Week #26 - Market Review for June 26-30, 2023

Summary

The major US stock indices ended the week with a broad-wide rally on the signs of better-than-expected stance of the US economy and the rising chances to see ‘soft landing’ or even ‘no landing’ scenario. Meanwhile, Apple Inc. finally reached the important milestone of its market capitalization at $3 trillion. Interestingly, the company briefly topped that level on January 3rd, 2022, the day S&P 500 Index marked its highest close.

The published statistics painted a picture for the robust U.S. economy with some indications about abating the price pressure. According to data from the CME Group, the likelihood of a rate hike at the Fed meeting on July 26 is 87% — an increase from 72% the previous week. The trajectory of the future Fed rates anticipated by investors indicates steady rates after July’s hike until next March. A week ago, the beginning of the monetary easing was expected in January 2023.

Economics and Statistics

Several important macroeconomic indicators and economic news were published during the week:

·?????US consumer confidence has reached its highest level since early last year, driven by increased optimism about the labor market and the ongoing economic expansion. The Conference Board's index rose to 109.7 in June, up from 102.5 in May, exceeding all economist predictions in a Bloomberg survey.

The gauge for current conditions reached 155.3, marking the highest level in almost two years. Consumers' six-month outlook also improved to 79.3, while the measure of expected inflation dropped to its lowest level since 2020. Increased confidence was primarily seen among consumers under the age of 35 and those with incomes over $35,000.

Despite this, the expectations gauge still indicated that consumers foresee a recession within the next six to 12 months. Approximately 69% of consumers believe a recession is somewhat or very likely in the coming year, which is the lowest share since late 2022.

·?????US home prices ascended for the third consecutive month due to increased buyer demand and a limited supply of listings. A national price index from S&P CoreLogic Case-Shiller showed a 0.5% increase in April compared to March.

The US is currently in its peak home buying season, but only about half of the properties available for sale in spring 2019 are listed now. This inventory shortage is limiting transactions, but eager buyers are often forced to pay above the asking price in many regions.

According to Craig Lazzara, managing director at S&P Dow Jones Indices, the ongoing recovery in home prices is broadly based. Year-over-year, prices dropped slightly by 0.2%, compared to a 0.7% increase in March. Miami (+5.2%), Chicago (+4.1%), and Atlanta (+3.5%) reported the highest annual gains among the 20 largest cities.

·?????New home sales in the US advanced in May to the quickest pace in over a year, propelled by a shortage of inventory in the resale market. Government data showed a 12.2% increase in purchases of new single-family homes to an annualized rate of 763,000 last month. The figure marked the third-straight monthly advance and beat all but one estimate in a Bloomberg survey of economists.

·?????In May, US pending home sales dropped to the lowest point of the year, primarily due to high mortgage rates and a lack of inventory. The National Association of Realtors' index, which tracks contract signings for the purchase of previously owned homes, declined by 2.7% to 76.5. This drop exceeded almost all estimates from a Bloomberg survey of economists. The resale market is facing difficulties as high borrowing costs and low supply influence sales. Current homeowners who previously secured lower mortgage rates are hesitant to move, exacerbating inventory constraints and pushing potential buyers towards new homes.

·?????Freddie Mac data showed that mortgage rates are still hovering near this year's maximum, indicating possible stabilization.

·?????European Central Bank (ECB) President Christine Lagarde has indicated that the bank isn't likely to declare an end to its cycle of interest-rate increases in the near future, signaling a continued leaning towards monetary tightening. Lagarde stated that barring a significant change in outlook, the ECB will increase rates for the ninth consecutive month in July to curb inflation. The focus now is on the final stages of the ECB's rate increase plan, as headline inflation begins to fade but underlying price pressures persist. While a majority of economists expect a pause after next month, with the deposit rate at 3.75%, money markets anticipate a peak of about 4% later this year.

In conclusion, the overall tone of the statements is hawkish. The ECB shows a strong inclination towards continuing its interest-rate hikes and maintaining a tightening monetary policy to control persistent inflation pressures.

·?????Bank of Japan Governor Kazuo Ueda hinted that the bank may begin normalizing monetary policy if there's enough confidence that inflation will rise in the coming year. Currently, the underlying inflation is below 2%, and the bank predicts the rate will decrease towards the end of the year. Ueda stated that if they become more confident that inflation will increase into 2024, it could lead to a policy change. Although the consumer price index has been increasing by over 3%, the bank believes the underlying inflation is still slightly below 2%. These comments reflect the broader consensus that the Bank of Japan will need more evidence before considering policy adjustments. Ueda also emphasized the complexity of the yen's value, being influenced by factors beyond the bank's monetary policy. Despite high current inflation figures, changes to the bank's stimulus, including its yield curve control program, don't appear imminent.

