Halloween Special: What Would Spook Markets?

With Halloween looming, what might spook markets during the last two months of the year? Let’s start with this week’s Federal Reserve policy meeting. Investors believe that there’s about a zero chance that the central bank will increase rates this week, especially given that the two-day confab occurs less than a week before the presidential election. (The futures market implies a 75 percent chance of a December rate hike.) That said, there could be an argument that the stronger than expected 2.9 percent annualized gain in third-quarter GDP growth confirms that the economy has recovered smartly from the little over one percent rate seen in the first half of the year and could easily absorb another quart-point hike. In minutes from the September FOMC meeting, “Members generally agreed that the case for an increase in the policy rate had strengthened” and the advance reading of Q3 GDP only adds to that case. A surprise November rate hike would quell Donald Trump’s rhetoric that the fed does “political things” and that fed officials are “not doing their job” and it would also underscore Chair Janet Yellen’s assertion, “that partisan politics plays no role in our decisions about the appropriate stance of monetary policy”. While a November rate hike is unlikely, its occurrence would be a major-league negative shock to the markets.

Another factor that could spook markets would be a significant downshift in job creation. This week’s employment report is expected to show that the economy added 175,000 new jobs in October, slightly ahead of September’s 156,000. Over the past year, there have been nearly 2.5 million jobs created and the unemployment rate has hovered around 5 percent. The reason the rate has not dropped more significantly is because of a concurrent increase in the labor force over the past 12 months. However, if the employment landscape dims in the final two reports of the year, it is likely to cause stocks to tumble and it would also increase the chatter about a looming recession.

By far, the biggest near term risk to markets is a different outcome to the presidential election than what is expected. In other words, a Trump victory may cause a significant selloff, according to recent research conducted by economists Eric Zitzewitz and Justin Wolfers. In their paper, “What do financial markets think of the 2016 election?” the authors looked at currency, stock, bond and options markets globally, and concluded “Given the magnitude of the price movements, we estimate that market participants believe that a Trump victory would reduce the value of the S&P 500, the UK, and Asian stock markets by 10-15 percent...and would significantly increase expected future stock market volatility.” To put that into perspective, the day after the surprising Brexit vote, the Dow Jones Industrials fell by over 3.4 percent, or 611 points, before recovering ground. A ten percent drop in the Dow based on Friday’s close would mean a plunge of more than 1800 points! That’s about as spooky an outcome as any investor might imagine.

Proof of the thesis was seen on Friday afternoon. After news emerged of a renewed FBI investigation into Clinton's e-mails, US stocks dropped, the Mexican peso tumbled and the safe haven of gold gained ground.

MARKETS:

• DJIA: 18,161, up 0.09% on week, up 4.2% YTD
• S&P 500: 2126, down 0.7% on week, up 4% YTD
• NASDAQ: 5190, down 1.3% on week, up 5% YTD
• Russell 2000: 1187, down 2.5% on week, up 4.6% YTD
• 10-Year Treasury yield: 1.85% (from 1.74% week ago)
• British Pound/USD: 1.2186 (from 1.2227 week ago)
• December Crude: $48.66, down 4.2% on week, first loss in six weeks
• December Gold: $1,282.10, up 0.7% on week
• AAA Nat'l avg. for gallon of reg. gas: $2.22 (from $2.22 wk ago, $2.19 a year ago)

THE WEEK AHEAD:

Mon 10/31:

8:30 Personal Income and Outlays

9:45 Chicago PMI

10:30 Dallas Fed Mfg Survey

Tues 11/1:

Coach, Pfizer

Motor Vehicle Sales

FOMC Meeting Begins

9:45 PMI Manufacturing Index

10:00 ISM Mfg Index

10:00 Construction Spending

Weds 11/2:

Clorox, Fitbit, Time Warner, Whole Foods

8:15 ADP Private SecotrEmployment Report

2:00 FOMC Policy Announcement

Thursday 11/3:

CBS, GoPro, Kraft Heinz, Starbucks

8:30 Productivity and Costs

9:45 PMI Services Index

10:00 Factory Orders

10:00 ISM Non-Mfg Index

Friday 11/4:

8:30 October Employment Report

8:30 International Trade