- Global stocks and bonds suffered their worst week of 2023 as investors’ concerns jumped between Fed monetary policy and slowing economic and earnings growth. During the week, several Fed policymakers maintained their intention to keep rates higher for longer.
- For the week, the S&P 500 index fell -1.1%, the small cap Russell 2000 dropped -2.4%, and the tech-heavy Nasdaq was down -2.4%. Overseas, the MSCI EAFE Index fell -1.6% and the MSCI Emerging Markets dropped -2.4%.
- The benchmark 10-year U.S. Treasury yield rose to 3.73%, the highest level in more than a month, and the 2-year U.S. Treasury yield was up to 4.51%, its highest level since November. That leaves the 2-year / 10-year Treasury yield curve inverted by 0.79 percentage points, near the widest levels since 1981.
Stocks and Bonds have worst week so far in 2023
Global stock and bonds faced their first real test of the new year this week, with investors beginning to question the sustainability of the rally year to date. Markets in the U.S. and overseas suffered their worst weekly loss in nearly two months. In the U.S., concerns emerged about whether the Federal Reserve would truly be willing to ease off interest rate hikes as signs of inflation resurface and several Fed policymakers signaled the need to stay hawkish longer than previously expected. Federal Reserve Chairman Jerome Powell spoke at the Economic Club of Washington D.C. on Tuesday and reiterated his previous stance, that while inflation is starting to ease, interest rates are still likely to increase. They were Powell’s first public remarks since the prior week’s unexpectedly strong January employment report. The strong labor data came days after the Federal Open Market Committee (FOMC) raised the fed funds rate by 25 basis points (bps) and noted that the labor market remains tight, which has been a primary factor in the FOMC’s rate hike campaign.
Perhaps more worrying for investors, corporate earnings seem to be coming in a bit on the light side, as the number of companies beating Wall Street estimates is lagging behind the historical average. See the Chart of the Week below for more details, but it is fair to say many investors are questioning whether the strength of the market thus far in 2023 is justified given the slowing economic and earnings growth.
For the week, the S&P 500 index fell -1.1%, the small cap Russell 2000 dropped -2.4%, and the tech-heavy Nasdaq was down -2.4%. Things weren’t much better for non-U.S. stocks either as developed international stocks (MSCI EAFE Index) fell -1.6% and the MSCI Emerging Markets dropped -2.4%. For all the global stock indexes it was the worst week since the first half of December 2022.
In the bond world, yields on the benchmark 10-year U.S. Treasury note rose to 3.73%, the highest level in more than a month, and 2-year U.S. Treasury yield was up to 4.51%, its highest level since November. That leaves the yield on the 10-year Treasury more than 0.79 percentage points below the two-year yield near its widest point set in December which was marked the most inverted level since 1981. An inverted Treasury yield curve has long been considered by Wall Street as a barometer for economic stress and recession warning. Typically, long-term yields are higher than short-term yields because investors demand higher rates for future uncertainty.
Bond yields move inversely with prices, and with yields up bond indices fell. The Bloomberg U.S. Aggregate Bond Index fell -1.4% for the week and the Bloomberg Global Aggregate Bond Index ex U.S. (the benchmark for Non-U.S. bonds) dropped -1.8% the week. That was the worst week for U.S. bonds since December and Non-U.S. bonds since September.
Chart of the Week
More than two-thirds of the companies in the S&P 500 have now reported fourth-quarter 2022 earnings, and results continue to come in weaker than average. According to FactSet data as of Friday 2/10/2022, 69% of companies are beating Wall Street’s earnings estimates, which is below the five-year average of 77%. Earnings are set to decline -4.9% in the fourth quarter from the year prior, according to a blend of actual results and estimates for companies yet to report. That would mark the first annualized earnings contraction since Q3-2020. Companies are reporting earnings +1.1% above estimates, below the five-year average of +8.6%. Of the 71 companies in the index that have forecast Q1-2023 earnings, 82% have offered guidance below consensus expectations, which is worse than the five-year average of 59%. Fortunately, thus far for Q4-2022 investors aren’t punishing companies with disappointing results as much as they have in recent quarters. Shares of companies that beat earnings estimates rose +1% on average in the two days before their report through the two days after, well above the five-year average of a +0.9% gain. Companies that missed earnings estimates dipped -0.4% on average in the two days before their report through the two days after, well below the five-year average of a -2.2% decline.
First Negative YoY EPS Growth Quarter Since the Covid Recession
S&P 500 Earnings Per Share (EPS) Year-over-Year (YoY) change
Source: FactSet, Morgan Stanley Research, Isabelnet.com, The Wall Street Journal.
- The preliminary February University of Michigan Consumer Sentiment Index increased more than expected, rising to 66.4 from January’s final reading of 64.9, and above the expectations for 65.0. A solid rise in the current conditions portion of the index more than offset a slight decline in the expectations component of the report. The 1-year inflation forecast rose to 4.2% from 3.9% in January, and the 5-10-year inflation outlook remained at the prior month’s 2.9% rate.
