All Smoke But No Fire
By Crest Capital Advisors on April 19, 2024
Dow: 0.01% to 37,986.40
S&P 500: (3.05%) to 4,967.23
Nasdaq: (5.52%) to 15,282.01
Russell 2000: (2.77%) to 1,947.66
10 Year Yield: 4.62%
Outperformers: Utilities 1.87%, Consumer Staples 1.44%, Financials 0.81%
Underperformers: Technology (7.26%), Consumer Discretionary (4.52%), Real Estate (3.64%)
US equities ended mostly lower this week as the market struggled to shake off more hawkish repricing of Fed rate cut expectations and geopolitical volatility in the Middle East. The Nasdaq sharply underperformed the other indices, while the S&P 500 logged its sixth straight losing session for the first time since October 2022.
Treasuries were mostly weaker with yields up across the curve. The US Dollar index was slightly higher, Gold was up 1.7%, and Oil ended the week down 4% despite very volatile trading on Iran-Israel tensions. Crude now at levels it was at prior to the April 1st Israeli strike on the Iranian consulate.
Overall, the market narrative this week was largely defined by more hawkish repricing of Fed rate-cut expectations with an undercurrent heightened war tensions in the Middle East. The big focus was on Israel’s anticipated response to Iran’s drone/missile barrage last weekend and the potential for a tit-for-tat escalation scenario. Ultimately, Israel carried out a very limited retaliation which Iran declined to respond to. Stocks traded lower on Friday despite the sigh of relief.
Beyond the more hawkish Fed commentary and volatile geopolitics, some other bearish narratives from this week included a big retail sales beat (good news is bad news on the economy) and a healthy correction in the semiconductor stocks. All in all, there is a lot of smoke, but we don’t see a fire that would cause us to change tactical opinions. Simply put, we see recent price action as corrective and healthy, and not a change in the underlying long term trend.
Tactical Outlook
The breakout higher in interest rates, combined with the bid to the US Dollar, strength from Oil, and the persistence from Gold, all conspired to weigh on investor risk appetites over the past few weeks. But one of the more difficult pursuits in this business is differentiating between a modest corrective phase vs. the start of something more sinister. Our base case remains that this near-term weakness should be viewed as the former and something that realistically was overdue. A pull-back and pause in the upward ascent of markets is healthy and sets the stage for ongoing increases as the year progresses.
As of mid-week, we noted that about 45% of the S&P traded to a 1-month low, just shy of the 50-60% zone where good tradeable lows often start to take shape. With election year seasonality (more on this below) trends playing out as anticipated, it’s likely that this corrective phase will eventually give way to more gains. If something nastier is indeed out there – e.g., if the moves in rates or Oil are going to start to hit the economy – we’d expect to see it manifest through leadership changes and that hasn’t really happened as of yet.
Also of note, with the late week trading action leading to additional market declines, we expect the market will have fully achieved an oversold condition and the correction will be that much closer to having run its course.
Taking a look at the percent of stocks trading above their 20-day moving average, we see we are fast approaching washed-out levels with just 9% (prior to Thursday and Friday of this week) above their respective averages. In the past, levels below 10% have proved to be attractive buying opportunities.
And finally, there’s this consideration….big election year Q1’s (which we got this year) tend to pull-back during the April-May period before gains resume once again over the last 7 months of the year. 2024 has been the 3rd best election year Q1 since 1950. So, it stands to reason the recent weakness should be expected, hopefully before resuming the historical pattern of more gains to come for the balance of the year. The track record of this historical analysis has seen only 2 losses in the last 7 months of election years since 1950, those occurred in 2000 & 2008. (The red line is 2024) whereas the green line is the average of the top 10 Q1 election years.
New Rent Inflation is Tumbling
This series is subject to revision, but it’s one of the only official reads on new rents. It’s average rents that get reported in PCE and CPI. It’s important because new rents tell you what’s actually happening in the housing market as opposed to the average renter’s experience which is used in the official government calculations.
The New Tenant Rent Index leads both the CPI Rent Index and the Cleveland Fed “All Tenant” Rent Index by about three quarters. It also tracks the Apartment List and Zillow new rent indexes (charts we’ve been showing you ad nauseum over the past few months), which are private and released monthly.
The bigger point here is that it argues that there will be considerable downward pressure on core inflation later in the year. Therefore, we continue to maintain our positive outlook on lower inflation prints later this year and eventual Fed rate cuts to come.
