The sell-off accelerates

Equity markets fell on Wednesday with the S&P 500 down 3.1%, extending the index’s losses to 9.4% since hitting an all-time closing high just a few weeks ago on 20 September. With today’s decline the S&P 500 has erased its price gain for the year. Bonds rallied with the yield on the 10- year Treasury falling six basis points to finish at 3.11%.

Since the current sell-off began a few weeks ago, investors have been worried about the potential negative impacts of higher interest rates, signs of weaker global growth and potential disruption from tariffs. Data out today reinforced these concerns. The revelation that pipe bombs were mailed to well-known individuals and a media outlet likely only exacerbated investors’ worries.

In Europe the initial reading on business sentiment for the month of October, as gauged by the Markit Purchasing Managers Index, was weaker than expected. Concerns about trade appear to be driving up business uncertainty. In the US the Markit sentiment gauge was a bit stronger than expected. However, new home sales weakened, stoking fears that the increase in interest rates this year is weighing on demand.

Overall we believe 3Q earnings growth in the US will be strong with S&P 500 profits up 23-24% driven by 7-8% revenue growth on generally healthy domestic activity.

However, unlike earnings reports in the first half of the year, US companies are contending with some pockets of softness in the global economy, especially in auto markets in Europe and China and some shorter-cycle industrial markets.

Still, leading indicators for the US economy and earnings remain favorable and we don’t believe the US is in danger of slipping into a recession in the near term. For 2019 we expect continued, although slower, corporate profit growth. Furthermore, Chinese policy-makers are pivoting to stimulus, which should begin to gain traction in the months ahead.

The nearly 10% decline in US stocks over the last month appears excessive relative to the risks that we highlighted. And valuations for US and global equities have fallen to levels not seen since February 2016. As a result, the risk / reward for stocks is becoming more appealing. We maintain a small overweight to global equities in our tactical asset allocation.