Archive

Posted by Josh Whitmore, CFA, Senior Analyst

Wednesday, August 9, 2023

Many investors labelled 2023 as the “Year of the Bond” following 2022’s historic bond rout (the Bloomberg U.S. Aggregate Index (Agg) declined 12%). Broadly, fixed income returns are positive across the board in 2023. However, high quality core bond returns (proxied by the Agg) have materially lagged the returns of riskier plus sectors like high yield bonds, bank loans, and emerging market debt, countering many market participants‘ expectations at the start of the year. While returns in core bonds have lagged expectations in 2023, retail flows have seen a sharp reversal after investors fled taxable bond funds in 2022 (~$200 billion per Morningstar data). Why are core bond fund flows particularly important in 2023?  What’s more surprising, high yield funds have seen outflows and have still managed to generate over 6% return YTD. How is this possible?

Per Morningstar data, the chart below shows open-ended intermediate core and core plus bond funds (mutual funds and ETFs) have had strong inflows of over $100 billion during the first half of 2023, representing roughly 80% of total 2023 inflows for taxable bond categories. These inflows come at an opportune time, allowing money managers to support the bond market as two important buyers step back—the Federal Reserve (Fed) and banks. As the Fed continues to run quantitative tightening (QT), it has actively stepped back from Treasury and mortgage-backed securities (MBS) markets. Additionally, elevated front-end rates incentivize investors to pull cash out of bank deposits and allocate to products like money market funds and other cash-like alternatives. Declining deposits equates to lower reserves needed by banks, which equates to banks stepping away from high quality bond markets as well. As two key market participants and their natural bid step back from the market, money managers need to fill in this demand gap. So far in 2023, that hasn’t been a problem given the positive inflows, providing a bid to high quality core bond sectors.

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As the chart above shows, high yield credit funds (bonds and bank loans) have seen outflows over the last 18 months. The resilience of high yield credit returns despite investor outflows is a good example of the technical aspects of the bond market. In simplest terms, high yield supply slowed in 2022 and has continued to do so in 2023. According to JPMorgan Market data, 2023 high yield supply is 42% lower than the four year average (excluding 2020). This lower supply helps to offset investor outflows as the market avoids becoming over saturated with high yield debt, which would push yields higher and returns lower for investors. This recent lack of supply of high yield credit is partly explained by the war chest of liquidity high yield issuers built during the ultra-low rate environments of 2020 and 2021. However, roughly $785 billion of high yield bonds are set to mature between 2024 and 2026. This may lead to high yield supply closer to historical averages as issuers re-tap the market, and this supply may become a technical headwind if supply outpaces demand, particularly if economic growth slows.

We expect high quality bond fund inflows to continue as yields have reached levels not seen since 2008 (the Agg recently reached a yield-to-worst of roughly 5%). High quality core bond funds with yields in the 4–6% range are reasonable alternatives to other asset classes, particularly for investors fearful of an economic slowdown. Starting yields are the best predictor of long-term returns. We also expect core bond fund inflows to outpace sectors like high yield bonds over the near-term given materially lower credit risk. These inflows will provide stability to the bond market as the Fed and banks take a step back. We continue to favor core bonds over high yield credit broadly as investors no longer have to reach for yield.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

For a list of descriptions of the indexes and economic terms referenced in this publication, please visit our website at lplresearch.com/definitions.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Posted by Jeffrey J. Roach, PhD, Chief Economist

Tuesday, August 8, 2023

KEY TAKEAWAYS

• This morning, the National Federation of Independent Business (NFIB) released their latest insights from their July survey and hiring plans have trended lower since mid-2021.
• We are starting to see this softer trend show up in the jobs report. Headline payrolls rose by 187,000 in July, with the prior month’s gain revised down from 209,000 to 185,000.
• The high correlation between this survey and job growth implies the labor market should loosen in the coming months and provide leeway for the Federal Reserve (Fed) to pause at their next meeting.
• Markets should respond favorably to softer job growth if it translates into easing inflation pressures.

OVERVIEW

The Bureau of Labor Statistics (BLS) reported nonfarm payrolls grew by 187,000 in July, just shy of consensus. This, however, marks a slight uptick from the revised June figure of 185,000. The healthcare sector was the biggest contributor, adding 63,000 jobs, followed by social assistance (24,000) and financial activities (19,000). Labor force participation came in at 62.6% for the fifth straight month, while the unemployment rate ticked down to 3.5%, from a previous 3.6%.

Although July’s BLS report showed a steady pace of hiring, the longer-term path in hiring has displayed signs of slowing over the past year. The chart below highlights the overall trend since July 2022.

