By Ben Norris, CFA, Securities Research Analyst, Associate Vice President
Investors channeled their best Dorothy from The Wizard of OZ last week and they dealt with uncertainty stemming from the emerging Omicron variant of COVID-19. When Dorothy arrives in the Land of Oz, she is a bit apprehensive toward her new, unfamiliar environment. In much the same way, just when investors thought COVID-19 (the Delta variant to be specific) was a known quantity, a new variant has emerged out of South Africa and is quickly spreading around the globe. The first Omicron case in the U.S. was reported on December 1st and has now been detected in ~30 states. The last two years have firmly established that investors are not fans of uncertainty, and this new variant introduces plenty of it. Will this variant spread more easily? Is it more dangerous than Delta? How will its spread affect the ongoing reopening effort? And perhaps most importantly – How will it affect the Federal Reserve’s plans to normalize monetary policy?
That last question is likely up to the man behind the curtain – which in this case is Federal Reserve Chairman Jerome Powell. Recently the Fed indicated that it would begin tapering its stimulative bond buying program with a goal of ending the $120B per month liquidity campaign sometime in mid-2022. Late last week Powell put investors on notice by hinting that the Fed could accelerate the pace of tapering and raise target interest rates sooner than previously expected. Our interpretation of those comments is that the Fed is becoming less concerned about COVID-19 and more concerned that their long-held stance that higher inflation is transitory may not have been entirely accurate. We’ll know more about any possible changes following the Fed’s Open Market Committee meeting later this month. However, Powell’s comments may have been somewhat premature now that the threat of the Omicron variant has come into focus. To the extent that renewed lockdowns or consumer fear affects economic activity, the Fed’s plans may have to change once again.
Omicron served as the Wicked Witch of the West for stocks last week as the major indexes fell across the board. The S&P 500 (SPX) ended the week down 1.2% and was negative for the second week in a row. SPX is now 4.1% off its all-time highs set in November. The Dow Jones Industrial Average (DJIA) ended the week 0.8% lower and has now seen a negative return for each of the last six weeks. While the DJIA has had it bad lately, small cap stocks have been the true center of pain for investors. The Russell 2000, a U.S. small cap stock index, is down more than 10% from its November high and is now lagging the major indexes significantly year-to-date. Our feeling is that the major indexes (SPX and DJIA) may have a hard time reaching new highs without improved performance from their small cap counterparts. Small cap participation in a rally will be key if the market is to experience the year-end rally that investors have been anticipating.
Traditionally defensive stocks held up better than the major averages last week. The Utilities and Real Estate sectors were able to show positive performance for the week, while Consumer Staples and Health Care held up relatively well despite finishing the week lower. We would also note that investors continue to treat the Information Technology sector as a safe haven (which has not been the case historically), with the sector finishing just 0.4% lower on the week. In contrast, Communication Services and Consumer Discretionary stocks were the worst performers for the week, losing 2.8% and 2.3% respectively. In bond land, the major fixed income indexes were higher last week as investors sought safety in the face of Omicron uncertainty. The 10-year Treasury yield ended the week at 1.34%, far below its November high of ~1.7%.
In economic news, the U.S. labor market continues to improve despite the difficulties created by COVID-19. Although last Friday’s job report was mixed relative to consensus expectations, underlying employment figures have been promising. The labor force participation rate (the number of people working or seeking work) is at its best level since the pandemic began. The unemployment rate is down to 4.2% and the economy has recovered over 80% of the jobs lost since Spring of 2020. Away from employment, the ISM manufacturing index reported in line with expectations and the ISM services index comfortably beat expectations indicating that economic activity is on a reasonably solid footing for now. Dorothy and her travel companions faced a myriad of obstacles while taking the yellow brick road to meet the Wizard of Oz, it now seems that investors are looking at a similar journey heading in 2022.
The upcoming week features a busy schedule of economic releases with Friday’s release of November CPI figures serving as the star of the show.
|Tuesday 12/7/2021||U.S. Trade Deficit||-$80.9B||-$67B|
|Consumer Credit (monthly change)||$30B||$34B|
|Wednesday 12/8/2021||Job Openings||10.4M||10.5M|
|Thursday 12/9/2021||Initial Jobless Claims||222,000||229,000|
|Continuing Jobless Claims||1.96M||–|
|Real Household Wealth||2.7%||–|
|Friday 12/10/2021||Consumer Price Index (CPI)||0.9%||0.6%|
|CPI (year-over-year change)||6.2%||6.7%|
|University of Michigan Consumer Sentiment||67.4||66.9|
Links to previously published commentaries can be found at benjaminfedwards.com/For Our Clients/Educational Resources/Market.