As expected, last week’s post-election rally lost both some velocity and the sponsorship of the financial sector. The financial sector’s most closely watched proxy, the financial select sector SPDR ETF (XLF) slipped 1.6 percent on the week, its worst weekly performance since early November, ending a five-week stretch of gains.
In fact, though equity markets did post a weekly gain, is was significantly more moderate and mixed, than any we have seen since the Presidential election in early November. On the week the S&P 500 lost 0.1 percent while the Dow Industrials edged 0.45 percent higher and the Nasdaq Composite ticked 0.02 percent higher. In short, equity market gains moderated this week while financials lost ground despite the long- awaited move by the FOMC to raise rates.
It is safe to say that investors had already priced in a move by the Fed, as we have discussed in previous notes, and that as a result, the trading action spoke to the adage of “buy on the rumor sell on the news.” As if to underscore the point more specifically, the banking sector, as measured by the SPDR S&P Bank ETF (KBE) slipped 1.86% on the week.
The pause in our equity market rally and the outperformance by financials are not in anyway unexpected, particularly given the fact that all three majors have posted their most robust gains over the past five weeks in years. A less scientific but no less significant hurdle on investors’ minds is the rising psychological significance of breaching the 20K level on the Dow Industrials for the first time in history. Often investors and markets have approached milestones with trepidation. For example, as a NYSE member and media commentator in the weeks and months leading up to the Dow 10K trade, markets zigzagged for weeks just below the 10K level before finally punching through in a dramatic trade higher that was celebrated with Dow 10,000 caps all over Wall Street.
With the post-Presidential election rally in pause mode, the FOMC December interest rate move behind us and the year coming to a close, investors are looking ahead. To a degree, that vision includes predictions of robust equity market gains, improving economic conditions, a stronger dollar, lower gold prices and higher interest rates. In the case of higher interest rates, investors were given pause with calls by the Fed that three moves in rates are in the cards for next year. Keep in mind that last year at this time, Federal Reserve Vice-Chair, Stanley Fischer projected that four interest rate hikes were in the cards for 2016. We got one, twelve months after the historic move in December of 2015.
Given the still modest inflationary measures in the economy and only modest economic expansion, December’s rate rise was likely all we will see until at least Q2 of 2017. After all, the Fed is still very much data dependent, and our data does not speak to runaway inflation. Rather, modest inflationary pressure that is likely to remain more of a constant than a variable over the next twelve months particularly in light of the OPEC and non-OPEC production limits recently announced. This is good news for investors as modestly rising interest rates represent less risk of derailing our modest economic expansion while still providing a flight path for inflation that falls in line with historical norms.
Investors have been given their Christmas gift early this year thanks to the market’s response to Trump’s unexpected election night victory. It will be in the unwrapping of that present in 2017 that investors will find out whether or not the present they asked for is what they got.