Weekly Market Report: June 3, 2022

In a holiday shortened week, markets had to absorb a pretty full economic calendar and the usual dose of geopolitical and policy narratives. By week’s end, investors were left with a counterbalancing sense of slowing global growth crossed with strong job creation, wage gains, and consumer spending. Somewhat surprisingly, equity markets gave back only 1.2% of the prior week’s spectacular 6.6% gain. Bond yields firmly resumed their upward trend with yields climbing 15-25bps across the curve leaving the 10yr UST just shy of the psychological 3% level. Commodity markets continued to exhibit elevated volatility with oil closing up 3.3% to $118, within reach of March’s 14 year record high of $124.

Market Anecdotes

• Interest rates resumed their upward trend last week with a parallel move of nearly 20bps higher in what is still a solid positively sloping yield curve. The month of May wrapped up last week as the official worst YTD bond market on record.
• Aggregate S&P 500 EPS (12mo) of $134.90 is sitting at a record high and has increased 7% YTD priced at trailing and forward P/E multiples of 20.6x and 18.3x respectively. BCA Research made note that the 140bps rise in yields this year coincides with a 22% decline in forward P/E ratios.
• The AAII sentiment survey spiked last week with bullish reads surging from sub-20% to 32% and bearish reads plummeting 16% to 37%. The bull/bear spread, still pessimistic, narrowed to -5.1. Meanwhile, the Conference Board’s CEO confidence level here in 2Q has fallen sharply.
• An interesting ‘quality bias’ anecdote from Prudential last week regarding ‘zombie’ companies in the NASDAQ illustrates how 750 of Russell 3000 companies do not have sufficient earnings to cover interest expenses alone.
• A piece from BoA Merrill last week highlighted the historic record cash balances currently held on bank balance sheets to emphasize pronounced health and quality across the sector.
• While energy markets have continued to rip, metals and grains have reverted meaningfully off the initial ‘Russian invasion’ surge but are still in elevated territory when viewed historically.
• EU oil embargo details were released early last week, sending tremors through energy markets, but OPEC later surprised investors with an unexpected production increase to 648,000bpd in July and another increase in August which essentially restores all pandemic related production cuts.
• While the U.S. housing market has cooled in step with a 2% rise in mortgage rates, it doesn’t give us the sense of any looming issues. Affordability measures and mortgage rate spread to Treasuries provides an encouraging perspective when viewed long term.
• BCA pointed out the slowdown in their Global Leading Economic Index confirms slowing global growth momentum, but the diffusion index appears to have bottomed and is shifting higher.

May Market Review

The market narrative in May transitioned to a debate on whether we are looking at recession or repricing debate; both nine letters, both look kind of similar, but are fundamentally very different beasts. In the end, May added to the 2022 legacy of heightened equity market volatility, geopolitical uncertainty, and sizable monetary policy influence. As expected, the Fed raised its policy rate 50 basis points in May and underscored its desire for similar 50 bp hikes over the next two meetings with the intent to keep tightening financial conditions until clear and convincing data of slowing inflation emerges. They are certainly not alone in their intent to eliminate emergency levels of policy accommodation with the ECB, BoE, and many other central banks moving the same direction. From a fundamental perspective, corporate profit growth is reverting to sustainable levels, inflation is running persistently high, the job market remains very healthy, and overall service and manufacturing sector activity is expanding. Overall, it’s been a very challenging year with markets on pace for record levels of volatility and virtually all financial assets (stocks and bonds) struggling. U.S. and most international equity markets flirted with bear market territory mid-month before recovering over 8% in the final six trading days. May saw continued dispersion within global equity markets with some areas doing particularly well (value, small caps, international developed markets, Latin American, and energy stocks) and some not so much (growth stocks, REITs, Eastern Europe). While the S&P 500 notched a 0.2% gain on the month, year to date it is down 12.8%, international stocks are down 11.3% (-4.9% in local currency terms), and emerging markets are 11.7% lower. May did break a streak of five consecutive down months in the bond market, returning 0.6%, but still have not provided much shelter with broad U.S. bonds down approximately 9%, non-U.S. bonds -14.5%, municipal bonds losing 7.5%, and high yield bonds off 8% year to date – numbers which place 2022, through May, as the worst performing bond market on record with data going back to the early 1970’s. Commodity markets continued their advance with a 1.5% in May thanks to the energy complex (+10.4%) continuing its rally on the back of Russian-Ukraine global supply concerns while industrial metals lost ground on global growth slowdown concerns.

