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The Markets This Week

November 28, 2016 | Weekly Commentary

Market action during the Thanksgiving-shortened trading week indicated that the postelection rally is no turkey.

Indeed, it has legs. Wings, even.

The Dow Jones Industrial Average and the Standard & Poor’s 500 index rose every day last week, and both were up for the third consecutive week, hitting new records. The Dow jumped 284 points, or 1.5%, to 19152.14. The S&P 500 rose 31 points to 2213.35. The Nasdaq Composite also rose 1.5% to a new record.

The Russell 2000 index, which tracks small-caps, has been on an absolute tear, rising 15.8% in three weeks. On Friday, it clocked a 15-day winning streak.

The market is pricing in a near-certainty of faster gross-domestic-product growth next year, says David Waddell, chief investment strategist at Memphis-based Waddell & Associates. If the current trend is for GDP growth of about 2.8%, “that could go to 4.5% pretty quickly,” he adds. “That’s why there’s so much euphoria. We’ve seen big piles of cash coming into the market. People were so terrified of the election, and now all of that cash is coming back in a hurry. That’s why the market’s not going down, because everybody’s buying every dip now.”

But isn’t that euphoria usually a red flag?

“Do not underestimate the value and amplifier of animal spirits,” Wadell says. “Animal spirits, once unleashed, can be pretty superfantastic economic additives.”

And then, in the style of President-elect Donald J. Trump, he exclaims: “It’s gonna be yuge!”

Despite the rally in the Russell 2000, Waddell continues to like small-cap stocks. Small-cap value names tend to do well during periods of high growth and low taxes, he notes, pointing to the disproportionately large rally among those stocks in the early 1980s. Small-caps benefit the most from tax cuts because they don’t have an army of accountants that can reduce their tax bills.

A cut of six to seven percentage points in corporate tax rates should result in a 10% increase in earnings per share for small-caps, notes Jason Pride, director of investment strategy at Glenmede. And Trump has called for a lot more than that—a decrease in rates to 15% from 35%. “The rally in small-caps is more than justified,” he says.  Waddell’s sense of bullishness is widespread. But not everyone has given up looking for the brake. Jeff Carbone, co-founder of Cornerstone Financial Partners, says the influx of cash at this stage of the rally has begun to make him cautious.

“My fear is people are trying to chase,” he says. “You can see by the inflows that people are starting to think they’re going to miss something.” Sometimes those animal spirits can lead to misconceptions.  Beyond financials, which could benefit from higher interest rates and a rollback in regulations, investors have been making bullish bets on health care, on expectations of changes in regulations and a rollback of Obamacare, and industrials, which could benefit from infrastructure spending.

Tech stocks, which had struggled immediately after the election, rebounded last week. Facebook (FB) rose 2.9% and Amazon.com (AMZN) was up 2.7%. And utilities got a bit of a reprieve after falling since the election; the Utilities Select Sector SPDR ETF (XLU) rose 1.9% on the week.

Precious metals continued to fall, however, belying pre-election expectations that investors would buy gold to hedge against uncertainty. Gold futures dropped 2.5% last week to $1,178.20 per ounce.

The coming week could help determine the path of the market in December. On Friday, the government will release November jobs data, giving investors more clarity on whether the Federal Reserve will be raising interest rates.

(Source: Barrons Online)

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