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Posted: 10/18/2018 4:15 PM EDT

Losses Accelerate, Nearly Wipe Away Tuesday’s Rally

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Pressure on U.S. stocks intensified, but moved off of lower levels, as the markets appeared unnerved regarding fiscal concerns in Europe that were exacerbated as the EU Commission sent a letter warning Rome over its budget violations. Stocks saw losses in the wake of weak economic data out of China and yesterday's minutes from the Fed's September meeting that seemed to foster a hawkish takeaway. Earnings season continued to gain steam, with Dow member Travelers Companies dipping despite stronger-than-expected Q3 earnings results and Textron missed forecasts, while Alcoa rallied on the heels of its release. Treasury yields and the U.S. dollar were slightly higher. Crude oil prices were down and gold rose.

The Dow Jones Industrial Average (DJIA) fell 324 points (1.26%) to 25,383, the S&P 500 Index shed nearly 40 points to 2,769, and the Nasdaq Composite declined 158 points to 7,485. In moderate volume, 827 million shares were traded on the NYSE and 2.5 billion shares changed hands on the Nasdaq. WTI crude oil fell $1.00 to $68.73 per barrel and wholesale gasoline was unchanged at $1.92 per gallon. Elsewhere, the Bloomberg gold spot price increased $2.87 to $1,225.16 per ounce, and the Dollar Index—a comparison of the U.S. dollar to six major world currencies—was 0.4% higher at 95.95.

Dow member Travelers Companies Inc. (TRV $125) reported Q3 earnings-per-share (EPS) of $2.62, or $2.54 ex-items, versus the $2.25 FactSet estimate, as net written premiums rose 6.0% year-over-year (y/y) to $7.1 billion, compared to the expected $7.0 billion. Shares were lower with analysts scrutinizing the insurer's combined ratio—a key industry metric showing the percentage of what it pays out in claims from premiums collected.

Textron Inc. (TXT $58) posted Q3 earnings of $2.26 per share, reflecting the gain on the sale of its tools & test product line, or $0.61 ex-items, compared to the forecasted $0.76, with revenues decreasing 8.2% y/y to $3.2 billion, below the projected $3.5 billion. The aircraft, defense and industrial company said revenues were lower in the quarter, largely reflecting declines in its 2017 all-terrain vehicle acquisition. TXT narrowed its full-year EPS guidance. Shares finished solidly lower.

Alcoa Corp. (AA $39) announced a Q3 loss of $0.22 per share, or EPS of $0.63 ex-items, versus the expected profit of $0.36 per share, with revenues rising 14.4% y/y to $3.4 billion, above the forecasted $3.3 billion. The company said lower realized aluminum prices and decreased aluminum product shipments were somewhat offset by higher realized alumina prices and favorable pricing for energy sales. AA raised the low end of its full-year earnings guidance and announced a $200 million stock repurchase program. Shares finished higher.

Leading Indicators rise, jobless claims decline

The Conference Board's Index of Leading Economic Indicators (LEI) (chart) for September rose 0.5% month-over-month (m/m), matching the Bloomberg estimate and following August's unrevised 0.4% increase. The index has not seen a decline since May 2016. Consumer expectations, ISM new orders, the yield curve, credit, stocks prices and jobless claims were positive, while average workweek was negative.

Weekly initial jobless claims(chart) decreased by 5,000 to 210,000, versus estimates calling for 211,000, as the prior week's figure was upwardly revised by 1,000 to 215,000. The four-week moving average rose by 2,000 to 211,750, while continuing claims declined by 13,000 to 1,640,000, south of estimates of 1,663,000.

The Philly Fed Manufacturing Index (chart) in October declined by a smaller amount than expected, and remained solidly in expansion territory (a reading above zero). The index dipped to 22.2 from 22.9 in September, compared to estimates of a decline to 20.0.

Treasuries moved higher, as the yield on the 2-year note dipped 1 basis point (bp) to 2.87%, the yield on the 10-year note was flat at 3.18%, and the 30-year bond decreased 2 bps to 3.36%. Bond yields turned lower and losses for the stock markets accelerated sharply after reports that European Central Bank President Mario Draghi issued tough commentary regarding the impact of countries challenging European Union rules. The markets also digested yesterday's release of the minutes from the Fed's September monetary policy meeting, which delivered a third rate hike of the year and preserved expectations that a December move was still on the table.

