Weekly Market Update – July 14, 2023

Quick Takes

• Stocks and bonds rallied hard on signs that inflation is subsiding, and the Fed will succeed in orchestrating a soft landing on investors. The S&P 500 was up +2.4%, the Russell 2000 gained +3.3% and the Nasdaq advanced +3.6%.
• Overseas, developed market international stocks (the MSCI EAFE Index) and the MSCI Emerging Markets Index both jumped +4.9% for the week, their best week since November 11, 2022, and the first time since March 10 that non-U.S. stocks outpaced U.S. stocks.
• Yields dropped sharply and the Bloomberg U.S. Aggregate Bond Index gained +1.5%, its best week since the first week of the year. The Bloomberg Global Aggregate ex U.S. Bond Index (a proxy for international bonds) soared +2.9%, its best weekly gain since November 11, 2020.

Stocks and bonds cheer declines in U.S. inflation reports

Markets are becoming more confident than ever, now that inflation is subsiding, and the Federal Reserve (the Fed) may be able to pull off a so-called “soft landing” or containing inflation without tipping the economy into recession. Stocks and bonds scored solid gains for the week, as several inflation reports over the week surprised investors with moderate readings and prompted hopes that the Fed may ease up on its aggressive policy of interest rate hikes. The June Consumer Price Index (CPI), Producer Price Index (PPI), and Import Prices all showed smaller-than-expected increases. Second quarter earnings season also kicked off on Friday with reports from some of the big banks. The results were mixed, but with first quarter earnings coming in less bad than initially forecast investors seem to be optimistic that this season can also beat Wall Street’s decidedly downbeat expectations. Wall Street analyst consensus expectations are for a -9% year-over-year decline in S&P 500 earnings according to data compiled by Bloomberg.

Most major global stock market benchmarks rose for the week. In the U.S., the S&P 500 Index was up +2.4%, the tech-heavy Nasdaq Composite Index advanced +3.3% (its best week since March 31), and the small-cap Russell 2000 Index rose +3.6%. The gains were led by growth sectors such as Communication Services, Consumer Discretionary, and Technology. Overseas, developed market international stocks finally were able to outperform their U.S. counterparts, as the MSCI EAFE Index and the MSCI Emerging Markets Index both popping +4.9% for the week, their best week since November 11, 2022. It was the first time since March 10 that non-U.S. stocks outpaced U.S. stocks.

Like stocks, bonds were buoyed by the weak inflation data. Yields dropped sharply and bonds had their best week in months.  The benchmark 10-year U.S. Treasury yield erases all the prior week’s gain with -23 basis points (bps) drop to 3.83%. The 30-year U.S. Treasury yield dropped -12 bps to 3.93%, and the 2-year U.S. Treasury yield fell -18 bps to 4.77%. As a result, the Bloomberg U.S. Aggregate Bond Index jumped +1.5% for the week, its best since the first week of the year.  The Bloomberg Global Aggregate ex-U.S. Bond Index (a proxy for international bonds) soared +2.9%, its best weekly gain since November 11, 2020.

Chart of the Week

June has seen a significant decline in US inflation readings. At the headline level, the Consumer Price Index (CPI) rose a modest +0.2% in June, below expectations for a +0.3% rise, and just a bit higher than May’s +0.1% increase. But on a year-over-year basis, consumer inflation was up just +3.0%, under Wall Street expectations for +3.1% and down from the prior month’s +4.0%. As shown in the chart below, that’s the slowest annual rate since March 2021 and well off the peak of +9.1% in June 2022. Core CPI, which excludes the more volatile food and energy prices, decelerated to +0.2% in June, below expectations for +0.3% and the +0.4% level it sat at for the three prior consecutive months.  That’s the smallest monthly increase in almost two years. However, year-over-year, Core CPI is still up +4.8%, which, although under expectations of +5.0% and May’s +5.3%, remains well above the Fed’s +2.0% target rate. The Fed views the core rate as a better predictor of inflation trend and with it still stubbornly high, the Fed is still expected to raise rates at its next meeting July 25-26 after it paused in June to assess how much its prior rate hikes have impacted economy.

