A Coiled Spring

By Crest Capital Advisors on January 20, 2025

Dow: 3.69% to 43,487.83
S&P 500: 2.91% to 5,996.66
Nasdaq: 2.45% to 19,630.20
Russell 2000: 3.96% to 2,276.51
Bitcoin: 105,390
10 Year Yield: 4.62%
Outperformers: Energy 6.14%, Financials 6.10%, Materials 6.01%
Underperformers: No Negative Sectors

Major US stock indices posted solid gains this week, with the S&P 500 and Nasdaq rising after starting 2025 with two weekly declines. Treasuries were firmer, particularly in the middle of the curve. The 30-year yield touched 5% on Tuesday (after a steady rise to start the year) before pulling back.

Overall, it was a big data week, with the most notable release being Wednesday’s December CPI report. The important metric the market keyed upon was that Core December CPI was below consensus, helping to assuage inflationary fears. CPI followed a similarly well-received December PPI report on Tuesday which showed a flat core increase.

Overall, bullish themes were reasserted this week as the bearish narrative found that pushing down on a coiled spring only works for so long. Signs of continued disinflationary progress helped move Treasury yields lower after a multi-week run higher. Fedspeak generally supported policymakers’ optimism about the inflationary path. Thoughts about healthy 2025 earnings growth were helped by a generally positive start to the Q4 earnings season. Confidence in a continued consumer impulse was bolstered by solid December control-group sales as well as multiple updates out of this week’s ICR conference. Breadth improved notably after the latest bout of concerns about Mag-7 concentration. Even geopolitics was helpful, with confirmation of a possible Israel-Hamas ceasefire to begin Sunday.

The Q4 earnings season will begin to accelerate next week, with 43 S&P 500 constituents scheduled to report. The economic calendar will be very light and Fed-speak non-existent as the Fed prepares for its next meeting on January 27th. By far the big event next week will be the inauguration of Donald Trump on Monday at noon Eastern. Recall the market has been waiting for greater clarity on Trump’s policy plans, and media reports suggest his team has prepared numerous executive orders to be rolled out immediately that could relate to areas such as tariffs, immigration, deregulation, and energy.

Looking back at this week, we note that just when it appeared interest rates had reached a level the stock market could no longer bear, a cooler-than-expected inflation report mid-week reignited the bulls and stocks staged a massive comeback for the week. To be sure, rates remain uncomfortably high, but we have some breathing room as of the close this week after flirting with 5% on the 10-year Treasury at the start of the week.

Not Just a Domestic Problem

It’s not just here in the US where upward pressure on bond yields has been creating anxiety amongst stock market traders. (Thankfully the cooler-than-expected CPI report this week reversed this trend…at least for the time being) The chart below shows that rising yields is a phenomenon that is happening throughout the globe. In other words, at least in our opinion, it’s not due to fears of higher US inflation, but rather more to do with questions around growth and fiscal sustainability.

The worldwide bond rout threatens to complicate the efforts of central banks that have been cutting short-term interest rates. Rate cuts aim to lower borrowing costs for consumers and businesses. But the rise in yields is instead making it costlier to borrow, “tightening financial conditions” in Wall Street parlance.

Here’s what is behind the surge, and what it means:

Most analysts believe the US has been driving the recent bond-market selloff. Yields on the US Treasury, which rise when bond prices fall, got their first big boost in October with the release of strong monthly jobs data that wiped away fears of a looming recession. Then Donald Trump won the US presidential election promising policies that many investors believe are inflationary, and Federal Reserve officials shifted their forecasts to fewer rate cuts in 2025.

Changes in yields, however, tend to be correlated. When Treasury yields rise, investors seeking a better return can sell their German bonds to buy Treasuries. That causes German bond yields to also rise.

The good news for investors is that rising US Treasury yields generally reflect a robust economy, which should support corporate profits. Though inflation remains above the Fed’s 2% target, it has fallen sharply from its peak in 2022. Growth, meanwhile, has been far stronger in the US than it has in other large, rich countries. Once it becomes clear to traders and speculators that inflation is not on the verge of re-surging, then we fully expect the upward pressure on rates will abate and revert, and investors will once again have an all-clear to be buyers of equities. In short, we see this as a buy the dip moment, and not the start of something more sinister that would require changes to one’s investment holdings.

