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Friday, October 28, 2016

Afternoon Surprise Sparks Brief Market Shock Wave

Charles Schwab: On the Market
Posted: 10/28/2016 4:15 PM ET

Afternoon Surprise Sparks Brief Market Shock Wave

U.S. stocks finished the regular session lower amid some divergent earnings reports and the first look at 3Q GDP, which topped growth forecasts. However, capital markets were noticeably rattled in the wake of the afternoon announcement that the FBI has uncovered and is reviewing new evidence in connection with its investigation of the Democratic presidential candidate. The U.S. dollar, crude oil prices and Treasuries were mostly lower and gold was higher.

The Dow Jones Industrial Average (DJIA) decreased 8 points (0.1%) to 18,161, the S&P 500 Index was 7 points (0.3%) lower at 2,126 and the Nasdaq Composite lost 26 points (0.5%) to 5,190. In moderate volume, 954 million shares were traded on the NYSE and 1.9 billion shares changed hands on the Nasdaq. WTI crude oil decreased $1.02 to $48.70 per barrel, wholesale gasoline ticked $0.03 lower to $1.45 per gallon and the Bloomberg gold spot price advanced $6.66 to $1,275.06 per ounce. Elsewhere, the Dollar Index—a comparison of the U.S. dollar to six major world currencies—declined 0.6% to 98.32. Markets were mixed for the week, as the DJIA gained 0.1%, the S&P 500 Index decreased 0.7% and the Nasdaq Composite was 1.3% lower.

Google parent, Alphabet Inc. (GOOGL $820) reported 3Q earnings-per-share (EPS) ex-items of $9.06, above the $8.62 FactSet estimate, as revenues excluding traffic acquisition costs (TAC) rose 20.9% year-over-year (y/y) to $18.3 billion, versus the expected $18.0 billion. The company noted that its mobile search and video are powering its core advertising business. Shares finished higher.

Amazon.com Inc. (AMZN $776) posted 3Q profits of $0.52 per share, below the projected $0.77, with revenues increasing 29.0% y/y to $32.7 billion, roughly in line with expectations. The shortfall came as the company's operating expenses jumped due mostly to investment on video programming and new warehouses, and AMZN noted that it will continue to invest in its business. The company issued 4Q revenue guidance with a midpoint just shy of forecasts. Shares fell.

Dow member Exxon Mobil Corp. (XOM $85) announced 3Q EPS of $0.63, above the projected $0.58, with revenues dropping 12.9% y/y to $58.7 billion, below the estimated $60.4 billion. The company's upstream earnings—exploration and production—missed expectations on lower commodity prices, while its downstream profits—refining—topped forecasts despite lower margins. XOM traded lower.

Dow component Chevron Corp. (CVX $104) reported 3Q earnings of $0.68 per share, above the estimated $0.40, with revenues falling 12.1% y/y to $29.0 billion, compared to the expected $29.1 billion. Both upstream and downstream earnings topped estimates. CVX traded solidly higher.

Amgen Inc. (AMGN $145) posted 3Q EPS ex-items of $3.02, north of the estimated $2.79, as revenues grew 2.0% y/y to $5.8 billion, versus the projected $5.7 billion. AMGN raised its full-year earnings guidance, while increasing the low end of its revenue forecast. However, softer-than-expected sales and concerns about pricing for its top-selling arthritis drug Enbrel caused some uneasiness among analysts. AMGN moved sharply lower. For analysis of the healthcare cost environment, see Schwab's Chief Investment Strategist Liz Ann Sonders' latest article, Vertigo: Effect of Spiking Healthcare Costs on Consumers, at www.schwab.com/marketinsight and follow Liz Ann on Twitter: @lizannsonders.

First look at 3Q GDP expands more than expected

The first look (of three) at 3Q Gross Domestic Product (chart), the broadest measure of economic output, showed a quarter-over-quarter (q/q) annualized rate of expansion of 2.9%—the biggest rise in two years—from the unrevised 1.4% expansion in 2Q, and above the 2.6% growth forecasted by Bloomberg. Personal consumption came in below forecasts, rising 2.1%, following the unadjusted 4.3% increase recorded in 2Q, and versus the 2.6% gain that was projected. Exports contributed the most to GDP and inventories rebounded from a solid drop in 2Q. However, the softer-than-expected personal consumption figure is likely dampening some of the enthusiasm, along with a negative contribution from fixed investment, which was led by the fourth-straight quarterly drop in equipment spending and a solid decline in residential investment.

On inflation, the GDP Price Index came in at a 1.5% rise, north of expectations of a 1.4% increase, from an unrevised 2.3% gain seen in 2Q, while the core PCE Index, which excludes food and energy, increased 1.7%, topping forecasts of a 1.6% gain, and following the unrevised 1.8% growth in 2Q.

The final October University of Michigan Consumer Sentiment Index (chart) was revised to 87.2 from the preliminary level of 87.9, and compared to expectations of a slight rise to 88.2. The index was down compared to September's level of 91.2. The expectations and current conditions components were below the prior month's level. The 1-year inflation outlook remained at September's 2.4% rate, while the 5-10 year inflation projection declined to 2.4% from 2.6%.

Schwab's Director of Market and Sector Analysis, Brad Sorensen, CFA, offers analysis of the consumer, which is the largest contributor to U.S. economic activity, in his latest Schwab Sector Views: The Most Wonderful Time of the Year…Already? Brad notes that consumer confidence is encouraging heading into the holidays, wages are ticking higher, and the labor market looks healthy, but there are questions whether American consumers' notorious propensity to spend has decreased following the financial crisis. Read more at www.schwab.com/marketinsight, and follow Schwab on Twitter: @schwabresearch.

