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Sanctions Sour Sentiment

U.S. equites finished lower today, after the U.S. announced fresh sanctions on Iran, which brought back some uneasiness surrounding the tepid peace between the two adversarial nations. A somewhat disappointing nonfarm payrolls report also dampened the mood. In December, the U.S. economy added 145,000 compared to expectations of 160,000 and the slight miss was made a bit more disappointing as expectations seemed like they would be easily met following a blowout ADP payroll report. The unemployment rate stayed at the historically low level of 3.5%. Average hourly earnings rose, but not as much as expected. Treasuries rose on the disappointing report and the U.S. dollar fell. Gold was higher amid lower rates and oil continued its recent slide. International markets were mixed. In equity news, KB Home topped Q4 earnings expectations. Synnex rallied strongly on Q4 results, an increased dividend and solid guidance.

The Dow Jones Industrial Average fell 133 points (0.5%) to 28,824, the S&P 500 shed 9 points (0.3%) to 3,266 and the NASDAQ fell 25 points (0.3%) to 9,179. 779 million shares were traded on the NYSE and 2.4 billion shares changed hands on the NASDAQ. WTI oil shed $0.52 to $59.04 per barrel and wholesale gasoline rose $0.01 to $1.66 per gallon. Elsewhere, the Bloomberg gold spot price was up $5.80 to $1,560.10 per ounce. The Dollar Index—a comparison of the U.S. dollar to six major world currencies—was down 0.1% to 97.36. For the week, the Dow was up 0.7%, the S&P 500 rose 1.0% and the NASDAQ rose 1.8%.

KB Home (KBH $36) reported Q4 earnings-per-share (EPS) of $1.31, above the $1.28 FactSet estimate, as revenues grew 16.0% year-over-year (y/y) to $1.6 billion, roughly in line with the Street's forecasts. The homebuilder said its deliveries rose 16.0% compared to last year, but were below expectations, and average selling price declined slightly, while net new orders jumped 38%, topping forecasts. The company noted strong demand for its built-to-order product and limited inventory in its served markets. Shares were lower despite the company's stronger-than-expected earnings.

Synnex Corporation (SNX $146) posted Q4 EPS of $3.41, or $4.26 ex-items, compared to the expected $3.61, as revenues rose 18.7% y/y to $6.6 billion, topping the projected $6.0 billion. The business process services company said its results were driven by strong contributions from its technology solutions and Concentrix segments. SNX issued Q1 profit guidance that was above expectations. Additionally, the company raised its quarterly dividend by 6.7% to $0.40 per share and announced plans to spinoff its Concentrix unit. Shares rallied over 10%.

December Labor Report misses the mark

Nonfarm payrolls (chart) rose by 145,000 jobs month-over-month (m/m) in December, compared to the Bloomberg forecast of a 160,000 increase. The rise of 266,000 seen in November was revised to a gain of 256,000 jobs. Excluding government hiring and firing, private sector payrolls increased by 139,000, versus the forecasted gain of 153,000, after rising by 243,000 in November, revised from the 254,000 increase that was initially reported. The job growth was led by employment gains in retail trade, health care and leisure and hospitality, while employment declined in mining, manufacturing and transportation and warehousing, while little changed in construction and professional and business services. In 2019, payroll employment rose by 2.1 million, down from a gain of 2.7 million in 2018.

The unemployment rate remained at November's 3.5% rate, matching forecasts, while average hourly earnings were up 0.1% m/m, below projections of a 0.3% increase, though November's initially-reported 0.2% rise was adjusted higher to a 0.3% gain. Y/Y, wage gains were 2.9% higher, marking the first sub 3.0% rate since 2018, versus estimates to match November's unrevised 3.1% increase. Finally, average weekly hours remained at 34.3, versus estimates of a 34.4 pace.

Although job growth and wages were both below expectations, the report appears to not be severe enough to change Fed policy expectations, bolstered by the most leading indicator of employment, weekly initial jobless claims, remaining at historically low levels after retreating in the past few weeks to give back the spike we saw in early December.

The bifurcation between the sluggish manufacturing/capex sector and the still thriving services/consumption segment of the economy is a key area we are focusing on to determine the length of the runway between now and the next recession. Schwab's Chief Investment Strategist Liz Ann Sonders points out in her article, Split Personality: U.S. Economy's Bifurcation Persists, we continue to think the dividing lines between manufacturing and services, and between business investment and consumption, remain intact. We will continue to watch employment data—and leading indicators thereof—for signs that there are definitive cracks appearing on those lines. For now, the cracks are sufficiently small to keep economic weakness contained to the smaller manufacturing and business investment segments of the economy.

November wholesale inventories were revised lower to a 0.1% m/m dip, versus expectations to remain at the preliminary estimate of a flat reading, and compared to October's upwardly-revised 0.1% gain. Sales were up 1.5%, following October's downwardly-revised 0.9% decline.

Treasuries were higher following the employment data and the curve flattened, with the yield on the 2-year note dipping 1 basis point (bp) to 1.56%, the yield on the 10-year note dropping 4 bps to 1.82% and the 30-year bond rate decreasing 5 bps to 2.28%. Schwab's Chief Fixed Income Strategist Kathy Jones notes in her 2020 Market Outlook: Fixed Income that ten-year Treasury yields should move higher in 2020 as recession fears ease. Kathy points out the lagged impact of the Federal Reserve's interest rate cuts, signs of stabilization in the global economy and a modest uptick in inflation expectations should provide a boost to intermediate- and long-term bond yields. However, she cautions that the risk to our outlook is the ongoing threat of trade tariffs weighing on business investment.

