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By Pete Biebel, Senior Vice President

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Have you heard? Economic activity is accelerating. People are spending money again. Unemployed workers are finding jobs. Restaurants, bars and sports arenas are packing in the patrons. Vaccinated people are hugging one another. Happy days are here again. So why did the market just have its dullest week of the year?

It’s true, in a week that featured an FOMC policy statement, oodles of positive economic data, blowout earnings reports from many of the largest companies in the country and even a presidential address promising more free money, the market yawned. The S&P 500 Index (SPX) had a total range for the week of just over 1%. That’s its narrowest five-session week in more than a year. Net for the week, SPX posted a gain of exactly one point or a mere 0.02%. Both the Dow Jones Industrial Average (DJIA) and the NASDAQ Composite Index (COMP) had small losses for the week.

Here’s another little secret: The market has been anticipating the recovery for the past twelve months. Initially much of the buying interest was focused on the video streaming, social networking and shop-from-home companies that would benefit from the lockdown while prices for stocks of airlines, hotels and cruise ship companies sank. Later in the year, news of highly effective Covid vaccines floated hope that a return to normal was on the horizon. And, the market got another shot in the arm as the size of the promised fiscal stimulus packages grew ever more massive. So, even while the big tech stocks winners of the previous summer stalled, the beaten down leisure and entertainment stocks came into the spotlight.

A couple other recovery-related events helped a couple other lagging sectors. It’s no secret that crude oil prices rallied and longer-term interest rates spiked higher. In fact, crude ran from around $38 per barrel to $65 largely on expectations for increasing demand. The yield on 10-Year Treasuries vaulted above 1% in January and climbed to 1.7% by March largely on expectations for increasing inflation. Those two events enabled the lagging Energy and Financials sectors to outperform all others in the four months following the election. Those two were also the best performing of the U.S. equity sectors last week.

The trick all along was to try to determine how much future recovery benefit was already priced into the market. In recent articles, I have pointed out the degree to which the averages had become so extended on a technical basis. That didn’t mean that the market had to turn down, but it did strongly suggest that additional upside would probably be fairly limited over the next month or two. Last week’s market action is a symptom of that extended condition. It’s hard to believe that the news could have been any better, yet the market indices barely budged.

In addition to much higher-than- expected earnings from many of the reporting companies, last week also brought a string of impressive economic reports. Personal Income jumped a whopping 21.1% in March, thanks no doubt to the latest round of stimulus checks. Consumer Spending increased a strong 4.3%. The Case-Shiller Home Price Index had its largest year-over-year increase in 15 years, up 11.9%. Initial Unemployment Claims fell to their lowest reading in more than a year. And, the first estimate of the rate of growth for first-quarter GDP came in at an annual rate of +6.4%, the highest quarterly increase in more than 15 years. Even with all those glowing reports, the market indices barely budged.

The market’s general reaction to the blockbuster earnings reports from the mega-cap companies was likewise less than enthusiastic. Several of the biggest names, which reported much better-than-expected increases in revenues and profits, saw their share prices spike higher on the opening following their reports, with several touching new highs on the move. Unfortunately, in nearly every case the stocks subsequently traded lower and ended the week below the gap-up levels.

The market as a whole had every reason to waltz higher last week, but instead it sat out the dance. Many of the companies that reported earnings last week had every excuse to rocket higher, but instead they flamed-out. It seems that the market is signaling that current valuations accurately reflect future expectations.

One measure of relative valuation in the stock market compares the earnings-based yield of the S&P 500 with the gap between the 10-Year Treasury “break-even rate.” It’s referred to as the “equity risk premium.” The break-even rate is the difference between the current yield on the 10-Year Treasury Notes and that of the 10-Year TIPs, the inflation-indexed Treasuries. That ratio measures the relative attractiveness of stocks relative to bonds. It’s a gauge of how much risk equity investors are taking relative to what’s available in the bond market. Over the past several months, as the stock market has gotten more expensive, and while the inflation indexed yields have moved higher, that ratio not only fell below its lows of the last several years in recent months, but it also now stands at its lowest level in more than 20 years. It’s another indication that, at its current valuation, the stock market is very richly valued.

This week brings a long list of new earnings reports though with many fewer marquee names than last week. We also get a long list of economic reports. The employment numbers late in the week have the greatest potential to spur a market reaction.

Date Report Previous Consensus
Monday 5/3/2021 PMI Manufacturing Final, April 59.1 60.6
ISM Manufacturing Index, April 64.7 66.0
Construction Spending, March, M/M -0.8% +2.0%
Tuesday 5/4/2021 Motor Vehicle Sales, April, SAAR 17.7mm 17.5mm
International Trade – Trade Deficit, March $71.1B $74.0B
Factory Orders, March. M/M -0.8% +1.3%
Wednesday 5/5/2021 ADP Employment Report, April, M/M +517K +763K
PMI Composite Final, April 59.7 62.2
ISM Services Index, April 63.7 64.2
Thursday 5/6/2021 Initial Jobless Claims 553K 533K
Friday 5/7/2021 Non-Farm Payrolls, April +916K +938K
Unemployment Rate 6.0% 5.8%
Wholesale Inventories, March, M/M +0.6% +1.4%
Personal Spending, March, M/M -1.0% +4.0%
Chicago PMI, April 66.3 64.0
Consumer Sentiment, April 86.5 87.1

 

Links to previously published commentaries can be found at benjaminfedwards.com/For Our Clients/Educational Resources/Market.