Powell’s Re-Set
Fed chair Powell took a calibrated step towards “high for somewhat longer rates” in his remarks this week, saying the strength of the labor market and the lack of further progress on inflation mean “it is appropriate to allow restrictive policy further time to work and let the data and evolving outlook guide us.”
Powell’s comments make it clear the Fed is likely looking past June as the time for the first rate cut. His remarks are consistent with the stock market bull’s “plan B” as the July timeframe for the arrival of the first of two cuts this year, but also leaves open the possibility that more sustained disappointment on inflation could deliver a more extended period of rates on hold.
Powell did not repeat guidance that rate cuts are likely to be appropriate this year, though he did observe that policy is restrictive – the main reason for wanting to cut as soon as it is prudent to do so.
We view this latest commentary as a measured hawkish reset of policy communication to a more neutral posture with less of an immediate bias to cut rates, though the basic idea of wanting to get more confidence inflation is moving lower before cutting rates remains intact.
But what has not changed is Powell’s read of the underlying economics, and this prevents us from reading him too hawkish overall.
Powell argued that strong growth is not leading the US economy to overheat, again embracing the idea – key to our own analysis – of a positive supply side surprise with the labor market “strong” but still “moving into better balance” with wages “continuing to moderate.”
So, this is an inflation-first Fed that wants renewed progress on inflation but is not alarmed about strong growth per se. Provided this analysis holds, the Fed’s expectation would be that inflation progress will resume, possibly before too long. (See prior post as to why that is)
We think Powell’s new framing implies that if / when that happens, the pause on rate cuts would be lifted and the Fed would move ahead. So, his communication spans the prospect that rates stay here only for a little longer until inflation “stickiness” gives way, and that of a more extended period on hold if necessary.
Economic Funnies
How we go from nothing can go wrong in this market to nothing can go right in just a few short weeks:
Crazy Stat of the Week
Here are this week(s) crazy stats!
A record high share of the population is planning to go on vacation to a foreign country within the next six months:
Despite the best efforts of the current US administration, the US now produces more oil than Saudi Arabia and Russia. See the chart below:
Quote of the Week
“Price is a creature of the market’s mood. In booms, it is set by the greediest buyer; in busts by the most fearful seller.”
-Benjamin Graham
Calendar of Events to Watch for the Week of April 22nd
We’ve hit full peak Q1 earnings flow and expect an equally big earnings week next week. On the US Economic Calendar, we get data readings on New Home Sales and Markit Services/Manufacturing PMI Tuesday, Q1 GDP, Pending Home Sales, and Weekly Jobless Claims on Thursday; and then wrap the week with Core PCE, Personal Spending/Income, and April’s final Michigan Consumer Sentiment print on Friday. It will be a busy week of data and plenty for both bulls and bears alike to digest,
Monday 4/22 –The Chicago Fed National Activity Index for March is expected to post a 0.3 reading, up from the prior month’s 0.05 level.
Tuesday 4/23 – The preliminary April readings of the Markit PMIs in Manufacturing and Services are expected to show modest increases over March’s report. Manufacturing is expected to expand to 52.7 from 51.9 last month and Services are expected to expand slightly to 51.8 from 51.7 last month. The Richmond Fed Index is expected to stay in contractionary territory at -8.0, a slightly better level than March’s -11.0.
Wednesday 4/24 – US Durable Goods for March are expected to show a 1.3% month-over-month increase. Ex-Transportation, the report is expected to show a 0.3% increase.
Thursday 4/25 – The first read on Q1 GDP will be out with economists expecting a 3.1% year-over-year rate and 2.1% quarter-over-quarter. Market participants will also be focused on the Chain Price quarter-over-quarter change where a 2.3% level is expected, up from 1.6% in the prior quarter. March Pending Home Sales are expected to post a 0.25% month-over-month increase.
Friday 4/26 – On the heels of the GDP report, the most important print of the week will be the release of the March Personal Consumption Expenditure (PCE). This is the Fed’s favored measure of inflation and following recently hotter than expected CPI and PPI reports, economists are really focused on how this report shakes out. For now, expectations are for 2.6% year-over-year rate, up from 2.5% last month with a 0.3% month-over-month increase. The Core (Ex-Food/Energy) is expected to increase a similar 0.29% month-over-month and 2.7% year-over-year, down from 2.8%. We’ll also get the final reading on the University of Michigan Sentiment Survey which is expected to come in at 77.5.
Source: MarketWatch