- December Consumer Credit expanded by $11.6 billion, far below expectations for $25.0 billion, and November’s figure was adjusted upward to an increase of $33.1 billion from the originally reported $27.9 billion. Non-revolving debt, which includes student loans and loans for vehicles and mobile homes, was $4.3 billion, a +1.5% year-over-year increase, while revolving debt, which includes credit cards, expanded by $7.2 billion, a +7.3% year-over-year increase.
- The Trade Balance showed that the December deficit widened less than expected, coming in at $67.4 billion, above November’s upwardly revised deficit of $61.0 billion, but below expectations of $68.5 billion. Exports declined -1.3% month-over-month, while imports rose +1.3%.
- December final Wholesale Inventories were unrevised at a +0.1% month-over-month increase, matching the preliminary estimate and expectations, but a noticeable deceleration from November’s +0.9% gain.
- The weekly MBA Mortgage Application Index rose +7.4%, following the prior week’s +9.0% gain, as the Refinance Index surged +17.7% and the Purchase Index was up +3.1%. The drop came as the average 30-year mortgage rate slipped 1 basis point to 6.18%, which is up 2.35 percentage points versus a year ago.
- Weekly Initial Jobless Claims fell by -3,000 to 196,000 for the week ended February 4, above expectations for 190,000 and the prior week’s unrevised 183,000. Continuing Claims for the week ended January 28 rose by +38,000 to 1,688,000, above expectations of 1,660,000.
The Week Ahead
This coming week all eyes will be on consumer and wholesale inflation reports with the CPI on Tuesday and PPI on Thursday. After last week’s stronger-than-expected employment report, investors are looking for any indication of whether the Fed will keep rates higher for longer. Another read on inflation also comes with Import Prices on Friday. Housing data will also be featured with the weekly mortgage applications, NAHB builder confidence, building permits, and housing starts.
Did You Know?
A NICE REVERSAL – After falling -19.4% in 2022, the S&P 500 Index rallied +6.2% in January 2023. Since 1945, there have been five other years where the S&P 500 gained more than 5% in January after trading down in the prior year. In those five years (1954, 1961, 1967, 1975, and 2019), the S&P 500 rallied more than +10% from February through year-end all five times (source: MFS, Bespoke Investment Group).
RAIDING THE 401(K) – Thanks in part to looser requirements enacted by Congress, a record 2.8% of Americans in 401(k) plans run by Vanguard took hardship loans from their accounts in 2022. Potential eviction or foreclosure was cited as the reason for more than half of all withdrawals. 401(k) plans can serve as useful sources of funds to cope with economic hardship, but any funds that are withdrawn, even temporarily, miss out on the long-term potential benefits of compounding returns (source: Vanguard, The Wall Street Journal).
DIVERGENCE – In his post-meeting press conference on 2/1/23, Fed Chair Jerome Powell said policymakers expect a “couple more” rate hikes this year, but financial markets aren’t buying it. Based on prices in the federal funds futures markets, the market is expecting the mid-point of the federal funds target rate to peak in mid-June 2023 at 4.88%, or just 25 basis points above current levels (source: Bespoke Investment Group).
This Week in History
OPEN FOR BUSINESS – On February 8, 1971, the Nasdaq opened for trading. The National Association of Securities Dealers Automated Quotations was the world’s first electronic stock market. It was launched by the regulator of over-the-counter brokers, the National Association of Securities Dealers. The system included about 2,150 securities and reduced the cost of trading. What was once considered a minor-league player is now home to many of the most powerful tech-sector companies (source: The Wall Street Journal).
Asset Class Performance
The Importance of Diversification. Diversification mitigates the risk of relying on any single investment and offers a host of long-term benefits, such as lowering portfolio volatility, improving risk-adjusted returns, and helping investments to compound more effectively.
Asset‐class performance is presented by using market returns from an exchange‐traded fund (ETF) proxy that best represents its respective broad asset class. Returns shown are net of fund fees for and do not necessarily represent performance of specific mutual funds and/or exchange-traded funds recommended by The Retirement Planning Group. The performance of those funds may be substantially different than the performance of the broad asset classes and to proxy ETFs represented here. U.S. Bonds (iShares Core U.S. Aggregate Bond ETF); High‐Yield Bond (iShares iBoxx $ High Yield Corporate Bond ETF); Intl Bonds (SPDR® Bloomberg Barclays International Corporate Bond ETF); Large Growth (iShares Russell 1000 Growth ETF); Large Value (iShares Russell 1000 Value ETF); Mid Growth (iShares Russell Mid-Cap Growth ETF); Mid Value (iShares Russell Mid-Cap Value ETF); Small Growth (iShares Russell 2000 Growth ETF); Small Value (iShares Russell 2000 Value ETF); Intl Equity (iShares MSCI EAFE ETF); Emg Markets (iShares MSCI Emerging Markets ETF); and Real Estate (iShares U.S. Real Estate ETF). The return displayed as “Allocation” is a weighted average of the ETF proxies shown as represented by: 30% U.S. Bonds, 5% International Bonds, 5% High Yield Bonds, 10% Large Growth, 10% Large Value, 4% Mid Growth, 4% Mid Value, 2% Small Growth, 2% Small Value, 18% International Stock, 7% Emerging Markets, 3% Real Estate.
* The term basis points (bps) refers to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 0.01%. Bond prices and bond yields are inversely related. As the price of a bond goes up, the yield decreases.