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From yet another Federal Funds rate rise to a slowdown in Chinese manufacturing, markets were beset by a range of crosscurrents during July. Despite contending with a dizzying array of signals, in the end only one thing mattered to investors – stocks closed higher for the fifth consecutive month, as measured by the S&P 500, (CNBC, July 31). For the period, the S&P climbed 3.1%, the Nasdaq 4.1%, and the Dow Jones around 3.4% (CNBC, July 31).
As expected, the Fed lifted rates by another 0.25% following its late July confab, to a 22 year high of 5.25%-5.5%. While anticipated, this rate hike occurred even as inflation continued to fall, with consumer prices up just 3% on an annual basis for June, the smallest increase in two years (Bloomberg, July 12). Meanwhile, the jobs market remained robust, adding 209,000 positions in June, the 30th consecutive month of gains (NY Times, July 7). This was down from the prior’s month’s 306,000, however, and a decline in the number of Americans quitting their jobs as captured in the JOLTS (the Jobs Openings and Labor Turnover Survey) index offered further confirmation that hiring was starting to slow (Wall St. Journal, July 6).
With Q2 earnings season in full swing, results have reflected the current mixed economic environment. FactSet reported that as of July 28, and with just over half of S&P 500 companies reporting, 80% reported a positive earnings surprise and 64% reported a positive revenue surprise (FactSet, July 28). Still, investors found plenty to worry about including a decline in year over year (YOY) earnings, a steepening of the yield curve (at one point the yield on two year treasuries exceeded that on 10-year treasuries by 1.08%, the biggest gap since 1981), and the magnitude of the rally itself, with US stocks reaching their highest level in 18 months on July 10 (Wall St. Journal, July 10).
Outside the US, things were less rosy. Eurozone growth was anemic, and a June Wall Street Journal story noted that while the US economy “is now 5.4% larger than before the Covid-19 pandemic struck, the Eurozone economy is just 2.2% bigger.” China, the world’s second-biggest economy, continued to be a source of concern as deflationary factors like an aging workforce and heavy levels of debt weighed on the outlook for the country’s growth (Wall Street Journal, July 30). Consumer price inflation in China was zero in June, while producer prices fell by 5.4% from the prior year (Wall Street Journal, July 30).
Soft landing?
The Godot-like recession watch continued in July, with predictions of an imminent contraction proving to be remarkably elusive. A prime example: big banks, which generally beat on earnings as loan growth continued in 2Q (Wall Street Journal, July 14), added further weight to the “soft landing” camp.
While the economy doesn’t appear headed for a crash landing, concerns remain that, despite the CPI falling from a high of 9.1% in June of 2022 to a recent 3% (annualized) level, efforts to bring prices down to the Fed’s 2% target will be decidedly more difficult to achieve. Under this view, rates will have to keep rising until the labor market sufficiently cools down (Wall Street Journal, July 9). With job openings far exceeding job seekers, workers remain in high demand. This continues to drive wage pressure, with wages up 1.02% YOY in June on an inflation-adjusted basis (4% nominal), the second straight month of gains (Wall Street Journal, July 17). Resilient consumer purchasing power likely creates unease at the Fed in its quest to subdue inflation. Pointing to further inflationary potential, bullish sentiment among retail investors was at its highest level since 2021 in July, according to surveys by the American Association of Individual Investors (Wall Street Journal, July 19).
Finally, the economy continued to grow. Gross domestic product (GDP) was up an inflation-adjusted 2.4% in 2Q, according to the Commerce Department, topping expectations and exceeding the 2.0% in 1Q (Wall Street Journal, July 27). This, too, will be closely watched by the Fed.
It should be noted, however, that signs of optimism have emerged on the inflation front recently, with analysts citing a decline in rent growth (housing accounts for 40% of core inflation), and falling prices for heavy contributors in the initial inflation run-up, like used cars (Wall Street Journal, July 9), among other factors.
Continued Rally Ahead?
Stocks continued to trend up as July drew to a close (although a setback was around the corner with a Fitch downgrade of US government credit, from triple-A to double-A+). While tech has been the primary driver of market gains this year, there was evidence that the upturn was broadening. Since the end of May, more than 140 stocks in the S&P 500 have hit 52-week highs, and all 11 sectors of the S&P 500 were higher during that period (Wall Street Journal, July 12). In another sign of expanding market breadth, the equal-weighted S&P 500 index outperformed the cap-weighted index (which tends to overweight technology) for the past six weeks through July 12 (Wall Street Journal, July 12).
Will August make it six months in a row of positive returns? The Fitch downgrade and the impact of the Fed’s ongoing tightening campaign will be among the key factors to watch in the month ahead.
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