What We're Talking About This Week!

• Weekly Market Reset

• Key Economic Reports This Week

• Dividend Landscape

• Market Outlook

Weekly Market Reset

Last week’s inflation data priced in some belief that the Fed was no longer on pace to cut rates at quite a rapid pace. In my opinion, that’s probably not a bad thing since it looks like inflation risk is rising again. The labor market is cooling, but it’s not to the point of breaking down. GDP growth is still running at a 2-3% clip, more than enough to talk off the possibility of recession in the near-term. Those two factors alone support a normalization of rates, not necessarily a more aggressive rate cutting cycle designed to boost the economy.

But then we’ve got the additional wild cards of the Fed planning on introducing more liquidity in Q4 along with China introducing a massive stimulus package at some point in the near future. More liquidity is generally great for stock prices, but it runs the risk of reigniting inflation (and quickly) if left unchecked. Adding liquidity in a struggling economy is one thing. Adding liquidity in an already healthy economy runs the risk of overheating.

TIPS are showing that investors are starting to add inflation protection. Gold prices are holding at record levels. Yields are starting to move higher again. I think the markets are realizing that there are some risks building under the surface. The question is when those risks might turn into something bigger or be realized at all. As long as the markets stay in this “safe” zone of solid economic growth, a resilient labor market and inflation holding, there’s a case to be made that equity prices could be headed for another leg higher, especially in Q3 earnings start looking good.

But it’s important to remember that we’re entering a period where volatility has historically started to rise. October is traditionally a more volatile month (a VIX of 20 isn’t necessarily elevated, but it is noticeably higher than the low teens where it’s been hovering for a while). Plus, the election in a few weeks creates a lot of uncertainty around two very different paths depending on who ends up winning.

The markets overall seem to be in a good place for the time being, but it could easily be thrown for a loop at any point over the next several weeks.

Key Economic Reports This Week

On the U.S. calendar, September retail sales will be the only major data release of note, although nearly a dozen different speeches from Fed members should give the markets a lot of information to chew on. Over the past several months, we’ve seen sales remain surprisingly durable even though high costs have impacted consumer behaviors and retailers have warned of waning demand. With the Fed having initiated its first rate cut and rates falling for both loans and mortgages from their peaks earlier this year, we could be seeing some pressure finally being eased off of consumer budgets.

Globally, the focus remains on China and what the country’s big stimulus plans could entail. Chinese equities dropped on a lack of clarity about the measures last week, so the markets will want details and decisive action in order to push equity prices higher again. On the data side, China’s Q3 GDP reading will be closely watched to see how far off the country’s 5% target the economy really is. The PBoC has talked about the stimulus package as a means of getting to that 5% goal by year-end, but they may ultimately be farther off than they think.

Dividend Landscape

Dividend stocks are continuing to do well relative to the broader market. The strength in cyclicals has been a big lift, although participation from more cyclically-sensitive areas of the market would be better. Defensives continue to underperform here and utilities finally broke down in a big way last week. If rates keep moving higher here, utilities will probably struggle to keep up, but that could be good news for the rest of the dividend stock universe.

Until something breaks and we get some type of stronger indicator that the economy is vulnerable, whether it’s inflation or whatever, investors probably shouldn’t count on help from healthcare or consumer staples or other traditionally defensive strategies. In its current state, any strategy that relies more heavily on cyclicals, such as high yield, probably has a better chance of outperforming in the near-term. Central banks from both the U.S. and China are planning on adding a lot of liquidity to their economies in the 4th quarter and that should give these sectors are a big boost. Don’t count out small-cap dividend strategies either.

Market Outlook

There’s not a lot that could potentially move the markets this week. There will be a lot of Fed speak, but that’s more likely to give the markets a brief jostle more than anything. The biggest catalyst I see right now is China and what kind of structure they put around their stimulus plans. Any indications of stronger liquidity injections should help global stock prices pretty well.

Any sense of a flight to safety in Treasuries seems to have dissipated for the time being. I think Treasury yields could hover around current levels for a period as they digest the past couple of weeks and figure out where to move next. For now, however, it looks like risk assets might still have the green light.

Looking better for: tech, dollar, TIPS, convertible bonds

Looking worse for: healthcare, energy, low volatility