How interesting was the process of price discovery on Thursday.
All the major equity indexes opened deep in the hole and then spent nearly the entire six-and-a-half-hour regular session in rally mode just to get back to something close to unchanged.
Front-month West Texas Intermediate (WTI) crude futures traded below $91 per barrel before storming all the way back to go out with a $96 handle. The US 2-year/10-year yield spread went out at -19 basis points after investors sold the 10-Year Note and at least held the Two-Year Note in place. I saw that spread at -18 basis points here on Friday morning. I see the more interesting even if less focused upon US 1-year/30-year yield spread at -4 basis points early on Friday morning as well.
Just as interesting was the movement in the fed funds rate futures market in Chicago. Those futures markets currently are pricing in a 54% probability of a 75-basis-point rate hike on July 27, whereas 24 hours ago that market was pricing in an 85% likelihood for a 100-basis-point hike this month. These markets are also pricing in a 52% probability for another 75-basis-point hike on Sept. 21 and a 70% likelihood of a year-end fed funds target range of 3.5% to 3.75%, which is down from Thursday's year-end target of 3.75% to 4%. The fed funds rate currently stands at 1.5% to 1.75%.
The answer is threefold.
At first, financial markets on Thursday reacted to rather awful-looking second-quarter earnings releases from both JPMorgan Chase (JPM) and Morgan Stanley (MS) . These poor results were followed shortly by a hot headline July Producer Price Index (PPI) report that had the algorithms that control price discovery in the modern era all abuzz in expectations of even more aggressive Federal Open Market Committee (FOMC) monetary posture. That was all assuaged to some degree by comments made by Fed Governor Christopher Waller, who was in no way dovish, but was also not ready to get uber-hawkish.
First, The Banks
This was ugly. JPMorgan Chase and Morgan Stanley both reported quarters that fell short of expectations for both top- and bottom-line performance. In Morgan Stanley's case, that bank reported year-over-year revenue contraction. Both banks had to beef up provisions for credit losses, both saw contraction (JPM) to near collapse (MS) in investment banking activity. JPM saw a large contraction in its consumer business, while MS took a trading hit.
Why did JPM close down 3.5% for the day while MS gave up just 0.4%? Easy. JPM suspended its share repurchase program, while MS is famously beefing up its similar program.
Now, this is very interesting. Headline June PPI hit the tape at a jarring pace of 11.3% year over year with the street looking for growth of 10.7%. The month-over-month number hit the tape at 1.1%. This was about as nasty for markets as had been the Consumer Price Index (CPI) report a day earlier. It took a little more time and thought for traders and investors to realize that progress at the core actually had been made. Core June PPI printed at growth of 8.2% year over year. The year-over-year core print has contracted from the month prior for each of the past three months after peaking in March at growth of 9.6%.
Core PPI, just like Core CPI, has printed at a less-hot level for each month since both apexed that same month (March), confirming at least for some that core inflation did peak exactly when many of us had predicted it would. The reason that we focus on core inflation, when in the real economy folks feel headline inflation, is because the Fed can only under current circumstances impact core inflation through demand destruction.
Demand for both food and energy is far more inelastic, and inflation there is the result of global scarcity more than any domestic impact. While we know that headline inflation for July will likely be much cooler than the prints for June, that only will be because global markets for crude have cooled themselves in anticipation of a global recession and not because the Fed got the fed funds rate off the zero bound. Just an FYI, Core PCE (Personal Consumption Expenditures), which is what the Fed watches, peaked in February and has also improved every month since.
One must understand that Christopher Waller is probably one of the most influential voices at the Fed's Board of Governors, perhaps taking a back seat only to Fed Chairman Jerome Powell and Fed Vice Chairman Lael Brainard. Speaking from Victor, Idaho, Waller called the headline 9.1% June CPI release "a major-league disappointment." After saying that, Waller added, "We don't want to make snap policy decisions based on some knee-jerk reaction to what happened in the CPI report."
While not completely ruling out a large hike unless more data called for it, and with those futures markets in Chicago pricing in a full percentage point hike later this month, Waller added... "You don't want to overdo the rate hikes. A 75-basis-point hike, folks, is huge. Don't think because you're not going 100, you're not doing your job." Waller also said that he thinks a fed funds target range of 2.25% to 2.5% (inferring a 75-basis-point hike) would get policy close to neutral, as in not stimulative, nor restrictive.
On Thursday, after that early beatdown and after Christopher Waller's comments, equities came storming back. The Nasdaq 100 led all major large-cap indexes, ending the day up 0.34%, while its sibling, the Nasdaq Composite, closed about as close to unchanged as you probably can get during the decimalized, electronic, algorithmic era. The Composite gained 0.03% for the session.
These tech-heavier indexes were supported by the S&P Technology sector SPDR ETF (XLK) that at +0.92% was the only sector SPDR among the 11 that closed substantially higher. Staples (XLP) did manage a gain of 0.08%, while the Utilities (XLU) closed flat. The other eight sector SPDRs shaded red for the session, led lower by the Financials (XLF) , Energy (XLE) and the Material (XLB) , as those three funds all closed just short of 2% lower.
