Stocks may continue to trade cautiously this week as Trump's inauguration (January 20) approaches. So far, his policy pronouncements have not been market-friendly and the risk is they will stay that way. There is a scenario, however, in which Trump's policies may be market positive, as discussed below. The market also will be facing December inflation data and the start of Q424 corporate earnings. Both are expected to be decent. So, there could be relief bounces while the overall tone is cautious.
The market focus will likely be on Trump's decision regarding how to proceed with imposing tariffs. For example, a 10% tariff on all US imported goods would amount to about $200 Bn for the year. A 25% on goods imports from Canada and Mexico would amount to about $230 Bn. A full pass-through to prices in either example would boost the PCE Deflator by about 1.0%. This impact would be mitigated if importers absorb some of the tariffs by lowering profit margins. Also, the stronger dollar is an offset.
In any case, there may be silver lining for the markets. Trump could tie the revenue from tariffs to an overall goal of holding down, if not reducing, the federal deficit. To be sure, he will probably aim to extend the expiring tax cuts of his first Administration, but he'll also talk about cutting federal spending.
Emphasizing the goal of reducing the federal deficit could spark a rally in the long end of the Treasury market and stocks. A precedent is the Clinton Administration in the 1990s. The then Treasury Secretary, Bob Rubin, always would mention deficit cutting in his speeches and press conferences -- which would induce a positive response in the bond market and stocks. The federal budget went into surplus during the Clinton years, helped in part by huge inflows of capital gains taxes stemming from the stock market.
Consensus looks for 0.3% m/m Total and 0.2% Core CPI for December. Even though gasoline prices fell at the pump in December, they did not fall as much as seasonal factors expect. So gasoline prices (seasonally adjusted) should be up fairly sharply, boosting the Total. A 0.2% Core may require Owners' Equivalent Rent remaining at a low 0.2 as well as Lodging Away From Home and Used Car Prices flattening after they jumped in November. There is some evidence suggesting this may be the case for Used Car Prices. The extent of holiday discounting is important, as well. However, the greater the discounting, the greater the potential snap-back in January or February as normal pricing reasserts itself.
A benign 0.2% Core CPI should be a market positive, as it would suggest the strong labor market, as seen in Friday's December Employment Report, can be tolerated by the Fed in its fight against inflation. The latter was suggested already by the downtick in December Average Hourly Earnings to 0.3% from 0.4%. However, a cautionary note is that long-term inflation expectations have moved up. This is seen in Friday's report of 3.3% for University of Michigan's 5-Year Inflation Expectations measure, It broke above its recent 3.0-3.1% trend.
Consensus estimate for Q424 S&P 500 earnings is in the high single-digit to low double digit range, better than the mid-single digit increase in Q324. The macroeconomic evidence suggests some downside risk. /1/ Profit margins may have narrowed, as wages sped up by more than prices. /2/ Real GDP Growth is slightly lower in Q424 than Q324 on a y/y basis. /3/ And, earnings from abroad should be hurt a little more by the stronger dollar and softer foreign economic growth. In contrast, oil prices stopped falling (y/y), which should help that sector.
Markit
Eurozone Real GDP Oil Prices Trade-Weighted
Dollar AHE Core CPI PMI
[ y/y percent
change ] (level)
Q123 2.3 -19.5 +3.0 4.5 5.5 47.9
Q223 2.8 -32.0 +0.5 4.4 5.2 44.7
Q323 3.2 -12.0 -2.5 4.3 4.4 43.2