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July’s report shows we haven’t yet seen the marked slowdown in hiring, which usually accompanies an economic downturn. This data lends itself to the soft landing narrative which is taking hold. If we continue to see consumer demand, then companies will continue to hire in order to meet their needs. However, consumer debt as measured by credit card balances, has now reached warning-sign levels. Credit card interest rates were 20.86% as of the last reading in May, which marks the highest level since the data series began in 1972. It’s important to note that elevated balances and record-level borrowing rates cannot be sustained.

LOOKING AHEAD

Leading indicators of job growth show signs of further softness. This morning, the NFIB released their latest insights from their July survey and hiring plans have trended lower since mid-2021. We are starting to see this softer trend show up in the jobs report. As shown in this second chart below, the NFIB survey and the monthly jobs report are highly correlated, and according to the latest report from business owners, investors should expect hiring to slow as we enter the latter months of 2023. Investors should expect the markets to respond favorably to softer job growth if that growth remains positive. So far, we aren’t seeing signals of contraction yet, so as long as inflation decelerates further, the Fed should pause its tightening cycle at the next meeting.

View enlarged chart

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Adam Turnquist, CMT, VP Chief Technical Strategist

Friday, August 4, 2023

Key Takeaways:

• A busy earnings calendar for equities has largely been overshadowed by volatility in the fixed income market this week.
• Treasuries stole the spotlight after Fitch downgraded the U.S. credit rating from AAA to AA+, putting added upward pressure on yields. Longer duration Treasuries lagged and a bear steepener curve developed, creating a potential double bottom formation in the closely watched 10-year minus 2-year Treasury curve spread.
• Historically, curve spreads have bottomed before five of the last six recessions since 1980, although it took an average of 187 trading days after the bottom for the official recession to start.
• Equity market returns following a major bottom in the 10-year minus 2-year Treasury curve spread have historically been positive over the following 12 months. Smaller caps tend to underperform during this period.

Treasuries Steal the Show

While it has been a busy week of S&P 500 earnings, the fixed income market stole the show. Fitch’s downgrade of the U.S. credit rating from AAA to AA+ put Treasuries in the spotlight and exacerbated upward pressure on yields that are already facing increased supply, quantitative tightening, relatively resilient economic data, higher-for-longer monetary policy, and the Bank of Japan’s recent tweak to their yield curve control program.

Longer duration Treasuries are underperforming on the week, including the 10-year, whose yield is up over 20 basis points (bps) since last Friday. The jump in 10-year yields triggered a breakout above the March highs at 4.09%, leaving the 4.24%-4.34% range (October/November 2022 highs) as the next major area of overhead resistance. Momentum is also confirming the breakout, including a recent Moving Average Convergence/Divergence (MACD) buy signal and bullish crossover between the 50-day and 200-day moving average (dma).

View enlarged chart

Volatility on the front end of the curve has been less pronounced, as shorter duration Treasuries are more directly tethered to monetary policy—which remains a higher-for-longer theme. With benchmark 2-year Treasury yields trading nearly unchanged since last Friday, a bear steepener curve has formed as longer-term rates are rising faster than shorter-term rates. As shown on the right below, the recent steepening or dis-inversion of the curve occurred right at support from the March lows, forming a potential double-bottom in the 10-year minus 2-year Treasury curve spread. Technically, a breakout above the declining 200-dma would add to the evidence of the lows being set.

View enlarged chart

However, on a longer-term basis, and as you can see on the left side of the chart above, dis-inversions of the 10-year minus 2-year Treasury curve spread often precede recessions (and provide an even more timely indicator for recessions than the actual inversion). Curve spreads have bottomed before five of the last six recessions since 1980, although it took an average of 187 trading days after the bottom for the official recession to start. Only in March 1980 did curve spreads bottom during a recession.

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How Do Stocks Perform After Curve Spreads Bottom?

Finally, we also looked at how the S&P 500, Nasdaq Composite, and Russell 2000 performed after a major bottom was set in the 10-year minus 2-year Treasury curve spread. While acknowledging the data is limited, returns over the subsequent 12 months have historically been positive for each index, although most returns track toward modest underperformance relative to historical 12-month returns during this timeframe. In terms of relative performance, the Russell 2000 has historically lagged its index peers, a common theme for small caps before the onset of a recession.

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SUMMARY

Curve spreads have recently steepened after finding support off the March lows, forming a potential double bottom on the closely watched 10-year minus 2-year Treasury curve spread. Technically, a breakout above the declining 200-dma would add to the evidence of the lows being set. While a dis-inversion of the curve often precedes a recession, the lag time between when curve spreads bottom and the start of a recession has averaged 187 trading days. Stocks have also posted positive returns over the following 12 months after a bottom in curve spreads.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Jeffrey Buchbinder, CFA, Chief Equity Strategist

Thursday, August 3, 2023

Additional content provided by John Lohse, CFA.

