Review the latest portfolio strategy commentary from Mike Gibbs, managing director of Equity Portfolio & Technical Strategy.
Short-Term Summary: The S&P 500 has held its post-G20 meeting gains at new highs and reached 3,000 for the first time this week. Investors have largely looked through global macro softness and potential trade headwinds, while focusing on the Fed's message of loose policy with the belief that the US and China will continue to kick the can down the road on trade. Although we feel a comprehensive trade deal is unlikely anytime soon (no indication that progress has been made on any of the structural issues), it is unlikely that President Trump digs in too long or too deep given the negative impact on the markets and economy in the lead-up to his 2020 re-election campaign. The lack of a specific timeline gives negotiators and investors breathing room as well.
The Fed has largely telegraphed a rate cut at its July FOMC meeting (100% market-implied odds of a cut on 7/31). At his testimony this week, Fed Chair Powell stated that inflationary pressures are low (core CPI remained muted at 2.1% this week), trade tensions continue to impact the economic outlook (global manufacturing expectations are negative), and the Fed stands by to "act as appropriate to sustain the expansion." Following the G-20 "trade truce" and last Friday's strong jobs report, the market has shifted toward the expectation of a 25 bp cut in July (from decent odds of a 50 bp cut previously). This has resulted in a slight uptick in bond yields, stalling the plunge of the U.S. 10-year yield which still remains 18% lower (at 2.08%) than it was in early May.
2Q earnings season begins next week and is the next major catalyst for individual stocks. The consensus S&P 500 estimate reflects -1.4% earnings growth for the quarter. As is normal, estimates have been revised lower into the print and should start to move higher following the first actual reports. For example, 1Q earnings estimates trended lower to -3.5% into the prints and finished at +1.1%. A similar trend would put 2Q earnings closer to 3% when all is said and done. For the full year 2019, the consensus earnings estimate has trended toward our $166 estimate (3.3% y/y growth) that we have held for months. This week, we raised our next 12-month earnings estimate to $168 (~4% below consensus due to slightly more conservative sales and margin assumptions).
Technical momentum is positive with the S&P 500 breaking out to (and holding) new all-time highs. This is a positive indication of intermediate- term performance, as well as the improved stability beneath the surface (rising % of stocks above their 200 DMA). For the short term, the S&P 500 is 8% above its 200 day moving average, which has generally reflected overbought conditions and has historically been followed by some consolidation. Seasonality is another factor to consider in that the August-October time period is the weakest three month period of the calendar on average since 1954. We remain buyers of pullbacks given the more attractive risk/reward set-up one would provide to our next 12-month base case S&P 500 fair value estimate of 3108.
In sum: The positives (Fed support, delay with trade, technical momentum) outweigh the negatives (macro softness, fundamental slowdown, potential trade headwinds). We view the market as overbought in the short term, but would be buyers on pullbacks given the positive intermediate- term backdrop.
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