Markets facing three significant headwinds

David Joy – Chief Market Strategist, Ameriprise Financial
Weekly markets commentary — Nov. 23, 2020

 

Markets are being buffeted by several diametrically opposing forces, which are likely to be resolved in the relative near-term.

Headwind #1: COVID-19 Infections

At the top of that list is the current wave of coronavirus infections. In the U.S., the cumulative number of infections has risen beyond twelve million, while the seven-day moving average of daily new cases has climbed by 54 percent in just two weeks to 171,461. Hospitalizations are at a record high and the death total has exceeded 255,000. And the arrival of the Thanksgiving holiday this week promises to see these totals worsen, as Americans travel to visit with family and friends and social distancing discipline is expected to decline. The economic headwind of the virus continues to be felt, especially in the leisure, hospitality, travel industries. However, news on the development of a vaccine continues to be promising. Following the recent announcements of 94 percent plus effectiveness of vaccines in development from Pfizer and Moderna, the FDA is expected to grant emergency approval for widespread distribution beginning as early as the second week in December. While it will take some time before a vaccine is adopted widely enough to get the virus under control and allow the economy to function more freely, there is reason for optimism.

Headwind #2: The Trump Administration’s Ongoing Legal Battle

The second headwind facing markets is the Trump administration’s ongoing legal challenge to the election results. The administration has the legal right to pursue all its avenues of redress, but eventually it must provide evidence to support its claims. Its failure to do so three weeks after the election is increasingly hindering the transition to the Biden administration, amidst increasing warnings of the implications for the functioning of government and national security. At the same time, the administration’s legal challenges have been repeatedly rejected by the courts, causing even some members of the president’s own party to call for the cessation of legal action and acceptance of the election results.

Headwind #3: Congress’s Failure to Provide Additional Stimulus

The third headwind for markets is the ongoing failure to provide additional fiscal support for the economy, despite the severity of the current virus resurgence. The economy entered the third quarter with a certain degree of momentum, but there is also some evidence of a moderation in activity. Retail sales rose in October, but at the slowest pace since April. Initial jobless claims rose last week, and consumer sentiment has slipped.

The absence of additional stimulus was compounded last week by the Treasury’s cessation of certain credit support programs at the Fed. Despite protestations from several quarters, including the Fed itself, the programs will be unwound, and the unused funding will be returned to the Treasury. That there is unused funding in the first place is being cited as reason enough to end these facilities. But their existence provided a security blanket to credit markets of an assurance of liquidity. Will volatility increase and spreads widen in their absence? At the same time, this action is likely to nudge the Fed closer to adjusting its QE program in terms of its size, or targeted maturity purchases and so on. But the pressure on monetary policy to address shortfalls better addressed by fiscal policy is less efficient and effective. Fiscal policy can be targeted where it is needed most, while monetary policy is a far more blunt instrument.

Stocks slipped slightly last week, in the face of these opposing forces. The S&P 500® index fell 0.8 percent, its first decline in three weeks. But the rotation in favor of cyclical sectors persisted. Energy, materials, and industrials were strong, while utilities, healthcare, and real estate declined. Small and midcap stocks also outperformed the broader averages. Bond yields edged lower. The ten-year note fell eight basis points to 0.82 percent. But, reflecting the same degree of resilience as cyclical stocks, high yield credit spreads narrowed for the third straight week.

This week’s economic calendar will afford additional insight into whether the economy is indeed slowing. November flash PMIs, October durable goods orders, personal income and spending, and new home sales are all scheduled. Lastly, Europe is experiencing a similar wave of rising infections and the resulting lockdowns are beginning to show up in the data. Service activity in the Eurozone in November fell to its lowest level since May, reinforcing predictions of an economic decline in the fourth quarter.

Sources: Factset, Bloomberg. FactSet and Bloomberg are independent investment research companies that compile and provide financial data and analytics to firms and investment professionals such as Ameriprise Financial and its analysts. They are not affiliated with Ameriprise Financial, Inc.

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Quantitative easing (QE) is a form of unconventional monetary policy in which a central bank purchases longer-term securities from the open market in order to increase the money supply and encourage lending and investment. 

A 10-year Treasury note is a debt obligation issued by the United States government that matures in 10 years. The 10-year yield is typically used as a proxy for mortgage rates, and other measures.

The flash reading of PMI is an estimate of the Manufacturing Purchasing Managers' Index (PMI) for a country, based on about 85% to 90% of the total PMI survey responses each month. Its purpose is to provide an accurate advance indication of the final PMI data.

The Purchasing Managers' Index (PMI) is an index of the prevailing direction of economic trends in the manufacturing and service sectors. The PMI is based on a monthly survey of supply chain managers across 19 industries, covering both upstream and downstream activity. The purpose of the PMI is to provide information about current and future business conditions to company decision makers, analysts, and investors.

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