By Pete Biebel , Senior Vice President
As the week begins, the Wednesday afternoon Fed policy announcement and press conference looms. Regardless of how smooth the road is early in the week, we’ve been warned to expect some bumps and turns midweek. The market expects the Committee will surely cut their short-term rate by 0.25 percentage points. If, in fact that is the decision, then it’s really no new news. The real news will be exactly what signs the Fed provides to indicate their likely level of dovishness on down the road. The market’s reaction to that news will likely spark a flurry of volatility midweek.
Coming into the meeting, the sign could read “Divided Highway.” Many believe that the U.S. economy is on a steady growth path with little if any potential for recession in the road ahead. They expect at most one additional Fed rate cut between now and year-end. Many others fear a slowdown; they’re hoping that the Fed shares those concerns and preemptively cuts their target rate two or three more times in the next six months. I suspect there’s also a good-sized group that may not necessarily fear a slowdown but hopes that the Fed does. The prospect for more rate cuts has been bullish for the markets. If the Fed signals “Caution: Dip,” the markets are likely to treat it as a “Speed Limit 95 MPH” sign.
The more important sign this week will be not what the Fed indicates, but how the market reacts to it. Even if I knew now exactly what the announcement and press conference would reveal, I’m not sure that I could predict the market’s reaction. The market has a perverse habit of doing the opposite of what everybody expects. The Fed could be very dovish, and the market could still sell-off. The after-the-fact explanation in that circumstance would probably be something like, “Traders were concerned that the Fed’s extreme dovishness indicated expectations for a much weaker economy in the months ahead.” Likewise, if the Fed does not seem quite dovish enough and the market nevertheless rallies, then the explanation will be, “The Fed is signaling that the economy is stronger than previously expected.”
If, for whatever reason, stocks rally steeply Wednesday afternoon, then we would want to see some follow-through progress later in the week. What we don’t want to see is a brief spike higher that reverses; i.e. “No U Turns.”
Last week was the busiest of the new earnings season, and earnings news dominated market action through the week. The three best performing sectors, Communication Services (+4.3%), Financials (+2.9%) and Technology (+2.6%), all benefited from very bullish reactions to earnings announcements from several of their component companies. With those sectors leading, the NASDAQ Composite Index (COMP) easily outperformed the other major indices. COMP gained 2.26% while the S&P 500 Index (SPX) managed just +1.65%. Both ended the week at record highs. The Dow Jones Industrial Average (DJIA) was held back by negative reactions to earnings reports from several of its big constituents. DJIA was underwater for the week through Thursday’s close, but a small gain on Friday enable the Dow to eke out a 0.14% net gain for the week.
That same theme was evident in the five-week numbers as well. The top performing sectors over the past five weeks are Technology (+5.77%), Financials (+5.40%) and Communication Services (+4.75%). Those sectors helped COMP gained 3.72% over that time while SPX added just 2.56% and DJIA gained just 1.77%.
The Russell 2000 Index of small-cap stocks (RUT) has been a concern as it has lagged the major averages’ ascent over the past few months. With that sector in the slow lane, the higher-cap averages could be likely to stall as well. Last week RUT gained a little over 2% to its highest level in nearly three months. Still, RUT is below its May rebound high. And, while it’s still holding above its 200-day moving average, it’s just one bad week from dropping back below it.
I have written for the past couple weeks that I believe the market is at an inflection point. Conditions are ripe for a melt-up rally. SPX ended last week just a whisker above that 3025 level. If SPX can decisively clear 3025, then we could be on a one-way street to higher highs. Conversely, if the rally fails here, if SPX’s trip above 3025 reverses quickly, then we should be alert for at least a brief, steep sell-off. Dropping below 2950 would be a concern and breaking below 2900 would be a bad sign indeed.
The Fed announcement is clearly the main event of the week. There’ll be plenty of entertainment from the earnings report sideshows as many more announcements are due this week; several semiconductor companies will be in the limelight. The early-week economic reports will provide some theatrics but are relatively minor and are unlikely to impact the Fed decision. The employment data on Friday might be a show-stopper in another venue, but, coming just a day-and-a-half after the Fed announcement, the impact is likely to be muted.
|Monday 7/29/2019||Dallas Fed Manufacturing Survey||-12.1||-3.5|
|Tuesday 7/30/2019||Personal Income & Outlays, Income, M/M||+0.5%||+0.3%|
|Personal Income & Outlays, Spending, M/M||+0.4%||+0.3%|
|S&P Case-Shiller Home Price Index, M/M||0.0%||+0.2%|
|Pending Home Sales Index, M/M||+1.1%||+0.3%|
|Wednesday 7/31/2019||ADP Employment Report||+102K||+155K|
|Employment Cost Index, Q/Q||+0.7%||+0.7%|
|Chicago PMI, Business Barometer||49.7||50.7|
|Fed Meeting Policy Announcement and Press Conference|
|Thursday 8/1/2019||Jobless Claims||206K||213K|
|PMI Manufacturing Index||50.6|
|ISM Manufacturing Index||51.7||51.9|
|Construction Spending, M/M||-0.8%||+0.4%|
|Friday 8/2/2019||Employment Situation, Non-Farm Payrolls||+224K||+156K|
|International Trade, Trade Deficit||$55.5B||$54.7B|
|Factory Orders, M/M||-0.7%||+0.7%|
Links to previously published commentaries can be found at benjaminfedwards.com/Company News/Blog/Market