Week Ahead: U.S. Budget, Earnings Reports Take Center Stage

 | Jul 16, 2017 08:11AM ET

by Pinchas Cohenh2 The Week That Was/h2

Talking point of the week: Janet Yellen’s 2-day Congressional testimony.

Investors have been frustrated that nothing has been happening, either on economic growth or US fiscal policy.

Monetary Policy

We need to take a step back and look at interest rates globally. Overall, things are just getting started: whether in Europe, the UK or even Canada, where rates were just raised for the first time in 7 years.

We are now entering a world where interest rates are beginning to move up. This s what investors should be rooting for.

After all, why do central banks raise rates? Because economies are getting better; because they want to get ahead of inflation. All the things we’ve been rooting for since the 2008 financial crisis.

On the other hand, there are traders who’ve been in the markets for ten years or less and have never traded within a robust interest rate environment. As such, we're entering a period in which everything the Fed does will be analyzed.

Therefore, the Fed will go slow, to allow everyone to analyze what they're up to. In the big picture, we shouldn’t be scared of rising rates, neither in the US or abroad, because of what it signifies. Equity and bond markets are reacting with a bit of choppiness, but rising rates signify expanding economies – which is a good thing. But on a day-to-day basis, investors will continue to scrutinize every word released by the Fed, something we've seen reflected recently in the markets.

US Fiscal Policy

There's been a lot of conversation on Capitol Hill around both healthcare and tax reform. The Trump administration is taking on two monumental tasks simultaneously. Compare that to the fact that it took President Reagan years to get tax reform through, and it took Obama years to get healthcare through. If the extraordinary size of the task weren't enough, this administration keeps getting bogged down by political distractions.

Investors have been waiting for a long time for Trump’s initiatives to be enacted. If and when anything gets through, will it be proportionate to the wait? At this point, can investor expectations realistically be met? What might the market reaction be once either (or both) of these initiatives actually take effect considering we are already in the second-longest bull market in history. If investors are disappointed, it has the potential to be the catalyst for its end.

Irrational Exuberance?

The classic market top psychology is irrational exuberance – investors are confident about a continuous rally, no matter what. Still, many analysts see this as not yet a market top since not everyone is jumping it all at once, which means there remains a good chance of the market continuing to climb, no matter what.

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However, we've already seen two instances of irrational exuberance:

Trump – The Evil Good-Doer

First, the market went up on the premise that Trump wouldn't be elected, because he was considered bad for the market. When he in fact won the election, the market went up because he was considered good for the market – a change of sentiment that took place within three hours.

Rising rates? Good! Not rising rates? Also Good!

When the Fed made the case for raising rates, markets went up on the outlook of economic strength. When Yellen made the case recently for slower rate hikes, the market went up on cheaper liquidity.

Investors seem to be in a loop that is the exact opposite of “damned if you do, damned if you don’t,” rather “it’s all good, no matter what.” The attitude appears to be: you tell me what’s happening, and I’ll tell you why the market should keep going up.

Risk-on / Risk-off…all at the same time

Since the US elections in early November, there have been periods when both equities and safe havens have gone up, simultaneously, on the same news. That's an anomaly and contrary to inter-market logic, which may suggest a coming catalyst, one way or another.

h3 Economic Leadership/h3

After the Brexit vote, a eurosceptic trend in Europe was triggered, which led many analysts to forecast that Europe was heading toward considerable political uncertainty. However, since the Italian constitutional referendum in early December, which was brought on by sentiment that mirrored that causing EU/UK split, the rest of Europe, while still maintaining a strong eurosceptic political presence, has elected pro-EU parties. As things stand now, we're seeing political stability in Europe, while the US is being buffeted by political uncertainty. Coincidentally—or perhaps not—economic growth is booming in Europe but lagging in the US.

While Europe and emerging markets have taken the lead, the US has higher valuations, making a globally diversified portfolio a promising investment plan.

h2 The Week Ahead/h2 h3 Politics/h3

Overhauling the Federal budget continues to be job one in Washington. The House of Representatives' Budget Committee may roll out a new spending proposal that is critical to crafting a budget that would need no more than a simple majority to pass.

h3 Earnings/h3

Banks, technology and healthcare lead a week jam-packed with earnings reports, including from Netflix (NASDAQ:NFLX), Bank of America (NYSE:BAC), Microsoft (NASDAQ:MSFT), Johnson & Johnson (NYSE:JNJ), General Electric (NYSE:GE) and United Continental (NYSE:UAL).

All times are EDT

h2 Sunday/h2

22:00: China - GDP (Q2), Retail Sales (June): GDP growth expected to be 6.8% YoY and 1.7% QoQ, from 6.9% and 1.3% respectively. Markets to watch: China indices, CNY crosses