Financial Industry Insights from Advisors Asset Management


AAM Viewpoints – Potential Early “January Effect” by Thanksgiving Week

A mini “retest” of the late October lows is still very possible, but I expect trading volume to dry up on any retest. The broader market averages may pullback one more time. However, by Thanksgiving week, I expect that the overall stock market will benefit from an early “January effect” and that small capitalization stocks will benefit from this very predictable seasonal surge.

Normally, as an earnings announcement season winds down, the S&P 500’s sales and earnings slowdown. However, the S&P 500’s third quarter sales and earnings announcements are getting even stronger. Amazingly, with over 85% of the S&P 500’s earnings announced, average sales growth has accelerated to 10.3% and average earnings growth is now running at a stunning 28.9%. Many companies are lowering their sales guidance, but I suspect they are really just trying to lower expectations, so they can surprise again for the next announcement season.

Naturally, the big news last week was Tuesday’s mid-term elections and for once, the pollsters were correct this time. The GOP picked up important seats in the Senate (two of which are being contested in recounts) but lost the House of Representatives and some Governorships. Gridlock is now virtually guaranteed in Congress, which Wall Street celebrated, since it has traditionally preferred gridlock. So other than infrastructure spending and maybe more drug pricing reforms, not a lot is expected from Congress for the next two years.

In the meantime, President Trump and widely anticipated new House Majority Leader, Nancy Pelosi, have pledged to work together. Naturally, this bipartisan cooperation likely will not last forever, but the stock market tends to celebrate a less toxic political atmosphere for at least six months after the mid-term elections are over. In fact, according to Bespoke, post World War II, the S&P 500 has risen by an average of 8% (7.7% median) and 13.9% (17% median) during the next three months and six months, respectively. Furthermore, according to Bespoke, the S&P 500 is higher 94.4% of the time during the next three and six months after the mid-term elections, post World War II.

I should add that the Federal Open Market Committee (FOMC) met this week and Fed Chairman Jerome Powell did not have an official press conference. This lack of a press conference is a clear sign that Fed Chairman Powell does not want to comment on the FOMC’s widely anticipated Fed rate hike at its December FOMC meeting or be criticized again by President Trump. The FOMC statement acknowledged a “deteriorating business climate” due to a slowdown in business spending, but this comment was not apparently deemed dovish, since Treasury yields rose.

Interestingly, I was carefully watching the Treasury auctions this week and am happy to report that the bid-to-cover ratios improved to over 2.5, which means that Treasury yields are less likely to rise much in the upcoming weeks. I should add that with the 2-year Treasury yield at 2.98% and the 10-year Treasury yield at 3.24%, the yield curve is very flat, so a December FOMC key interest rate hike is likely.

The Institute of Supply Management (ISM) announced this week that its non-manufacturing, service sector index slipped a bit to 60.3 in October, down from a robust 61.6 in September (a 21-year high). Since any reading over 50 signals and expansion, plus readings over 60 are rare, I can confidently say that the service sector remains hotter than hot. In fact, almost all service sectors reported an expansion. The only sector to decline was education, but the start of a new school year likely impacted the education component. I should also add that new orders were unchanged in October and remain at a very healthy level. Overall, the service sector’s strength bodes well for fourth quarter GDP growth.

The Energy Information Administration (EIA) reported last Wednesday that U.S. crude oil inventories surged by 5.8 million barrels to 432 million barrels, which is the highest inventory since June and the ninth straight weekly rise. The EIA also reported that crude oil production is now running at a record pace of 11.6 million barrels per day. We believe this record crude oil production should continue to help reduce the trade deficit and boost GDP growth.

It is perfectly normal for crude oil inventories to build in the fall and winter months, simply because we tend to drive less. Due to the fact that sulfur is being removed from all fuels internationally, including the heavy oil that ships utilize, the crack spread between sour to sweet crude oil remains abnormally wide, which is very favorable for companies that operate refineries. I should also add that despite lower crude oil prices, energy companies are expected to have the strongest earnings in the New Year due to more favorable year-over-year comparisons.

Finally, the Labor Department announced today that the Producer Price Index (PPI) rose 0.6% in October, which was substantially higher than economists’ consensus estimates of a 0.2% increase. This represents the largest monthly increase in wholesale prices in six years. A relatively new PPI component, namely “final demand prices,” accounted for over 60% of the PPI increase and many economists suspect that higher tariffs impacted this PPI component. I should also add that final demand prices are a volatile component and not always a reliable inflation indicator. As an example, when food and energy is excluded, the old core PPI was unchanged in October. Furthermore, when excluding food, energy and trade services, the new core PPI rose 0.2% in October. Wholesale food prices rose 1%, energy prices rose 2.7% and trade services rose 1.6% in October. Overall, the PPI report was a “component” mess and it appears that tariffs significantly impacted the final number. Clearly, energy prices are falling due to supply and seasonal factors, so the October PPI was very confusing and hopefully the November PPI be much more transparent.


CRN: 2018-1105-7010R

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the Disclosures webpage for additional risk information at commentary-disclosures. For additional commentary or financial resources, please visit



Effective, June 10, 2016, please note that Gene Peroni left Advisors Asset Management (AAM) to become President of Peroni Portfolio Advisors, Inc. Peroni Portfolio Advisors, Inc. ("PPA") is an investment advisor independent of AAM.


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