Weekly Market Insights
Stocks were generally higher going into the long holiday weekend aided by mostly positive economic data and earnings. The latest Durable Goods report, an upwardly revised Q2 GDP report, and a better-than-expected Core Personal Expenditure (PCE- the Federal Reserves preferred inflation metric) brought the soft-landing narrative back into focus despite a lack of enthusiasm over NVDA’s solid earnings release.
Treasuries yields were up ever so slightly, and for the first time in over two years, the widely followed 10s-2s yield spread has un-inverted. The dollar got a boost as well thanks to the solid US economic data and better than expected foreign inflation data that would imply future rate cuts overseas. Gold held on to recent gains while Oil and industrial metals closed slightly lower.
Source: www.stockcharts.com
Key Takeaway:
Solid economic data has taken back the recent growth scare we saw in August and the markets have rallied back towards their recent highs. AI and technology sector leadership has given way to the more economically sensitive cyclical/value sectors and there has been broad participation in the recent stock market advance. With Q2 earnings now largely behind us, investors will begin to shift their fucus on 2025 earnings and multiple thereof. This could allow for multiple expansion, especially considering the overall positive economic backdrop with solid 3% GDP growth, historically low unemployment, and inflation trending downward; However, caution is warranted as markets are approaching recent highs (technical resistance), valuations are once again “frothy”, AI enthusiasm is waning (NVIDIA stock dropped after beating estimates and growing earnings 122% YoY), and election season is upon us.
September is historically a volatile month as the “shot callers” return from the Hamptons and begin to square up the books. If last month’s declines were at all uncomfortable, now is the time to do the same…
The Week Ahead:
According to statistics derived from the options market, this week’s “Expected Move” (EM) for the S&P 500 is +/- 110 points, slightly less than the past few last week’s EM, but still large at nearly 2%.
The key focus this week will be employment. Friday’s employment report as it will have a major impact on how much the Fed will be willing to cut rates while the JOLTS (Job openings and Labor Turnover) coupled with the ADP employment report should provide a near term read on the recently concerning labor conditions. On the growth front, August ISM Manufacturing and Service PMIs will be released Monday and Thursday, and investors will want to see strength to keep the soft landing narrative alive.
Source: Trading Economics (https://tradingeconomics.com/united-states/calendar#)
Tidbits & Technicals: (New developments will be denoted via***)
Current Headwinds:
- Valuations seem frothy given the current rate environment, leaving the markets subject to a potential swift pullback!
- “Higher for Longer” – Risk that the Federal Reserve waits too long to begin lowering rates and threatens economic growth.
- Very narrow market participation, apparently driven primarily by mega cap tech and AI-related companies, has dominated the indices; however, over the last several weeks we have witnessed a significant broadening effect with “the rest of the market” participating in returns.
Current Tailwinds:
- ***Optimism surrounding Artificial Intelligence (AI) (recently waning)
- ***The Federal Reserve signaled rate cuts are upon us.
- ***Strong Labor Market (signs of rising unemployment are showing up, yet jobs are available)
- Solid Economic Growth
- Continued Earnings Growth (the pace of which may be slowing)
- Momentum
- ***10-year Treasury yields continue to trade lower and are presently near the lowest levels of this year.
Sentiment:
- ***Credit Spreads have returned to historically low levels following a recent spike due to the growth scare in August
- ***The VIX (CBOE Volatility Index) which recently leapt higher, suggesting fear among investors, has returned to a “complacent” reading
- ***The CNN FEAR & Greed Index has moved into “Greed” territory showing investor optimism
Source: https://www.cnn.com/markets/fear-and-greed
Intermarket Trends:
- ***The major Indices (Dow Jones Industrial Average, S&P 500, and NASDAQ) are trading at or near all-time highs signifying a positive trend
- Interest rates have been volatile all year and appear to be trending lower.
- The US Dollar has broken its upward trend line over the past several weeks and is beginning to trend downward
- Gold recently broke out of its trading range to record highs
- Industrial Metals, which have been trending lower lately, have reversed course and have been gaining traction
- Oil futures are in the middle of their one-year trading band and appear to be stuck in a trading range
Tying it all together:
Despite the recent rally, we maintain a cautious outlook on the market as some of the recent factors which caused the pullback don’t just disappear overnight. The Bank of Japan’s divergent monetary policy and the ongoing slowdown in the U.S. economy pose some significant risks to markets going forward. Also of note, at the present time, it appears investors may be potentially factoring in a more aggressive interest rate easing cycle than the Fed might deliver, while several historically relevant “warning signals” have been fired off recently, namely the Sahm Rule (where 3-month average unemployment rises by more than 0.5% above is annual low) and the 10s-2s yield curve un-inverting. These realities, coupled with late-stage business cycle dynamics, have historically created a more challenging environment for stocks in the intermediate-term.
In the long term, economic growth is the primary driver and, while growth remains robust, we are now seeing signs of moderation. This does not mean everything is falling apart; in fact, this was the Federal Reserve Board’s intention. They have held interest rates high for a long time to combat inflation and the expected result of such policies is economic moderation and a cooling of the labor market. The Fed is shooting for a soft landing, a scenario whereby inflation returns towards their 2% target without destroying economic growth, and so far, that scenario appears most likely.
I’m keeping this paragraph below from my prior reports, as it really sums up expectations and what is currently taking place:
“Four main factors have seemingly been supporting the markets — strong growth, falling inflation, expectations of Fed rate cuts, and AI enthusiasm. These drivers remain intact; however, some key economic data points, like rising unemployment, are flashing warning signals at the present time. While the economy is not weak, some of the data suggests a weakening trend and this is a concern given the equity markets are not acknowledging the possibility of any sort of economic contraction. Current valuations have certain equities priced for perfection, so it would be fair to say that any type of growth scare could result in rather extreme volatility in the short run.”
I want to reiterate that the best approach in these environments is to ensure that one’s overall portfolio aligns with their risk tolerance and long-term goals and, add to this, the importance of keeping emotions at bay. Markets tend to overreact to both positive and negative data and keeping a calm perspective has always proven prudent.
Tactically, we recommend maintaining long-term investment exposure to equities focusing on lower volatility sectors and value factors at the present time. We also encourage a fair amount of duration and high quality, investment grade bonds in an effort to mitigate portfolio risk.
Please feel free to share these commentaries with friends and family and, should you have any questions regarding your current strategy or the markets in general, please reach out to your CIAS Investment Adviser Representative.
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