In Powell We Trust?
U.S. stocks fell on Friday amid a slide in Amazon shares, but the S&P 500 notched its sixth straight positive month.
The broad equity benchmark fell 0.5% to 4,395.26, dragged down by the consumer discretionary and energy sectors. The tech-heavy Nasdaq Composite slipped 0.7% to 14,672.68. The Dow Jones Industrial Average dipped 149.06 points, or 0.4%, to 34,935.47.
Amazon sank nearly 7.6% after it reported its first quarterly revenue miss in three years and gave weaker guidance. Pinterest fell even further, down 18.2%, after saying it lost monthly users during the three months ended June 30.
The major averages managed to wrap up a solid month, although volatility has picked up amid concerns about the economic recovery in the face of the spreading delta variant. The Nasdaq and Dow added about 1.2% and 1.3% respectively in July, while the broad S&P 500 gained close to 2.3% over the same period. Utilities, health care, real estate and technology stocks have led the S&P 500 higher for the month, while energy and financials have lagged.
“There has been quite a bit of volatility and price choppiness in the market in recent weeks,” Brian Belski, chief investment strategist at BMO, said in a note. “Increased concerns over the delta variant and its potential implications for reopening momentum seemed to play a key role in the price action, while peak themes related to economic growth, earnings, and policy support also remained an overhang on risk sentiment.”
Investors digested a key inflation indicator that showed better-than-feared price pressures on Friday. The core personal consumption expenditures price index rose 3.5% in June year over year. It marked a sharp acceleration in inflation, but came in slightly below a Dow Jones expectation of a 3.6% jump.
Weaker-than-expected readings on the U.S. economy further eased concerns about the Federal Reserve dialing back asset purchases.
U.S. second-quarter gross domestic product accelerated 6.5% on an annualized basis, considerably less than the 8.4% Dow Jones estimate. Meanwhile, the latest weekly jobless claims also came in higher than expected.
Fed Chairman Jerome Powell on Wednesday noted that while the economy has come a long way since the Covid-19 recession, it still has a ways to go before the central bank considers adjusting its easy-money policies.
Procter & Gamble shares rose nearly 2% after the consumer giant topped analysts’ estimates for quarterly earnings and revenue. However, the company warned that increasing commodity costs could hit its earnings in the upcoming year.
Shares of online brokerage Robinhood rebounded shy of 1% in volatile trading on Friday after closing its debut session 8% lower.
Any time Amazon gets pounded, it's not good news for stocks.
Amazon shares had their biggest drop in a year on Friday, and pulled down other e-retailers like Etsy, Ebay and Wayfair, all of which fell more than 7%.
Not surprisingly, Consumer Discretionary (XLY) and Tech shares (QQQ) were the worst performers this week as Amazon weighed on both these sectors:
Interestingly, cyclical/ value sectors like Materials (XME), Energy (XLE) and Financials (XLF) outperformed all other sectors this week despite the CDC's warning today that the delta variant sweeping across the country is as contagious as chickenpox, has a longer transmission window than the original Covid-19 strain and may make older people sicker:
CDC warns that delta variant is as contagious as chickenpox and may make people sicker than original Covid https://t.co/xeRRxAPxjR— Leo Kolivakis (@PensionPulse) July 30, 2021
It should be noted, however, these cyclical/ value sectors were underperforming over the past month with Energy bearing the brunt of the losses as safer sectors like Healthcare (XLV), Real Estate (XLRE) and Utilities (XLU) all outperformed as long bond yields fell abruptly over the last month:
The drop in long bond yields has been a conundrum and not even Jerome Powell gets what's up with the bond market:
You’re in good company if you can’t figure out why U.S. Treasury yields are tumbling. Jerome Powell isn’t sure either.
Bonds have relentlessly rallied for months, even as inflation spikes to 13-year highs. Textbooks and Wall Street lore say yields should be jumping instead of diving in the face of that.
The Federal Reserve chairman weighed in on the puzzle when asked about it Wednesday.
“We’ve seen long-term yields come down significantly,” Powell said at a press conference following the central bank’s latest policy meeting. “I don’t think that there’s a real consensus on what explains the moves between the last meeting and this meeting.”
Yields on 10-year Treasuries fell as much as 1.7 basis points to 1.22% following the Fed meeting, extending a drop from the one-year high of 1.77% reached at the end of March. More strikingly, 10-year real yields, regarded by some investors as a proxy for long-term growth outlook, tumbled to a new all-time low of minus 1.17%.
Powell did cite three possible explanations for the recent decline. Some of it was driven by a decline in real yields as the spread of the delta variant raised investors’ concern about a growth slowdown. Meanwhile, investors’ inflation expectations have moderated. And finally, there are the so-called technical factors -- “where you put things that you can’t quite explain,” he said.
Some investors agree that technical factors, such as traders bailing on ill-timed short Treasury bets, have contributed to the yield decline. Others blame the Fed’s monthly purchases of $120 billion in bonds. Worse, some investors even fault the Fed for prematurely signaling plans to reduce stimulus. By moving away from its commitment to the new policy framework of keeping rates low, the Fed ends up cutting the economic expansion short and keeping long-term yields low -- so goes the thinking.
On Wednesday, Powell dismissed the idea that investors are questioning the Fed’s credibility, saying its policy framework is “well understood.” But the “real test” will come down the road when the Fed raises rates, he said.