Considering the need for more confidence before policy changes, and Ueda's emphasis on the high cost of premature tightening, the overall tone of the statements is more dovish.

·?????According to The CFO Survey conducted by Duke University's Fuqua School of Business and the Federal Reserve Banks of Richmond and Atlanta, financial decision-makers have reduced their expectations for U.S. economic growth in the coming year, with about 40% of small businesses anticipating that tighter financing will restrict business expenditure. Expectations for gross domestic product (GDP) growth for the next year have been revised down from 1.4% to 1.0%. The average rating for optimism about the overall U.S. economy was 54.8, similar to the first quarter's low level of optimism.

However, there was a notable increase in optimism among respondents after the passage of the debt ceiling resolution in Congress. CFOs' optimism about the financial prospects of their own companies also increased following the resolution. Despite this, the debt ceiling deal didn't change financial decision-makers' expectations for slower GDP growth in the next year. Small businesses appear to face more significant challenges concerning revenue growth and financing than larger firms.

·?????Euro-area annual inflation is expected to be 5.5% in June 2023, down from 6.1% in May. The main drag on headline inflation is energy prices declining by 5.6% year-over-year. Meanwhile core inflation looked less promising and accelerated to 5.4% after 5.3% last month.

National data highlighted Spanish inflation below the ECB's 2% target, while inflation in France, Italy, and the Netherlands also fell, though it remained above the target. Conversely, German consumer price growth accelerated to 6.8%, largely driven by a very cheap public transport ticket introduced by the government last year to help citizens cope with increasing energy costs. This spike led to a rise in service inflation in the region to a new maximum of 5.4%.

·?????The final estimate of US GDP in the first quarter was revised up notably to 2.0% annualized from the second estimate at 1.3%. The latest data reflected an upward revision to exports (7.8% vs. 5.2% previously) and consumer spending (4.2% vs. 3.8%).

·?????Inflation-adjusted spending was nearly unchanged in May and has essentially plateaued since the start of 2023. This slowdown may help mitigate inflationary pressure, which has already seen a decrease to its lowest level in over two years.

The Personal Consumption Expenditures (PCE) price index rose 0.1% in May and 3.8% year over year, the slowest pace in more than two years. The core PCE index, which excludes the volatile food and energy categories, increased by 0.3% m/m and 4.6% y/y. These figures were mostly in line with estimates in a Bloomberg survey of economists.

·?????US consumer sentiment continued to rise throughout June, while short-term inflation expectations remained at a more than two-year low, according to the University of Michigan's consumer sentiment index. The index climbed to 64.4 from a preliminary reading of 63.9, reflecting an improvement from the slump seen in May. Consumers expect a 3.3% annual increase in prices over the next year, a figure that aligns with the preliminary reading. That’s significantly lower than the 4.2% forecasted in May. Over the next five to 10 years, they anticipate costs to rise by 3%, also in line with preliminary data.

This increase in consumer sentiment is said to reflect the resolution of the debt ceiling crisis early in the month and a general sense of optimism regarding softening inflation.

US stock market

The major US stock indices ended the week with a broad-wide rally on the signs of better-than-expected stance of the US economy and the rising chances to see ‘soft landing’ or even ‘no landing’ scenario. Meanwhile, Apple Inc. finally reached the important milestone of its market capitalization at $3 trillion. Interestingly, the company briefly topped that level on January 3rd, 2022, the day S&P 500 Index marked its highest close.

The published statistics painted a picture for the robust U.S. economy with some indications about abating the price pressure. According to data from the CME Group, the likelihood of a rate hike at the Fed meeting on July 26 is 87% — an increase from 72% the previous week. The trajectory of the future Fed rates anticipated by investors indicates steady rates after July’s hike until next March. A week ago, the beginning of the monetary easing was expected in January 2023.

All sector ETFs displayed positive dynamics.

The Fear & Greed Index has climbed back to the 'extreme greed' territory, increasing to 80 from 74 a week ago. Historically, such high values of the indicator coincide with local maximums and are followed by market corrections. The latest sizeable pullback we saw was from February to mid-March.

U.S. stocks, tracked through SPY (an ETF for the S&P 500 index), are beginning to use the lower band of the recent uptrend as a support level. From this point, it seems possible to surpass the all-time high set at the beginning of 2022. Incidentally, SPY closed last week just 2% below the peak level of spring 2022, set on Friday, March 28th. On the weekly chart, this difference is compressed to mere 0.1%.