Market Anecdotes

• Aggregate S&P 500 EPS (12mo) of $134.90 is sitting at a record high and has increased 7% YTD priced at trailing and forward P/E multiples of 20.6x and 18.3x respectively. BCA Research made note that the 140bps rise in yields this year coincides with a 22% decline in forward P/E ratios. 
• Earnings, dividends, and multiple expansion/contraction are the drivers of stock market returns and the latter has both giveth (2020-2021) and taketh (2022) in grand fashion in recent years. • The headwind of high and rising bond yields has relented recently giving higher P/E stocks some breathing room and increasing the number of modestly priced stocks, particularly in non-U.S. markets.
• Q1 GDP revision, from -1.4% to -1.5%, came with a strong upward revision to personal consumption spending which was offset by lower private inventory investments. Growth of 3.9% and an upward trend in sales to domestic purchasers signals healthy GDP for Q2.
• Robust consumer balance sheets (demand) support a constructive view of forward growth expectations with $4t in checking and loose currency and $4.5t in money market holdings.
• BCA pointed out the slowdown in their Global Leading Economic Index confirms slowing global growth momentum, but the diffusion index appears to have bottomed and is shifting higher.
• While the U.S. housing market has cooled in step with a 2% rise in mortgage rates, it doesn’t give us the sense of any looming issues. Affordability measures and mortgage rate spread to Treasuries provides an encouraging perspective when viewed long term.
• EU oil embargo details were released early last week, sending tremors through energy markets, but OPEC later surprised investors with an unexpected production increase to 648,000bpd in July and another increase in August which essentially restores all pandemic related production cuts.
• China’s weak housing market, zero tolerance Covid policy, and weakening global  manufacturing demand has begun to influence policy with the PBoC lowering its 5yr loan rate by 15bps following a rate cut in the mortgage market in May.

Weekly Market Report: May 27, 2022

Equity markets finally bucked an unsavory trend last week, in no uncertain terms, breaking a streak of seven straight down weeks for the S&P 500 by posting a gain of 6.5%, its best showing since the election in November 2020. The idea of falling inflation, adequately tightened financial conditions, and supply side driven growth was reassuring to risk markets. Interest rates settled down across the curve while commodities rallied again thanks to continued upside across the energy complex. The USD settled down 1.44% last week in a notable move based on central bank policy narratives from the FOMC and ECB.

Market Anecdotes

• Equity markets traded higher consistently throughout each of the past five trading days which may signify a FOMO sentiment driven rally (‘fear of missing out’) as one of the drivers.
• Risk assets cheered the release of minutes from the most recent Fed meeting indicating an appetite for less tightening than markets have priced in. BCA highlighted the notion that financial conditions have tightened enough that Fed narratives can be less hawkish.
• The headwind of high and rising bond yields has relented recently giving higher P/E stocks some breathing room and increasing the number of modestly priced stocks, particularly in non-U.S. markets.
• The 2yr UST yield fell 13bps last week, more than longer or shorter maturities, reflecting some renewed dovish sentiment thanks to FOMC narratives last week. The 10yr UST has fallen from 3.12% to 2.74% over the past two weeks.
• Bianco Research updated their ‘nothing is making money’ chart illustrating how unprecedented 2022 has really been with the best 6-month performing financial asset returning -9.2%.
• Negative investor sentiment, a strong contrarian indicator, remains at excessively bearish levels as illustrated by recent AAII sentiment survey data.
• With Democrats facing a likely red wave in the midterms, some pump priming and legislative initiatives to creep back into the fiscal narrative including student loan forgiveness and a Manchin-Schumer BBB deal potentially resurfacing.
• Municipal bonds are looking relatively attractive at this point in the cycle with muni/treasury ratios back above post 2010 averages and credit quality at extremely healthy levels.
• Q1 GDP revision, from -1.4% to -1.5%, came with a strong upward revision to personal consumption spending which was offset by lower private inventory investments. Growth of 3.9% and an upward trend in sales to domestic purchasers signals healthy GDP for Q2.
• ECB President Christine Lagarde made clear the ECB is preparing to remove accommodation by ending net bond purchases in early 3Q and raising rates by 25bps in July and September.
• The EU’s proposed REPowerEU scheme, designed to address reliance on Russian energy sources, stands to direct hundreds of billions in energy infrastructure investments in the coming years.
• China’s weak housing market, zero tolerance Covid policy, and weakening global manufacturing demand has begun to influence policy with the PBoC lowering its 5yr loan rate by 15bps following a rate cut in the mortgage market last week.

