A Santa Claus Rally and Teflon Don Economy

by Shawn Narancich, CFA Vice President of Research

A Santa Claus Rally Preempted

Time is fast running out for politicians attempting to avert the fiscal cliff. Lack of a cross-party deal now complicated by a surprising lack of intra-party consensus dampened investors’ spirits, sending stocks lower on Friday and shrinking gains realized for the week. Bond yields rose modestly, but benchmark US Treasuries remain in a trading range yielding relatively little. With Congress now on break until after Christmas, any deal to avert the fiscal cliff is likely to be less meaningful than the Grand Bargain previously envisioned. 

A Teflon Don Economy

With fiscal uncertainty growing and the economy negatively impacted by Hurricane Sandy, investors might think that the US economy would struggle to keep its head above water. In fact, data argue the opposite. Retail sales reports remain relatively upbeat, manufacturers in the Northeast are reporting growth, personal income and spending are up more than expected, and housing continues to rise above the fray. All of which is to argue that despite Washington’s best efforts to put a lump of coal in everyone’s stocking this Christmas, the economy not only continues to grow, but probably is doing so at a fourth quarter rate underestimated by economists. More importantly, aggregate demand that has been delayed because of tax and government spending uncertainty appears to offer the potential for economic acceleration if the government’s solution does more than just kick the can down the road. Therein lies the opportunity and the risk for investors.

Business as Usual?

One bellwether company reporting earnings this week proved that business can actually thrive despite the fiscal handwringing. Oracle blew past Wall Street expectations for earnings while handily beating revenue estimates, and then proceeded to tell investors that business in December has actually been quite good for its suite of database and application-specific software packages. Oracle’s report is juxtaposed against a consensus belief that technology budgets are under pressure and likely not to experience year-end budget flushes, prompting the question of whether Oracle’s experience reflects market share gains or a consensus outlook that is off kilter. Whatever the reason, Oracle’s stock performed admirably in choppy markets, rewarding shareholders with nearly a 6 percent gain for the week. 

Sports apparel and footwear giant Nike also regained some lost luster. The stock gained 8 percent on better-than-expected earnings, reflecting less pronounced margin headwinds and a robust U.S. business. Nevertheless, despite accumulating evidence that the Chinese economy is improving, Nike’s orders in this important market continue to lag. Trading at 20 times projected earnings, the company’s stock already appears to presume success in overcoming challenging markets overseas.

Ahead of what should be one of the quietest weeks of the year for Wall Street, we wish all of our clients and friends of the firm a very Merry Christmas and a prosperous New Year!

Our Takeaways from the Week

  • Surprisingly sound economic data and encouraging earnings reports suggest an economy growing at a faster-than-expected rate
  • Despite surprisingly strong performance recently, stocks are likely to remain volatile on fiscal cliff newsflow