This week had no shortage of drama as far as market returns are concerned. The skilled portfolio manager will look through the noise and find out what actually has substance.

Some distractions this week are:

US is playing tough with China as it refuses to resume trade talks on forced technology transfers and other economic issues. This will continue to play on investor confidence and we will wait to see what the economic impact is.

“While a deeper and more persistent drop in equity markets could dash confidence and lead to a significant pullback in risk-taking and spending, we are far from this scenario,” said Cleveland Fed President Loretta Mester, who leans somewhat hawkish. The economy is doing “very well,” with inflation at the Fed’s 2% goal and business and consumer spending expected to remain robust, with no strong pullback in a cooling housing market. Ultimately the Fed will reverse course if it sees reason to reverse course. The economy can support higher rates and the Fed will be closely monitoring this. So are we.

Tuesday night, President Trump criticized the Fed Chair Jerome Powell as “every time we do something great, he raises interest rates”. The Fed has tried to maintain its independence as past presidents have tried to preserve their credibility and avoid commenting on Fed decisions. No surprise with this president however unless he replaces Powell, this won’t have an economic impact however it does reduce the ability for the Fed to change stances to a more neutral policy in fear of the appearance of losing its independence. This affects the previous paragraph.

Those are the headlines but are not economic data. The job of a portfolio manager is to filter out the noise and focus on the facts but to also judge the second derivative of any news.

The facts this week are:

  •  S&P 500 returns this week were:
    • Monday: -0.65%
    • Tuesday: +0.72% (intraday low of -1.09%)
    • Wednesday: -2.99% (intraday low of -3.14%)
    • Thursday: +1.15% (intraday low of -0.26%)
    • Month to date return is -8.28% on Thursday’s close with a low of -9.32% on Wednesday’s close
  • Monday:
    • Canada wholesale sales -0.1% from previous of 1.1%
    • Chicago Fed National Activity Index 0.17 from previous of 0.27
    • China’s Shanghai Composite closed up 4.1% as President Xi further vowed “unwavering” support for non-state firms over the weekend, while the country’s stock exchanges committed to help manage share-pledge risks and the government released a plan to cut personal income taxes.
  • Tuesday:
    • German PPI MOM = 0.5% from 0.3%
    • German PPI YOY = 3.2% from 3.1%
    • UK CBI Business Optimism Index -16 from previous of -3
    • UK CBI Industrial Trends Orders -6 from previous of -1
  • Wednesday:
    • German Markit Composite PMI Flash 52.7 from 55
    • German Markit Manufacturing PMI Flash of 52.3 from 53.7
    • German Markit Services PMI Flash of 53.6 from 55.9
    • Bank of Canada increased overnight rates to 1.75% from 1.5%
    • UK Finance Mortgage Approvals 38.505k from 39.241k
    • US MBA Mortgage applications up 4.9% from -7.1%
    • US New Home Sales MoM -5.5% from -3%
    • US Markit Composite PMI Flash 54.8 from 53.9
    • US Markit Manufacturing PMI Flash 55.9 from 55.6
    • US Markit Services PMI Flash 54.8 from 53.9
  • Thursday:
    • US Initial Jobless Claims 215k from 210k last week. Expected at 214k.
    • US Durable Goods Orders Ex Defense MoM -0.6% from 2.5%
    • US Pending Home Sales MoM 0.5% from -1.9%
    • US Pending Home Sales YoY -1% from -2.4%
    • Kansas Fed Manufacturing Index 5.0 from 10.0
  • Friday:
    • German Consumer Confidence 10.6 from 10.6
    • US GDP Growth Rate QoQ Adv 3.5% from 4.2% with expectations of 3.1%

Let’s quickly talk about the second derivative that I mentioned early. This refers to seeing one thing happen and figuring out how that will affect something else that it touches. For example if it rains, you may get wet. The second derivative of that is where does that rainfall flow? Does it flood your basement or does it go down the drainage sewers. Can the sewers handle the capacity of that particular rainfall? What does that mean for any sewers that are unable to handle the additional rainfall?

Economically speaking the US GDP on Friday stood at 3.5% on an annualized basis even though expectations were for 3.1%. Markets would have priced in 3.1% and added growth will show support for a healthy economy and support the Fed’s decision to stay the course on steady interest rate increases.

We interpret the facts as:

  • Canada: Wholesale numbers are a little weaker but not much other data to report on.
  • Germany: PPI better while PMI was softer with the consumer unchanged in these reports.
  • UK: Weak housing and weakening business conditions along with the trouble of still working out BREXIT.
  • US: PMI better, GDP beat, Jobless Claims are still great and Mortgage applications increased while home sales and spending were a little short.

Summary:

Overall we look forward a year and still think that US 10 year bonds are holding up well at 3.14 as of Thursday’s close from the month’s high of 3.24 on Oct. 5. The economic conditions were not great but not horrible either. Until we see further deterioration in the economic numbers to be widespread we see this as a buying opportunity. While volatility may continue until the November US mid-term elections we think the US has good economic prospects and value is beginning to return to the market. The S&P 500 is now 7.5% cheaper than when we started the month as of Thursday’s close.

It’s difficult to stay the course when everyone is running for the doors but that’s the job. Hold strong and see through these sometimes scary situations and focus on the next 10 years.

Weekly Wealth Tip: Stay the course and remember that building wealth is a long term game and not something most people will win in a given day.

To highlight this point I share the story of China opening the world’s longest sea bridge from Hong Kong to mainland China this week at a stretch of 34 miles (almost 55km). This project took almost a decade to build and $20 billion. This cuts travel time from several hours to just 30 minutes.

While saving, investing and being fiscally responsible through the ability to delay spending on non-essential items can be painful in the short term however are you willing to spend the next 10 years of your life building wealth that your family has never seen before?

Just think of how much can be accomplished in 10 years if you stay committed to the course and persevere when things get hard.

I live these words and they have always worked out. I run towards things that are difficult, not away. One of my favourite country artists is Brett Kissel and one of his songs says that “tough times don’t last, tough people do”.

Until next week.

Trevor Dale, CFA

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