Why stocks greeted Trump's win with a rally

Wall Street roared back from the abyss on Wednesday in the wake of Donald Trump’s surprise electoral victory over Democrat Hillary Clinton. Overnight, equity futures had dropped several percent, echoing the Brexit chaos from June: An angry electorate out to punish the establishment was making markets recoil once again.

Yet the fear soon subsided. Trump’s victory speech was conciliatory, Clinton conceded. And, most important for reversing the panic that set in on first blush, traders realized that if Trump’s economic plans are enacted, they would amount to a huge fiscal stimulus of tax cuts and infrastructure spending, with a strong dose of deregulation for the financial industry and others.

Equities soared, with the Dow Jones industrials index gaining 1.4 percent after testing new highs, thanks to big gains in bank stocks and other areas set to benefit from a Trump administration. The dollar surged. But a big sell-off in Treasury bonds, evidence of technical weakness, and a jump in long-term interest rates suggest challenges -- and ongoing market volatility -- lie ahead.Treasury bonds were slammed on a spike in inflation expectations and chatter of official selling of U.S. bonds by the Chinese. Also, the December Federal Reserve interest rate hike seems to be on track as well. But that boosted financial stocks in a big way, up 4.1 percent as a group, on hopes that higher rates will lift loan profitability.  

Some health-care stocks were also strong on visions of a lighter regulatory burden on drugmakers and biotechs. The group gained 3.4 percent, with Pfizer (PFE) closing up 7.1 percent after trading even higher earlier in the session.

U.S. Steel (X) gained 17.2 percent, thanks to an analyst upgrade by Jefferies on post-election benefits from possible trade protectionism and increased infrastructure spending. Corrections Corp. of America (CXW) gained a whopping 43.1 percent as analysts noted possible higher demand if Trump tightens immigration enforcement. Clinton’s defeat also removed the threat of her anti-private-prison stance.

And Lockheed Martin (LMT) gained 6 percent on a general boost for defense stocks, thanks to Trump’s clamoring for an upgrade to military hardware.

On the downside, emerging markets stocks, real estate investment trusts (REITs) and other yield-sensitive issues, and clean energy stocks underperformed.

Looking ahead, a lot remains in flux. 

Also, let’s not forget that the first major policy challenge Trump will face is the need to raise the U.S. debt ceiling in March -- something that will focus attention on the deficit-raising consequences of his fiscal plans and put many Congressional Republican budget hawks in an awkward position.

Wednesday’s flashy rebound in the stock market also masks underlying weakness because the rally was tainted by narrow participation. Incredibly, there were only 310 net advancing issues on the New York Stock Exchange. That’s down nearly 30 percent from Tuesday’s modest rise on Wall Street. And it’s well below the nearly 2,000 net advancing issues seen on Monday as markets surged in response to news the FBI had wrapped up its investigation into possible new emails related to Clinton’s private server.

Complicating matters for investors amid all the uncertainty about Trump’s policies is the fact that stocks are entering a time of seasonal strength (“Santa Claus rally” and all that). 

So until clarity on Trump’s policy priorities emerges, the sell-off in T-bonds stabilizes, and the market fully digests the Fed’s next rate hike, investors would do well to remain cautious.    

Will the surge in long-term interest rates continue to be a net positive despite the dampening effect it will have on already tepid economic growth?

Will Fed Chair Janet Yellen come under political pressure to resign?

Will recent job gains continue? 

And will the surge in the dollar further pinch U.S. corporate profit margins and weigh on crude oil at a time of vulnerability for both?

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