- Midweek, the Fed released the minutes from its FOMC monetary policy meeting that ended on February 1, and it showed policymakers remain steadfast in their use of higher interest rates to battle inflation. A flurry of economic reports later in the week showed continued inflation pressures, justifying the Fed’s hawkish stance.
- Other economic data was mixed with an unexpected downward revision to Q4 GDP, a plunge in weekly mortgage applications, and weaker-than-expected existing home sales. But later in the week, new home sales surged much higher than expected and a bigger than expected rebound in January personal spending.
- The end result was a decidedly down week for stocks and bonds. Most major global stock indices were down -2.5% or more for the week. The strong inflation data sent yields surging and bonds down, with U.S. bonds falling -0.9% and non-U.S. bonds down -1.5%.
Stocks sink in the worst week of 2023, bonds slip too
There was quite a bit of inflation-related data during the week which drove a lot of Fed narrative. On Wednesday afternoon the Fed released the minutes from its FOMC monetary policy meeting that ended on February 1. The report showed that while Committee Members noted that there are signs that inflation is coming down, they remain steadfast in their quest to bring pricing pressures down through the continued use of interest rate increases. The minutes also stated that labor markets remained very tight, which has contributed to the continued upward pressure on wages and prices. The Fed hiked the target for its fed funds rate by 25 basis points (bps), a deceleration from its 50-bps rate hike at the previous meeting, which followed a string of four-straight 75-bps increases prior to that. Several other inflation data points later in the week were stronger than expected, including Friday’s release of the Fed’s preferred inflation gauge, the Core PCE Price Index, which in addition to being higher than expected, also saw the prior month revised higher. There is now a 25% chance of a 50 bps hike in March priced into the futures markets.
Other economic data was mixed with downward revisions to gross domestic product (GDP), a plunge in mortgage applications to their lowest level in 28 years, and weaker-than-expected existing home sales that fell to the slowest rate since 2010. But later in the week, new home sales surged much higher than expected offsetting some of the weakness from the other housing market indicators. Friday’s release of January personal spending showed that the consumer is still resilient with a stronger-than-expected rebound, which follows last week’s unexpectedly strong retail sales.
The result was a decidedly down week for all risk assets, especially stocks. The S&P 500 Index fell for the third straight week, with a -2.7% decline. The small cap Russell 2000 dropped -2.9% and the tech-heavy Nasdaq sank -3.3%. Non-U.S. stocks were down similarly, as developed international stocks (MSCI EAFE Index) declined -2.5% and the MSCI Emerging Markets dropped -2.8%. It was the worst week of the new year for all those indices except the Russell 2000, which fell -3.4% two weeks ago.
Bonds did better than stocks but still saw losses as Treasury yields surged on the hotter-than-expected inflation data and hawkish Fed meeting minutes. The benchmark 10-year U.S. Treasury note yield rose +13 bps during the week to 3.94%, and 2-year U.S. Treasury yield surged +20 basis points to 4.81%. Short-term rates took off, with the 6-month U.S. Treasury yield hitting 5.09%, its highest level since 2007. As a result, the Bloomberg U.S. Aggregate Bond Index fell -0.9% for the week, and the Bloomberg Global Aggregate Bond Index ex U.S. (the benchmark for non-U.S. bonds) dropped -1.5% the week.
Chart of the Week
The second release (of three) of Q4-2022 Gross Domestic Product (GDP), the broadest measure of U.S. economic output, rose at a +2.7% annual rate in the fourth quarter, adjusted for seasonality and inflation. That was down from a previous estimate of 2.9% growth, and slower than the third quarter’s 3.2% growth. The downward revision primarily reflected slower consumer spending late last year than previously estimated. Entering this year, forecasters had projected the economy to cool, but recent data shows a strong labor market and improved spending. The release also showed that Personal Consumption was revised solidly lower to a +1.4% increase, compared to expectations to remain at +2.0%, and the prior reading of +2.1%. The inflation components came in higher than expected with the GDP Price Index up +3.9%, above expectations for it to remain at the prior release level of +3.5%. The Core PCE Price Index, which excludes food and energy, was up +4.3%, also above expectations, which was to remain at the prior release of +3.9%.
Economic Growth Revised Modestly Lower
Gross Domestic Product (GDP), change from the previous quarter
Note: Seasonally and inflation-adjusted at annual rates.
Source: Commerce Department, The Wall Street Journal.
- The second release (of three) of Q4 Gross Domestic Product (GDP), the broadest measure of U.S. economic output, showed a +2.7% quarter-over-quarter annualized rate of growth, below expectations to remain at the first estimate of +2.9%. Personal Consumption was revised solidly lower to a +1.4% increase, compared to expectations to remain at +2.0%, and the prior reading of +2.1%. The inflation components came in higher than expected with the GDP Price Index up +3.9%, above expectations for it to remain at the prior release level of +3.5%. The Core PCE Price Index, which excludes food and energy, was up +4.3% also above expectations, which was to remain at the prior release of +3.9%.
- The preliminary S&P Global U.S. Manufacturing PMI Index for February remained in contraction territory (a reading below 50) but improved to 47.8 from January’s positively revised 46.9 and beat expectations for a slight increase to 47.1. The preliminary S&P Global U.S. Services PMI Index also improved and unexpectedly moved into expansion terrain (above 50) with an increase to 50.2, well above expectations for 47.5 and January’s positively revised 46.8.