Meanwhile, wholesale prices have pretty much stalled. The Producer Price Index (PPI) was up a mere +0.1% in June, under expectations of +0.2% and up from May’s downwardly revised -0.4% (from -0.3%). Year-over-year (YoY) PPI decelerated to just +0.1%, a full percentage point down from last month’s +1.1% and well under expectations for +0.4%. That’s the lowest annual reading since September 2020. Core PPI, which strips out volatile food and energy costs, also was up +0.1% for the month, under expectations of +0.2% and matching the prior month’s downwardly revised level (originally +0.2%). Year-over-year Core PPI also decelerated, dropping to +2.4, below expectations and last month’s rate which were both +2.6%. Wholesale prices have decelerated even faster this year than consumer prices, which may just lead inflation down faster than the Fed expected.

Headline inflation is down sharply since peak

Consumer Price Index (CPI), Year-over-Year change

Note: Shaded regions represent U.S. recessions.
Source: Labor Department, The Wall Street Journal.

Economic Review

• June Import Prices fell again, down -0.2%, more than expectations for -0.1%. That follows May’s -0.4% drop, revised up from the initially reported -0.6%. Import prices have declined every month this year except April and have now declined in ten of the previous twelve months. Year-over-year, import prices were down -6.1%, the largest annual decline since May 2020. Imported fuel prices rose +0.8% in June but is down -36.4% over the year. Nonfuel import prices dipped -1.4% for the year and -0.3% for the month.
• Growth in Consumer Credit slowed to the lowest month since November 2020, rising just $7.2 billion in May from a negatively revised $20.3 billion gain in the prior month (initially reported at $23 billion). Results were well short of Wall Street expectations for a rise of $20 billion. Growth for revolving credit, which includes credit cards, rose $8.5 billion – down from last month’s $13.5 billion increase. Non-revolving credit, which includes auto and school loans, decreased by -$1.3 billion after the prior month’s $9.5 billion increase. It was the first decline in non-revolving credit since April 2020. The data from the Federal Reserve is not adjusted for inflation and does not include mortgage loans, which is the largest category of household debt.
• The Small Business Optimism Index rose in June but remains below the long-term average as inflation and labor concerns continue to weigh on owners. The National Federation of Independent Business (NFIB) reported that business optimism rose to 91 in June from 89.4 in May. That is its highest level since November 2022 and beat expectations for 89.6 but remains below the 49-year average of 98. Interestingly, inflation and labor quality were tied as the top concerns among owners, with 24% reporting each as their single most important challenge. Both wholesale and consumer inflation are down materially from their peaks last year, yet inflation remains at the top of business owners’ concerns. Breadth improved with a majority of the components positive as five increased, four decreased, and one flat. Over the next six months, the number of owners that Expect the Economy to Improve improved by +10 percentage points to a net negative 40% in June. The portion of owners who said Current Job Openings were hard to fill declined -2 percentage points to 42% in June. But the June reading is still historically high. The NFIB survey provides a monthly snapshot of small businesses in the U.S., which account for nearly half of private sector jobs.
• The preliminary July report of the University of Michigan Consumer Sentiment Index soared to its highest level since September 2021, up to 72.6 from 64.4 in June and far above expectations for an improvement to 65.5. It is the largest jump since December 2005. The Current Economic Conditions component improved to 77.5 from 69.0 in June. The Consumer Expectations component rose to 69.4 from 61.5. One-year inflation expectations rose +3.4% from +3.3%. The five-year inflation expectations were up to +3.1% from +3.0% the prior month. As summer has progressed, low unemployment and lower gas prices have greatly improved sentiment.
• On Tuesday, the Federal Reserve released its Beige Book, a collection of business anecdotes from the 12 Federal Reserve districts used by policymakers to prepare for their next monetary policy decision. The latest read, on balance, showed that economic activity increased slightly since late May, and expectations called for the slow growth to continue. Five Fed districts reported slight or modest growth, five others noted no change in activity, and two reported slight to modest declines. The report said that labor markets were healthy, with some sense that hiring was getting more “targeting and selective.” Workers’ wages continued to rise but more moderately than in the past, the report said. Consumer spending reports were mixed with some contacts noting a shift away from discretionary spending. Tourism was a bright spot across districts, while reports from most other industries, including manufacturing, agriculture, and transportation, were also very mixed nationwide. Contacts reported some slowing in the pace of increase in prices in June. The Fed report said that lending activity continued to soften, while transportation activity was down or flat in most regions.
• The weekly MBA Mortgage Application Index inched up +0.9% for the week ended July 7, following the prior week’s -4.4% drop. The Purchase Index was up +1.8% following a -4.6% drop the prior week and the Refinance Index fell -1.3% following a -4.1% decline the prior week. The average 30-Year Mortgage Rate rose for the second straight week, up +22 basis points to 7.07%, which is +1.33 percentage points higher from a year earlier.
• Weekly Initial Jobless Claims fell -12,000 to 237,000 for the week ended July 8, below expectations for 250,000 and last week’s 249,000 reading (revised up from 248,000). The number of people already collecting unemployment claims (i.e., Continuing Claims) rose +11,000 to 1,730,000 in the week ended July 1, higher than expectations for 1,720,000 and last week’s reading of 1,718,00 (revised down from 1,720,00). It was the first increase in a month.

