Last week was always going to be about Wednesday’s Federal Reserve meeting and its fallout. We are undergoing a major shift from the question being “How high will interest rates go?” (the market’s obsession over the last eighteen months) to “How long will interest rates stay high?” going forward.
It is now the answer to this second question that will determine if the Fed’s stance is deemed to be hawkish (bad for stocks/bonds) or dovish (good for stocks/bonds). For any rally to continue, markets need, at a minimum, for the Fed to meet current expectations of (almost) no more rate hikes and, ideally, hint at rate cuts sooner rather than later.
The 2023 rally has been fueled by the economy and inflation both being “not as bad as initially feared.” But at this point, the fear has evaporated and as such the market has now lost the power of positive surprises. To fuel another leg higher, we need a new catalyst and the next possible candidate was the endorsement of the idea of rate cuts in early-to-mid 2024.
The Fed has one eye on Detroit. Unions all over the country are under pressure from a membership grappling with monthly bills going up for the basics, from gas to food to child care to be more aggressive in pay negotiations. And this could well have the end result of making higher inflation stickier and harder to kill and possibly pushing the Fed into a more hawkish posture.
When it came out on Wednesday, the announced decision to leave the Fed Funds interest rate unchanged surprised absolutely no-one, but there were some nuggets in the quarterly “dot-plot” data to pore over.
For instance, the median policy maker on the committee now sees core inflation ending the year at 3.7%, down from 3.8% currently and from their 3.9% estimate back in June. As for interest rates, their median projection was for one more quarter-point rate increase sometime before the end of this year. There are two meetings left to do this, in November or December.
But the biggest shift in projections was for interest rates in 2024. The median estimate is now for the Fed Funds rate to end next year at 5.1%, which is a full half point higher than the prediction of last June and only a quarter of a point below where it is now - essentially pricing in just one or a maximum of two rate cuts before 2025.
Bottom line: The Fed used Wednesday’s statement, dots and press conference to send a strong message to financial markets that interest rates are going to stay higher for longer, get used to it.
Stock investors and professional traders were not impressed that their dream narrative of an orgy of interest rate cuts throughout 2024 was being undermined and equity prices fell hard. Tech stocks in particular took a swan dive right after the announcement.
The plunge continued into Thursday, further accelerated by a surprising fall in weekly jobless claims numbers and although the rate of decline eased a little on Friday, it was a fourth consecutive down-day and the S&P 500 index notched its worst week since March. Along with all the other indexes, it’s now moved into oversold territory and at least a short term relief rebound can be expected early this week.
The Fed is trying to read tea leaves in the dark. There are many naysayers and they were especially vocal following the release of the dot-plot projections which appear to assume a very rare, some say almost impossible, “Goldilocks forever” scenario of continuing steady growth combined with a low unemployment rate and inflation falling back to the Fed’s target of 2% by 2026.
Elsewhere, central banks raised interest rates in Sweden, Norway and especially Turkey (up 5% to 30%!) while those in the UK, Japan and Switzerland caused something of a stir by leaving their rates unchanged.
House Speaker Kevin McCarthy’s already-weak position is getting even more fragile as he appears to have now lost control of the scruffy riffraff of radical rebels in his own party who are giving him the finger and becoming even bolder and more manically destructive, now with the full blessing of the likely Republican candidate in next year’s election. As a direct result of this mutiny and McCarthy’s frankly pathetic ineffectiveness in fighting it, a government shutdown (see EXPLAINER: FINANCIAL TERM OF THE WEEK below) next weekend is shifting from being a possibility to a likelihood.
It is estimated that a lapse in federal funding could cut 0.2 percentage points from the quarterly GDP growth rate for each week that it lasts and so an extended shutdown theoretically has the capability to simply by itself tip the U.S. into a recession. A shutdown also risks derailing the timely collection, accuracy and even publication dates of key economic data, which would likely blind the Fed in a fog of ignorance and uncertainty and make future data revisions more dramatic and market-impactful. The Fed always insists it is data-dependent, what's it to do when the data runs dry?
There remain two primary events that could cause see the recent pullback in stocks to spiral out of control. The first is a Growth Scare. Sentiment that assumes a soft landing is still dangerously complacent. If the markets actually start to believe this whole “rates-higher-for-longer” thing (and they’re starting to) then worries about a growth slowdown will begin to rise (especially with a looming shutdown and increasing labor strife), which could easily end up triggering a 5%-10% price decline from here.