- The final University of Michigan Consumer Sentiment Index for February was unexpectedly revised higher to 67.0, from the preliminary 66.4 figure, where it was expected to remain. The upward revision came as a modest downward adjustment to the current conditions portion of the index was more than offset by an upward revision to the expectation component of the survey. The 1-year inflation forecast was revised lower to 4.1% from the preliminary estimate of 4.2%, where it was expected to remain and was up from 3.9% in January. The 5-10 year inflation forecast was unadjusted at January’s 2.9% rate, matching expectations.
- January Personal Spending increased +1.8%, beating expectations for +1.4% and the prior month’s positively revised -0.1% decrease. Personal Income rose +0.6% for the month, below expectations of +1.0% but above December’s upwardly revised +0.3% rise. The January savings rate as a percentage of disposable income was +4.7%, up from December’s positively revised +3.4%.
- The January PCE Deflator rose +0.6% for the month, above expectations of +0.5% and December’s upwardly revised +0.2%. Year-over-year, the deflator was up +5.4%, beating expectations of +5.0% and the prior month’s upwardly revised +5.3%. The Core PCE Price Index, which excludes food and energy and is the Federal Reserve’s most closely watched inflation measure, rose +0.6% for the month, higher than expectations of +0.4% and December’s upwardly revised +0.4%. Year-over-year, the index was up +4.7%, higher than expectations of +4.3%, and December’s upwardly revised +4.6%.
- January Existing Home Sales, which make up most of the housing market, were down -0.7% for the month to an annual rate of 4.00 million units – the slowest rate since October 2010 – and below expectations of 4.10 million units. December was positively revised up to 4.03 million units though. January was the 12th straight monthly decline, the longest streak of back-to-back monthly decreases on record for data back to 1999. Contract Closings declined for the twelfth-straight month, as sales throughout the U.S. was mixed, with the South and West increasing, while the North and East declined, but all regions recorded losses year-over-year. The Median Existing Home Price was up +1.3% from a year ago at $359,000—marking the 131st straight annual gain and the longest-running streak on record—but the seventh month in a row that the median sales price decelerated from the record high of $413,800 in June. The number of homes for sale were up +2.1% from December, with the unsold inventory at a 2.9-month supply, up from the 1.6 months in the same period last year.
- January New Home Sales jumped +7.2% for the month to an annual rate of 670,000 units, far ahead of expectations for 620,000 units and December’s upwardly revised 625,000 units. The Median New Home Price declined -0.7% from last year to $427,500. New Home Inventory fell to 7.9 months from December’s downwardly revised 8.7 months of supply. Sales were lower for the month in the Northeast, Midwest, and West, but increased in the South, while sales in all four regions were down for the year.
- The weekly MBA Mortgage Application Index fell -13.3% to its lowest level in 28 years, as the Refinance Index slipped -2.2% and the Purchase Index slumped -18.1%. This follows the prior week’s -7.7% decline. The drop came as the average 30-year mortgage rate rose 23 basis points to 6.62%, up 2.56 percentage points versus a year ago.
- Weekly Initial Jobless Claims fell by -1,000 to 192,000 for the week ended February 18, above expectations for 200,000 and the prior week’s positively revised 195,000. Continuing Claims for the week ended February 11 rose by +37,000 to 1,654,000, below expectations of 1,700,000.
The Week Ahead
Unlike last week, with data that had a material impact on the Fed policy outlook, reports this week are unlikely to have a heavy bearing on the Fed. Economic data out this week starts with the Census Bureau’s Durable Goods report for January on Monday. That’s often seen as a decent proxy for business investment. On Tuesday, the Conference Board will release its Consumer Confidence Index for March, which is expected to continue an upward trend. The Institute for Supply Management (ISM) will publish the Manufacturing Purchasing Managers’ Index (PMI) for February on Wednesday, followed by the Services equivalent on Friday. The former is expected to hold roughly steady from the prior month, while the latter is seen declining but remaining in expansion territory.
Did You Know?
TICK TOCK, TAX TIME – The deadline to file federal income taxes (April 18, 2023) is now less than two months away, but a large percentage of Americans will need more time. Last year, a record 19 million American taxpayers applied for a filing extension. That’s up from the 12 million that filed for an extension in 2019 (Source: The Wall Street Journal, MFS).
RENTS MELT – Rent rates in the US are rising at the slowest pace in over a year and a half. According to RedFin’s monthly rental market tracker, the median asking rent increased +2.4% in January, which was the smallest increase since May 2021. In 11 US metro markets, rents are already falling on a year-over-year basis (source: Redfin, MFS).
RICH RENT – High-income earners are increasingly opting to rent versus buy. According to RentCafe, from 2015 to 2020, the number of US households earning more than $150,000 per year that rents increased by 82%. Cities experiencing the largest percentage increases include Boston, Chicago, and Seattle (Source: Bloomberg, MFS)
This Week in History
HAPPY ANNIVERSARY – Just three years ago, on February 19th, 2020, U.S. stocks hit their pre-COVID high, as the Standard & Poor’s 500 Index closed at 3,386 which was the all-time high just before the COVID pandemic began to unfold. In the subsequent 23 days, the S&P 500 would drop -33.9% to 2,237 on March 23 as much of the world locked down their economies and societies in response rapid spread of the new coronavirus. As painful and quick as that bear market was, it recovered in just 103 days after closing at 3,389 on August 18th. For the three years from 2/19/2020 to 2/17/2023 the S&P 500 advanced +26.4% with dividends reinvested, which works out to +8.1% annualized (source: Bloomberg).
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.