The impacts of the U.S. Tax Reform passed in late December continued its reverberation at the beginning of the year as investors digested how it would affect both cor- porations and individuals. Among the top celebrated aspects were the elimination of the healthcare mandate, the repatriation of overseas cash, the lowering of corporate and individual tax rates, and the doubling of the estate tax threshold. Strong 4th quarter earnings reports, plus the additional positives from tax reform pushed stock indices to successive new highs in January. However, after nearly two years with little volatility, stocks succumbed to a major correction in February and March. For the first quarter of 2018, stocks declined about 2% on average. Bonds were down a similar percentage. U.S. economic fundamentals remain solid in terms of job growth, manufacturing, and consumer spending. Since overall economic growth remains strong, the market correction is not expected to be pro- longed.
The U.S. economy remained on a confirmed growth track in the 1st quarter. Concerns about infla- tion, an overheating economy, and an unknown new Fed chair led to some uncertainty. ISM Manufacturing levels remained at record highs, and unemploy- ment rates continued to stay at low lev- els. As expected, the Federal Reserve implemented a .25% interest rate hike, and the new Fed Chair Jerome Powell maintained the forecast of two additional hikes for 2018. By the end of the 1st quarter, concerns about an overheating economy largely went away based on very low inflation results. After the Federal Reserve meeting on March 21, and the slightly lower March jobs report, in- terest rates declined somewhat across the yield curve.
During the stock market correction, signs of sector rotation be- gan to emerge. At the time of this writing, technology and consumer discretionary sectors are the only two of eleven S&P Sectors in positive territory for the year. The gains in the consumer discre- tionary sector were also led by tech-related names. Financials, health care, and industrials have been slightly negative year-to-date. The price of oil has found a channel between $60-$65 bbl, but the energy sector as a whole has not yet favorably respond- ed. The 4th quarter earnings season showed tremendous growth and momentum, with a majority of companies raising buybacks and dividends. It is expected the 1st quarter earnings reports released in the coming weeks will verify positive results and reboot the stock market.
In the wake of the latest round of stellar corporate earnings, the repatriation of overseas cash, low inflation, and strong employment numbers, the mar ket resumption of “rational exuberance” continues to hold. Even the recent threat of a trade war with China is not expected to have long-term effects. Market correc- tions are never pleasant, but represent a healthy re-balancing when valuations get out of equilibrium. Since 1976, there have been 11 similar non-recession corrections. In all cases, stocks had positive returns in the subsequent 3 months.