Now, that was a week! What else can one say after all that transpired? Just spectacular when one stops and realizes that it all happened in just four days.
We have a saying on Wall Street, that "short weeks are always long." The old adage is a reflection of our environment, where a large percentage of Wall Street traders and brokers either work for their own book (profit/loss) or for straight commission. Base salaries are not how a whole lot of folks on the Street make their living.
Hence, when holidays pop up, there is more pressure on earning a certain number per day through what could be a tough week or month. Because of this intense pressure, short weeks are not as looked forward to on Wall Street as they might be in lines of work where there are nice things such as paid holidays, sick days, and vacations. Especially if one falls behind early in the week.
Though still a short week, last week was not one of those weeks where the pressure was as intense as it can be sometimes. Trading volume improved as the calendar turned, as the markets moved through an MSCI rebalancing and as a number of news/macroeconomic events kept the ball moving, and kept it moving in the right direction (for the net-long crowd) I might add.
In fact, at least for me, last week had that familiar "bull market" feeling to it. I am not calling this a true bull. I am still a long way from doing that. Understand though, that we play the environment provided, not the one we expected, meaning that price discovery is ultimately what calls the shots here.
Sovereign Default Averted
Last weekend, the respective staffs of President Joe Biden and Speaker of the House Kevin McCarthy worked out a deal for what would end up being a 99-page bill that would suspend the debt ceiling all the way through the 2024 presidential election and into calendar year 2025. The bill first squeaked past the House Rules Committee on a narrow 7-6 vote last Tuesday, but then easily passed in both the full House and the Senate (on Friday) in highly bipartisan fashion.
Though I see this bill as less fiscally responsible than those who named it, it was nice to see the extreme ends of both major political parties overwhelmed in numbers by those more willing to compromise.
The result of the vote in the Senate came a bit earlier and a bit easier than some had expected and was just one reason why investors plowed capital into equity markets in almost panicked fashion (causing a squeeze?) on Friday, putting a cherry on top of the four-day trading week. Default? Not this time.
There was another game in town last week, and perhaps this game captured a greater share of trader and investor attention, as not too many folks really expected to see a U.S. default. That game was in domestic labor markets. A number of labor market related data points were released throughout the final three days of the week, culminating with the twin BLS surveys for May that hit the tape on Friday.
The JOLTS report for April kicked things off on Wednesday, and this report showed an unexpected return to growth in job openings after three successive months of what had been a rapid decline in this item. On Thursday morning, investors first saw what was a hotter-than-expected ADP Employment Report for (private employment) job creation in May, as well as first-quarter revisions to both non-farm productivity and first-quarter unit labor costs.
In the end, the employed cost their employers more and were far less productive in the first quarter than in the quarter prior, but the disparity between productivity and costs were not quite as wide as first reported. Was this a positive? I'll go with it being "better than feared." In addition, on Thursday, initial jobless claims printed below expectations.
All good, right? We're not done.
This past Friday was "Jobs Day" for May and the results of the two BLS surveys were quite mixed at best. You may have heard that the BLS data reflected a healthy labor market for May. That would be some lazy analysis, or rather, simple regurgitation of analysis provided by those with an agenda. While the Establishment Survey showed job creation of 339K positions in May and an upward revision (of 41K) to 294K for April, that was about it for any positivity. Beyond that headline number, this was an exceedingly weak report. Key word... "exceedingly."
While most of the financial media immediately jumped on that headline number, and chose not to do the necessary homework that brings more clarity to the report, those who did quickly understood why the Fed went to such lengths to flip Fed Funds futures from pricing in a rate hike on June 14 to pricing in a "skip" for this month.
The Household Survey showed job destruction (not creation) of a net 310K persons losing employment in May. Is there really a contraction in paid positions under way across the U.S.? Are more individual workers taking on more than one position? It has to be one of those two, or a mix of both. Not a positive in either circumstance.
The fact is that the unemployment rate increased from 3.4% to 3.7%, which is quite a jump for just one month, as the underemployment rate moved from 6.6% to 6.7%. The decay in the quality of U.S. labor markets was quite broad, as unemployment rates moved higher for men, for women, for Caucasians, for African-Americans, for Asians, for high school dropouts, for college dropouts and for college and college (+) graduates alike. From a demographics perspective, only Hispanics/Latinos held their ground, and educationally, only high school grads who never started college held their ground. Neither of those two groups showed any improvement mind you, they merely held their position.
