An outcome where neither Republicans nor Democrats control both chambers provides markets with reassurance that nothing too radical will emerge, making the outlook for the next two years appear more predictable and the settings more stable……But the complacency might be premature. ~ Stephen Bartholomeusz
With Democrats in control, Donald Trump is unlikely to get further tax cuts through Congress. Even a large infrastructure spending program, which both major parties support, is unlikely to enjoy a smooth passage through the House because of a polarizing President and a federal budget deficit already close to 5.0% of GDP.
The Fed will continue to raise interest rates in order to contain inflationary pressures, fueled by low unemployment and the current budget deficit. Rising average hourly wage rates warn that the Fed will be forced to act.
Earnings growth rates are likely to slow because of higher interest rates, higher wages and higher input costs from imports and trade tariffs (although a strong Dollar may soften the blow). But there is no sign of this in Q2 2018, with profits rising and employee compensation falling as a percentage of value added.
Restraint from buybacks in October — the four weeks prior to earnings releases are known as the “blackout period” — may have contributed to the severity of the recent correction. But now most earnings have been reported and buybacks are likely to return with a vengeance, taking advantage of low prices. I expect support at October lows to hold, though there is likely to be another test in the next few weeks.
Declining Twiggs Money Flow peaks on the S&P 500 warn of selling pressure and it is likely to take several months for confidence to be restored. Recovery above 2850 would be bullish, suggesting another advance.
The Nasdaq 100 respected its long-term rising trendline at 6600. Again, recoveries take time: there are few “V-shaped” corrections and plenty with a “W-shape”.
Buybacks and strong reported Q3 earnings are likely to counter bearish sentiment but there is one wild-card. Trade is one of the few areas where the President still has the reins and he is likely to make full use of them. I suspect that the Chinese will attempt to wait him out, making conciliatory noises but doing little that is concrete, which is likely to frustrate Trump further. He may try to force a deal through before the next election in two years. That could only end badly.
The two most powerful warriors are patience and time.
~ Leo Tolstoy