The Week Ahead

Economic reports for the upcoming week are heavy on housing and include NAHB Homebuilder Sentiment, Housing Starts and Building Permits, Existing Home Sales, and weekly MBA Mortgage Applications. Other reports of note include the June Retail Sales report, the Conference Board’s Leading Economic Index, and regional Fed reports (the latest Empire Manufacturing readout and the Philly Fed Business Outlook survey). Federal Reserve members will be in a blackout period ahead of the Federal Reserve meeting scheduled for July 25-26. At publication time, the probability of a rate hike at the July meeting had risen to 92% based on fed funds futures trading. Central bankers and finance ministers from the Group of 20 major economies will gather in India this week. Second quarter earnings season picks up this week and includes earnings reports from Netflix (NFLX), Bank of America (BAC), IBM (IBM), and Tesla (TSLA), among others.

Did You Know?

RECESSION ODDS DROP – The probability of a recession in the next 12 months has fallen to 54%, according to business and academic economists polled by The Wall Street Journal, down from 61% in the prior two surveys. The forecasters still expect Gross Domestic Product to eventually contract, but later, and by less, than previously thought (Source: The Wall Street Journal).

SUMMER GIVEAWAY FOR STUDENTS – The Biden administration will wipe out $39 billion of federal student debt for more than 800,000 student loan borrowers on income-driven repayment plans who have made 20 or 25 years of payments. The one-time adjustment will give borrowers credit retroactively for months that weren’t counted. This is separate from the $430 billion student-loan forgiveness plan that was struck down by the Supreme Court last month (Source: The Wall Street Journal).

PIZZA DELIVERY – Domino’s aims to generate $1 billion in new sales by listing its menus on Uber’s Eats and Postmates apps. The world’s largest pizza company by sales and stores reversed its long-held stance against food-delivery companies in the U.S. Apps benefited from pandemic-related lockdowns in ways that aren’t reversing, but pizzerias, which offered delivery for decades, lost direct sales as a result, restaurant executives and analysts said (Source: The Wall Street Journal).

This Week in History

EQUAL ACCESS – On July 12, 1943, women were allowed on the floor of the New York Stock Exchange (NYSE) for the first time in its 151-year history. With so many men off serving in the military, the NYSE allowed women to fill some jobs. They weren’t allowed to trade, but they did get to work as pages and reporters, shuttling other people’s orders around the floor of the exchange (Source: The Wall Street Journal).

Asset Class Performance

Source: Bloomberg.

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. US Bonds (iShares Core US 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 US Real Estate ETF). The return displayed as “Allocation” is a weighted average of the ETF proxies shown as represented by 30% US 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.