As for wage growth, average hourly earnings increased 0.3% month over month and 4.3% year over year. Both of these metrics represent slowdowns from April. The Cleveland Fed projects core CPI for May at +0.45% m/m and +5.34% y/y, suggesting that U.S. workers continue to fall behind.
Another metric for demand for labor is average weekly hours. That metric dropped to 34.3 hours in May, from 34.4 hours in April and 34.6 hours a year ago. For those who don't follow these items all that closely, in the economics profession, we really don't like to see this number drop below 34.5.
Now You Know...
The sudden appearance of a weaker labor market is likely what caused Fed Chair Jerome Powell to signal more than two weeks ago that the FOMC could be considering a "skip" this month, but not a "pause" as time has to be given to the economy on Main Street, USA to catch up to where the Fed has been on policy. Obviously the trajectory of real economic decay tends to run rough six to nine months behind policy. That's a fairly scary thought.
Philadelphia Fed President Patrick Harker, who is considered to be quite pragmatic, meaning that he is not an economic ideologue and does vote on policy this year, spoke last Thursday of pausing the Fed's string of 10 consecutive rate hikes this month and then doubled down on that idea when he spoke again on Friday. Fed Governor Philip Jefferson, who is President Biden's choice to be the next Fed Vice Chair, sang the same tune on Thursday adding credibility and helping to move Fed Funds Futures markets.
Perhaps, the icing on the cake came from neither of those two men, but from St. Louis Fed President James Bullard, who penned an essay at the St. Louis Fed's website on Friday. Bullard does not vote this year, but remains influential and is considered to be a leader (along with Cleveland's Loretta Mester) among the central bank's hawks. Bullard admitted in his piece that monetary policy was "at a more appropriate level than it was a year ago." Maybe not exactly surrender, but definitely a softer stance coming from this fiery Fed official.
As if another reason were needed to add some added algorithmic strength on Friday, early that morning, Bloomberg News reported that the Chinese government was working on a new basket of support measures meant to boost property markets specifically but that economy at large, as the post-Covid recovery there has stumbled of late. There is speculation that a support package could be actual news at some point in the coming weeks.
Fed Funds Futures
As late Sunday passes into the early hours on Monday morning, I currently see Futures trading in Chicago that show a 78% likelihood of there being no increase made to the target range for the Fed Funds Rate when the FOMC next decides on policy June 14 (a week from Wednesday). Remember that this market has been extremely volatile, and these probabilities are changing almost by the moment. There is currently a 22% probability for a 25 basis point rate hike to be made at that meeting.
The Fed Funds Rate now stands at 5% to 5.25%. There remains a 67% probability for that next 25 basis point hike to occur on July 26. That would take the Fed Funds Rate up to 5.25% to 5.5%, which is currently seen as the likely terminal rate. These markets are now pricing in a pause at this level that lasts only until November 1, when a first rate cut is projected. Jackson Hole, this August, could be the most consequential Jackson Hole symposium we have seen in years.
Futures are no longer projecting a probability for a series of rate cuts at consecutive meetings over the last quarter of this year into next. A Fed Funds Rate of 5% to 5.25% is priced in at this point for year's end. Eighteen months down the road, these markets now see an FFR of 3.5% to 3.75%.
Drop the Curtain
First-quarter earnings season has now for all intents and purposes, come to its conclusion. There are just a few stragglers left out there still needing to report. Second-quarter earnings season does not kick off for more than a month.
According to FactSet, 99% of the S&P 500 has now reported their first-quarter results. That's up from 97% a week ago. Of those, 78% have beaten expectations for earnings (flat for several weeks) and 75% (down from 76%) have beaten revenue projections. For the first quarter, the rate of earnings "growth" now stands at -2.1% (flat from last week) from the year-ago comp. Q1 revenue growth currently stands at 4.1% (also flat for weeks).
Taking a look at the current quarter (Q2), still using data provided by FactSet, consensus is for earnings "growth" of -6.4% (down from -6.3%) on revenue "growth" of -0.3% (flat). For the full year, consensus view is for earnings growth of 1.2% (down from 1.3%) on revenue growth of 2.4% (flat).
Among sectors, the strongest earnings growth this season (Q1) has been shown by Consumer Discretionaries (Now +54.3%), with Industrials a very distant second place (+22.5%). Six of the 11 sectors are still showing year-over-year earnings contractions, with Materials (-25.3%), Utilities (-22.3%), Health Care (-16.3%), Communication Services (-13%), all contracting by double digits in percentage terms.
