12/31/2018
In fact, take four hikes. And with that, the Federal Reserve took its parting shot at 2018 and went home for the year, presumably not to be heard from at all in the new year, if markets are to be believed. We are not so sure. Expecting economic growth to remain above trend in 2019, we think the Fed will be back in the picture for 2019, taking two more rate hike shots at investor expectations.
 
The Fed’s latest body blow on December 19 pummeled stocks, which were already staggering from the unexpected resolve of an opponent long viewed as a pushover. On Christmas Eve, stocks appeared ready to be counted out, with the S&P 500 down 19.8 percent from its September 20 high, on the verge of a bear market. But stocks had other ideas. Finding support at its 200-week moving average, a source of strength several times previously in this heavyweight bull market, the index managed to mount a furious comeback, rising 5.0 percent on the day after Christmas and followed that up with another 0.9 percent the next day.

Volatility surged after the Fed’s December haymaker. The VIX index of volatility had been rising steadily ever since the Fed trash talked its opponent by saying Fed funds were a long way from neutral on October 3. Back then the VIX was trading in a range between 11-15, well below its ten-year average of 19.6. But quickly, volatility then began to rise. By the time the Fed raised the overnight rate for the fourth time in mid-December, the VIX had climbed to 25 and subsequently peaked at 36 on Christmas Eve, as stocks were taking a standing eight count, just below the February high of 37.

And now, with one trading day left in 2018, the VIX has settled back to still elevated reading of 27 and stocks are well behind on the card, down 7 percent for the year. But futures suggest that there is still some fight left, at least for another day. And stocks are still standing, ready to answer the bell in 2019.

If stocks are truly going to mount a comeback, they are going to need some help. Unless conditions are so strong they cannot be ignored, the Fed will likely need to go into rope-a-dope mode, remaining on the sidelines until at least June. But neither can conditions moderate to the extent that corporate earnings fall significantly short of expectations, currently 7.9 percent according to Factset. The trade war with China will also need to do its part. At the very least, stocks likely can ill afford any escalation in tensions, and more likely will need some evidence of progress to push higher. Over the weekend President Trump tweeted that progress was, indeed, being made, but trading on tweets is a perilous endeavor. Credit conditions will need to stabilize, and the European Union (EU) needs to keep things together.

The stamina needed by stocks to continue the fight has been restored to a certain extent by the significant improvement in valuations during the selloff. The unsustainable mid-year surge in momentum was stopped in its tracks but has so far failed to deliver a knockout blow. Stocks will continue to be tested, but don’t count them out just yet.

Important Disclosures:
The views expressed are as of the date given, may change as market or other conditions change, and may differ from views expressed by other Ameriprise Financial associates or affiliates. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances.

The S&P 500 is an index containing the stocks of 500 large-cap corporations, most of which are American. The index is the most notable of the many indices owned and maintained by Standard & Poor's, a division of McGraw-Hill.

The Chicago Board Options Exchange (CBOE) Volatility Index (VIX) is a widely used measure of market risk. It shows the market's expectation of 30-day volatility. The VIX is constructed using the implied volatilities of a wide range of S&P 500 index options.

Past performance is not a guarantee of future results.

Indexes are unmanaged and are not available for direct investment.

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