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Wednesday, September 20, 2017

Fed to Begin Unwinding, Signals Another Hike

Charles Schwab: On the Market
Posted: 9/20/2017 4:15 PM ET

Fed to Begin Unwinding, Signals Another Hike

U.S. equities finished mixed, rebounding from a brief tumble that came after the Fed left rates unchanged, as expected, but signaled a December hike is likely to be in the cards. Treasury yields rose following the Fed decision, which included insight into the winding down of its behemoth balance sheet, while the U.S. dollar jumped and gold reversed to the downside. Meanwhile, crude oil prices rose following a mixed government oil inventory report and U.S. existing home sales unexpectedly dropped.

The Dow Jones Industrial Average (DJIA) increased 42 points (0.2%) to 22,413, the S&P 500 Index gained 2 points (0.1%) to 2,508, while the Nasdaq Composite declined 5 points (0.1%) to 6,456. In moderate volume, 837 million shares were traded on the NYSE and 2.0 billion shares changed hands on the Nasdaq. WTI crude oil rose $0.79 to $50.69 per barrel and wholesale gasoline was unchanged at $1.66 per gallon. Elsewhere, the Bloomberg gold spot price decreased $10.39 to $1,300.76 per ounce, and the Dollar Index—a comparison of the U.S. dollar to six major world currencies—was 0.8% higher at 92.49.

FedEx Corp. (FDX $221) reported fiscal Q1 earnings-per-share (EPS) of $2.19, or $2.51 ex-items, versus the $3.09 FactSet estimate, as revenues rose 4.1% year-over-year (y/y) to $15.3 billion, below the projected $15.4 billion. The company cited the negative impacts of the cyberattack at its TNT Express unit and Hurricane Harvey. FDX lowered its full-year profit outlook. Shares overcame early pressure and finished higher as analysts appeared to be looking past the TNT cyberattack-induced miss, noting an unchanged long-term outlook and strong fundamentals.

Bed Bath & Beyond Inc. (BBBY $23) posted fiscal Q2 EPS of $0.67, or $0.78 ex-items, compared to the forecasted $0.95, with revenues declining 1.7% y/y to $2.9 billion, missing the expected $3.0 billion. Q2 same-store sales fell 2.6% y/y, versus the estimated 0.7% decline. BBBY lowered its full-year guidance, and shares tumbled.

General Mills Inc. (GIS $52) announced fiscal Q1 profits of $0.69 per share, or $0.71 ex-items, versus the estimated $0.76, as revenues decreased 3.5% y/y to $3.8 billion, roughly in line with forecasts. GIS noted that its U.S. yogurt segment sales were down double-digits and its cereal and snacks unit sales also declined. The company's gross margin fell solidly due to higher input costs, deleverage, and unfavorable trade expense phasing. GIS reiterated its full-year guidance. Shares fell.

Adobe Systems Inc. (ADBE $150) reported Q3 EPS of $0.84, or $1.10 ex-items, versus the estimated $1.01, as revenues grew 26.0% y/y to $1.8 billion, mostly matching expectations. However, shares were lower as the company's experience cloud bookings missed expectations for the quarter, leading to a warning that its Adobe Marketing Cloud segment will not achieve its bookings goal for the year.

Fed to begin balance sheet unwinding, existing home sales surprisingly drop

The Federal Open Market Committee (FOMC) concluded its two-day monetary policy meeting, agreeing to keep the target for its fed funds rate steady at a range of 1.00%-1.25%, a move that was widely expected. The FOMC also kept its near-term rate outlook intact, with 12 of 16 Committee members projecting at least one additional rate increase for 2017, but it lowered its longer-term outlook, indicating 11 of 16 Members forecasted three hikes in 2018. In its statement, the FOMC said that near-term risks to the economy are “roughly balanced,” that the labor market continues to be strong, and that the Committee "is monitoring inflation developments closely." In regards to the recent hurricanes, the Fed indicated that "disruptions and rebuilding will affect economic activity in the near term, but past experience suggests that the storms are unlikely to materially alter the course of the national economy over the medium term." In a separate statement, the Fed also provided details of its plan to begin to wind down its $4.5 trillion balance sheet. In a unanimous decision, the Fed will begin to taper its balance sheet by $10 billion per month—$6 billion from Treasuries and $4 billion from mortgage-backed securities—increasing by $10 billion per month every quarter for the first year.

