- Stocks closed the week with a strong rally on Friday on the prospect that a debt-ceiling deal has been reached and can be passed in the coming days. Stocks were led by the tech-heavy Nasdaq Composite index which was up +2.5% for the week and the S&P 500 was up +0.3%.
- Treasury bonds sold off again as yields marched higher for the 11th straight trading session. The Bloomberg US Aggregate Bond Index was down -0.7%, its fourth consecutive weekly decline, and the Bloomberg Global Aggregate ex-US Bond Index fell -1.5%, its third straight weekly decline.
- Economic data for the week, on balance, showed a stronger-than-expected consumer and hotter-than-expected inflation. The Core PCE Price Index, the Fed’s preferred inflation gauge, increased +0.4% in April and +4.7% year-over-year, both higher than Wall Street expectations.
Debt ceiling optimism lifts U.S. stocks, bonds not so much
Stocks closed the week with a strong rally on Friday on the prospect that a debt-ceiling deal has been reached and can be passed in the coming days. For now, President Biden and House Speaker Kevin McCarthy appear to have enough bipartisan support for the deal which would suspend the government’s $31.4T debt limit and curb spending on most items for two years during that period. Congress has a few days left to review and pass a bill before June 5 deadline, which Treasury Secretary Janet Yellen said Friday could be the date the U.S. government may not be able to pay all its bills on time.
Like the last several weeks, the rally last week was led by the tech-heavy Nasdaq Composite index which closed at its highest level since August. The Nasdaq is off to its best start for a year in more than 30 years, rising +2.5% for the week, its fifth consecutive week of gains. The S&P 500 ended the week slightly higher, gaining +0.3%. Small companies continue to be the laggards with the Russell 2000 index slipping -0.04%, its fourth week down in the last five and the only major U.S. index still in negative territory for the trailing year. International equities are also trailing their U.S. counterparts as the dollar rose to its highest level since March 2. Developed international stocks, as measured by the MSCI EAFE Index, fell -2.4% over the week while the MSCI Emerging Markets Index slid -0.5%.
Treasury yields continued to march higher last week as the 2-year U.S. Treasury yield rose for an 11th straight trading session after the Federal Reserve’s favorite measure of inflation came in higher than expected (see the Chart of the Week below for more details). On Friday morning Federal Reserve Bank President Loretta Mester said she would not rule out another rate hike next month. For the week the 2-year UST yield rose +30 basis points (bps) to close at 4.56%, its highest level since early March. The 10-year Treasury yield was up +13 bps to end the week at 3.80%. Bond prices move in the opposite direction of yields, and for the week the Bloomberg U.S. Aggregate Bond Index was down -0.7%, its fourth consecutive weekly decline, and non-US bonds, measured by the Bloomberg Global Aggregate ex-U.S. Bond Index, were down -1.5%, their third straight weekly decline.
Chart of the Week
The cost of goods and services rose more than expected in April, with the Personal Consumption Expenditure (PCE) Deflator up +0.4%. Wall Street expected a rise of +0.3% following gains of +0.1% in March and +0.3% in February. On a year-over-year basis, the PCE Price Index was up +4.4% versus expectations for +4.3% and March’s +4.2%. The Core PCE Price Index, which excludes food and energy and is the Fed’s preferred inflation gauge, increased +0.4% in April, also above expectations for +0.3% and higher than March’s +0.3% rise. Year-over-year, the Core-PCE Price Index is up +4.7%, higher than expectations for +4.6% which is also where March was. The key takeaway is that inflation appears to be stuck in the 4% to 5% range, where it has hovered since last fall. The latest data comes just two days after the minutes from the latest Federal Open Market Committee (FOMC) meeting showed that some Federal Reserve officials believe further policy tightening will be necessary to bring inflation to target. With their favored measure of inflation surprising to the upside, it may complicate their decision on whether to pause raising interest rates in June.
Inflation Stuck in the 4% to 5% Range
12-month change in PCE inflation excluding food and energy (seasonally adjusted)
Source: Commerce Department via St. Louis Fed, MarketWatch.
Note: Seasonally adjusted. The shaded area represents the U.S. recession.
- U.S. economic growth for the first quarter was revised slightly higher in the second estimate (of three). Real Gross Domestic Product (GDP), a measure of the value of all the goods and services produced in the U.S., expanded at a +1.3% annual rate in the first quarter, only slightly better than the original 1.1% first estimate, which was below expectations of +2.0% growth and the prior month’s +2.6% pace. Declining business investment and slower growth in inventories offset strong consumer spending and weighed down growth. Meanwhile, government spending was revised higher to +5.2% from the first estimate’s +4.7%, which follows a +3.8% gain in the fourth quarter. In fact, government spending has increased for three consecutive quarters and added a full 0.89 percentage points to the Q1 top-line growth. The GDP Price Deflator increase was also revised higher to +4.2% from +4.0%. Overall, the report showed a continued deceleration in economic growth, primarily from inventories, while consumer spending remained strong despite inflationary pressures.