It was the semiconductors that pushed the XLK fund and the Nasdaq siblings higher. The Philadelphia Semiconductor Index gained 1.92% for the day after a solid quarter was reported by Taiwan Semiconductor TSM that also included increased revenue guidance for the current quarter. As for the rest of the equity universe, the S&P 500 gave up just 0.3% while the smaller-cap indexes had a more difficult time. The S&P 400, S&P 600 and Russell 2000 all surrendered something close to or slightly more than a full percentage point on the day.
Losers beat winners by about 3 to 1 at the New York Stock Exchange and by more than 2 to 1 at the Nasdaq Market Site. Advancing volume took just a 14.7% share of NYSE-listed composite trade but a 49.3% share of that same metric for Nasdaq-listings. Aggregate trading volume increased slightly for listings at both of New York's primary exchanges but remained alarmingly light. There cannot be much of a takeaway made from what we've seen in the volume really since the start of July.
All you need to do is look below to know that Friday is going to be a heavy macro day. First up, we'll see the Empire State Manufacturing Index. The street is looking for a slightly contractionary number here. This is important because it is our first look at the US manufacturing base for July, and in June all five major Fed regional manufacturing surveys printed in headline contraction. Philly and Richmond may be higher profile than New York from a manufacturing perspective, but New York bats leadoff each month.
After that, you'll see June Retail Sales from the Census Bureau and after that, the Fed will release data on June Industrial Production and Capacity Utilization. Retail Sales are expected to have rebounded off an awful May, while even if headline Industrial Production remains weak, capacity utilization should remain relatively elevated. These numbers matter because they all play a role in the Atlanta Fed's GDPNow model and Atlanta will revise the model for the second quarter later this morning. Currently, Atlanta has Q2 GDP running at -1.2% quarter over quarter SAAR (seasonally adjusted annual rate), but the model has not been revised in a week, so that number is stale. If everything today prints at consensus, Atlanta's estimate should pull closer to the zero bound.
When I was a highly motivated, truly dedicated, fire-eating 18-year-old hard-charger, I was a decent athlete. I was strong, and I was fast. Just 4% body fat. A lean 165 pounds. Sustained five-minute miles. Six-minute miles with 40 pounds of gear, and I could bench-press 320 pounds. By no means, some kind of record. Pound for pound, though, just short of two for one. Almost 40 years and 48 shoulder separations/dislocations later, I have to be very careful on the bench. I still exercise more than any man my age should, but I can no longer try to max anything involving my shoulders. I call 320 my bench-mark.
The Russian government has supposedly been trying to create its own benchmark for oil for more than 10 years. There has been no success. However, national ambitions in this regard have changed with that nation's invasion of Ukraine and the sanctions placed on Russian oil, known as Urals, by western nations have impacted energy markets.
Urals typically trade at a discount to Brent crude, and that discount has steepened in recent months. Russia is not only seeking a way to permanently circumvent dollar-denominated commodity markets but is seeking a way to ensure that it can sell oil and other energy products without any external restriction or impact on price. Stay tuned on this story.
As of the closing bell tonight, Alphabet (GOOGL) will split 20 for 1. GOOGL is off about 23% year to date. One would think that even though splits do not change anything fundamental, that a lower per share price will bring in smaller investors looking to own full shares, and the market price, for otherwise inexplicable reasons, then does well. Right?
Not so fast, my friend. Amazon (AMZN) split 20 for 1 on June 6 (D-Day). That stock is down 14.2% since June 6. Shopify (SHOP) split on June 29. That stock is already down 12.3% since and that was a little over two weeks ago. So, buy Alphabet either going into or coming out of that split if you would be buying it had there been no split., The split should not factor into that decision. Recent history suggests that stock splits work less well in bear markets.
Economics (All Times Eastern)
08:30 - Empire State Manufacturing Index (Jul): Expecting -1.5, Last -1.2.
08:30 - Retail Sales (Jun): Expecting 0.9% m/m, Last -0.3% m/m.
08:30 - Core Retail Sales (Jun): Expecting 0.6% m/m, Last 0.5% m/m.
08:30 - Import Prices (Jun): Expecting 0.7% m/m, Last 0.6% m/m.
08:30 - Export Prices (Jun): Expecting 1.1% m/m, Last 2.8% m/m.
09:15 - Industrial Production (Jun): Expecting 0.1% m/m, Last 0.2% m/m.
09:15 - Capacity Utilization (Jun): Expecting 80.4%, Last 80.8%.
10:00 - Business Inventories (May): Expecting 1.2% m/m, Last 1.2% m/m.
13:00 - Baker Hughes Total Rig Count (Weekly): Last 752.
13:00 - Baker Hughes Oil Rig Count (Weekly): Last 597.
The Fed (All Times Eastern)
08:45 - Speaker: Atlanta Fed Pres. Raphael Bostic.