As well, the Fed provided updated economic projections, showing a slight upward change to gross domestic product for this year, while lowering its forecasts for inflation and keeping its the unemployment rate expectations the same. In her press conference following the decision, Fed Chairwoman Janet Yellen said that she is heartened by the labor market improvement and expects the economy to expand at a moderate pace, but that the Committee is prepared to act if the economy begins to deteriorate. For more insightful analysis of the Fed’s decision, see Schwab's Chief Investment Strategist Liz Ann Sonders' article, The Fed's on the QT, on the Markets & Economy page at, while you can also follow Liz Ann on Twitter: @lizannsonders.

Existing-home sales in August fell 1.7% month-over-month (m/m) to a 5.35 million annual rate—the lowest in a year—compared to the Bloomberg forecast of a 5.45 million pace, and versus July's unrevised 5.44 million rate. Sales of single-family homes dropped 2.1% m/m, but remained slightly above year ago levels, while purchases of multi-family structures rose 1.7%, but were lower y/y. The median existing-home price was up 5.6% y/y at $253,500. Unsold inventory came in at a 4.2-months pace at the current sales rate, down from the 4.5 months rate a year ago. Inventory of homes for sale declined 2.1% m/m, and are down 6.5% y/y, falling for 27 consecutive months. Sales jumped in the Northeast and rose in the Midwest, while sales fell in the South and West. Existing home sales are based on contract closings instead of signings and account for the majority of the housing sales market.

The National Association of Realtors (NAR) noted that sales in the South were hampered by Hurricane Harvey but Chief Economist Lawrence Yun said, "What's ailing the housing market and continues to weigh on overall sales is the inadequate levels of available inventory and the upward pressure it's putting on prices." Despite the supply headwinds facing existing home sales, housing demand remains solid, buoyed by the positive employment front, a key area supporting our view in the latest Schwab Market Perspective: A Cat and Mouse Fall, that the bull market will likely continue. Read more on the Markets & Economy page at, as well as Schwab's Liz Ann Sonders' article, Trying to Reason with Hurricane Season: The Aftermath of "Harma", where she notes that a boost associated with the recovery/rebuilding efforts is likely. Follow Schwab  on Twitter: @schwabresearch.

The MBA Mortgage Application Index dropped 9.7% last week, giving back most of the previous week's 9.9% jump. The fall came as an 8.5% drop in the Refinance Index was met with a 10.8% tumble for the Purchase Index. The average 30-year mortgage rate ticked 1 basis point (bp) higher to 4.04%.

Treasuries finished mostly lower, as the yield on the 2-year note rose 3 bps to 1.44%, the yield on the 10-year note gained 2 bps to 2.27%, and the 30-year bond rate was flat at 2.82%.

Tomorrow's economic calendar will begin with weekly initial jobless claims, which are forecasted to have moved higher to a level of 302,000 from the prior week's 284,000, as well as the Philly Fed Manufacturing Index, with economists anticipating a reading of 17.1 for September following August's 18.9, and culminating with the Index of Leading Economic Indicators (LEI) for August, anticipated to match July's 0.3% m/m increase.

Europe and Asia mixed as markets eye Fed decision

European equity markets finished mixed, with financials seeing some pressure though energy issues gained ground. The markets traded cautiously ahead of today's monetary policy meeting by the Fed in the U.S., which comes on the heels of the European Central Bank signaling that it will begin to discuss dialing back its stimulus measures this fall and the Bank of England noting that a rate hike could be announced in the coming months. Schwab's Chief Global Investment Strategist Jeffrey Kleintop, CFA, discusses the potential changes in global monetary policy in his latest article, How the Shift by Central Banks May Affect the Stock Market, noting that despite the coming shift by central banks towards trimming/tapering their balance sheets, we don't believe the bull market is at risk. Read more on the Markets & Economy page at including Jeff's point that earnings, not easing, remain the key support for stock markets around the world. The euro was flat and the British pound advanced on the U.S. dollar, while bond yields in the region finished mixed. In economic news, U.K. retail sales grew much more than expected in August.

Stocks in Asia finished mixed as the markets treaded cautiously ahead of today's monetary policy meeting by the U.S. Federal Reserve, while looking to tomorrow's decision by the Bank of Japan. Mainland Chinese equities and those traded in Hong Kong gained modest ground, while markets in Australia and South Korea declined. Stocks in Japan slightly extended yesterday's jump, with the yen holding onto recent weakness and following the nation's trade report, which showed exports grew more than expected in August. Markets in India finished flat. Schwab's Jeffrey Kleintop, CFA, offers analysis of the global investing landscape in his articles, What are fund flows telling us about trends and risks in the global stock market?, and, An important benefit to global investors is back after 20 years, on the Markets & Economy page at

In addition to the Bank of Japan's monetary policy decision, the international economic calendar will offer the All-Industry Index from the island nation, industrial orders from Spain, and public sector net borrowing from the U.K.

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