The report noted that a majority of Fed officials believe that its path of continuing to gradually raise interest rates was the best approach in order to preserve a steady economy. It also showed the Committee had confidence in the rate of economic growth, while also noting some caution over the impact of tariffs on such. In discussing the future path of interest rates, Committee members indicated that there may be a period where it will need to go beyond normalization of rates and into a more restrictive phase in order to overshoot its target in an effort to combat "the risk posed by significant financial imbalances."

The release appeared to foster a hawkish takeaway and Schwab's Chief Fixed Income Strategist Kathy Jones and Fixed Income Director, Collin Martin, CFA, discuss in the video, How High Might Bond Yields Rise?, while Kathy offers her article, Will the Fed Go Too Far in This Cycle? 3 Indicators to Watch, noting if the Federal Reserve raises interest rates too much or too fast, it could tip the economy into recession. She discusses signs that the Fed may be going too far too fast that include a flat or inverted yield curve, a decline in inflation expectations, and tightening credit. Kathy concludes that at this point, we see only one indicator—the flattening yield curve—that could be signaling an eventual end to the rate-tightening cycle.

Tomorrow’s economic calendar will hold existing home sales, forecasted to decline 50,000 to 5.29 million units, following the unchanged measure registered in August. Last month’s report also conveyed a housing inventory rise of 2.7% y/y, the highest in more than three years.

Europe and Asia mostly lower following Fed minutes

European equities finished lower after seeing some pressure late in the day, with the global markets scrutinizing yesterday's release of the minutes from the U.S. Fed's September monetary policy meeting that suggested rate hikes are likely to continue, as well as flared-up fiscal concerns. Just as the markets were closing, reports suggested European Central Bank (ECB) President Mario Draghi issued a warning that countries questioning rules of inside the European Union can lead to worsening of the conditions in the financial sector and therefore damage growth. The reports said that Draghi added that there is no evidence that to undermine all the rules will lead to prosperity, but it will carry a high price tag for all actors. The EU Commission later transmitted a letter to Rome indicating that its spending plans were excessive. Both took place in response to the budget accord reached earlier this week by Italy, which has been highly scrutinized by the European Commission. Also, U.K. Brexit talks continue but a deal remains elusive as a deadline approaches. The euro was choppy following the Draghi reports and the British pound finished lower versus the U.S. dollar. Bond yields in the region finished mixed, but Italian rates continued to rally. U.K. retail sales declined more than expected for September, though shares of Carrefour SA (CRRFY $4) jumped after the French supermarket company posted upbeat earnings results. Schwab's Chief Global Investment Strategist Jeffrey Kleintop, CFA, notes in his latest article, On Watch: Is There More Trouble Ahead for Stocks?, the threat of storms in the economy and markets seems to be moving from "Advisory" to "Watch," as indicated by the narrowing gap between the unemployment rate and inflation rate in many of the world’s largest economies.

Stocks in Asia finished mostly lower following some softer-than-expected economic data out of Japan and Australia, while the markets digested yesterday's release of the minutes from the Fed's September meeting that suggested rate hikes are likely to continue. Japan's stocks were down even as the yen weakened, while the nation reported an unexpected decrease in exports for last month. South Korea's equities traded lower, while the Bank of Korea left its monetary policy stance unchanged. Mainland China's stocks fell, amid concerns about widespread margins calls related to shares pledged as collateral for loans and the yuan at 21-month lows, and Hong Kong equities finished little changed after yesterday's holiday break. The markets are awaiting a host of Chinese economic data set to be released later this week, headlined by the nation's Q3 GDP report. The data began with yesterday's stronger-than-expected lending statistics. Australia's stocks finished higher.

India's markets were closed for a holiday, after yesterday's solid decline that came from a flare-up in lingering banking sector and liquidity concerns. India's markets have seen increased volatility amid the aforementioned uneasiness, which has been accompanied by this year's drop in the rupee, the rally in crude oil prices and festering global worries regarding emerging markets. Schwab's Jeffrey Kleintop, CFA, offers his article, Emerging Market Stocks: What We Are Watching, in which he points out signs we will be watching closely to see if the solid decline this year is typical volatility or something leading to a deeper and more prolonged downturn.

Items on tomorrow’s international economic calendar include: housing data from China, industrial activity reports from Japan, business sentiment from Norway, and banking and borrowing data from the UK.

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