At Wednesday’s policy meeting, the Fed held interest rates in a range near zero and maintained asset purchases at $120 billion a month. The officials discussed how to go about scaling back bond buying when the time came, but no decision on taper timing has been made.
This week’s Fed statement was another non-story. They added a new line about continuing to “assess progress” which some interpret as a step toward tapering. If so, it was a baby step. They’re simply thinking about whether they should start discussing the possibility of making a plan to begin tightening when conditions are right.
This means the Jackson Hole speech in August will likely be a nonevent, and the earliest the Fed will even consider beginning to taper its massive quantitative easing is at the December meeting. Rate hikes are not even a discussion yet.
All this is as predicted in my Federal Reserve Folly letter last week. To reiterate, I believe the Federal Reserve has already made a policy mistake that will lead to great mischief if not a recession, depending on when they normalize. The problem is, they have created conditions that will cause normalization to have its own repercussions.
We are passengers in the Federal Reserve’s monetary policy plane. I fear the turbulence will be consequential. Will Jerome Powell be able to safely land in an airport of his choosing, or will he need to be Sully Sullenberger and find the nearest runway, even if it’s the Hudson?
I am worried the Fed will either let inflation become psychologically entrenched, or wait too long to stop it and spark crisis with a too-hasty response, but there are other possibilities. None are especially good.
I'll leave it up to you to read the rest of Mauldin's comment here but suffice it to say, he doesn't think it will end well:
Powell is riding the tiger of extraordinarily easy monetary policy. It’s not riding the tiger that is the problem, it’s the dismount. That tiger can turn on you savagely.
It’s not like bull riding at the rodeo. There are no clowns to distract the tiger. You better have your exit planned perfectly.
Mauldin isn't the only one worried that the Fed is losing control.
In his latest weekly comment, Francois Trahan of Trahan Macro Research warns that Fed policy remains too stimulative as inflation headwinds pick up and that will eventually catch up to equities:
He might be right but thus far, the bond market not only is ignoring all this, it's signalling a major slowdown lies ahead as long bond yields plunge and prices keep soaring higher:
So what gives? Is it the Fed buying Treasuries or leveraged funds including bank capital market operations that continue to load up on Treasuries as the repo market goes bonkers:
Demand for the Fed's overnight reverse repurchase facility surpassed $1 trillion for the first time ever https://t.co/3qM6WqLxDA— Bloomberg Markets (@markets) July 30, 2021
I do not know, all I know is that if the data does come in stronger and inflation picks up markedly, you might see the Fed pull a 180 and start tapering like crazy.
And that will kill this bull market in stocks.
But the data isn’t coming in stronger, it’s coming in weaker.
In fact, in his weekly market wrap-up, Martin Roberge of Canaccord Genuity sees a slowdown ahead followed by a re-acceleration in Q4:
Our focus this week is on the ongoing US growth slowdown. As we show in our Chart of the Week, the Citi US economic surprise index turned negative for the first time since Q2/20. Rising commodity prices and higher bond yields in Q1 likely acted as a tax on growth. A lingering pandemic worldwide, supply bottlenecks, fading government support and increasingly challenging YoY comps also likely contributed to economic statistics missing estimates as of late. In a nutshell, and as we discussed in our report on business cycle phases, the economy is slowing and now stands in Phase 3. Through Phase 3, market returns usually revert toward the historical mean, volatility increases, and the bond yield curve flattens, calling for a mix of cyclicals and defensives from a sector rotation standpoint. We still foresee a market correction, with our Risk-On/Risk-Off timing indicator at -3.0% (see next page) but the timing remains uncertain. As we suggested Wednesday, it could be a September/October story. That said, we stick to our bullet strategy in cyclicals. Indeed, our market-based reflation gauge, a mix of the US$, crude oil prices and bond yields, is calling for a bottom in growth momentum in Q3, followed by a re-acceleration in Q4. In all, the expected re-acceleration would send growth momentum back into Phase 2, suggesting investors should buy dips and add to their cyclical exposure upon a pullback.
We shall see how this all plays out in the coming weeks and months but I still maintain Risk-Off is creeping into Wall Street and you really need to focus on downside risk or you can get pinned badly in these markets:
Anyway, you get the idea, pick your spots carefully, forget the meme stocks and high-flyers, focus on boring quality companies that offer you some margin of safety.
If Powell and company do indeed fall off the tiger, your portfolio will get hit but not as badly.
However, one vote of confidence from investors this week came from the $6.5 billion Apple bond offering which was snatched up hard (allowing Apple to keep buying back its shares):
Below, Federal Reserve officials on Wednesday updated investors and economists on how they are thinking about inflation and employment in the United States. The central bank decided not to raise interest rates from near zero nor adjust the pace at which it buys government bonds each month. Chairman Jerome Powell addressed inflation in a press conference.
Powell does see some inflation ahead and said the Fed will act if inflation remains too high for too long (see second clip).
Third, "if things couldn't be better, there's no upside left," Guggenheim's Chief Investment Officer, Scott Minerd tells Scott Wapner on the Halftime Report. He discusses his call that it's time to start selling because the market can't really get any better than it is now and the resurgence of Covid could cause problems in the market, as well.
Lastly, "of course the delta variant is taking center stage, but we think it's delayed and not derailed the economic recovery," Rob Sechan, managing partner and co-founder of NewEdge Wealth, tells Scott Wapner on the Halftime Report. Sechan and Jason Snipe, chief investment officer of Odyssey Capital Advisors, discuss whether the market is headed for a major correction.