Weekly Market Report: May 20, 2022

A hawkish FOMC and increasing speculation surrounding the recession narrative led risk markets to another rough week with the S&P 500 flirting with bear market territory, posting a seventh consecutive down week while high yield credit spreads closed in on 5%. Interestingly, international equity markets posted strong gains last week across the board. Bonds benefited from a flight to quality bid last week with yields falling 10-15bps on longer maturities while the strengthening USD took a breather, falling 1.35% on the week. Commodity markets posted modest gains with oil up 2.5% to $113 and natural gas rising another 5.5%.

Market Anecdotes

• The extreme volatility and price declines of the S&P 500 has left the market 19% below the early January high but still 78% above the March 23, 2020, low.
• Market technicals haven’t fully reached washed out levels with 10day A/D of 46% and put/call ratios holding up while percentage below 50/200dma and the lower BB of 3,848 looking more oversold. IIAS bull-bear of -15.2% is lower than any reading since the GFC.
• While market corrections are always unsettling, it’s worth remembering how frequent and deep they occur. The median non-recession correction is -12.5% and recession corrections hover around -24%.
• Earnings, dividends, and multiple expansion/contraction are the drivers of stock market returns and the latter has both giveth (2020-2021) and taketh (2022) in grand fashion in recent years.
• 95% of S&P 500 companies have reported a beat rate and margin of 77% and 4.7% respectively but the negative price reaction of 0.5% to positive EPS surprises.
• Market narratives from the Fed and U.S. Treasury Secretary left investors feeling like a policy of hope or luck to avoid recession is pretty fragile but a strong labor market, healthy consumer balance sheets, moderating inflation, and supply chain normalization offer a solid footing.
• Robust consumer balance sheets (demand) support a constructive view of forward growth expectations with $4t in checking and loose currency and $4.5t in money market holdings.
• After breaking above the key psychological level of 3% earlier this month, 10yr UST yields have settled down into the 280’s.

Weekly Market Report: May 13, 2022

Risk markets endured yet another difficult week, with the S&P 500 and NASDAQ posting a sixth consecutive down week, leaving the broad U.S. equity markets up only 15% over pre-COVID highs now that much of the valuation premiums have been right sized. While it’s too early to declare Monday’s 3.20% yield on the 10yr UST a near term high, the rise in interest rates did take a breather last week with most maturities falling 0.10% to 0.20%. Commodity markets were flat last week with oil holding onto the sharp gains of the past few months while the USD posted another strong week versus foreign currencies.

Market Anecdotes

• The bond market found some footing, at least for the time being with rates settling down in the back half of the
week. Corporate bonds are now offering a decent value relative to late last year.
• The exceptional volatility we’ve seen has left global equities trading at 15.5x (non-U.S. 12.6x and U.S. 17.6x), well into a cycle of recalibrating valuations and increasing the likelihood that fundamentals will remain a key driver of returns in the back half of 2022.
• FactSet noted 85% of companies have cited ‘inflation’ on Q1 earnings calls but this hasn’t translated to much profit margin compression which sits at 12.5% versus 12.7% on March 31st.
• Value/growth dynamics don’t stop at the U.S. border with generational outperformance of growth experiencing a meaningful reversion in conjunction with the rise in interest rates and inflation. That said, forward returns of international versus U.S. hinge on several dynamics.
• Several Fed officials echoed Powell’s assertion last week that 50bps hikes are the preferred approach. The Fed Funds future forward curve is suggesting the terminal Fed Funds rate is roughly 3.3%, well above the current FOMC forecast of neutral rate of interest.
• The Fed quantitative tightening program leaves very little likelihood of any FOMC open market sales of their U.S. treasury portfolio with a small possibility of MBS sales as things progress.
• Fundstrat highlighted how quickly markets have worked to price in the tightening of overall financial conditions, which is precisely what this Fed cycle is intending, relative to prior cycles.
• While criticism of Fed forecasting prowess is ample and easy, economists haven’t fared much better with eighth straight months of at or upside CPI surprises and just 3 of the past 24 reports surprising to the downside.
• ECB President Christine Lagarde leaned into potential rate hikes as early as the third quarter, pulling market expectations forward given the current inflationary backdrop in Europe.
• The Fed’s Senior Loan Officer Outlook Survey showed very robust demand for business loans, easy lending standards, and plummeting demand for mortgages.
• The latest SCOTUS controversy overturning Roe v Wade adds to a list of issues that may impact midterms including inflation, moderating growth, and fiscal policy. The most likely outcome remains congressional gridlock which can be viewed as marginally positive given the backdrop.
• POTUS surprised markets at the margin in a presser where he noted consideration of reducing tariffs on China.
• What’s going on with the USD? Looking at global currency reserves, BCA Research made note that of the 26% of outstanding treasuries held by foreigners, they estimate ‘allies’ hold approximately 36% and ‘non-allies’ approximately 23%.

