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S&P 500 seen to have limited upside potential

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S&P 500 seen to have limited upside potential

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Why the Stock Market may be stalling

October is the month for Q3 earnings and some on Wall Street are not seeing a rosy future for the general Stock Market. The main reasons for this are lower expected earnings reports, the Federal debt ceiling which is on cue for being breached again and the stark possibility of an interest rate rise in an economy that is not ready for it.

Goldman Sachs sees low sales growth, week margins and negative fourth quarter earnings guidance. They could certainly be right given the latest Retail Sales data. Data MoM was released for September at 0.1% that is lower than expected which was 0.2%. The chart below for this data shows a steady decline over the past seven months. March of this year saw a jump in Retails Sales to 1.5% MoM, which also coincided with the first talk from the Fed of a possible rate hike. The data Retail Sales Ex Auto for September was released even lower at -0.3% again undercutting forecasts which was still negative but slightly better at -0.1%

source: tradingeconomics.com

Thursday saw a higher than expected Core Inflation data which was released at 1.9% YoY compared to a forecast of 1.8%, MoM data was also higher at 0.2% compared to previous data of 0.1%. This unexpected rise in inflation data reignited the possibility of a Fed hike in rates before the year end. However Yellen has stated various times that the Fed will also be closely watching Job creation. September's Non-Farm Payroll number came in below expectations at 142k new jobs compared to a forecast of 203k. This put the ice on a hike at September's meeting. Yet San Francisco's Fed Chief John Williams has stated since that as long as there are 100k new jobs a month that caters for new entrants to the labour market and population growth. It would seem then there could still be chances of a rate hike in December if inflation keeps rising and job growth is still above 100k a month.  Under the current economic scenario that could prove to be possible.

Where are jobs Coming from

Industrial and Manufacturing production data has also been on a steady decline over the past several months. From the chart below we can see how Industrial production, which peaked at 4.7% in November 2014, has since been on a constant decline with the last data at 0.4%.

source: tradingeconomics.com

Manufacturing production has had a very similar ride as can be seen from the chart below. It peaked at 4.3% Last January and has never been above 3% for the rest of the year, the latest data released was at 1.4%. If these sectors are not doing so well it would seem hard to imagine a surge in job data over the next two months. Poor economic data may mean that the broad Stock market may be overvalued. At the same time higher inflation and job growth may see the Fed pulling the trigger on an interest rate hike too early. In either case both scenarios should not prove to be very healthy for the general Stock market as a whole.


source: tradingeconomics.com

Global Worries

A survey conducted by Reuters on 300 economists concluded that a large majority saw further weakness for the Global economy going into 2016.  The main concerns are Financial market volatility and a weaker global economy. The poll suggests that global demand is weakening and economies such as the United States and Europe may be exposed to a decline in demand from the rest of the world. China having been in the headlights recently with weak economic data fuelling fears of a global slowdown .
Many economists have been too optimistic about the strength of recovery since the 2008 crisis and are beginning to trim their exceptions going forward.

The IMF also reviewed to the downside its forecast for Global growth for 2016. In its last report it mentions that although growth will be positive for 2016 Globally certain economies may not do as well as previously expected. It sees growth for the USA at 2.8% for 2016, that is a cut of 0.2%. The report sees a combination of lower investment, unfavorable demographics, and weak productivity growth as the causes for the reduction in its forecast. The risk weighs heavy on the downside, a sharp slowdown in China which is the world's second largest economy. Geopolitical tensions in the Ukraine and the Middle East which could create uncertainty, and falling oil prices which could hurt some emerging market economies that are net exporters.

Strong currency Pitfall

The strength of the US Dollar may put pressure on emerging economies that are net importers but it will also have an effect on domestic GDP. A strong currency makes a country's goods and services more expensive for export. Although exports are not the largest sector of the economy, over the past 3 years they have represented approximately 13.5% of GDP. It is likely then that a weaker US Dollar could have helped the economy recover after the recession. As higher interest rates are to be most likely seen in the near future, there could be an undesired reduction in exports, as the US Dollar continues to appreciate.

 

Gino D'Alessio

About Gino D'Alessio

Gino has over 20 years experience as a Trader/Broker in financial markets, particularly in Bonds, FX, Derivatives and Futures, extensive knowledge of Stock Markets. He also obtained CAIA Charter in April 2015.