- The final May report of the University of Michigan Consumer Sentiment Index remained in recession territory at 59.2, which is up quite a bit from the preliminary reading of 57.7 and above expectations for 57.8, but well below April’s 63.5. The Consumer Expectations component fueled the fall but was revised up to 55.4 from the preliminary reading of 53.4, which was down from 60.5 in April and nearly in line with the 55.2 reading a year ago. The Current Economic Conditions component was revised up to 64.9 from the preliminary reading of 64.5, which was down from 68.2 in April and 63.3 a year ago. In addition to consumer sentiment improving from the mid-month initial estimate, inflation expectations also fell. One-year inflation expectations slipped to +4.1% from the initial +4.5%, and the five-year inflation expectations dipped to +3.1% from the preliminary +3.2%, but that’s still the highest reading since June 2022.
- Consumer Spending rose +0.8% in April, beating Wall Street expectations for a +0.5% rise, and up from the positively revised +0.1% gain in March (from 0.0%). After adjusting for inflation, Real Consumer Spending rose only the second time in the last six months, up +0.5%, beating expectations for +0.3%. It was flat in March and down +0.2% in February. Personal Income rose by +0.4% in April, matching expectations and up slightly from an unrevised +0.3% in March. The higher-than-expected increase was supported by a +0.5% rise in compensation paid to employees. Real Disposable Income, which heavily influences consumer spending, was flat in April after rising +0.2% the prior two months. The Personal Savings Rate (as a % of real disposable income) fell to 4.1% in April, down from a negatively revised 4.5% (originally reported at 5.1%). Revisions to the savings rate from previous months show the drawdown in household savings has been more substantial than previously assumed. The key takeaway from the report is that the higher-than-expected increase in real spending, combined with higher-than-expected inflation (see the PCE Deflator data in the Chart of the Week above), may lead the Fed to reconsider pausing its rate hikes in June.
- Stress in the U.S. economy eased in April, with the Chicago Fed National Activity Index (CFNAI) rising to +0.07 from a negatively revised -0.37 in March (originally reported at -0.19%). Reading below zero indicates below-trend growth in the national economic activity. Improvements were robust with all four broad categories of indicators used to construct the index increasing, although two were still in negative territory (personal consumption and housing and sales, orders, and inventories). And overall, breadth was still slightly negative, with 42 of the 85 composite indicators coming in negative while 40 were positive three were flat. The production and income category drove the overall gains, contributing +0.15 to the CFNAI in April, up from -0.17 in March. Employment-related indicators increased to +0.01 from -0.03 in March.
- The preliminary S&P Global U.S. Purchasing Managers Indexes (PMIs) signaled solid growth in May, but almost entirely due to the services side of the economy while manufacturing was sluggish. The PMIs are based on polls of senior executives in charge of buying supplies for their companies and levels above 50 indicate economic expansion. The Services PMI was entirely responsible for the gain as it jumped to 55.1 from 53.6 in April, well above expectations for a drop to 52.5, and marking the highest level for services in 13 months. New orders rose at service companies at the fastest pace since April 2022, particularly the leisure and hospitality service providers who are benefiting from the shift in consumer spending preferences away from goods and more toward experiences. The services demand is creating inflation pressures, which could make it challenging for the Fed’s fight to bring pricing pressures under control. The Manufacturing PMI, on the other hand, sank back into contraction territory falling to 48.5 from 50.2 in April, far below expectations for a slight dip to 50.0. Manufacturers are growing just enough to hold production steady, but new orders were weak both at home and abroad.
- The Commerce Department reported Durable Goods Orders rose +1.1% in April, beating expectations for a -0.9% dip, but behind March’s positively revised +3.3% (from +3.2%). The transportation sector continues to drive the improvement, with transportation orders jumping +3.7% after increasing 9.9% in March. But new orders excluding transportation were down -0.2% following a +0.3% gain in March. The transportation segment is a large and volatile category that often exaggerates the ups and downs in industrial production, which was the case in March from heavy orders for planes from Boeing. The important Core Capital Goods Orders (nondefense capital goods excluding aircraft), a proxy for business spending, rebounded +1.4% after falling -0.4% in March and -0.7% in February.