The second is an Inflation Rebound. If the Fed suddenly signals it could hike rates more than once (which could happen if inflation bounces back in the next few readings) then that would send market interest rates even higher and weigh heavily on stocks, as the “Fed almost done” and disinflation pillars of the 2023 rally could come under serious attack.
OTHER NEWS ..
Home Affordability Is At Its Worst For Decades .. For the first time since the 1980’s, the median U.S. income is not adequate enough to qualify for enough of a mortgage to buy the median-priced U.S. home (based on a 20% downpayment).
Another Not Great Week For Elon .. Hot on the heels of a biography that described him as a “man-child” and exposed his toxic and bullying behavior as well as having to defend himself against charges of increasing poor judgement calls in that he provided assistance to Putin and Russia by ordering the strategic jamming of internet access to Ukrainians and, bizarrely, quickly jumped in last week to naively tweet his support and encouragement for Russell Brand, the dim-witted, never-been-funny and utterly talentless alleged celebrity rapist, before even looking at the highly compelling evidence of guilt that was publicly released, Elon Musk is now facing off with the Justice Department who have launched a criminal investigation into Tesla’s unsatisfactory disclosure of benefits the company paid him, including a house.
This is hardly Musk’s first rodeo when it comes to playing fast and loose with the truth about his businesses and breaking financial regulations. He paid a $20m fine and was forced to step down as chairman of Tesla after the Securities and Exchange Commission (SEC) found that he lied to shareholders and the public back in 2018 in order to try and manipulate Tesla’s stock price for his own benefit. An increasing number of Tesla shareholders are becoming rather concerned at his tendency towards impetuous and reckless conduct which seems to be impacting their investment. Tesla stock has significantly underperformed the NASDAQ index since Musk took over Twitter in late October 2022.
Flooding Trouble .. A federal program that provides critical flood insurance is set to lapse unless renewed by the end of the month, potentially stranding new home buyers in need of coverage. The National Flood Insurance Program provides a safety net for the increasing number of communities that are vulnerable to flooding and might not have access to any other coverage.
Now lawmakers are deadlocked over extending the program, which is facing a backlash over a new pricing model intended to make premiums better reflect a home’s risk. The new pricing will take several years to be fully implemented and result in rate hikes for two-thirds of the program’s 4.7 million policyholders, according to the Government Accountability Office.
Lack of coverage availability or massively higher rates could drive people out of flood zones, slam property values and even lead to people losing their homes because they can no longer access or afford insurance that is a mandatory condition of their mortgages.
UNDER THE HOOD ..
The S&P 500 index SPXclosed on Friday at 4320,significantly down for the week. The next upside resistance points are to be found at 4350, 4425 and 4450. Downside support levels are at 4285, 4257 and 4190.
Small Cap stocks continue to lag the Large Caps badly with Small Cap indexes falling to recent new lows relative to the big dogs last week. This implies that an end to the current consolidation is not yet particularly close at hand.
Trading volume is low all round with the normal summer disinterest unusually stretching well into the month of September, but Demand has been falling at a faster rate than Supply has been expanding, so while weaker Demand leaves the market more vulnerable, without being mirrored by a more-than-equivalent increase in Supply, the extent of the retracement appears likely to remain contained in the short term. A sudden spike in Supply, however, could see things change quickly - and not in a good way.
Up until the rather violent reaction of the second half of last week, the market consolidation had been a rather uneventful meandering gently lower for Large-Cap-dominated major price indexes. But, with Small Cap stocks and other risk sensitive groups (especially tech and tech-adjacent) demonstrating continued relative weakness, substantially increased volatility is back on the table as a distinct possibility.
Anglia Advisors clients are welcome to reach out to me to discuss market conditions further.
THIS WEEK’S UPCOMING CALENDAR ..
Costco, Nike, Micron, Accenture, CarMax and Carnival all report their Q2 results this week.
The economic highlight of the week will be the “real” inflation reading, Personal Consumption Expenditures (PCE) price index for August out on Friday. The Core PCE, which excludes food and energy components and is the inflation measure most trusted by the Federal Reserve's, is expected to be up 3.9% from a year ago.
Other data to watch next week includes the Consumer Confidence Index, the latest Durable Goods report and the third and final estimate of Q2 Gross Domestic Product (GDP) growth on Thursday.
LAST WEEK BY THE NUMBERS ..
Last week’s market color courtesy of finviz.com
Last week’s best performing US sector: Healthcare (two biggest holdings: UnitedHealth Group, Eli Lilly) - down 1.0% for the week.
