Evolving Expectations for the S&P 500 Nearing the End of 2018

As we enter the final full week for trading in 2018, we find that S&P 500 (Index: SPX) investors appear to be splitting their forward-looking attention between the first and third quarters of the new year in setting today’s stock prices.

We believe the reason for this split is two-fold. First, political control of the U.S. House of Representatives is changing from the Republican party to the Democrat party in 2019-Q1, which will come with a host of policy changes that can impact the outlook for businesses and the economy depending upon how far they might be expected to advance.

Second, investor concerns about the Fed’s plans for future rate hikes are now at elevated levels because of the recent partial inversion of the U.S. Treasury yield curve. Further Fed rate hikes can only exacerbate that situation and increase the likelihood of a recession given the current market environment, where the Fed is expected to hike rates by a quarter point later this week. The bigger question is how many more hikes will follow in 2019?

A month ago, investors had been anticipating two rate hikes in 2019, one in March 2019 and another in September 2019, following the long anticipated hike in December 2018. Two weeks ago, investors were betting on the scenario that there would be at least one hike in the next year, coming in June 2019.

In a sign of how rapidly expectations for the future are changing, as of Friday, 14 December 2019, the CME Group’s FedWatch Tool is still forecasting just one Fed rate hike in 2019, which has been pushed out into September 2019. The following image captures the FedWatch Tool’s estimated probabilities for rate hikes by amount and date, which indicates that there is a greater than 50% probability that the Fed will hike its Federal Funds Rate to the 2.50-2.75% (or 250-275 basis points) range or higher at the conclusion of its 18 September 2019 meeting during 2019-Q3.

Although the red-highlighted sections of the chart indicate the rate hike occurring after the Fed’s 30 October 2019 meeting (in 2019-Q4), summing the probabilities that the Federal Funds Rate hike will be 2.50%-2.75% or higher at the Fed’s 18 September 2019 meeting confirms that investors are currently giving better-than-even odds of Fed rate hike at this earlier date. As we noted before, these expectations have been evolving rapidly in recent weeks, where perhaps the CME Group’s tabulator has gotten a bit ahead of the curve….

That said, this is the last edition of our S&P 500 Chaos series for 2019, unless market events prompt a special edition. Otherwise, we’ll return with a year-end catch-up edition in early January 2019! Until then, here are the major market-moving headlines for the week that was Week 2 of December 2019.

Monday, 10 December 2018

• Oil falls nearly 2 percent on stocks sell-off, pares OPEC deal gains
• Fed seen slowing, or even stopping, rate hikes next year
• China, U.S. discuss road map for next stage of trade talks
• Wall St. ends choppy day higher; tech helps, Brexit weighs
• • Almost half of S&P 500 stocks in a bear market
  • Deep losses leave Big Tech with small earnings multiples
  • Global stock decline on growth, Brexit worries; Wall St. gains

Tuesday, 11 December 2018

• Oil pares gains on threatened U.S. government shutdown
• China, U.S. discuss road map for next stage of trade talks

• Trump says ‘very productive’ talks with China
• White House expects China to cut car tariffs after trade call: auto executive

S&P 500, Dow edge lower as U.S. shutdown threat, China trade in focus

Wednesday, 12 December 2018

• Oil ends lower on Iran comments despite Libya, OPEC supply cuts
• U.S. mortgage activity hits 2-month high as interest rates fall: MBA
• China preparing plan to increase access for foreign companies: WSJ

• Trump says would intervene in arrest of Chinese executive

Exclusive: Trump says Fed shouldn’t hike rates, but calls Powell ‘a good man’

Wall Street closes up, investors optimistic on China trade

Thursday, 13 December 2018

• Oil prices edge up on hopes global supplies will tighten
• Wall Street ends flat as nervous investors flock to defensive shares

Friday, 14 December 2018

• Oil drops 2 percent on Wall St. losses, weak China data
• China’s consumers, factories take a beating as economic gloom deepens
• Lump of coal? Wall St. looks to Fed outlook Wednesday for early Christmas gift
• Wall St. tumbles on global growth worries, J&J decline

• Special Report: J&J knew for decades that asbestos lurked in its Baby Powder

Barry Ritholtz has outlined the positives and negatives among the week’s major economics and markets-related news over at The Big Picture.

On a more general publishing note, Political Calculations will be covering a handful of stories this week before signing off for our annual hiatus until 2019, including an update for our U.S. recession probability estimates following the Fed’s meeting on Thursday and also the biggest math story of 2018 as our final post of 2019, which we haven’t yet scheduled – all we know right now is “before Christmas arrives”. Thank you for reading, and have a wonderful holiday season!