The 3Q Employment Cost Index (chart) increased by 0.6% q/q, matching forecasts and the increase posted in 2Q.

Treasuries were mostly lower, with the yield on the 2-year note dipping 3 basis point to 0.86%, the yield on the 10-year note shed 1 bp to 1.85%, and the 30-year bond rate was flat at 2.62%. Bond yields took a breather following the recent rally that has come from some relatively upbeat economic data and elevated Fed rate hike expectations and Schwab's Chief Fixed Income Strategist, Kathy Jones notes in her article, Are Bond Yields About to Rise?, the shift to higher yields is likely to be slow, in our view, but markets don’t appear to be prepared for the change. We suggest investors prepare for a potential rise in bond yields by trimming exposure to bonds with either long durations or high credit risk. Read more at www.schwab.com/onbonds and follow Kathy on Twitter: @kathyjones.

With the looming November election continuing to garner attention and preserve political uncertainty, Schwab's Vice President of Legislative and Regulatory Affairs, Michael T. Townsend offers his latest article, Final Clinton-Trump Debate Sets Up a Sprint to the Finish Line, as part of our election 2016 commentary at www.schwab.com/insights/category/election-2016, where you can also find timely analysis of The Stock Market and Election Cycles.

Europe and Asia mixed

European equities finished mixed, with a plethora of divergent earnings reports garnering the lion's share of attention, and crude oil prices continuing to slump to weigh on the energy sector, while 3Q GDP in the U.S. topped estimates. For analysis of earnings and the stock markets, Schwab's Jeffrey Kleintop, CFA, offers an outlook for the stock markets and earnings growth his latest article, Three Reasons Stocks May Avoid Another Lost Decade, at www.schwab.com/oninternational and follow Jeff on Twitter: @jeffreykleintop. In October economic news, German consumer price inflation moved higher, while eurozone economic confidence surprisingly improved. The euro was higher and the British pound dipped versus the U.S. dollar. Bond yields extended a recent rally amid the increase in global interest rates that have started to gain attention of the world markets. Political uncertainty remains ahead of a vote in Spain over the weekend.

Stocks in Asia finished mixed, with the global markets continuing to digest earnings reports from around the world, while political and monetary policy uncertainty remained and focus rose on the recent rally in global bond yields. Japanese equities were standout winners, rising as the yen extended its weakness, while financials got a boost from some positive earnings results. Japanese economic data for September also garnered attention, with consumer price inflation declining, while household spending declined by a smaller-than-expected amount and the nation's jobless rate unexpectedly dipped. Schwab's Chief Global Investment Strategist Jeffrey Kleintop, CFA, offers timely analysis of the global economic picture in his article, World Tour: An Around The World Look At the Economic Landscape at www.schwab.com/oninternational. Australian and South Korean securities declined, while listings in mainland China and Hong Kong also dropped. Indian stocks ticked slightly higher.

Mixed week on uncertainty and plethora of data

U.S. stocks finished mixed on the week, capping off a solid October decline, with the global markets continuing to grapple with uncertainty toward the monetary policy and political landscapes, while the busiest earnings calendar of the season was mixed. Boeing Co's (BA $143) and Procter & Gamble Co's (PG $87) results stood out on the positive side to help buoy the Dow, while Apple Inc's (AAPL $115) guidance for the holiday quarter pressured its shares. M&A jumped back into focus, courtesy of AT&T Inc's (T $37) $85.4 billion agreement to acquire Time Warner Inc. (TWX $88), as well as Qualcomm Inc's (QCOM $69) $47.0 billion deal for NXP Semiconductors NV (NXPI $100). Upbeat preliminary October manufacturing and services reports, along with Friday's stronger-than-expected 3Q GDP growth further bolstered Fed rate hike expectations. As such, the U.S. dollar ticked higher, though Treasury yields continued to rally, boosting financials, but likely bogging down the real estate sector, along with a softer-than-expected new home sales report. Healthcare issues remained under pressure amid mixed earnings results and concerns toward a possible crackdown on drug pricing in the wake of November's Presidential election. Energy stocks finished flat despite a pullback in crude oil prices.

The choppiness in the markets will likely continue next week, with the election looming, earnings season remaining in high gear, and the U.S. economic calendar bringing a plethora of key data, headlined by personal income and spending, the ISM Manufacturing and non-Manufacturing Indexes, factory orders, and the trade balance. However, Wednesday's monetary policy decision from the Federal Open Market Committee (FOMC) and Friday's October nonfarm payroll report are poised to command most of the attention, with traders looking to clear up uncertainty regarding a December rate hike.

As noted in the recent Schwab Market Perspective: Looking Past the Election, economic data continues to support a sluggish growth narrative, although there are glimmers of hope that we could see at least a modest acceleration in 2017. Barring a surprise move on Wednesday, which could jolt the market as odds of a hike at that meeting remain below 15%, the focus on the Fed will move back to the forefront following the election, with all eyes on the December meeting. Fed members have been preparing the market and investors for a hike, and we believe, after several false starts, it will actually follow through this time around. Perhaps equally as important will be the message the Fed sends around the next two meetings regarding what it may be looking to do into 2017. Read more at www.schwab.com/marketinsight.

Next week's international reports worth noting include: Australia—Reserve Bank of Australia monetary policy decision. China—Manufacturing and non-Manufacturing PMIs. India—Manufacturing and non-Manufacturing PMIs. Japan—Bank of Japan monetary policy decision, retail sales and industrial production. Eurozone—CPI, 3Q GDP and Markit's business activity reports. U.K.—Bank of England monetary policy decision and Markit's business activity reports.

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