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While we all expected a scare from ghosts and goblins ringing our doorbells on Halloween, the so-called “fear index” is what caused a fright on October 31st. Officially known as the Volatility Index (VIX), the VIX measures the stock market’s expected volatility over the next 30 days. The index reached its highest level in months with a 23.1 reading on October 31st. To put this in context, the VIX hovered around its average level of 15.0 for the 12 months prior.
This was followed by a quick drop-off post-election. While this rapid decline may be interpreted as a positive sign, it might also overestimate the certainty we have received thus far.
Here is what we know for certain:
• Trump had a strong victory, winning the Electoral College and the popular vote.
• Republicans won control of the Senate.
• The Federal Reserve reduced short-term interest rates by ¼ of a percent on November 7, to a range of 4.5-4.75%.
The descent from peak uncertainty has only just begun. We’ll track future shifts in the VIX to see how this plays out over the upcoming weeks.
Equities
October brought certainty to a strong third-quarter earnings season. According to Factset, at the end of October, 70% of the companies in the S&P 500 reported actual results. At this point in the calendar, we expect a 5.1% earnings growth rate, the fifth consecutive quarter of year-over-year earnings growth for the index.
We can also be certain that markets are expensive. According to Orstenn Slok, Chief Economist at Apollo, the average trailing P/E ratio of the top 10 biggest companies is almost 50, and all but three are above the elevated 26.1 P/E ratio for the S&P 500 Index.
It is positive to see strong earnings growth in corporate America continue, but there is some caution with how much investors are paying for the earnings with current multiples.
Some other inputs that we will be tracking over the coming weeks:
• We are relatively confident that the 2017 tax cuts will be renewed when they come due in the second half of 2025. This should further support corporate earnings.
• Tariffs are likely to be implemented, but the timing and magnitude are still uncertain.
Fixed Income
Just days after the election, the Federal Reserve reduced the Federal Funds Rate by a ¼ of a percent to a range between 4.5 and 4.75%. Interest rates at these levels are broadly considered to remain in the restrictive territory for economic activity, supporting continued drops in inflation while keeping economic growth solid.
Given election results and potential policy implications, the markets now suggest that the end of the recent easing cycle may be sooner than expected and at levels closer to 4% than previously thought. As you can see, since September 17, the Fed Funds target range has moved down ¾ of one percent. However, longer-term yields such as the 5-year interest rate increased by nearly the same ¾ percent. The market suggests that yields are likely to remain higher for some time, which may present income opportunities for investors.
One final area worth watching is the US Deficit and the increased spending expected in the Trump administration. We already have bloated debt levels and investors may begin to demand a higher yield to own longer-term US Government debt.
Portfolios: What are we watching and why?
Cabinet Appointments:
The upcoming weeks should provide clarity into which campaign promises will become policy in the new administration. We will be watching:
• Who President-Elect Trump surrounds himself with and their priorities
• Appointments to the Cabinet and their priorities
Appointments of particular interest are those to the Federal Trade Commission and other regulatory bodies given the impact on corporate activity.
Tariff Aggressiveness:
As mentioned above, tariffs will be important to monitor for potential investment opportunities. We cannot assume that campaign promises will become implemented policy so we will be monitoring this closely.
Inflation:
Data shows decreasing inflation rates while remaining above the Federal Reserve’s target of 2.0% inflation. Will this downward trend continue, or will President Trump’s policies be as inflationary as expected? This will be important to watch, as any change to the current downward trend could present risks to future economic growth.
Conclusion
Finally, there are many inputs when building investment portfolios, but we always start with the business cycle and strength of the economy. On both fronts, there is a reason to be constructive going forward. The question going forward is where to invest in the markets, not if we should be investing at all.
In the short term, we expect more investment opportunities to present themselves in the coming weeks and months as decisions are made on policy priorities and political appointments.
In the medium- to long-term, we will continue to assess the impact of implemented policies on economic growth, U.S. productivity, and corporate earnings and adjust portfolio positioning as needed.
