Will the U.S. Federal Reserve (Fed) be able to pull a rabbit out of its hat? Will Fed Chairman Jerome Powell and his Open Market Committee be able to conjure up a soft landing for the U.S. economy? Following many months of monologues with no action on its target lending rate, the Fed is widely expected to resume its prestidigitation later this week and finally wave its wand to reduce their target rate. As of last Friday afternoon, some sort of rate cut was a sure bet with about a 50/50 split between a quarter-point cut and a half-point cut.
The stock and bond markets will be hyper-focused on this stage act; they have been for many months, and this week will finally bring the hocus-pocus they’ve been so hungry for. Like a magician’s assistant who has been sawn in half, investors have been bisected by hopes for lower interest rates and continuing economic growth on one hand, and fears of lower interest rates because of slowing economic growth or even recession on the other hand. Where lower federal funds rates are typically a tailwind for stock prices, earnings growth – or lack thereof – is the far more critical driver.
Last week began with a bit of misdirection. Following one of the market’s worst weeks of the year, the major averages all summoned solid 1.2% gains on Monday. The rally continued on Tuesday with the S&P 500 Index (SPX) adding 0.5% and the NASDAQ Composite Index (COMP) gaining another 0.8%. In the absence of any significant economic reports, those early-week advances seemed to be a basic bounce out of an oversold condition created by the previous week’s losses. Though it is worth noting that the S&P Technology Sector Index rallied about 1.5% that day, aided in part by an earnings announcement from Oracle Corp., which saw its shares gain more than 11% on Tuesday.
The most magical session last week was on Wednesday. If there was any market reaction to the previous evening’s presidential candidate debate, it was masked by the Consumer Price Index (CPI) data that morning. The headline CPI number came in as expected with a 0.2% month-over-month increase. Core inflation, which excludes volatile food and energy price changes, came in a tick higher than expected at +0.3%, the highest month-over-month increase since April.
The initial reaction to that news was disappearing bids for stocks. In other words, stock index futures, and later the indices themselves fell sharply. Within the first 90 minutes of trading, SPX had given back all of its early-week gains. Right about then was the abracadabra moment. Stocks began a kneejerk rally, which continued through the balance of the session. By the end of the day, SPX had levitated by 1.1% and COMP by 2.2%. The tech sector soared 3.4% net for the day. Apparently, initial concerns that the higher month-over-month core CPI reduced the probability of a half-point Fed rate cut were assuaged by the realization that year-over-year headline inflation at 2.5% was the lowest level in more than 3½ years.
The rebound rally continued through the last two sessions of the week, though the rate of climb leveled-off noticeably. Net for the week, SPX gained a couple ticks more than 4%. COMP gained nearly 6%, driven in large part by a strong tech sector, which rose more than 8%. Even the Russell 2000 Index of small-cap stocks (RUT) had a magical week, gaining 4.3%. But recall that, in the prior week, SPX was down 4.25%; COMP lost 5.77%; the tech sector plunged 7.45% and RUT fell 5.53%.
If you’re getting a sense of déjà vu, it’s probably because we saw a very similar script play out a couple months ago. The first two weeks of September have been a miniaturized version of the July/August market decline and rebound: a steep plunge followed by an equally steep rebound rally. And there are several features of the July/August market that still seem to be in the works now. First is that where COMP easily outperformed SPX through the first half of the year, SPX began to outperform COMP in July and continues to do so. Where SPX nearly recovered all of its July loss in August, COMP fell well short of getting back to anywhere near its old high. Last week’s rebound got SPX back to within a whisker of its August high, while COMP is still about 1.4% below its August rebound peak. A second related but important feature is that the tech sector, which led the market higher through the first half of the year, has been underperforming several of the dull, low-beta, defensive sectors. Like COMP, the tech sector stalled well short of its July high on its August rebound, and even with last week’s big rally, the sector is still about 4% below its August rebound high. Meanwhile, sectors including consumer staples, real estate and utilities made new highs in August and even higher highs last week.
Certainly, the steep decline in intermediate-term and longer-term yields has played a role. The 10-year U.S. Treasury note yield was near 4.5% in early July. It had slumped to about 3.8% by early August and spent most of that month between 3.8% and 4.0%. Last week, that yield fell to as low as 3.61% and ended the week near 3.65% – levels it hasn’t seen since May 2023.
I still believe that the benchmark 10-year Treasury yield will be an important metric to watch in the months ahead. The risk that no one is talking about is that the ballooning federal debt and fiscal deficit could eventually force Treasury note and bond yields higher, even if the Fed has reduced its target overnight lending rate. And potentially worse, those yields could be forced higher even in an environment of slow economic growth, when lower rates would be most needed. This week’s Barron’s has an article called “The Crisis No One Wants to Address,” which does a good job putting some perspective on how serious the debt and its implications are becoming.
SPX ended last week near 5626, less than 1% below its July high. While higher highs are certainly within reach, it will take a real magic trick for the index to reach significantly higher levels any time soon. The market is already richly valued, and the potentially leading sectors have seen significant technical deterioration. The first sign of trouble on the downside would be falling back below its 50-day moving average, which begins this week near 5511.
This week’s economic report calendar includes retail sales data on Tuesday and the initial and continuing unemployment claims numbers on Thursday. Any reaction to those reports will likely pale in comparison to the market volatility that will follow Wednesday’s policy announcement and press conference.
|
Economic Calendar (9/16/24 – 9/20/24) |
Previous |
Consensus |
|
| Monday 9/16/2024 | Empire State Manufacturing Survey, September |
-4.7 |
-5.0 |
| Tuesday 9/17/2024 | U.S. Retail Sales, August, M/M |
+1.0% |
-0.3% |
| U.S. Retail Sales ex Autos, August, M/M |
+0.4% |
+0.2% |
|
| Industrial Production, August, M/M |
-0.6% |
+0.1% |
|
| Home Builder Confidence Index, September |
39 |
40 |
|
| Wednesday 9/18/2024 | Housing Starts, August, SAAR |
1.24mm |
1.31mm |
| Building Permits, August, SAAR |
1.40mm |
1.41mm |
|
| FOMC Policy Decision | |||
| Chairman Powell Press conference | |||
| Thursday 9/19/2024 | Initial Jobless Claims |
230K |
230K |
| Continuing Claims |
1.850K |
||
| Philadelphia Fed Manufacturing Survey, September |
-7.0 |
+2.7 |
|
| Existing Home Sales, August, SAAR |
3.95mm |
3.88mm |
|
| Leading Indicators, August, M/M |
-0.6% |
-0.4% |
|
| Friday 9/20/2024 | No reports scheduled | ||