Legacy Wealth Weekly - July 29, 2016 (From One Cushion to the Other)

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Weekly Market Wrap-Up: From One Cushion to the Other

Equities have held up remarkably well despite continued oil price weakness, a more hawkish tone from the Federal Reserve and the smaller-than-expected stimulus package announced by the Bank of Japan. All week long, weakness during the morning sessions has been recouped in the afternoon. Why such a teflon-like mentality from investors? Earnings! Among 265 companies in the S&P 500 that have reported earnings to date for Q2 2016, 73% have reported earnings above analyst expectations according to Thomson Reuters I/B/E/S. The historical earnings beat is 63%. True, the earnings bar was much lowered going into the reporting season but overall, companies have cited a smaller drag from US$ appreciation, lower energy prices and good cost controls as reasons for better-than-expected results. The bullish case for earnings is that if leading economic indicators that we track prove right, revenue growth should accelerate and this will flow straight to the bottom line since the tailwinds above should prevail for a few more quarters. Thus, the equity market support appears shifting from world central bank stimulus to corporate earnings. "Finally!", some purists would say.

Our focus this week is on the price momentum factor when it comes to stock selection. As we explained in previous wires, while “value” investors are contrarian in nature and can buy stocks in a downward trend, “quants” are the opposite. They are mostly trend-following investors, buy on uptrends and do not mind missing the early phase of a price recovery. They usually wait for a price confirmation before buying securities. A simple confirmation occurs when the price of a stock has outperformed the index over a one-year horizon. Our Chart of the Week shows this relative price performance for golds, energy E&Ps and base metals. As we see in the second panel, the latter two sectors have seen a price momentum confirmation in July with the annual change in relative performance pushing above zero. Energy E&Ps and base metals are where golds were in February. We all know how gold equities have performed since then. Bottom line in our view: do not sell your resource stocks to quants too early!

Regarding economic statistics this week, the Fed adopted a slightly more hawkish tone with the FOMC statement mentioning that near-term risks to the economic outlook have diminished. Unfortunately, US GDP growth only slightly accelerated to 1.2% in Q2/16 (from 0.8%), missing expectations (2.6%) by a wide margin. Also, the manufacturing sector remains fragile with US durable goods orders declining 4.0% MoM in June (-6.4% YoY). But non-defense capital goods orders excluding aircrafts came in more positive (+0.2% MoM), stimulated by motor vehicles and parts (+2.6% MoM). In Europe, economic conditions remain challenging. The German IFO declined to 108.3 from 108.7 in July, GDP growth slowed down slightly to 1.6% YoY in Q2/16 (from 1.7%) while headline and core inflation remain anemic (0.2% and 0.9% YoY). Elsewhere, in Japan, the trade balance improved with exports improving (-7.4% YoY, from -11.3%) but imports cratering (-18.8% YoY, from -13.7%). Otherwise, markets were expecting more from the BoJ which kept its QE program mostly unchanged. It seems further stimulus is more likely to come from fiscal measures to support headline and core inflation (-0.4% and -0.4% YoY in July), retail sales (-1.4% YoY in June) and industrial production (-1.9% YoY).

Next week, aside from PMI releases, employment reports in Canada and in the US will be released. We also await US PCE inflation, consumption and spending statistics. Finally, the BoE is on deck.

The next edition of the Weekly Market Wrap-Up will be published on August 26, 2016.

The Canaccord Genuity research included in the Legacy Wealth Weekly is solely for Canadian residents. To subscribe to our weekly newsletter, click here.

Have a great long weekend!


Legacy Wealth Partners