Trumper Tantrum...
Trumper Tantrum...

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May 21, 2017
Trumper Tantrum
On Wednesday, the major stock indexes experienced their worst day of the year amid turmoil in Washington. The S&P 500’s loss of 1.82% was its largest daily decline since September 9, 2016. The drop came after news reports that President Trump allegedly asked FBI Director James Comey to back off on the investigation of former National Security Advisor Michael Flynn. The old adage that the market hates uncertainty was promptly trotted out and then run into the ground. Let’s skip the adages and do some analysis on Wednesday’s selloff. 
Reviewing sectors, it becomes clear that this was not a uniform selloff with high correlations. Utilities and real estate were in fact positive because of their sensitivity to interest rates which moved lower. The 10-year U.S. Treasury yield decreased 0.11% to close at 2.22% while the 2-year U.S. Treasury yield closed at 1.25%, bringing the spread between the maturities to less than 1% for the first time since the election. Financials bore the brunt of the drop in yields and flattening of the yield curve as they fell 3%+. 
Moving past interest rate considerations, the selloff displayed a classic “de-risking” in which the most volatile sectors performed the poorest including technology losing 2.7%. Tech has been the best performing sector during this historically calm year (see bottom of this week’s graphic); however, that lack of volatility could be misleading as noted by Convergex. The CBOE Volatility Index (VIX) has been flat at historically low levels, but the “VIX” of large cap tech stocks (as determined by option pricing) is up 10% over the last month. The move is especially meaningful given tech’s importance to the market, asset managers, and retail investors. The tech sector comprises 22% of the S&P 500 as well as three of the top four holdings (Apple, Microsoft and Facebook). Due to its post-recession performance record, it has become the preeminent sector for overweighting for outperformance. “Put another way: forget the VIX and focus on tech stock options pricing.” Implications are that the market isn’t as complacent as it appears. 
What could further political turmoil mean?
The biggest risk factor is that an investigation would derail or postpone legislative efforts for tax reform, infrastructure spending, etc. Corporate earnings are on track for a 13.9% increase from the previous year per FactSet, but with valuations elevated, fiscal reform would provide another viable path for a move upward for the market. There’s also the “soft data” aspect of a steady stream of stories negatively impacting business optimism and consumer confidence. As far as potential impeachment is concerned, the two cases in modern times (Clinton and Nixon who resigned) faced opposition parties while Trump has Republican majorities in the House and Senate, making that scenario very unlikely.
Recessionless
The major stock indexes recovered approximately half of their losses on Thursday and Friday. Investors were able to refocus from the political turmoil to continued positive earnings announcements and economic data. The Conference Board Leading Economic Indicator (LEI) which compiles ten components to signal peaks and troughs in the business cycle climbed to a new high based on April data. “The recent trend in the U.S. LEI, led by the positive outlook of consumers and financial markets, continues to point to a growing economy, perhaps even a cyclical pickup,” said Ataman Ozyildirim, Director of Business Cycles and Growth Research at The Conference Board. Doug Short from Advisor Perspectives smooths out and tightens up the indicator by using its six month rate of change. The LEI has historically dropped below its six month moving average between 2 to 15 months before a recession. The latest reading suggests no near-term recession risk.
Bottom Line:  On Wednesday, the stock market experienced its largest decline year-to-date in response to reports that President Trump attempted to influence the FBI’s investigation of former advisor, Michael Flynn. The financial sector recorded the largest loss due to a drop in interest rates. Other “risk” sectors such as technology experienced losses greater than the market as well. Although the market has shown a remarkable lack of volatility in 2017, technology option pricing shows that the volatility index may not be reflective of actual market risk. Political turmoil could negatively impact markets if it delays the legislative agenda and continues without resolution. The stock market partially rebounded on Thursday and Friday in recognition of positive corporate earnings and economic data. The Conference Board’s Leading Economic Indicator moved higher, and shows no risk of recession on the immediate horizon.
Have a great weekend!
Timothy W. Ellis, Jr., CPA/PFS, CFP®
Wealth Strategist
 
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This communication and its content are for informational and educational purposes only and should not be used as the basis for any investment decision. The information contained herein is based on publicly available sources believed to be reliable but not a representation, expressed or implied, as to its accuracy, completeness or correctness.

Sources include
Wall Street Journal, Convergex, FactSet, Conference Board, Advisor Perspectives. This information presented is provided for educational purposes only and should not be construed as investment advice or an offer or solicitation to buy or sell securities. No information available through this communication is intended or should be construed as any advice, recommendation or endorsement from us as to any legal, tax, investment or other matters, nor shall be considered a solicitation or offer to buy or sell any security, future, option or other financial instrument or to offer or provide any investment advice or service to any person in any jurisdiction. Nothing contained in this communication constitutes investment advice or offers any opinion with respect to the suitability of any security, and has no regard to the specific investment objectives, financial situation and particular needs of any specific recipient.
 
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