- The Richmond Fed Manufacturing index showed activity in the Fifth Federal Reserve District fell another -5 points in May to -15, following a -5 point drop in April, and well below expectations for an improvement to -8. May marks the fifth consecutive negative reading and is nearing the -20 level which is consistent with previous recessions. Two of its three component indexes—shipments and new orders—declined. The shipments index dropped from -7 in April to -13 in May, while the new orders index fell from -20 to -29. The employment index, however, rose slightly from 0 in April to 5 in May. Firms remained pessimistic about local business conditions, as the index fell to -27 in May. Furthermore, the expectations index for future local business conditions fell to -16.
- The Kansas City Fed Manufacturing Survey showed factory activity improved for the tenth federal reserve district in May, with the index increasing to -1 from -10 in April and higher than expectations for a -9 reading. After plunging to -21 in April, the production index improved to -2 in May. New orders modestly improved, rising from -21 to -14. Employment rose to 7 from -1 the prior month. Price pressures continue to alleviate as the prices paid index, on net, fell from 32 in April to 16 in May.
- The Commerce Department reported April New Home Sales rose +4.1% to a seasonally adjusted annual rate of 683,000 units, far ahead of expectations for 665,000 units but March was negatively revised to 656,000 units (originally 683,000). Sales in the South and Midwest led the gains. Year-over-year, sales are up +11.8%, but prices have fallen sharply. The Median New Home Price fell to $420,800, or about -8.2% from a year earlier, slowed by weakness in the more expensive Northeast and West regions. April’s inventory of new homes for sale remained low at 433,000, representing 7.6 months of supply at the current sales rate, down from 7.9 months in March and 8.5 months a year ago in April 2022.
- The National Association of Realtors reported that Pending Home Sales were flat in April, below expectations for a +1.0% gain, but an improvement from the -5.2% drop the prior month. Regionally, only the Northwest saw a monthly decline in pending sales. Compared to a year earlier, sales were down -22.6%, below expectations for -20.1% the prior month. Year-over-year pending sales have been negative since December 2021. All regions experienced year-over-year decreases. Affordability and a lack of inventory are still weighing on sales.
- The weekly MBA Mortgage Application Index sank -4.6% for the week ended May 19, following a -5.7% drop the previous week. This is the first time the index has posted consecutive losses since mid-February after oscillating between positive and negative readings for eight straight weeks. The Purchase Index fell -4.3 following a -4.8% drop the prior week and the Refinance Index sank -5.4% following a -7.7% fall the prior week. The declines came as the average 30-Year Mortgage Rate rose +12 basis points to 6.69%, the highest level since the week of March 10.
- Weekly Initial Jobless Claims rose +4,000 to 229,000 for the week ended May 20, under expectations for 245,000 and the prior week’s downwardly revised 225,000 (originally 242,000). The number of people already collecting unemployment claims (i.e. Continuing Claims) fell -5,000 to 1,794,000 in the week ended May 13, down from the prior week’s unrevised 1,799,000.
The Week Ahead
Investors are increasingly optimistic that the U.S. debt ceiling crisis will get settled in the week. If that happens, then most of the financial press will shift most of their focus on the employment data in the holiday-shortened week. The biggest release doesn’t come until Friday with the May jobs report, which comes just less than two weeks before the next FOMC rate decision meeting. JOLTS job openings are also on the schedule as well as the weekly unemployment claims. There are also several housing reports due, as well as consumer confidence and manufacturing PMIs.
Did You Know?
FALLING BEHIND – Of all consumer loans outstanding, 3% moved into delinquent status in the first quarter. During the quarter, 6.9% of all auto loans and 6.5% of credit card accounts moved into delinquent status. For both categories, these levels are post-pandemic highs (Source: NY Federal Reserve, MFS).
ONLINE SALES – Online sales made up 16.4% of US Retail Sales in April 2023. That’s nearly double the 8.5% share the sector had in April 2013. At 18.9%, only “motor vehicles and parts dealers” have a larger share of total retail sales than online, and based on the trajectories of the two, it’s a matter of when and not if that online takes the #1 spot (Source: Census Bureau, MFS).
TGIF – Fridays have been the best day of the week for the S&P 500 so far in 2023. Through 5/12, the S&P 500 averaged a gain of +0.34% on Fridays this year. The next best weekday, Monday, has averaged a gain of just +0.17%. While Fridays and Mondays have averaged gains in 2023, Tuesdays have averaged a decline of -0.13% with gains just 30% of the time (Source: Bespoke Investment Group, MFS).
This Week in History
BABY DOW – On May 26, 1896, the Dow Jones Industrial Average was first published. The index initially consisted of 12 industrial giants, including American Sugar and National Lead. The index’s value that day: 40.94. On Friday, the Dow closed at 33,093.44 (Source: The Wall Street Journal).
Asset Class Performance
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.