With the shutdown finally a thing of the past, the bottleneck on economic data was lifted last week and investors started to receive some important clues on where the U.S. economy is heading as the year ends.
As I write in my new weekly commentary, the long-delayed and mixed September jobs report was consistent with my view that the labor market is stuck in slow growth mode. And outside of the jobs market, other measures of economic activity - such as orders for durable goods and a sales forecast cut from construction equipment company Caterpillar (NYSE:CAT) - pointed toward slow growth as well.
The basic takeaway from the data seems to be that we're still in a world of 2% U.S. economic growth with little evidence of a pickup, partly thanks to the recent government shutdown's impact on business and consumer confidence. In other words, while the U.S. economy isn't falling off a cliff, it also doesn't appear to be accelerating.
Yet this news doesn't appear to be bothering investors, and stock markets have advanced despite the mediocre economic data. Why the optimism?
It probably comes down to the fact that investors now expect a more benign Federal Reserve (Fed). Investors are lowering their expectations for growth, but at the same time, they're pushing back expectations for Fed tapering and an initial hike in short-term rates. In short, they now expect a "lower-for-longer" policy from the Fed.
This change in expectations can be seen in economist forecasts for both growth and rates. For the first time since last May, analysts are modestly lowering their outlook for where long-term rates will be in three to six months.
So what are the investing implications? There are two main ones:
1. Range-bound rates. Rates are likely to remain range bound for the remainder of the year, or at least until economic data start to surprise to the upside.
2. Further stock market gains are predicated on a continuation of a "Goldilocks" environment of modest growth and an accommodative Fed. While a more benign rate environment is good news for stocks, equities will have to manage a delicate balancing act. If the economy stalls further, earnings estimates will need to be sharply reduced, probably hurting stocks. Meanwhile, if the economy begins to accelerate, we're likely to see some pressure on stocks as investors once again reverse their rate expectations.