April Market Review

April was the cruelest month of the year thus far with all major global financial assets performing poorly with the exception of the U.S. dollar. Monetary policy, inflation, supply chain disruptions, Chinese zero tolerance Covid policy, and the war in Ukraine combined to push rates and commodities sharply higher and global equities lower. After posting one of the only positive numbers in March, U.S. equity markets lost 8.7% in April, one of the worst returning equity markets globally with technology stocks leading the way down as evidenced by the NASDAQ marking its worst monthly decline since the global financial crisis in 2008. Chinese equity markets (-4.1%) saw a late month rally with expectations of easing both monetary policy and technology regulation while Europe was a top relative performer losing only 0.75% in local currency terms but -5.75% after adjusting for the strong U.S. dollar. Fixed income markets posted a fifth consecutive month of losses with both U.S. bonds (-3.75%) and non-U.S. bonds (-6.99%) losing substantial ground. Interest rates crept higher on monetary policy (Fed among others) and inflation concerns with inflation data sticking at multi-decade highs. High yield credit spreads moved methodically higher through the month, from 3.43% to 3.97% but remain relatively low in a longer-term context. Commodity markets enjoyed another strong month of gains mostly through the energy and agricultural complexes while industrial and precious metals both lost ground in April. The Russia-Ukraine war has sent energy and agricultural prices soaring this year with oil (+44%) and natural gas (+103%) as well as corn, wheat, soybeans up 27%-38%. The labor market, economic activity, and corporate earnings all look relatively encouraging with elevated inflation and its uncertain path forward posing questions to any bullish thesis. Unemployment of 3.6%, service and manufacturing surveys solidly in expansionary territory, and U.S. earnings growth of approximately 9% all suggest relatively healthy underlying fundamentals.

Market Anecdotes

• FactSet noted that, through April, 55% of S&P 500 companies have reported earnings with beats and margins of 80% and 3.4% respectively. Blended earnings growth is at 7.1%. Revenue beats and margins of 72% and 2.2% alongside revenue growth of 12.2% remain relatively encouraging.
• The yield on the 10-year Treasury note posted its biggest monthly gain in 13 years. Global bonds have lost 11.30% in the first four months of the year and 5.48% just in April resulting in the worst monthly and YTD return in history. Bloomberg’s U.S. Aggregate Index posted worse monthly returns on only two occasions, October 1979 and February 1980 during the last bout of runaway inflation in the U.S.
• Stocks are also off to their worst start on record. The S&P 500 is down 12.9% so far this year, marking the index’s worst YTD return in almost 95 years of history.
• The Nasdaq dropped 13.2% just in the month of April; its worst showing since October 2008. The index is down 21% in 2022; its worst start to a year on record. The FANMAG complex lost over $1 trillion in market cap just in April.
• Commodities continued to power higher in April. The Bloomberg Commodities Index returned 30.75% in the first four months of the year, far outpacing the returns at a similar point of any other year on record.
• For the month, WTI rallied 4.4% and finished the month at $104.7 per barrel. Factors include lack of Russian supply to the West, Saudis holding back supply, and US ramp up. April’s rally marks a five-month streak of higher prices which is second on record only to the eight-month rally of late 2010/early 2011.
• The French election victory of Emmanuel Macron over Marine Le Pen gave markets a dose of familiarity and certainty with respect to France’s role within the EU and globally.
• Fed comments have firmed up market expectations of the pace and scale of rate hikes with 325bps currently priced in over the next twelve months. In response, the Bloomberg Aggregate bond index (YTD) has experienced its worst return in history.
• April data releases from China reveal a mixed bag of moderate growth countered by CoVid-19 related drag on economic activity at a time with depressed private sector demand and weak housing market. Shipping congestion in Chinese ports is also clearly on the rise.
• A weak Yen in 2022 hasn’t translated to strong performance by Japanese exporters as evidenced by Japan’s equity market being down double-digits. Several forces factoring in with a rebound/reversion opportunity seemingly still in wait.