S&P 500 closes at all-time high of 2,500 on renewed optimism for tax reform

If you don’t study any companies, you have the same success buying stocks as you do in a poker game if you bet without looking at the cards. – Peter Lynch

All three of the major stock averages rebounded strongly last week and closed at least 1.4% higher as several catalysts seemed to fuel the rally. The S&P 500 Index set an all-time high by eclipsing the 2,500 mark for the first time ever. The surge in stock prices began on Monday when the realization hit that the damage from Hurricane Irma was not nearly as bad as expected. Insured losses are estimated to be between $25 billion and $55 billion, far less than anticipated as the storm surge was much smaller than first feared and the storm weakened much faster than expected. Nevertheless, Hurricanes Harvey and Irma are likely to have a sizable impact on third quarter GDP, perhaps lowering it to about 2%. The other positive news that seemed to propel stocks skyward were optimistic comments by Treasury Secretary Steve Mnuchin that tax reform would be passed by year-end. The administration is seriously thinking about backdating any reform to Jan. 1^st, which would be a boon for the economy. The stock market also seemed to get a lift from Apple’s announcement on Tuesday of the new iPhone X as well as two other new and improved iPhone models. The iPhone X won’t come cheap as the retail price is expected to be $1,000. North Korea made additional threats again last week, but the market turned a blind eye to its latest missile launch over Japan and its strong rhetoric also fell on deaf ears. In response to its latest provocation, the U. N. Security Council adopted much tougher sanctions against North Korea that targeted the country’s exports and oil imports. The price of oil also rallied last week and closed just below $50 a barrel as the Organization of Petroleum Exporting Countries (OPEC) was considering adding more non-members to participate in its agreement to limit output. All in all, it was a great week for stocks and made investors forget the fact that September has historically been one of the poorest months for equity returns.

Last Week

The producer price index (PPI) rose slightly in August and was below expectations while the consumer price index (CPI) exceeded estimates due primarily to higher gasoline prices. Excluding food and energy, the core CPI was only up modestly and in the last 12 months through August, it has risen only 1.7%. Weekly jobless claims came in at a less than expected 284,000 but were still higher than in previous weeks due to the impact from the hurricanes. Retail sales were also weaker than expected in August due to the effects of Hurricane Harvey, which caused a big drop in automobile sales. Finally, the University of Michigan consumer sentiment index, which measures consumers’ attitudes on future economic prospects, was better than expected.

For the week, the Dow Jones Industrial Average jumped 2.2% to close at 22,268 while the S&P 500 Index climbed 1.6% to close at 2,500. The Nasdaq Composite Index rose 1.4% to close at 6,448.

This Week

The most important news event this week will be the Federal Open Market Committee (FOMC) two-day meeting which ends on Wednesday. The Fed is expected to leave interest rates unchanged but will probably begin to reduce the $4.5 trillion of securities on its balance sheet. August import prices are expected to increase slightly and both August housing starts and existing home sales should continue to be consistent with a stable housing market. Leading economic indicators for August are expected to rise slightly but by less than the percentage increase in July.

It will be another slow week for quarterly earnings reports with the most notable companies on the agenda being Adobe Systems, AutoZone, CarMax, General Mills, FedEx and Bed Bath & Beyond.

Portfolio Strategy

Because the month of September has historically been a weak one for the stock market, many investors have positioned their portfolios defensively thinking that a correction was imminent. Who could blame investors for becoming more cautious and conservative? After all, this bull market in stocks is now in its ninth year and equity valuations are stretched relative to historical average price earnings ratios. The Federal Reserve is also poised to raise interest rates and unwind its balance sheet in an effort to normalize monetary policy. The Trump administration’s pro-growth agenda has been slow to get off the ground and tensions with North Korea have never been greater. Despite these concerns and uncertainties, the S&P 500 continues to set new all-time highs, reaching the 2,500 milestone on Friday. It’s been over a year since the stock market has had as much as a 5% correction and nearly two years since the market has experienced a 10% correction. The market seems to be living on borrowed time but it continues to climb a wall of worry as it makes new highs. Absent from this current bull market has been investor euphoria, a sign that usually signals that stocks have peaked and are due for a fall. Instead, investors seem to be somewhere between skepticism that the current bull market still has legs and optimism that the economy and corporate earnings will continue to support stock prices. Investor sentiment has tended to be more bearish, which is actually a positive sign for the stock market, and mutual fund cash levels have also been higher than normal, indicating cautiousness among investors. While the market seems overdue for a correction, the fact that so many investors and money managers are expecting one to occur probably means that a prolonged decline will not happen.