Stocks defy gravity, rise again despite coronavirus fears

People who succeed in the stock market also accept periodic losses, setbacks and unexpected occurrences. Calamitous drops do not scare them out of the game. – Peter Lynch

The stock market shrugged off a surge in new confirmed cases of the coronavirus and posted healthy gains for the second consecutive week. The biggest winner was the technology-heavy Nasdaq Composite Index, which jumped 2.2% while the broad-based S&P 500 Index rose 1.6%. A change in methodology in counting confirmed cases of the virus was part of the reason for the spike, but the rise in new cases is still alarming. There was also concern that China’s National Health Commission was under-reporting the number of cases, which now total over 64,000 with about 1,400 deaths, mostly in China. Nevertheless, in his testimony before Congress last week, Federal Reserve Chairman Jerome Powell was generally upbeat and said that the Fed is “closely monitoring” the spread of the coronavirus for its impact on China and the global economy. In his comments, he did not think that cutting interest rates was necessary since the U.S. economy was “resilient”. Despite the uncertainty over the potential negative effects of the virus, investors cast a blind eye and focused instead on fourth quarter earnings and the economy. Through the close of business on Friday, nearly 80% of S&P 500 companies had reported their earnings results and about 72% of them had beaten analysts’ estimates. Earnings growth in the fourth quarter has also been running slightly positive, contrary to initial forecasts. However, based on earnings estimates for 2020, stocks are not cheap as the price earnings ratio of the S&P 500 Index is currently 19, well above its historical average. As long as the virus is not a threat to the U.S. economy and corporate earnings, the stock market is likely to consolidate its recent gains and possibly grind higher. But the uncertainty associated with the spread of the virus and its potential impact should not be underestimated by investors, especially with the market near all-time highs.

Last Week

The consumer price index (CPI) in January ticked slightly higher and has now risen 2.5% on a year-over-year basis. Retail sales rose modestly in January but core retail sales, which exclude autos, gas, building materials and food services, was unchanged, raising concerns that consumer spending may be slowing. Recent data show rising auto loan and credit card delinquencies and a dearth of first-time home buyers. Weekly jobless claims rose by 2,000 to 205,000, less than expected, as there is no sign of widespread layoffs.

T-Mobile and Sprint agreed to merge in a deal valued at $26 billion and the merger was approved by a judge.

For the week, the Dow Jones Industrial Average added 1% to close at 29,398 while the S&P 500 Index rose 1.6% to close at 3,380. The Nasdaq Composite Index climbed 2.2% to close at 9,731.

This Week

The January producer price index (PPI) is expected to increase slightly as inflation remains under control while both January existing home sales and housing starts are expected to be less than those in December due to lower supply and higher prices. Leading economic indicators for January are forecast to rebound slightly after falling in December.

The Federal Open Market Committee (FOMC) releases minutes from its monetary policy meeting in late January.

The most prominent companies scheduled to report fourth quarter earnings this week include Devon Energy, American Electric Power, Consolidated Edison, Southern Company, Agilent Technologies, Analog Devices, Walmart, Newmont Mining, Hyatt Hotels and Deere & Co.

Portfolio Strategy

One sector of the market that has been particularly hard hit by coronavirus fears is the energy sector, which is down nearly 10% this year. The poor performance has not been confined to just this year, either, as the sector has lagged the S&P 500 Index in all but one of the last eight years. The sector’s performance has been so bad that its weighting in the S&P 500 Index has dropped to below 4% of the total. This year energy stocks have closely tracked the price of oil as a barrel of West Texas Intermediate has fallen over 15% to just over $50 a barrel. The biggest reason for the decline in oil prices has been worries over the impact of the coronavirus on Chinese demand as well as a slowdown in global economic growth. The dismal performance of the energy sector is in direct contrast to the performance of both the S&P 500 Index and the technology-laden Nasdaq Composite Index, which are perched near all-time highs. But with very low valuations and attractive dividend yields, energy stocks appear to be oversold and positioned to move higher. Four of the largest integrated oil companies – Exxon Mobil, Chevron, BP and royal Dutch Shell – have dividend yields that range between 4.7% and 7.2%. These yields compare favorably to the current yield of the S&P 500 Index (1.75%) and the yield on the 10-year Treasury (1.60%). Although price appreciation may be limited near-term due to their modest growth outlook, energy stocks offer investors above-average income when it has become increasingly difficult to find yield.