The monitor flashed quite a bit of red last month. But the market was seemingly undeterred and pushed higher anyway. Should this continue?
Fixed Income: 2-Yr Treas Yield 3.91% | 10-Yr Treas. Yield 3.91%
The bond markets saw volatility in August as questions mounted about an impromptu rate-cut by the Federal Reserve Bank (FRB). The most meaningful fall came at the beginning of the month. The perceived weakness in jobs data prompted a move to safety as expectations increased for a rate cut. At the time, people were calling for 0.50% before the September meeting. Cooler heads prevailed and the market is now expecting a 0.25% cut in September. The more impressive data point over the last month was the parody reached on the last trading day of August. This was the first time the two closed at parity since July 5th, 2022! It is still to be determined if rate normalization (higher rates on longer dated fixed income) will prevail. It is a good sign that the anticipated rate cuts are making a large enough impact for us to reach parity.
Equities: Dow Jones 1.76% | S&P 500 2.28% | NASDAQ 0.65%
The market moves that led to a strong month for fixed income signaled weakness for the equity markets. The Nasdaq lost almost four percent in the first week of the month to spend the next two weeks crawling out of that hole. The last week of the month saw the index continue to falter. Strong earnings from bellwether Nvidia (NVDA) was not enough to bolster confidence. Investors seemed to come to the realization that the FRB will likely take a slow methodical path towards rate reductions. That path did not buoy equity markets. In a retracement of the July trades, other major market categories failed to capitalize on weaker large caps:
S&P 400 (Mid Cap Index): 0.21%
Russell 2000 (Small Cap Index): 1.59%
Conclusion
It was, in all, a good month… That’s for two reasons, 1) fixed income made up ground that equities lost, 2) the spread between the 2-yr treasury and the 10-yr treasury reached parity. Something of a signal that the soft landing the FRB is looking for has been achieved. Generally, a recession (that would be evident by this point) would have caused a normalization of the curve.
A Look Ahead…
We see two key reasons to expect further volatility in equity markets during the next month:
- The 22.40 price to earnings (P/E) ratio for the S&P 500 will need to narrow further before markets can start a real rally.
- September is notoriously the worst month of the year for equities:
- 2023: 5.35%
- 2022: 8.92%
- 2021: 4.89%
- 2020: 4.12%
- 2019: 2.32%
Some logic would point to the high frequency in recent years being a signal that volatility should weaken in September. I find that unlikely given the elevated P/E referenced.
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Docile week as markets reflected marginal losses? No, not at all… What really happened throughout the week?
Monday
Markets dug a large hole to start the week but worked its way out by market close. The bleeding ended up being minor, with the S&P 500 losing 0.1%. The move came as major bank analysts continue to report a hawkish Federal Reserve Bank (FRB) for 2022. They are not only likely raising rates but attempting to reduce their balance sheet during the 4th quarter.
Tuesday
The S&P 500 rose 0.9% and the Nasdaq rose 1.4%. This came after an early drop in markets. The initial risk-off environment was fostered by testimony from FRB chair Powell in the morning. That testimony ultimately confirmed thoughts for investors that the trajectory for rates in coming months will be on the rise.
Wednesday
Consumer Price index (CPI) data out on Tuesday showed a 0.6% increase for the month of December. That monthly reading led to a 7.0% YoY reading. The S&P 500 rose 0.28%. While the YoY number rose, the monthly increase was down from the last two months.
Thursday
The day started in the green and faded hard into the red. The S&P 500 ended up losing 1.42% on the day. FRB officials spoke publicly on Thursday about the Banks intent to start raising rates as early as March. The FRB will do this often in an effort to telegraph their actions. By doing so, they prevent a much broader sell off at the time of the increase.
Friday
Markets floated just under water for the majority of the day. Retail sales missed expectations by a wide margin. Additionally, preliminary readings for consumer sentiment show the metric falling into the 60’s. Outside of the pandemic, we haven’t seen sentiment in the 60’s since 2011. Coincidently, that was the last time we saw inflation above 2%. The S&P ended up pulling into the green for the day ending at a 0.08% rise.
Conclusion
The S&P 500 did lose 0.3% for the week. This comes across as a fairly mild week when taken in total, however intra-week volatility absolutely told another story. The increase in recent volatility is not surprising given the interest rate forecasts for 2022; however, I should remind people that the docile nature of 2021 is not the norm.
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Always remember that while this is a week in review, this does not trigger or relate to trading activity on your account with Financial Future Services. Broad diversification across several asset classes with a long-term holding strategy is the best strategy in any market environment.
Any and all third-party posts or responses to this blog do not reflect the views of the firm and have not been reviewed by the firm for completeness or accuracy.