August 15, 2017
- Initial investor enthusiasm triggered a rally in stocks
- As legislative efforts stumbled, investors shifted gears
- The markets appear to be showing patience with policy changes
The S&P 500 Index, measuring the performance of large U.S. stocks, has generated double-digit returns since the presidential election last November. But getting there has been a story of two very different time periods, marked by very different forms of market leadership.
High expectations for meaningful policy change
In the period between the election and March 1, the surge in stock prices was led by companies expected to benefit from President Trump’s ambitious agenda of deregulation, infrastructure spending and tax reform. The biggest winners amongst the S&P 500 sectors were financial, industrial and materials stocks. Early in the new administration there was a flurry of activity through executive orders. Optimism surrounded the so-called “reflation trade,” as investors anticipated more vibrant economic growth stemming from policy actions.
The difficulties of passing actual legislation, despite Republican control of both the White House and Congress, soon began to set in. By March, with the S&P 500 up 12% since the election, investor expectations for real policy change began to fade.
This first market phase following the election arguably ended on March 1, when financial stocks peaked. In the second phase (March through June) the S&P 500 has risen just 1%.
Technology stocks are the exception, consistently generating strong returns in both time periods. Otherwise, the best performing sectors in this second, more sluggish market phase are completely different from the first, led by healthcare, consumer discretionary and utilities stocks. But returns can hardly be described as robust. These three sectors have generated returns of 5%, 3%, and 1% respectively March through June.
Other factors come into play
The extent to which the market’s abrupt deceleration since March is attributable to policy uncertainty is debatable. Other factors certainly played a role. Corporate earnings have been healthy, but the economy is sending mixed signals about future growth, and the Federal Reserve raised interest rates three times since the election. And no doubt the various inquiries in Washington related to Russia’s role in the election have distracted from the legislative agenda. The struggles Republicans have faced in passing healthcare reform legislation are a perfect example. The bill stalled in the House before finally passing in the spring, and the Senate also faced difficult impediments to clear legislation for the President to sign.
In the sequence of Republican legislative priorities, healthcare came first for several reasons, including its impact on the budget and establishing a baseline for tax reform. The delays in passing healthcare legislation have hindered the pursuit of other legislative priorities for Republicans.
Investors demonstrate patience
It is worth noting that although the overall market slowed sharply after March 1, it did not lose ground.
While leveling off stock returns seems justified, major indices are still topping their all-time records. The global economy is improving, and central banks remain accommodative. But it is also likely that rather than give up completely on hopes for favorable legislation, many investors simply adjusted their timeframes, and have taken a “wait-and-see” approach.
Investors are primarily focused on tax reform, aside the vital social importance of healthcare policy.
If Congress can achieve some success in passing legislation, it could revive enthusiasm for the other parts of the Trump agenda and potentially fuel another market rally.
Maintain a proper perspective
With work yet to be done on the 2018 budget, as well as the need to raise the debt ceiling, there are questions as to how much more Congress can get done before attention shifts to the mid-term elections. How investors might react to a second round of policy disappointment also remains to be seen.
Action out of Washington is just one consideration for investors. Other global economic factors are likely to play a role, as will fundamentals underlying the performance of companies. Be sure to keep your eyes on the big picture when assessing how to position your portfolio. Your advisor can help provide more perspective and insights based on the current market environment.