by 11%. The question that arises is why earnings growth is so strong when GDP growth and the U.S. economy appear to be so weak. Not since the third quarter of 2011 has the discrepancy between earnings growth and GDP growth been this great. It turns out that the more S&P 500 companies do business overseas, the better their revenue and earnings growth has been in the quarter. These companies are taking advantage of stronger growth in foreign markets as oil and commodity prices have rebounded and China’s growth prospects have improved. Easy monetary policies have also benefited economic growth in Europe and Japan. In addition, a lower dollar has contributed to increased corporate profits as U.S. companies are more competitive and are able to sell more of their products overseas. Another factor that has helped earnings look so strong this year is the simple fact that earnings were weak last year. S&P 500 companies reported four consecutive quarters of earnings declines last year, making this quarter’s earnings growth look good by comparison. In short, U.S. multi-national companies that do a significant amount of business overseas have been rewarded as the dollar has been soft and economic growth has accelerated in these foreign markets. Any help from implementation of President Trump’s much-talked about pro-growth policies of tax cuts, increased infrastructure spending and deregulation would be icing on the cake.