Equity markets roared on Friday, and that cemented index-wide wins for the week's four-day period. Interestingly, weakness was seen where the greatest strength had been seen prior as the equity market rally finally broadened, and closed above key levels.
Remember last week we spoke about the Nasdaq Composite having broken out above its area of former resistance and headed for a showdown with the 13,000 level? Well, take a look at this:
Not only has the Nasdaq Composite accelerated to the upside, this index has closed higher for five of the past six sessions, on increased overall trading volume. The only exception in terms of both direction and trading volume was the last trading day of May where there was a certain level of counter-trend movement mandated across a number of pension and other-type funds, thus detracting from the technical significance of last Wednesday's results.
Readers will see here that the S&P 500 also finally cracked that area of resistance that we have been talking about and closed above the 4200 level in doing so. We had spoken of a potential "sell the news" event upon the avoidance of U.S. default. Not, however, with an FOMC forced to take on a dovish stance in response to much weaker than expected labor market internals.
For the past week, the S&P 500 gained 1.83%, after being aided by a 1.45% rally on Friday alone. The S&P 500 closed last week up 11.53% year to date. The Nasdaq Composite enjoyed another fine week (+2.04%) thanks to a rally of 1.07% on Friday. This put this index up 26.51% for 2023.
The Philadelphia Semiconductor Index finally cooled its jets last week. The index had been on an absolute tear, but surrendered 1.25% for the week, even giving up 0.15% on the almost "all green" day that was Friday. The "SOX" now stands up what is a still stunning 38.26% for the year.
This leaves us with the Russell 2000. The small-cap index is now up 3.96% for 2023 after rallying impressively (+3.56%) on Friday to close the week up 3.26%. Readers know that we have had to keep a close eye on the KBW Bank Index for the past few months. The KBW was hot last week. That index popped 3.74% on Friday, boosting a 3.11% upside move for the week. The KBW is now off "just" 20.4% this year.
I had mentioned in weeks past that breadth had been poor. I would not call breadth strong, but it did improve last week. All 11 S&P sector-select SPDR ETFs shaded green on Friday as well as for the week in its entirety. For the week, performance was less trifurcated or even bifurcated than it has been on an individual daily basis. Last week, Discretionaries (XLY) , the REITs (XLRE) and Materials (XLB) all gained more than 3%, as nine sector SPDRs gained at least 1%. Consumer Staples brought up the rear with a weekly gain of 0.25%.
According to FactSet, the S&P 500 now trades at 18.0 times forward-looking earnings, up from 17.8 times a week ago. This ratio remains in the middle of its two key moving averages where it has now been for some time now. The S&P 500's five-year average valuation is back up to 18.6 times forward-looking earnings, up from 18.5 times a week ago, while its 10-year average still stands at 17.3 times.
The Week Ahead
There are two key items making headlines on Monday morning. First, crude oil prices are up moderately in response to the announcement by Saudi Arabia from the OPEC+ meetings that the nation would voluntarily cut oil production by one million barrels per day, outside of what the rest of OPEC and non-OPEC nations are doing. Obviously, Russia is not interested in reducing production at this time.
Additionally, there is talk that U.S. regulators could increase capital requirements for the largest U.S. banks by as much as 20% in order to shore up the resiliency of broader banking space.
Away from all of that... this week might actually be rather quiet, which makes me a little nervous. The Fed has gone into their "media blackout" period ahead of their June 14 policy decision. The macro will be light, as will earnings. We will see the ISM service sector PMI survey results for May on Monday, and Wholesale Inventories for April will be revised on Thursday. Not a lot of meat on those macro bones to trade off of, I'm afraid. Traders are going to have to rely upon their technical skills this week, as there just will not be much available information coming from fundamental or economic sources.
Regarding earnings, among household names reporting this week will be J.M. Smucker (SJM) and Thor Industries (THO) on Tuesday, Campbell Soup (CPB) and GameStop (GME) on Wednesday, and then Signet Jewelers (SIG) , Toro (TTC) and DocuSign (DOCU) will step to the plate this Thursday.
Economics (All Times Eastern)
09:45 - S&P Global Services PMI (May-F): Flashed 55.1.
10:00 - ISM Non-Manufacturing Index (May): Expecting 52.3, Last 51.9.
10:00 - Factory Orders (May): Expecting 0.8% m/m, Last 0.9% m/m.
The Fed (All Times Eastern)
Fed Blackout Period.
Today's Earnings Highlights (Consensus EPS Expectations)
Before the Open: (SAIC) (1.81)
After the Close: (GTLB) (-0.14)