- Equities and rates are marking time in well-defined trading ranges pending new developments on the economy or Fed policy.
- Equity investors continue to expect the Fed to blink should the economy or labour market slow significantly; or alternatively, that inflation continues to fall toward the 2% target.
- Barring some crisis we expect the Fed to keep pushing against inflation. That leaves equities vulnerable to another downward leg in this bear market.
- Only 23 companies report this week, but they include a bevy of major retailers and industrial bellwether Deere and Co.
- We continue to be underweight equities in our asset allocation framework.
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- Equities and rates are marking time in well-defined trading ranges pending new developments in the economy or Fed policy.
- Equity investors still expect the Fed to blink should the economy or labour market slow significantly or inflation keeps falling towards the 2% target.
- Barring a crisis, we expect the Fed to keep battling inflation. That exposes equities to another downward leg in this bear market.
- Only 23 companies report this week, including a bevy of major retailers and the industrial bellwether Deere and Co.
- We continue to underweight equities in our Asset Allocation framework.
What We Learned Last Week
The massive rally following the Consumer Price Index (CPI) data on 9 November 2022 fizzled last week, with equities and the 10-year Treasury yield trading in a narrow range.
We still think equities will trade in the range they have been since May, pending significant data. The key variables are the Fed, labour market, and earnings.
- A sustained rally is almost inconceivable while the Fed is raising rates or leaning hard against inflation.
- If (or when) Fed policy causes the 10-year Treasury to resume rising or the economy and labour market to slow appreciably, we will likely see the next downleg of this bear market.
- Alternatively, if earnings or forward earnings start to weaken, equities will fall – although this will likely follow an economic and labour market slowdown.
- Equity investors’ big hope is that if the slowdown arrives, the Fed will blink and cut rates or that inflation drops steadily and perceptibly toward the Fed’s 2% target. We are not holding our breath.
Consumers in Retreat
Retailers reported mixed results for the quarter ending in October. Walmart (WMT) and Macy’s (M) posted better-than-expected earnings and outlooks while Target (TGT) and TJ Maxx (TJX) reporting weak earnings.
Most retailers report sales of discretionary goods slowed noticeably in October and that weakness has persisted into November. WMT also said discretionary sales were slowing. However, about 50% of its sales are now groceries. It is picking up market share from other retailers as more affluent shoppers seek lower prices.
Clearly, consumers are responding to inflation and lower real incomes, if belatedly.
Corporate vs Consumer Tech
Network gear manufacturer Cisco Systems (CSCO) confirmed corporate demand for tech equipment remains strong. Nvidia Corp. (NVDA) has feet planted in both corporate- and consumer-related businesses. Its corporate-oriented network business is strong, but demand for graphic chips used in video games remains soft.
The Week Ahead
As earnings go, a light week is coming, with only 23 companies in our Russell 1000 universe scheduled to report. But several of them could be consequential.
- PC maker Dell Technologies (DELL) will likely tell us PC demand remains soft. But is it still sitting on large inventories of chips? If so, consumer-oriented semiconductor companies face more pain. If inventories are returning to normal, the semiconductor industry should be able to resume more normal operations.
- JM Smucker Co. (SJM), maker of brand-name jams and various processed foods, indicates whether price-conscious consumers are trading down to store brands.
- A bevy of retailers in the consumer discretionary sector report today, including Best Buy (BBY), Burlington Stores (BURL), Dick’s Sporting Goods (DKS), and Nordstrom (JWN). They may amplify the message about the recent slowdown in consumer demand.
- Given its business model of low dollar prices and a lower-income clientele, Dollar Tree Inc. (DLTR) tends to thrive in tougher times. If it also reports recent weaknesses, we may ramp up our concerns about the consumer.
- Autodesk Inc. (ADSK) and Analog Devices (ADI) will provide more colour about corporate demand for technology.
- Deere and Company (DE), maker of agricultural and construction machinery, is part of the economy where people grow food and build new structures. Any slowdown here will indicate that higher rates are crimping more than just housing.
- Happy Thanksgiving Day!
Over a 30-year career as a sell side analyst, John covered the structured finance and credit markets before serving as a corporate market strategist. In recent years, he has moved into a global strategist role.
(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)
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