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Major stock averages close mixed as tensions with Iran likely to escalate

You can line up more experts than you can shake a stick at, but none can predict with certainty what investors really want to know: How will the market do tomorrow, or next week, or next year? – John Neff

After soaring in 2019, the major stock averages took a breather last week and closed mixed. Both the S&P 500 Index and the Dow Jones Industrial Average posted modest losses while the technology-heavy Nasdaq Composite Index was up slightly in light trading volume in the holiday-shortened week. This was in sharp contrast to the performance results in 2019 when the S&P 500 rose 28.9%, its best showing since 2013, and the Nasdaq climbed 35.2%, its best performance also in six years. It appeared that the strong momentum would continue into the new year after an announcement by the White House on Thursday that the official signing date of the Phase One trade agreement would be January 15th. The People’s Bank of China also lowered the amount of reserve cash that the country’s banks must maintain, which will put more money into their economy. But the upward momentum came to an abrupt halt on Friday when it was learned that the U.S. had killed Iran’s top military commander, General Qasem Soleimani, which raised concerns over potential retaliation from Iranian forces. The stock market gains on Thursday quickly evaporated, the price of oil spiked to its highest level since April, the price of gold rose and the yield on the 10-year Treasury fell to 1.79% as investors sought a safe haven in the form of U.S. government securities. While a full-blown war with Iran is unlikely, they could lash out at one of the U.S. allies in the Middle East, bomb American embassies in the region or disrupt the flow of oil in the Persian Gulf. The fact that the stock market was overbought with valuations stretched meant that there was little margin for error should some unforeseen negative event occur. After all, the S&P 500 had risen nearly 9% in the last two months of the year and is trading at 19 times estimated earnings for next year. The market was overdue for a pullback and the increased uncertainty over the rising tensions between the U.S. and Iran is likely to lead to some near-term volatility.

Last Week

The ISM manufacturing index in December fell from its reading in November, marking the fifth straight monthly contraction below 50 primarily caused by the ongoing trade war with China. The signing of the Phase One trade deal should help alleviate some of this weakness. November construction spending rebounded strongly and the index of consumer confidence fell slightly in December but was still high by historical standards. Weekly jobless claims fell modestly as the labor market remains strong despite the slowing economy.

The minutes from the Federal Reserve meeting in December showed that there was increased optimism among Fed officials about the economy but concerns remained about growth and persistent low inflation.

For the week, the Dow Jones Industrial Average slipped 0.04% to close at 28,634 while the S&P 500 Index fell 0.2% to close at 3,234. The Nasdaq Composite Index added 0.2% to close at 9,020.

This Week

The December employment report is expected to show that about 158,000 new jobs were created during the month and that the unemployment rate remained at 3.5%. The December ISM Non-Manufacturing Purchasing Managers’ Index (PMI) or services sector index is expected to show another solid report in the mid-50s, indicating continued expansion.

The most prominent companies scheduled to report quarterly earnings this week include Walgreen Boots Alliance, Constellation Brands, Lennar Corp., KB Homes and Bed Bath & Beyond.

Portfolio Strategy

In addition to the Santa Claus rally period, which is the final five trading days of the year and the first two trading days of the new year, there are two other indicators for the stock market in the month of January. The first one states that when stocks finish the first five days of the year higher, the S&P 500 Index has been positive more than 80% of the time at year-end. According to the Stock Trader’s Almanac, the average gain for the S&P 500 has been over 13% going back to 1950 when this occurs. After the first two trading days of the year, the S&P 500 is basically flat, posting modest gains on Thursday only to give back those gains on Friday after Iran’s top military commander was killed. Typically, the beginning of the year is important as many investors review their portfolios and decide to put money to work by investing in stocks. This indicator could also be misleading since more often than not, the stock market tends to rise in most years. The reliability of the indicator this year could be in jeopardy in the aftermath of what happened on Friday as the market could become more volatile. The other popular Wall Street indicator is the January barometer, which states that a positive January for stocks results in a higher year for the market. This belief has produced the saying, “So goes January, so goes the year”. Fourth quarter corporate earnings season is just around the corner and those results will likely play an important role in whether or not January is positive. This year is also an election year and a lot can happen between now and then that could affect the market’s direction.