Stocks gain on bank earnings, Chinese economic data

Go for a business that any idiot can run – because sooner or later, any idiot probably is going to run it. – Peter Lynch

Financial stocks led the major stock averages higher last week as bank earnings were better than expected and investors breathed a sigh relief after the release of economic data from China. After Alcoa kicked off the first quarter earnings season with weak revenue growth and disappointing earnings, investors could not help but be on edge for the onslaught of bank profit reports that would follow. JP Morgan Chase was the first money center bank out of the gate and its earnings easily beat analysts’ estimates. In a week that was dominated by financial institutions, the other banks that reported earnings didn’t disappoint investors, either, as their results were generally better than expected. When the week had ended, financial stocks had gained 4%, an impressive showing for a sector that still ranks as the worst performing sector this year. While U.S. economic data was mixed again last week, reports on China’s economy were favorable and reassuring. Although China’s first quarter gross domestic product fell slightly to 6.7% from 6.8% in the fourth quarter, the number was higher than anticipated and eased concern about a more pronounced slowdown. China also reported favorable data on retail sales and industrial output in March, signs that the world’s second largest economy was stabilizing. One of the primary reasons for the stock market correction back in February had been fear of slowing growth in China, so this economic data was welcome news for investors. Another factor that helped boost stock prices last week was the price of oil, which closed on Friday at over $40 a barrel on optimism that an agreement would be reached between Saudi Arabia and Russia on an oil output freeze. With the price of oil in the process of stabilizing and the dollar showing signs of weakening, the outlook by companies on future earnings might be brighter and pave the way for the stock market to test its all-time high.

Last Week

Retail sales fell modestly in March as automobile sales were particularly weak. The March producer price index (PPI) fell slightly while the consumer price index (CPI) rose slightly. Both indices were expected to show higher inflation and for the last twelve months through March, the consumer price index has risen only 0.9%. Industrial production fell more than expected in March but there are signs that the industrial sector downturn may be over. Recent manufacturing surveys have been higher, the dollar has weakened and oil prices are stabilizing.

The International Monetary Fund (IMF) lowered its estimate for global growth to 3.2% this year and 3.5% next year, still better than the 3.1% global growth registered in 2015. Its estimate for growth in the U.S. was cut to 2.4% this year.

For the week, the Dow Jones Industrial Average gained 1.8% to close at 17,897 while the S&P 500 Index rose 1.6% to close at 2,080. The Nasdaq Composite Index added 1.8% to close at 4,938.

This Week

March housing starts and existing home sales should be at levels consistent with the numbers reported in the previous month as the housing sector continues its steady recovery. Leading economic indicators for March should also be strong compared to the reading reported in February and a hopeful sign that economic growth is poised to accelerate.

Oil markets are likely to react one way or another after OPEC members and Russia meet to discuss an oil output freeze. The European Central Bank (ECB) is expected to leave interest rates unchanged and ECB President Mario Draghi will give a news conference after the meeting. A number of Federal Reserve presidents will speak this week about Fed monetary policy and interest rates.

Among the most notable companies on the earnings calendar this week are PepsiCo, Coca Cola, McDonald’s, IBM, Intel, Microsoft, Verizon, Morgan Stanley, Goldman Sachs, Caterpillar, Johnson & Johnson, Abbott Labs, General Electric and General Motors.

Portfolio Strategy

It’s evident from the forecast of global growth by the International Monetary Fund (IMF) last week that central bank policies alone will not increase growth. Fiscal policies to stimulate growth are also needed but efforts to do this by most countries will likely fall way short. As we begin the second week of first quarter earnings season, the focus will clearly be on corporate revenue and earnings growth and what companies say about guidance for the rest of the year. Almost two-thirds of global economic activity comes from the U.S., China, the Eurozone and Japan so these regions are critical for financial markets that depend on both revenue and earnings growth to generate performance in global equity markets. China’s announcement last week of 6.7% growth in the first quarter alleviated concern that its economy would suffer a serious slowdown. For the year, gross domestic product (GDP) in China should approximate 6.5% as the country transitions from an industrial-based, export-driven economy to a more consumer-oriented economy. The economies in Europe have been helped by increased quantitative easing and easy monetary policies but their GDP growth rate in 2016 is only expected to improve to 1.5%. Despite adopting negative interest rates, Japan’s economy has struggled the most as GDP growth estimates have been reduced to just 0.6% this year. As far as the U.S. is concerned, first quarter GDP estimates have been slashed to less than 0.5% with expectations of full year growth between 2.0% and 2.5%, with much stronger growth projected in the second half of the year. The stock market is a forward-looking mechanism and for stocks to continue their upward trend, companies will have to provide favorable guidance on future revenue and earnings growth.