Forget the election. Forget stimulus. The market is getting ready for better economic growth.
You wouldn’t know it from this past week’s returns. The
Dow Jones Industrial Average
fell 270.74 points, or 0.9%, to 28,335.57, the
S&P 500 index
declined 0.5%, to 3465.39, and the
dropped 1.1% to 11,548.28, ending a four-week winning streak.
The market was whipsawed by the back-and-forth negotiations over stimulus. Talks seemed to have stalled by the close of trading on Friday, and without more stimulus, the economy—and the stock market—have gotten as good as they can get.
Earnings season would seem to confirm that suspicion. Not the results themselves, which have been quite good. Of the 135 companies that have reported so far, 83.7% have topped earnings forecasts, well above the long-term average of about 65%, while the average earnings number has been 17.7% above expectations, five times the long-term average of 3.5%. The S&P 500 has responded to such great numbers by dropping 1.9% since
(ticker: JPM) report kicked things off on Oct. 13. Together, the lack of stimulus and the lukewarm response to earnings would seem to imply tougher times ahead for stocks.
But maybe not. The reason: The market appears to have different standards for perceived Covid winners and losers.
(NFLX) dropped 8% this past week because it added just 2.2 million subscribers, below its own forecast for 2.5 million.
(KMB) raised its full-year guidance, but earnings fell short of analyst forecasts and the stock fell 11%.
(CTXS) tumbled 11% despite an earnings beat as investors worried about the transition of its business to the cloud. There was no good excuse for failing to meet high expectations.
Companies that had seen their businesses hurt during the early stages of the pandemic were rewarded for showing signs of improvement.
(ALGN), maker of Invisalign, jumped 40% this past week after its earnings nearly quadrupled estimates, while Snapchat parent
(SNAP) surged 55% after reporting a surprise profit and noting that advertising had started to normalize.
Even a miss was rewarded if management could offer believably upbeat commentary about the future:
Las Vegas Sands
(LVS) gained 12% after its CEO said he remains “optimistic about the eventual complete recovery of travel and tourism spending across our markets.”
That these stocks shot higher even as Covid cases in the U.S. continue to rise at alarming rates suggests that investors believe the economy can continue to grow in the months ahead despite the virus. And other parts of the market are starting to send a similar message. The ratio of copper to gold prices has risen to 0.1633 and is trending higher, a sign that economically sensitive stocks could be set to outperform.
And just as important, the 10-year Treasury yield rose 0.097 percentage point to 0.840% this past week, signifying a possible pickup in economic growth. That’s typically a signal that the economy is getting better and that inflation is starting to rouse.
“The market is starting to price in a reacceleration next year,” says Andrew Slimmon, managing director at Morgan Stanley Investment Management. “To me, it’s a much bigger theme than just fiscal stimulus and what happens with the election.”
Still, don’t count out the impact of the election. Not because it matters for the market which candidate wins and which candidate loses—it doesn’t, and I’ll stick to that—but because the uncertainty over who will win is an overhang until it passes. Waiting for the vote has helped keep stocks volatile but rangebound since an early October rally. And it’s probably what has kept the 10-year Treasury yield from rising even more.
“The passage of the event risk is more important than the actual changes that come with the election,” says Ian Lyngen, head of U.S. rates strategy at BMO Capital Markets. “We’ll have a much truer read on fundamentals once the election has passed.”
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Fundamentals suggest that bond yields should be much higher. Ed Yardeni, chief investment strategist at Yardeni Research, argues that the current copper-to-gold ratio implies a 10-year Treasury yield near 1.61%. The Citigroup Economic Surprise Index, a measure of whether economic data releases are coming in worse or better than expected, also points to higher yields.
That’s certainly good for bank stocks—the
SPDR S&P Bank
exchange-traded fund (KBE) rose 6.4% this past week—and other economically sensitive sectors will likely get a boost too. “The stock market is saying we’re going to get out of this relatively soon,” Morgan Stanley’s Slimmon says. “And that’s why you want to be optimistic now.”
There will be reasons for pessimism later.
Write to Ben Levisohn at Ben.Levisohn@barrons.com