Over the last few days several economic data points have reinforced the view that the domestic economy is slowing. We've also seen continued back and forth on the trade front, between the U.S. and China as well as Mexico.
What has captured investor focus, however, is the Federal Reserve and the comments earlier this week from Fed Chair Jerome Powell that the Fed is monitoring the fallout from trade issues and eyeing the speed of the economy. Powell shared the Fed will "act as appropriate to sustain the expansion, with a strong labor market and inflation near our symmetric 2 percent objective."
This has led to a pronounced shift in the market, from bad economic data is bad news for the market, to bad news for the economy and trade is good news for the Fed to take action and cut interest rates. In other words, after the disappointing one-two punch of the IHS Markit US PMI and May ISM Manufacturing Index data, combined with the sharp uppercut that was the May ADP Employment Report as well as Friday non-farm payrolls numbers, "hopium" is back in the market.
We saw that again with Friday's market rally following the disappointing May Employment Report, which showed only 75,000 jobs created for the month.
While that data that will no doubt lead to downward current quarter GDP expectations, the hopium moved the market higher and helped reverse the sharp fall in the market in May, when all the major stock indices fell between 6.5% and 8%.
By comparison, in May, the Real Money Post-Industrial Average (RMPIA) declined just over 6%, buoyed by a more than 4% advance in Medtronic plc (MDT) shares and another nine positions that outperformed on a relative basis. Despite those efforts, double-digit, Huawei-related declines by Broadcom Inc. (AVGO) and Qualcomm Inc. (QCOM) led RMPIA lower month over month.
RMPIA is a modified market-cap weighted portfolio consisting of 30 of the most important stocks in the market today.
While the Fed of late has done a good job of telegraphing its moves, the new risk as we see it is the market's expectation over a near-term rate. The next Fed monetary policy meeting is less than two weeks away and already expectations for a rate cut exiting that two-day event has jumped to just under 28% from less than 7% a month ago, according to the CME FedWatch Tool.
Let's remember there are four more Fed monetary policy meetings -- in July, September, October and December -- and those give the Fed ample room to cut rates should the upcoming G20 Osaka Summit on June 28-29 fail to get U.S.-China trade talks back on track.
Anyone who has seen the Peanuts cartoon knows what happens when Lucy yanks the football out from under Charlie Brown at the last minute as he goes to kick it. To us, this makes the next two weeks ones to watch and to build a shopping list. If there is no trade progress coming out of the G20 meeting, this increases the potential for a July rate cut. If trade talks are back on track, we very well could see the Fed continue its current wait and see approach.
Looking inside RMPIA at its constituents, we find a variety of stocks, some of which are poised to benefit from structural changes that are underway and some that are approaching that stage.
For example, we are facing a significant demographic shift as Baby Boomers increasingly turn 70 years old. This will spur demand for medical care, pharmaceuticals and related services that bodes well for Walgreens Boots Alliance, Inc. (WBA) , CVS Health Corp. (CVS) , and others.
Meanwhile, consumers continue to shift how they shop to digital, which drives transaction volume for MasterCard Inc. (MA) and PayPal Holdings, Inc. (PYPL) as they shop online at Amazon.com, Inc. (AMZN) , or either online or in-store at Costco Wholesale Corp. (COST) stores, Starbucks Corp. (SBUX) , or even CVS.
The coming 5G wave should drive incremental demand at Broadcom as well as Qualcomm.
Should the Fed indeed cut rates in the coming months, a signal as well as confirmation of the slowing economy, investors are likely to revisit those names that are benefiting from structural change and delivering EPS growth.
As we see it, that is one of the reasons why RMPIA is outperforming the major market indices, and likely means it will continue to do so.