Contrarianism Remains Alive and Well

Two days ago we saw that bearish sentiment in the weekly American Association of Individual Investors survey spiked above 40% for the first time since November 2023, while bullish sentiment fell below 30% for the first time since November 2023 as well. (Note: Re-read that again. In 3 weeks, investor sentiment turned as sour as it was before the Fed “pivot” event!)

All it took was a few 1%+ down days to start the year for the bulls to scamper. Clearly, there are still a lot of weak hands in this market, which is a good thing if you’re hopeful for a more lengthy market rally (as we are). The time to be concerned is when the consensus stops getting spooked from short-term market pullbacks, because that suggests there’s too much complacency going on.  

Like clockwork, right when bearish sentiment jumped, we got some cooler than expected inflation numbers this week that pulled down bond yields and sparked a substantial turn-around rally in stocks.  

These Aren’t Your Grandfather’s Mega-Caps

JP Morgan’s Michael Cembalest shared the following chart in a recent piece that shows how unique today’s top 10 companies are relative to history:

We’ve never seen companies this big with margins like this before. These aren’t the railroads or iron smelting industrial companies of the past that required major fixed investments in plant and equipment. They are technology companies with more efficiency and scale than your grandfather’s mega caps. So consider the radically different make-up in the market today the next time someone tries to tell you the PE ratio compared to past markets is somehow too high. Perhaps much of it is actually justified?

Reasons for Optimism

The US Household sector enters 2025 in excellent financial shape. Debt-to-asset ratios are at 50-year lows!!

Earnings Season Preview

Q4 EPS season formally kicked off this week, and so far the first sets of reporters seem to be exceeding estimates. Coming into the quarter, growth for the overall index was estimated to be 9.5%. On the revenue side, growth is expected to come in at about 4.1%. The leaders on the top line side are slightly different with Technology & Utilities expected to be the biggest winners. We can already see the major financials have posted much stronger than forecast results. We’ll update this table throughout the earnings season.

Economic Funnies

Crazy Stat(s) of the Week

• Is this what the Fed expected when they finally acted to cut interest rates? Since the “easing” cycle began, short-term/overnight rates have been cut by 100 basis points (1%) while mortgage rates (arguably the more influential on consumer behavior) have increased by 70 basis points (0.7%)!!

• Over the last 6 months, the cap-weighted S&P 500 Index (the primary index that everyone knows) and the equal-weighted S&P 500 Index (the version of the index that gives each company a 1/500 weighting rather than allowing the biggest to influence the outcome) have returned nearly identical results.

Quote of the Week

“Data center power demand will add the equivalent of a top 10 power-consuming country by the end of the decade.”              

              –         Goldman Sachs Research

Calendar of Events to Watch for the Week of January 20th

With the Fed having entered its usual pre-meeting “quiet period” (prior to the next meeting on the 27th of January), and the economic calendar looking very light, the main drivers of risk sentiment next week are likely to be focused primarily on earnings, with perhaps a bit of political influence as the Trump administration officially takes the reins on January 20th. Expect a flurry of executive orders to mark the first round of Trump policy changes, but likely still not a lot of detail on tax cuts and tariffs. Overall, we expect earnings will dominate the headlines next week as we move closer to the peak week of earnings for the season.

Monday 1/20 – US Markets (and Banks) will be closed in observance of Martin Luther King Jr. Day.

Tuesday 1/21 – No major US economic news today. Looking abroad, Canadian CPI is expected to come in at a benign 1.6% year-over-year rate.

Wednesday 1/22 – The December Leading Indicators will be released with economists projecting a slight negative reading of -0.05%. Despite the resilient economy, the Leading Indicators data set has remained mired largely in contraction for the better part of the past 18 months.

Thursday 1/23 – Nothing really material on deck today other than the usual Thursday Weekly Jobless Claims report.

Friday 1/24 – The preliminary Markit PMIs for Manufacturing and Services will be released today with consensus forecasts expecting readings of 48.9 (contractionary) and 58.5 (red hot) respectively. This continues the have/have-not economy we’ve seen since the pandemic began, with manufacturing struggling but services (more than 70% of the US economy) growing robustly.

Source: MarketWatch / FactSet (January 2025)