Global Markets

Global stock markets remain volatile and have swiftly switched to 'risk-on' mode, a situation where investors prefer risky assets. With a few exceptions, the main stock markets posted robust gains.

Global stocks, reflected through ACWX (ETF based on the MSCI All Country World ex USA Index), once again tried to gain a foothold above the Fibonacci resistance level at the 61.8% mark.

FX Markets

The dollar index has barely changed for the week. For your information, the euro, yen, and pound make up about 83% of the dynamics of the dollar index.

Commodity Markets

Major commodities ended the week mainly in the green.

Debt Markets

According to CME data, the implied Fed Funds rates curve (for the period until November 2024) shifted upwards by an average of 17 basis points. Now traders expect higher level of the terminal rate (??5.41% vs. 5.32% on the previous week) and less Fed’s willingness to start cutting rates.

Several representatives of the Fed spoke during the week with comments on monetary policy, for which I specifically highlighted the tone:

·?????Federal Reserve Chair Jerome Powell has indicated that at least two more interest-rate hikes may be necessary in the current year to bring the inflation rate down to the US central bank's 2% target. During a conference in Madrid at the Bank of Spain, Powell mentioned that the inflation pressures are still high and getting it back down to the 2% mark would take time. Powell stressed that the Fed's commitment is not towards a particular number of rate hikes, but towards a stance that effectively curbs inflation back to 2%. The timing and extent of rate hikes would depend on how the economy fares. Powell also touched upon the risks of doing too much or too little, stating that it's not yet in balance. He added that the effect of tightening policies are already being seen, especially in sectors like housing and investment. When questioned about the US returning to pre-pandemic low rates, Powell said it wouldn't be for a "good while". Powell also discussed the need for stronger supervision and regulation of institutions of the size of Silicon Valley Bank, while assuring that the US banking system is "strong and resilient". The labor market remains tight, but Powell acknowledged signs of better balance in supply and demand. He then clarified that in his view, core inflation will only return to 2% by 2025. Powell also stated, "We will be restrictive as long as we need to be," signalling the Fed's readiness for a drawn-out battle against inflation. He did not expect the core inflation to return to 2% this year or the next.

In summary, the overall tone of Powell's comments is hawkish, indicating the Fed's readiness to persist with restrictive monetary policy to combat sustained inflation, even at the risk of causing temporary economic slowdown.

·?????Raphael Bostic, a Federal Reserve official, reaffirmed his stance on keeping borrowing costs static, but also noted that Chair Jerome Powell and other colleagues do not share this view. Bostic, president of the Federal Reserve Bank of Atlanta, has been urging patience in policy decisions as the institution grapples with high inflation. He is, however, facing resistance from most colleagues who are determined to continue with a tightening campaign that is the most aggressive since the 1980s. In a speech in Ireland, Bostic indicated that the policy rate could remain unchanged due to signals of easing inflation and a cooling labor market. Additionally, Bostic observed hopeful trends in recent inflation reports and commented positively on the potential of artificial intelligence, although he did caution about potential job obsolescence.

The overall tone of the statements made by Bostic leans more towards being dovish, as he advocates for patience and keeping borrowing costs on hold amidst signs of easing inflation and a cooling labor market. Despite facing disagreement from other colleagues who seem more hawkish in their policy views, favoring a more aggressive tightening campaign, Bostic continues to emphasize the potential benefits of a more patient approach.

·?????Federal Reserve Bank of Chicago President Austan Goolsbee commented on the uncertainty surrounding whether policymakers should increase rates or keep them steady in July. He stated that inflation remains above target and has proven more enduring than initially anticipated. Although certain inflation measures have improved, others aren't decreasing as rapidly as expected. Goolsbee emphasized the need to distinguish between temporary inflation causes, like the unusually high price of used cars, and more persistent factors. As a voting member of this year's Federal Open Market Committee, Goolsbee has previously expressed concerns about the potential economic impact of a lending drawback. He said that his decision about the measures to take at the July 25-26 meeting remains undecided, citing the importance of upcoming data in guiding this decision.

The overall tone of the statements is more dovish, as Goolsbee is taking a cautious approach to interest rate changes, stressing the need to observe more data before making a decision.

The yields of the mid-term U.S. government bonds moved upward by about 15 basis points.

Written by Igor Rotor, Chief Investment Officer at Atrani Capital.