Last week’s worst performing US sector: Consumer Cyclical (two biggest holdings: Amazon, Tesla) - down 5.1% for the week.
The proprietary Lowry's measure for US stock market Buying Power fell by 9 points last week to 131 and that of US stock market Selling Pressure rose by 12 points to 139over the course of the week and resumed a dominant position over Buying Power.
* SPY, the S&P 500 Large Cap ETF, is made up of the stocks of the 500 largest US companies. It is below its 50-day and 90-day moving averages but above its long term trend line, with a RSI of 32***. SPY ended the week 9.9% below its all-time high (01/03/2022).
* IWM, the Russell 2000 Small Cap ETF, is made up of the bottom two-thirds in terms of company size of the group of the 3,000 largest US stocks. It is below its 50-day and 90-day moving averages and also below its long term trend line, with a RSI of 29***. IWM ended the week 27.1% below its all-time high (11/05/2021).
*** RSI (Relative Strength Index) above 70: technically overbought, RSI below 30: technically oversold
* The VIX, the commonly-accepted measure of expected upcoming stock market risk and volatility (often referred to as the “fear index”) implied by S&P 500 index option trading, ended the week 4.0 points higher at 17.8. It is now above its 50-day and 90-day moving averages but just below its long term trend line.
AVERAGE 30-YEAR FIXED RATE MORTGAGE ..
* 7.19%
(one week ago: 7.18%, one month ago: 6.96%, one year ago: 6.29%)
Data courtesy of: FRED Economic Data, St. Louis Fed as of Thursday of last week.
GROWTH ESTIMATE FOR THE CURRENT QUARTER GDP ..
* Q3: +4.9%
(Previous quarters .. Q2: +2.1% provisional .. Q1: +2.0% final)
This data comes from the Atlanta Fed’s GDPNow model “now-cast”, which is a running algorithmic estimate of real seasonally-adjusted GDP growth for the current measured quarter based on multiple data points as they are released.
FEAR & GREED INDEX ..
“Be fearful when others are greedy and be greedy when others are fearful.” Warren Buffet.
The Fear & Greed Index from CNN Business can be used as an attempt to gauge whether or not stocks are fairly priced and to determine the mood of the market. It is a compilation of seven different indicators that measure some aspect of stock market behavior. They are: market momentum, stock price strength, stock price breadth, put and call options, junk bond demand, market volatility and safe haven demand.
Extreme Fear readings can lead to potential opportunities as investors may have driven prices “too low” from a possibly excessive risk-off negative sentiment.
Extreme Greed readings can be associated with a sense of “FOMO” and investors chasing rallies in an excessively risk-on environment, possibly leaving the market vulnerable to a sharp downward correction at some point.
Data courtesy of CNN Business.
US INVESTOR SENTIMENT (outlook for the upcoming 6 months) ..
* ↑Bullish: 31% (34% a week ago)
* ⬌ Neutral: 34% (37% a week ago)
* ↓Bearish: 35% (29% a week ago)
Net Bull-Bear spread: ↑Bearish by 4 (Bullish by 5 a week ago)
For context: Long term averages: Bullish: 38% — Neutral: 32% — Bearish: 30% — Net Bull-Bear spread: Bullish by 8
Weekly sentiment survey participants are typically polled on Tuesdays and/or Wednesdays.
Data courtesy of: American Association of Individual Investors (AAII).
FEDWATCH INTEREST RATE PREDICTION TOOL ..
What will the Fed announce re: any interest rate change on November 1st after its next meeting?
* ⬌ No change .. 74% probability
(one week ago: 72%, one month ago: 54%)
* ↑ 0.25% increase .. 26% probability
(one week ago: 28%, one month ago: 46%)
Where will interest rates be at the end of 2023?
* ⬌ Unchanged from now .. 55% probability
(one week ago: 61%, one month ago: 53%)
* ↑ Higher than now .. 45% probability
(one week ago: 39%, one month ago: 42%)
Based on the Fed Funds rate (currently 5.375%)
Data courtesy of CME FedWatch Tool. Calculated from Federal Funds futures prices as of Friday.
US TREASURY INTEREST RATE YIELD CURVE ..
The interest rate yield curve remains “inverted” (i.e. shorter term interest rates are generally higher than longer term ones) with the highest rate (5.61%) being paid currently for the 4-month duration and the lowest rate (4.44%) for the 10-year.
