(Monday Market Open) An otherwise sleepy August week turned caffeinated ahead of the weekend amid turmoil overseas. Now we’ll see if the buzz continues with a fresh set of Wall Street sessions on tap accompanied by a full earnings and data calendar.
Just a week ago, U.S. markets seemed focused on another strong payrolls number, robust Q2 earnings, and the S&P 500 index (SPX) testing last January’s all-time highs. Things look a bit different as investors face the coming week, and it’s not just because Turkey’s currency fell double digits. Geopolitical rumbles shook much of the financial world over the last few days, and with earnings season winding down, these headlines might continue to influence markets.
Looking back to Friday, the immediate issue seemed to be a 13% weekly plunge in the Turkish lira, which raised questions about some European banks’ exposure to Turkish debt. The U.S. financial sector wasn’t immune to shakiness in European banking stocks, sliding nearly 1% by midday Friday.
The situation with Turkey arguably isn’t just financial, but geopolitical as well. The U.S. threatened to increase tariffs on Turkish steel, leading to some back-and-forth barbs between the two countries’ political leaders. Turkey’s position on the Bosphorus, an important trade route (see more below), and its membership in the NATO alliance might both be on investors’ minds if this sparring continues.
It’s Not Just Turkey
Another geopolitical hotspot appears to be U.S. relations with Russia, which might have taken a turn downward after the U.S. imposed new sanctions last week and Russia threatened counter-measures. There’s also the U.S. relationship with Iran and China to consider as the U.S. imposes harsher sanctions on Tehran and the tariff situation with China remains unresolved. In sum, it’s hard right now to divorce geopolitics from market issues.
One thing to monitor this coming week is potential U.S. trade talks with Mexico and Canada. There were media reports recently that the U.S. and Mexico might be near a deal on automobiles, and Bloomberg reported that Canada might be coming back to NAFTA negotiations soon. Any positive news about possible resolutions to U.S. trade issues with the rest of North America, if it comes, might be a counter to the negative news filtering out of Europe and Asia. We’ll have to wait and see.
Earnings Go Shopping
Until last week, it was a bit easier to push geopolitics into the background because the heart of U.S. earnings season kept the positive headlines flowing with average S&P 500 earnings up more than 24% so far in Q2. Though the season is more than 85% complete, that doesn’t mean earnings won’t continue to be a factor. Some of the key results in the coming week include major names like Home Depot (NYSE:HD), Walmart (NYSE:WMT), Macy’s Inc (NYSE:M) and Nordstrom (NYSE:JWN).
The theme of the earnings week appears to be retail, and that could turn investors’ focus to consumer health. Wages are up 2.7% over the last year and the jobless rate is at nearly 20-year lows, according to the government’s July payrolls data. Now we might get another chance to see if this combination helped send more Americans to the mall or to online shopping sites over the last few months. Watch here for previews of key retail company earnings in coming days.
Still, even if earnings continue to impress, there’s a note of caution now after the S&P 500 index approached its all-time high of 2872 last week and then fell back. From a technical perspective, some analysts might argue that set up some weakness.
Leaving 3% In Rear-View Mirror
In addition, the yield on benchmark 10-year U.S. Treasury notes hit 3% a couple weeks ago but couldn’t hold above that level and fell back below 2.9% by midday Friday amid the turmoil overseas as it appeared some investors stepped into Treasuries as caution took hold. This arguably puts the Fed in a tough place (see more below). The drop in the 10-year yield Friday was sharper than the drop in the shorter-term two-year yield, narrowing the gap between the two back toward decade lows. Some analysts see a flattening yield curve as a negative sign for the economy, though there’s some debate about that. Consider keeping an eye on the relationship between bond yields as the new week gets underway.
Some of the key data investors might want to monitor in the days ahead include retail sales, industrial production, leading indicators, housing starts, building permits and University of Michigan consumer sentiment. All of these reports are due in the coming week.
FIGURE 1: RUSSELL SHOWS SOME MUSCLE. The small-cap benchmark Russell 2000 (RUT - candlestick) was a lone bright spot Friday. Other major stock indices such as the S&P 500 (SPX - purple line) fell on concern that economic woes in Turkey could spill over into eurozone economies. Data source: FTSE, Russell Indexes, S&P, Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.
Market Bumps and Market “RUTs": Sometimes the stock market feels like it’s firing on all cylinders, with virtually all segments performing well. But macroeconomic bumps in the road, such as the one that may be unfolding in Turkey, can be distributed unevenly across the market’s engine. Case in point: The small-cap benchmark Russell 2000 (RUT) outperformed other U.S. indices during an underwhelming Friday morning (see chart above). RUT, which favors smaller, domestic firms, might be less exposed overall to the region. Perhaps this can serve as a reminder to long-term investors that there may be benefits to spreading out one’s holdings, so one clogged fuel injector won’t necessarily stall the engine.
Crude Choke Point Comes Into Focus: Even as weakness spread through many markets Friday amid concerns about Turkey’s currency, one item that didn’t immediately fall was crude oil. In fact, crude prices rose about 1.5% by midday. It’s possible oil just got a bounce after touching seven-week lows earlier this week that might have made the commodity seem oversold to some investors. But the rocky situation in Turkey could also be a factor. Take a map out, if you still own any, and look at Eurasian geography. The Bosphorus Strait runs right through Istanbul, and it’s a global choke point for transit. More than 3% of the world’s crude oil, much of it from Russia and the Caspian Sea, passes through this narrow channel, according to Reuters. With the U.S. and Turkey trading barbs last week and the U.S. imposing new sanctions on Russia, that particular geography could start to loom larger for the oil market in coming days unless things simmer down.
Fed and a Hard Place: The combination of Friday’s currency troubles in emerging markets like Turkey and the release of July U.S. consumer price index (CPI) data arguably puts an unappetizing breakfast on the Fed’s table. Just as the CPI showed 2.4% year-over-year core price growth, the highest since September 2008, bond prices began climbing as many investors apparently became cautious in the wake of the turmoil abroad. The Fed has made it pretty clear it wants to continue its rate hike cycle with the U.S. economy rolling along at 4% growth and unemployment near two-decade lows, but events overseas could make it more difficult for the Fed to execute its plan without potentially hurting foreign markets. When the Fed raises rates, it typically puts steam into the dollar, making dollar-denominated commodities more expensive for struggling emerging markets to buy. The Dollar Index hit a one-year high Friday.
In addition, the European and Japan central banks continue to hold the line on rates as economies there work to regain their mojo, and worries about European banks’ exposure to Turkish debt won’t necessarily inject more investor confidence into markets across Europe. Any U.S. rate hikes would potentially widen the gap between U.S. and overseas borrowing costs. As of Friday, the CME Group (NASDAQ:CME) Fed funds futures market still pointed toward a 93% chance of a Fed rate hike by next month’s meeting. However, chances for a fourth yearly rate hike by the end of 2018 have slipped a bit in the last week, to just over 60% from 70% a week ago.
Disclaimer: TD Ameritrade® commentary for educational purposes only. Past performance does not guarantee future results. Member SIPC. Options involve risks and are not suitable for all investors. Please read Characteristics and Risks of Standardized Options.