On the latest edition of Market Week in Review, Senior Investment Strategist Paul Eitelman and Rob Cittadini, director, Americas institutional, discussed the recent downtick in business confidence, the likelihood of a pause in interest-rate increases by the U.S. Federal Reserve (the Fed) and the impact of last quarter's market volatility on portfolio positioning.
Slowing global growth, U.S.-China trade war weighing on businesses
Sagging business confidence has made headlines on a global scale recently, Eitelman said, including recently published results from the National Federation of Independent Business, which showed decreasing optimism among small business owners in the U.S. Why? "Corporations appear to be worried about two issues in particular: weakening global growth and the ongoing trade war between the U.S. and China," Eitelman stated.
In particular, the downturn in the Chinese economy has led to heightened worries among businesses, Eitelman noted. On top of this, uncertainties surrounding the U.S.-China trade impasse are also impacting the overall business climate, he said. "This really underscores, in our view, the need for both countries to reach an agreement on trade by March 1," Eitelman said, noting that if this doesn't happen, additional tariffs could be imposed. In a bit of good news, he said that talks between the U.S. and China the week of Jan. 7 appeared to be constructive, with the U.S. indicating more of a willingness to strike a new deal. A continuation in positive news on the trade-war front would likely give business confidence a boost, Eitelman remarked.
Powell indicates pause in rate-hikes - but for how long?
Shifting to monetary policy, Eitelman said that recent remarks by Fed Chairman Jerome Powell indicate that the central bank is likely to pause its quarterly rate-hiking cycle--perhaps through the first half of 2019. Why? "The Fed is likely reacting to two things: The slip in business confidence / softening in manufacturing--and the recent market selloff," Eitelman said, explaining that December's market drop may have shown that there was more downside risk to the Fed's economic outlook than previously thought.
"The central bank's prevailing view throughout 2018 was that the strong performance of the U.S. economy would carry over into 2019," he explained, "but with new risks entering the picture, the Fed is now basically saying it'll wait to assess the latest economic data before making a decision on future rate increases--i.e., the data-dependent approach Powell has talked about."
In Eitelman's opinion, this doesn't necessarily mean that the Fed has shelved rate hikes for the year. "If the economic numbers in the U.S. remain reasonably good, I think that the Fed will probably have to increase interest rates again during the second half of 2019," Eitelman said, "especially given the strength of the labor market and increasing signs of wage growth." In the meantime, the Fed's willingness to adopt a wait-and-see approach has been well-received by markets, with the S&P 500® Index up roughly 5%, as of midday Jan. 11, since Powell emphasized this new approach on Jan. 4.
Is there room for optimism on global equities?
The sharp downturn last quarter led to some changes in the three lenses that Eitelman and the team of Russell Investments strategists assess markets by: cycle, valuation and sentiment. The slowdown in global growth, coupled with a stalling Chinese economy, lends more caution to the team's view of the current business cycle, Eitelman said. "While these data points are not recession indicators, they are meaningful downside risks that we are now taking into consideration," he noted.
The team has upgraded its valuation and sentiment outlook, he said. "In terms of valuation, given the big fourth-quarter selloff, our assessment is now that the global equity market is roughly fairly priced," he explained, "and while we still think that the U.S. market is expensive, we now see it as moderately expensive, as opposed to extremely expensive." Non-U.S. markets, he added, look fairly cheap at the moment.
Turning to sentiment, Eitelman said he believes that the pendulum has swung from being a little overly optimistic at the end of the third quarter to perhaps too pessimistic. "This suggests there may be some scope for a near-term bounce," he explained, concluding that overall, he and the team of strategists are cautiously optimistic on global equities.