• Making Sense of the Market
  • Shutdown Shock
  • An expanding number of universities in the United States, including my alma mater, are making standardized testing optional for applicants. Critics say the tests are imperfect predictors of success in college, and suggest placing additional emphasis on a candidate’s classwork, activities and essays.

    I am incredibly fortunate that the new rubric was not in place when I was seeking admittance to the University of Chicago. Then, as now, the school exposes students to a range of disciplines through a core curriculum, hoping to develop well-rounded thinkers. Unfortunately, one of the essays in my application expressed a strong desire to focus on mathematics and not waste time in art class. Fortunately, my test scores overcame my lack of tact.

    To my surprise, I enjoyed studying art in college, and have even come to appreciate its most modern expressions. In a way, there is a parallel between trying to understand an abstract painting and trying to understand financial markets; both present incomplete and confusing images that allow for a range of interpretations.

    Such was the exercise that many of us were going through during the final weeks of 2018. During a period where markets typically settle in for the holidays, equity prices experienced steep declines and heightened volatility. At the close of December, stocks had reported their worst annual performance in a decade.



    It is hard to know precisely what is on the mind of the markets; wide intraday swings experienced last month suggest mood shifts were substantial and frequent. But a series of concerns have accumulated to threaten what has been one of the longest and strongest bull markets we have ever experienced. By analyzing the bricks in what became a wall of worry, we can provide some conjecture on how these issues might evolve during the balance of this year.

    1. Global growth is slowing. Economic activity sailed through the first half of last year, but has been tapering off since. As we noted in our recently released Global Economic Outlook for 2019, some of this was to be expected; in particular, the stimulus from U.S. tax reform is past its peak. But some forward-looking indicators from Europe and China have shown unexpected weakness during the past several months.

    The Institute for Supply Management (ISM) index, shown above, requires some perspective. A reading above 50 indicates expansion; for most markets, recent declines indicate a return to normalcy from unusually high levels. The ISM index is survey-based, or “soft” data; its link to future output is not perfect. Nonetheless, the market is concerned the downward trend may continue. And the index for China is below 50, which leads to suspicion that…

    2. The trade war between the U.S. and China is doing significant damage. Several turning points in the market’s volatile fourth quarter journey can be linked proximately to changes in the tone of relations between the world’s two largest economies. Markets rallied in early December after the two sides shared dinner and announced a 90-day delay in tariff escalation. But in the days that followed, negative comments from Washington darkened the mood.



    In the United States, the impact of the trade conflict has been unpleasant for some sectors (such as farming), but modest overall. What is becoming increasingly apparent, though, is that the conflict is coming at a delicate economic time for China. Activity there seems to have been decelerating for some time; consumers are pulling back and manufacturing is slowing. There have long been concerns about the stability of China’s financial system, which is now burdened with twice as much debt as it had ten years ago.