Market Direction Week of August 20, 2018©

Market Direction:BULLISH alert issued 2/15/2018 

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Last Week Review: Stocks finished the week higher but took a choppy path to get there. Worries of financial and currency turmoil in Turkey, renewed trade talks between the U.S. and China, and strong earnings reports all took turns driving daily market moves. Now that the second-quarter's earnings season is nearly over, we expect geopolitical events and policy changes to play a larger role in market moves, and these can prompt greater volatility. However, we expect better economic growth and double-digit earnings increases to provide support for rising stock prices over time.

Turkey is located in an interesting spot; essentially right between Europe and the Middle East. While not a member of the European Union, Turkey’s currency (lira) problems have taken their toll on several European countries and a handful of European banks with Turkish exposure. The euro currency has fallen about 2.5% against the dollar, and an index that tracks European banks lost about 7% over the past week. As the week progressed however, the lira rebounded a bit as Turkey announced that it won’t implement capital controls, but instead will focus on controlling inflation and reducing the current account deficit. Time will tell whether or not these reforms actually come to pass.

The ongoing trade skirmish with the US has caused some significant damage to the Chinese yuan. Not only has it fallen about 8% against the dollar over the past 3 months, it has pushed the Shanghai Shenzhen stock index into bear market territory. Already in a decline since late January, the broad market index is now -25% below its peak. While a weaker yuan does help offset the impact of US-imposed tariffs to some extent by making Chinese exports cheaper, sharp declines could portend deeper problems. On the plus-side, an announcement on Thursday that the US and China would be back at the negotiating table sometime mid-next week sparked a sharp rally, possibly signaling what could happen to US markets if/when these issues finally get resolved.

How the market finished last week, the S&P 500 up 0.6%, the Nasdaq down 0.3%, and the Dow up 1.4%.

This Week: Q2 earnings season is mostly over now. With 465 companies (94%) of the S&P 500 reporting, it has been a very strong quarter.

Earnings and economics are likely to take a back seat to geopolitics again. And while the SPX is now much closer to its longer-term trend, downside risks remain in the short-term.

The optimism on relations with China could continue to spark a sharp rally next week, which illustrates just how strong the US economy is. Should actual progress (not just rumors of progress) come to pass, the SPX could easily surpass the old high hit on 1/26/18. At 2,873, that target is a mere 30 points (+1.0%) above the current SPX level.

In an almost complete reversal from last week when negative geopolitics (China, Russia, and Turkey specifically) drove volatility higher, this week positive geopolitics (China) brought volatility back down towards normal levels again.

The past week’s volatility created a very wide range of disagreement among the technical indicators, but the balance of the shorter-term indicators remains solidly on the negative side. When considering that the economic calendar is light and earnings season is essentially over, the overall outlook for next week will probably be geopolitical driven.

Economic Calendar: Existing Home Sales (8/22), Weekly Job Claims (8/23), New Home Sales (8/23), Durable Goods Order (8/24)

Some of the major earnings announcements on deck: EL, TOL, TJX, MOMO, BABA.

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