Global markets mixed amid renewed geopolitical worries

European equities traded slightly lower after the U.S. announced fresh sanctions on Iran. Asia was mostly higher on the day. Expectations of a U.S.-China "phase one" trade deal being signed next week may have buoyed global sentiment. In global economic news, November industrial production and manufacturing data out of France and Italy was mixed. Japanese household spending fell more than expected. The euro ticked higher, while the British pound and Japanese yen lost some ground versus the U.S. dollar. Bond yields were lower in Europe and flat in Japan.

Schwab's Chief Global Investment Strategist Jeffrey Kleintop, CFA, discusses the Top Ten Global Risks For Investors in 2020, in his latest article, pointing out that they are all surprises to the consensus view: return of inflation, trade tensions don’t fade, manufacturing recovery fails, Brexit ends badly, rising costs prevent earnings rebound, job cuts, geopolitical conflict, surprise election outcome, increased regulation, and ineffective monetary policy. Jeff adds that having a well-balanced, diversified portfolio and being prepared with a plan in the event of an unexpected outcome are key to successful investing.

The U.K. FTSE 100 Index, Germany's DAX Index, France's CAC-40 Index, Switzerland's Swiss Market Index and Spain's IBEX 35 Index all ticked 0.1% lower, while Italy's FTSE MIB Index was little changed. Japan's Nikkei 225 Index rose 0.5%. South Korea's Kospi Index gained 0.9% and Australia's S&P/ASX 200 Index traded 0.8% to the upside. China's Shanghai Composite Index dipped 0.1% and the Hong Kong Hang Seng Index increased 0.3%. India's S&P BSE Sensex 30 Index rose 0.4%, and just as the markets were closing the nation reported a much larger-than-expected rise in industrial production for November. Schwab's Jeffrey Kleintop notes in his 2020 Global Market Outlook: New Heroes Needed, that in 2020, global economic growth may depend on comprehensive trade deals and fiscal stimulus rather than actions by central bankers to reverse last year's slowdown in manufacturing and business investment.

Stocks post weekly gain, rally back to all-time highs

U.S. stocks registered a solid weekly gain in the first full week of trading for 2020, rallying back to all-time highs and the Dow flirting with 29,000. The markets showed some resiliency in the face of elevated geopolitical tensions that rose late last week following U.S. airstrikes in Iraq that claimed the life of a top Iranian military official, with Iran's decidedly measured response that resulted in no U.S. casualties and did not target key oil facilities appearing to calm global sentiment. A host of relatively favorable reports on activity in the all-important global services sectors also likely delivered some support and helped the markets shrug off Friday's softer-than-expected U.S. labor report. Technology and communications services led a broad sector rally, though the energy sector was the lone group to move to the downside for the week as crude oil prices gave back last week's spike amid the aforementioned eased geopolitical worries, as well as following a larger-than-expected rise in oil inventories. The Dollar Index rebounded from multi-month lows hit at the start of the year, while gold prices continued to notch weekly gains, but did come off of the six-year high hit after Tuesday's retaliation from Iran. Treasury yields moved to the upside in choppy trading.

Next week, the economic calendar will heat up, courtesy of: the NFIB Small Business Optimism Index, the Consumer Price Index (CPI), the Producer Price Index (PPI), the Fed's Beige Book, retail sales, jobless claims, regional manufacturing reports, the NAHB Housing Market Index, building permits and housing starts, industrial production and capacity utilization, the JOLTS job openings report, and the preliminary January University of Michigan Consumer Sentiment Index.

However, the economic front will have to compete for the market's attention with the unofficial start to Q4 earnings season. Per data compiled by FactSet, Q4 S&P 500 earnings are estimated to decline 2.0%, which would be the first time of four straight quarters of y/y declines since Q3 2015 through Q2 2016. The financial sector will be in focus next week as some major players in the group are set to deliver results, and financials is one of five sectors predicted to post y/y earnings growth. Net interest margin and revenues from equity and fixed income trading activity are likely to get the lion's share of scrutiny, but attention will likely also be paid to metrics gauging the health of the U.S. consumer, which was a bright spot noted by several financial companies in Q3. Analysts are expecting earnings growth to return in 2020 and the S&P 500 to post a 9.4% y/y rate.

Schwab's Liz Ann Sonders notes in her 2020 U.S. Market Outlook: Ramble On?, that most valuation metrics—including P/Es—are stretched relative to history; and now likely require earnings growth to begin to do some of the market's heavy-lifting. She adds that the historically-wide spread between S&P 500 performance and corporate profits and suggests either profits will eventually need to catch up to the market; or stocks may have to correct to move more in line with profits. At this point, Liz Ann expects a combination of both for the coming year. For a look at our market perform outlook for the financial sector ahead of next week and analysis of all the other major market groups, check out the Schwab Center for Financial Research's Schwab Sector Views: 'Tis the Season for Consumer Discretionary … or Not?.

Next week's international economic calendar will also likely garner attention, particularly in China, with global data due out that deserve a mention including: China—lending statistics, trade balance, retail sales, industrial production, fixed asset investment and Q4 GDP. India—CPI, PPI, and trade balance. Japan—core machine orders. Eurozone—industrial production, new car registrations, trade balance and CPI. U.K.—trade balance, monthly GDP, industrial/manufacturing production, inflation statistics and retail sales.

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Schwab Center for Financial Research ("SCFR") is a division of Charles Schwab & Co., Inc. The information contained herein is obtained from third-party sources and believed to be reliable, but its accuracy or completeness is not guaranteed. This report is for informational purposes only and is not a solicitation, or a recommendation that any particular investor should purchase or sell any particular security. The investment information mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision. All expressions of opinions are subject to change without notice in reaction to shifting market conditions.

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