Terrorism in Paris Caps Difficult Week for Stock Markets

November
16

Written by: Jon McGraw

Attacks in Paris by the Islamic State were an appalling exclamation point at the end of a difficult week for stock markets.

World stock markets tumbled as investors braced for a possible rate hike by the Federal Reserve in December. Many national indexes across the United States, Europe and Asia experienced downturns of more than 2 percent. The Dow Jones Industrial Average lost 3.7 percent, and the Standard & Poor’s 500 Index gave back 3.6 percent. The exception was Japan’s Nikkei 225, which gained 1.7 percent, largely because its weakening currency benefited Japanese exporters.

The chances are pretty good the Federal Reserve will lift rates during December. A Reuters poll of 80 economists asserted there is “a 70 percent median chance the U.S. central bank would raise its short-term lending rate at its final meeting of the year …” A survey taken by The Wall Street Journal found 92 percent of academic and business economists expect Fed liftoff in December.

Even if the Fed does raise rates, it’s important to remember that market forces determine interest rate levels. Raising the fed funds rate is the Fed’s way of encouraging higher interest rates and tighter monetary policy, but it may not have the intended effect. Crain’s Chicago Business reported, “The Fed is moving into uncharted territory. It has never tried to raise the federal funds rate—that is, make money harder to get—when the banking system was flush with $2.5 trillion of excess reserves, as it is now.”

In the U.S., investors digested weaker-than-expected retail sales data. U.S. retail sales remained in positive territory in October (up 0.1 percent); however, economists were anticipating an increase of 0.3 percent. Regardless of the discrepancy, there are signs consumer spending will remain steady through the last quarter, according to Reuters. As a result, retail sales data are unlikely to affect decisions being made by the Federal Reserve.

It’s likely markets will continue to rumble and roil as the world processes the horrific Islamic State strikes in Paris, in Lebanon and against Russia.

Data as of 11/13/15 1-Week Y-T-D 1-Year 3-Year 5-Year 10-Year
Standard & Poor’s 500 (Domestic Stocks) -3.6% -1.7% -0.8% 13.8% 11.0% 5.1%
Dow Jones Global ex-U.S. -2.2 -6.3 -8.3 2.4 -0.4 1.3
10-year Treasury Note (Yield Only) 2.3 NA 2.4 1.6 2.8 4.6
Gold (per ounce) -0.7 -9.8 -6.9 -14.4 -4.6 8.8
Bloomberg Commodity Index -3.3 -21.0 -28.9 -16.4 -11.2 -6.8
DJ Equity All REIT Total Return Index -2.1 -2.4 1.0 10.4 11.4 7.1

What Happens After the Rate Hike?

If the Fed’s efforts to raise interest rates are successful, what will happen next? It all depends on whom you ask:

Dr. David P. Kelly, CFA, Managing Director Chief Global Strategist, JPMorgan: “Looking back at prior Fed rate hikes suggests that at first, investors have a tough time stomaching the idea of higher yields. However, as it becomes increasingly apparent that the Fed is hiking rates for all of the right reasons, markets re-price in line with their underlying fundamentals. For that reason, it is important for investors to prepare for a likely uptick in volatility around Fed liftoff.”

Robert C. Doll, CFA, Chief Equity Strategist, Nuveen: “First, higher rates would likely trigger higher bond yields, which would be a negative for Treasuries. Additionally, an increase would likely put upward pressure on the U.S. dollar. A strong dollar is usually a negative for oil prices … Finally, we think the combination of higher rates and a stronger dollar could hurt U.S. companies that do most of their business overseas.”

The Financial Times: “Almost every asset class on the planet exhibits some evidence of frothiness these days, but some seem more vulnerable to higher interest rates. Although stocks look expensive, higher interest rates indicate that economic growth is firm, and that is good for listed companies. Gold typically loses its shine when interest rates climb, as the metal doesn’t pay any interest like a bank account will, but has already been beaten up heavily recently. The bond market looks more exposed.”

The Fed is expected to raise rates slowly and cautiously. We won’t know when rates will increase or by how much until the next Federal Open Market Committee meeting. That meeting takes place on December 15.

Weekly Fun—Think About It

“Terrorism [takes] us back to ages we thought were long gone if we allow it a free hand to corrupt democratic societies and destroy the basic rules of international life.”

Jacques Chirac, former Prime Minister of France