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Schwab Market Update

Stocks Trade Higher, Dow Gains Limited by Earnings

U.S. stocks traded higher, extending a string of weekly advances in 2018 to three, as market participants mostly shrugged off the budget woes in Washington and a disappointing consumer sentiment report. Dow members IBM and American Express announced quarterly results that limited the blue chip's advance. Treasury yields and the U.S. dollar ticked higher, while crude oil prices were lower and gold saw minor gains.      

The Dow Jones Industrial Average (DJIA) increased 54 points (0.2%) to 26,072, the S&P 500 Index gained 12 points (0.4%) to 2,810, and the Nasdaq Composite advanced 40 points (0.6%) to 7,336. In moderately heavy volume, 1.0 billion shares were traded on the NYSE and 2.0 billion shares changed hands on the Nasdaq. WTI crude oil was $0.51 lower at $63.44 per barrel and wholesale gasoline shed $0.02 to $1.86 per gallon. Elsewhere, the Bloomberg gold spot price increased $4.94 to $1,331.98 per ounce, and the Dollar Index—a comparison of the U.S. dollar to six major world currencies—was 0.1% higher at 90.63. Markets were again higher for the week, as the DJIA increased 1.0%, the S&P 500 Index advanced 0.9% and the Nasdaq Composite gained 1.0%.

Dow member International Business Machines Corp. (IBM $162) reported a Q4 loss of $1.14 per share, or earnings-per-share (EPS) of $5.18 excluding a one-time charge of $5.5 billion associated with the enactment of U.S. tax reform, versus the FactSet estimate calling for a profit of $5.17 per share. Revenues rose 4.0% year-over-year (y/y) to $22.5 billion, topping the expected $22.1 billion. The company said its strategic imperatives revenue again grew at a double-digit rate and now represents 46% of its total revenue. IBM added that it is pleased with its overall revenue growth in the quarter, which rose on a constant currency basis for the first time in almost six years. However, shares traded lower as the company's gross margin for the quarter and 2018 EPS guidance both missed expectations.

Dow component American Express Co. (AXP $97) posted a Q4 loss of $1.41 per share, including a $2.6 billion charge related to the Tax Cuts and Jobs Act (TCJA). Excluding the charge, AXP reported profits of $1.58 per share, compared to the forecasted $0.72. Revenues rose 10.0% y/y to $8.8 billion, above the estimated $8.7 billion. The company said the upfront charge triggered by the TCJA reduced its capital ratios and, as a result, while it is continuing its quarterly dividends at current levels, it plans to suspend its share buyback program for the first half of 2018 in order to rebuild its capital. Shares finished lower.  

Schwab's Chief Investment Strategist Liz Ann Sonders notes in her latest article, Taxman: Bringing Some Cheer in the New Year, the impact of the TCJA is already being felt by millions of workers—with the vast majority of the remainder getting a bump in their paychecks next month. More broadly, we should get a boost to consumption, GDP, capex and corporate earnings; but there are important offsets and considerations that suggest some enthusiasm-curbing may be in order given the later-stage in the cycle in which the TCJA was passed. Also, Schwab's Director of Tax and Financial Planning, Hayden Adams, CPA, offers investors analysis on the tax overhaul in his article, New Tax Law: Here’s What You Need to Know.

Consumer sentiment unexpectedly drops

The preliminary University of Michigan Consumer Sentiment Index (chart) declined to a six-month low of 94.4 in January, from 95.9 in December, and compared to the Bloomberg expectation of an improvement to 97.0. The current economic conditions component of the survey fell, more than offsetting a slight rise in the expectations portion of the report. The 1-year inflation forecast rose to 2.8% from December's 2.7% rate, while the 5-10 year inflation outlook ticked higher to 2.5% from the prior month's level of 2.4%.

Treasuries dipped, with the yields on the 2-year and 10-year notes, along with the 30-year bond, ticking 2 basis points (bps) higher to 2.06%, 2.65% and 2.92%, respectively.

Treasury yields have rallied alongside the stock market run to multiple fresh record highs in 2018, bolstered by synchronized global economic growth, and U.S. tax reform optimism, which appears to be a theme in the ramped up earnings season that is garnering scrutiny. Schwab's Chief Fixed Income Strategist Kathy Jones offers a look at the bond markets in her video, What Could Fixed Income Investors Expect in 2018?, noting that we think 2018 will probably be more challenging for fixed income investors than 2017.

However, the U.S. dollar has been hampered amid signs that global central banks are nudging down the long path to monetary policy normalization, while the looming threat of a U.S. government shutdown seems to be causing a flare-up in political uncertainty and curbing conviction. Schwab's Vice President of Legislative and Regulatory Affairs, Michael T. Townsend notes in his latest commentary, Congress Scrambling to Avert Government Shutdown, even if negotiations break down and a government shutdown does occur this weekend, Schwab is not anticipating a huge market reaction as historically, government shutdowns have not produced significant market volatility. Still, the situation adds a potential element of uncertainty to the market’s booming start to 2018. Investors would be smart to keep an eye on the issue, but not let the day-to-day political news trigger any over-reactive changes to portfolios. Your financial advisor can always provide additional perspective about whether a government shutdown might affect your own portfolio.