The closely-watched and most commonly-used comparative measure of the spread between the 2-year and the 10-year fell from 0.69% to 0.66%, indicating a flattening in the inversion of the curve during the last week.
Historically, an inverted yield curve has been regarded as a leading indicator of an impending recession, with shorter term risk deemed to be unusually higher than longer term. The steeper the inversion, the greater the deemed risk of recession.
The curve has been inverted since July 2022 based on the 2 year vs. 10 year spread.
Data courtesy of ustreasuryyieldcurve.com as of Friday.
ARTICLE OF THE WEEK ..
“It’s not me; it’s the market that got it wrong.” Excuses, excuses.
EXPLAINER: FINANCIAL TERM OF THE WEEK ..A weekly feature using information found on Investopedia to try to help explain Wall Street gobbledygook (may be edited at times for clarity).
* A government shutdown occurs when there is a failure to pass the necessary funding legislation that will finance the government for its next fiscal year.
* During a government shutdown, nonessential government offices are unable to remain open; some essential workers must continue to work but their pay may be furloughed.
* Veterans' benefits and unemployment payments continue to be paid.
* Long government shutdowns impact the entire American economy.
A government shutdown happens when nonessential U.S. government offices can no longer remain open due to a lack of funding. The lack of funding usually occurs when there is a delay in the approval of the federal budget that will finance the government for the upcoming fiscal year. The shutdown remains in effect until funding legislation is passed.
During a government shutdown, many federally run operations will halt. Some organizations may still stay open by running on cash reserves, but once these funds run out, they will also close.
While shutdowns can also occur within the state, territorial, and local levels of government, the term "government shutdown" is usually used to refer to the federal government.
During a government shutdown, the U.S. federal government is required to reduce agency activities and services and cease any non-essential operations (including furloughing non-essential workers).
Some agencies remain open during a government shutdown. These services are those that, if suspended, would endanger the health, life, or personal safety of the public. Essential employees in departments covering the safety of human life or protection of property also remain employed. However, these employees may not earn a paycheck during the time of the government shutdown unless a specific spending bill is passed to fund those work hours.
Essential employees include those working in the Drug Enforcement Agency (DEA), the Transportation Security Administration (TSA), Customs and Border Protection (CBP), and the Federal Bureau of Investigation (FBI). In addition, Both the Federal Reserve and the Postal Service will both continue their operations because neither receive federal funds.
The real effects of a government shutdown are widespread. It may take longer or be impossible to process new loans for homes, businesses, and education. New applications for Social Security benefits and the processing of unemployment insurance will also slow. Death benefits and travel reimbursements will not be paid to the surviving family of service members killed during their military service.
If the government shutdown remains in place long enough, more agencies will close or reduce the services they provide to the public as a whole, and a larger portion of the American population will begin to see the direct effects.
WWW.ANGLIAADVISORS.COM | SIMON@ANGLIAADVISORS.COM | CALL OR TEXT: (929) 677 6774 | FOLLOW ANGLIA ADVISORS ON INSTAGRAM
This material represents a highly opinionated assessment of the financial market environment based on assumptions and prevailing data at a specific point in time and is always subject to change at any time. No warranty of its accuracy or completeness is given. It is never to be interpreted as an attempt to forecast any future events, nor does it offer any kind of guarantee of any future results, circumstances or outcomes.
The material contained herein is not necessarily complete and is wholly insufficient to be exclusively relied upon as research or investment advice or as a sole basis for any investment or other financial decisions. The user assumes the entire risk of any decisions made or actions taken based in whole or in part on any of the information provided in this or any Anglia Advisors communication of any kind. Under no circumstances is any of Anglia Advisors’ content ever intended to constitute tax, legal or medical advice and should never be taken as such. Neither the information contained or any opinion expressed herein constitutes a solicitation for the purchase of any security or asset class.
Posts may contain links or references to third party websites or may post data or graphics from them for the convenience and interest of readers. While Anglia Advisors may have reason to believe in the quality of the content provided on these sites, the firm has no control over, and is not in any way responsible for, the accuracy of such content nor for the security or privacy protocols that external sites may or may not employ. By making use of such links, the user assumes, in its entirety, any kind of risk associated with accessing them or making use of any information provided therein.
Those associated with Anglia Advisors, including clients with managed or advised investments, may maintain positions in securities and/or asset classes mentioned in this post.
If you enjoyed this post, why not share it with someone or encourage them to subscribe themselves?
