Will the Market Start off the New Year with a Hangover?!

The euphoria that sent the American stock market to a new all-time high in December on the background of expectations for heightened fiscal spending and tax reform in the wake of Trump’s November 8th victory is now evaporating – and is likely to muddy the way ahead for stocks over the first few weeks of 2017.

After sharp 2016 gains, some investors, due to tax considerations, have waited to sell their stock holdings and cash out on their profits until January in order to capitalize on tax cuts that may or may not come. Selling of this type could lead to a market-wide price correction. And add to that the fact that it goes without saying that any mistake made by the Trump administration on the geopolitical front – especially in regards to levying heavy import tariffs on Chinese products – is likely to seep in and worry investors.

Despite the lackluster performance on Wall Street over the last 2 weeks with trading volumes falling to extreme lows, patient Wall Street investors were well-compensated in 2016 with double-digit yields. For many, 2016 will be remembered as the year in which the Dow Jones rallied to within reach of the key 20,000 point level, a level that bears psychological significance but no technical significance. This is the first year in the last 5 years in which the Dow Jones outperformed the S&P 500, the former rising 13.4% in 2016.

The S&P 500 fell 0.5% on Friday, giving it a yield of 9.5% in 2016, substantial returns by any measure in a year in which many had thought we’d see a global recession and a bear market after Wall Street had seen its worst start to the year in history.

The small-cap index, the Russell 2000, which had officially entered a bear market in February of last year – dropping off a full 20% from its latest high – bounced higher later in the year, capping off 2016 with jaw-dropping gains of 20%!

Some analysts see the relative weakness at the end of the year as a regression to the mean. Its seems that many investors have come to understand on an intellectual level – if not on an emotional one – that the latest election-driven rally went overboard and was divorced from reality. Many stocks are now stretched and expensive, meaning that a correction, in whatever form it comes, is in the cards, just a catalyst lacking before it’s set into motion. The sectors that recorded the greatest strength over the last few months are those expected to now take the biggest short-run hit: small caps, financial and industrial stocks. In contrast, the sectors expected to see stability and perform relatively well over the short-run are likely to be utility and basic consumer stocks.

The rally after the November 8th elections catapulted the large indexes to highs, which in their own right pushed stock valuations to their highest levels in years, which raises the question as to the extent to which investors will be willing to pay higher and higher prices for stocks.

It seems that a substantial part of the answer is inseparably linked to the tone of the reports in the upcoming Q4 earnings season. Alcoa (AA) will be the first stock to report, kicking off the season on January 9, 2016.

In the absence of news about firms this coming week, investors will focus on macro figures. This week will be a shortened trading week, starting only on Tuesday. One of the week’s most important figures will be the official December employment report which will be released on Friday – and which is expected to point to 170 thousand new positions in the U.S. job market. Manufacturing figures and factory orders are also expected to be released this week.

Have a great trading week!

 

 

 

 

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Have a great trading week!