Europe and Asia mostly higher to close out the week

European equities traded broadly higher, with the markets continuing to be underpinned by signs of continued global economic growth and relatively favorable earnings results as the season ramps up. Stocks showed some resiliency in the face the recent strength in the euro versus the U.S. dollar and flared-up U.S. political uncertainty as a threat of a government shutdown looms. German markets rallied despite some uncertainty ahead of vote on Sunday on whether party leaders can begin formal coalition talks. Schwab's Chief Global Investment Strategist Jeffrey Kleintop, and Vice President of Trading and Derivatives Randy Frederick also offer guidance for investors amid the political environment in the video, Political Risk: How Should Investors Respond?.  Also, Jeffrey Kleintop, CFA, points out in his Five Global Risks for Investors in 2018: geopolitics, chasing returns, private investment boom, return of inflation, and natural disasters, while adding that having a well-balanced, diversified portfolio and being prepared with a plan in the event of an unexpected outcome is a key to successful investing. In economic news, the eurozone current account surplus widened in November, aided by higher exports, though U.K. retail sales came in softer than expected for last month. The British pound saw some pressure versus the greenback to help U.K. stocks move higher despite the retail sales data. Bond yields in the region finished mixed. 

Stocks in Asia finished mostly to the upside amid lingering global economic optimism on the heels of yesterday's stronger-than-expected Chinese Q4 GDP growth and positive expectations of earnings season in the region. These are countering extended gains for the Japanese yen and flared-up U.S. political uncertainty as the potential for a government shutdown remains. Japanese equities rose, while stocks trading in mainland China and Hong Kong also advanced. Indian shares gained solid ground and South Korean equities moved higher. However, weakness in energy and materials issues weighed on Australian securities. The global markets have continued to rally and extend the strong run that was seen in 2017 and Schwab's Liz Ann Sonders and Randy Frederick discuss the question in the video, How Much Longer Could the Bull Market Last?, talking about some of the data that Liz Ann watches to help gauge when this momentum might begin to slow down a little bit.

Weekly gains keep coming in 2018

Stocks posted a third-straight weekly gain to usher in 2018, with the Dow taking fewer than two weeks to go from 25,000 to above the 26,000 for the first time. A relatively positive start to earnings season—more than 80% of S&P 500 companies that have reported have topped sales and profit forecasts, per Bloomberg—conspired with continued global growth optimism. U.S. industrial production capped off the best year since 2010, China's Q4 GDP growth bested expectations and Japan's core machine orders—a gauge of capital spending—unexpectedly jumped. However, choppiness ensued as U.S. political uncertainty flared-up, expectations of tighter global monetary policy continued to nudge higher, and Q4 earnings reports were noisy due to tax reform charges—notably in the banking sector—and mostly upbeat guidance about its impact going forward. Treasury yields continued to rally with the 10-year note hitting the highest level since 2014 and the 2-year note topping the 2.0% mark since 2008. The U.S. Dollar Index remained under pressure, hitting a three-year low, while crude oil prices fell from multi-year highs amid increased estimates that U.S. production will ramp up in 2018.

This sets the stage for next week, in which the economic calendar will be robust, courtesy of December existing and new home sales reports, as well as preliminary durable goods orders and the Leading Index for last month, and the preliminary Markit business activity reports for January. The week will culminate with Friday's first look (of three) at Q4 GDP, which is expected to decelerate to a 3.0% annualized pace of growth. However, with only 53 S&P 500 companies having reported thus far, earnings season is poised to kick into a higher gear next week and likely dominate the attention. The international economic front will also attract some market focus, as the Bank of Japan and European Central Bank are expected to keep their monetary policy stances unchanged.

Other international reports that are due out next week and deserve a mention include: China—industrial profits. Japan—trade balance and consumer price inflation statistics. Eurozone—Markit's business activity reports, as well as German investor and business confidence data. U.K.—employment change and Q4 GDP.

As noted in the latest Schwab Market Perspective: Party Like it's 2017!, this year seems unlikely to be a repeat of 2017 as volatility should pick up and the possibility of larger pullback than what we saw last year has grown. Investor sentiment—often a contrarian indicator—is extended, which could mean that disappointments or surprises could be met with greater selling than we’ve seen in the recent past. We still believe that the bull has room to run as domestic economic strength is improving and global economies look better than they have in some time, so investors should stay disciplined, diversified and invested.

Schwab Center for Financial Research - Market Analysis Group

©2018 Charles Schwab & Co., Inc., Member SIPC. All rights reserved.

Next Steps

Congress Scrambling to Avert Government Shutdown

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Schwab Center for Financial Research ("SCFR") is a division of Charles Schwab & Co., Inc. The information contained herein is obtained from third-party sources and believed to be reliable, but its accuracy or completeness is not guaranteed. This report is for informational purposes only and is not a solicitation, or a recommendation that any particular investor should purchase or sell any particular security. The investment information mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision. All expressions of opinions are subject to change without notice in reaction to shifting market conditions. 

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