• The energy sector has recently re-emerged into the spotlight as a confluence of events have driven a shake-up in prices and profitability.
• The S&P 500 Energy Sector posted a 7.4% gain in July and outperformed all sector peers.
• Major integrated oil and gas companies are posting sharp declines in year-over-year profits.

Company Profits and Fundamentals

Major oil companies have recently reported plunging second quarter profits. Weaker fossil fuel prices compared to a year ago have significantly eaten into bottom lines. Despite these second quarter results, stock prices have not faltered in a commensurate manner. In July, the energy sector of the S&P 500 posted its highest monthly return of the year. The 7.4% return was top among all S&P sectors.

Companies have emphasized returning shareholder value by raising dividends and implementing share buybacks. Additionally, a renewed focus on stricter cost measures has begun to shore up balance sheets and improve fundamentals. We’ve seen both free cash flow yield and cash flow return on invested capital, measures of valuation and profitability, turn positive this year as industry management teams—with pressure from Wall Street—have focused less on production volumes and more on profitability.

Global Supplies Have Been Shocked

Crude oil prices (as measured by West Texas Intermediate, or WTI) leapt higher and finished July at $81.80/bbl, up almost 16% from the previous month. This was due, in part, to voluntary production cuts by OPEC+ members in April, along with an additional 1 million barrel-per-day cut by Saudi Arabia starting in July.

Meanwhile, in the U.S., stocks of crude oil fell by 17.05 million barrels for the week ended July 28. That marks the largest single-week decrease since 1982 when the Energy Information Administration (EIA) started reporting data. The week’s drawdown was entirely from private reserves, as the Strategic Petroleum Reserve remained static, albeit at a 40-year low of 347 million barrels.

The chart below shows the decline in U.S. ending stocks of crude oil, including both the private and strategic petroleum reserves.

View enlarged chart

The Demand Picture is Muddied

While supply is being constrained, the outlook on demand is less clear. The waning of summer-heightened demand will shift the seasonality factor, the U.S. economy may contract slightly later this year or early next, Europe is currently teetering on the edge of recession, and higher oil prices could curb demand and limit the industry’s profit potential. On the other hand, Chinese economic officials have recently pledged to “restore and expand” consumption which could further spur demand from the world’s second-largest economy. However, the effects and success of these policies are yet to be seen.

Conclusion

LPL Research holds a ‘neutral’ view on the energy sector but maintains a positive bias. Current fundamentals are showing signs of strength and valuations are attractive, but the geopolitical backdrop and recession fears amid an expected slowdown in growth, are creating cause for concern. We continue to maintain a watchful eye on the sector and assess the landscape through a technical and fundamental lens.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Lawrence Gillum, CFA, Chief Fixed Income Strategist

Wednesday, August 2, 2023

Yesterday, one of the three main rating agencies (Fitch) downgraded U.S. government debt to its second highest rating, AA+. The agency cited “the expected fiscal deterioration over the next three years, a high and growing general government debt burden, and the erosion of governance relative to ‘AA’ and ‘AAA’ rated peers over the last two decades” as the reasons for the downgrade. The rating agency warned two months ago that a downgrade was an option and, frankly, has been warning of a downgrade for years. The two other major rating agencies have not changed existing ratings: Moody’s still has the U.S. at Aaa while S&P remains at AA+.

While not necessarily wrong in its assessment, the rating downgrade will likely not have an impact on U.S. government debt or markets broadly. The U.S. remains the safe haven during times of market stress and the downgrade will likely not change that. That was further evidenced by the (non) reaction from the bond market after the announcement. And this isn’t the first time the U.S. has been downgraded. In August 2011, S&P, which arguably carries more weight than Fitch, cut the U.S. rating from AAA to AA+, which is the current rating. At the time S&P noted that the downgrade “reflects our opinion that the … plan that Congress and the Administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics”. And while that came as an initial surprise to markets, markets recovered in short order with the S&P 500 Index rebounding and finishing up the year nearly 20% off those lows.

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A potential reason why it could matter to investors is likely only administrative. The U.S. is officially split-rated so accounts that have minimum AAA-rating requirements may have to change account documentation, but it will not likely result in forced selling. That said, continued fiscal expansion/deficits could result in additional downgrades from rating agencies. So, until the U.S. government gets its fiscal house in order, we’re likely going to see additional downgrades.

In a related announcement this week, the Treasury department seeks to borrow an additional $1 trillion in the third quarter alone (and nearly $2 trillion over the rest of the year). This is on top of the $1 trillion of new debt that has been issued since the debt ceiling was removed in June. With budget deficits expected to continue, we’re likely going to see elevated Treasury issuance as well. While historically there has been very little relationship between supply and prices, given the amount of Treasury debt coming to market over the next few quarters/years, we could see upward pressure on yields. However, we think the 10-year Treasury yield ends the year between 3.25% and 3.75%.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

For a list of descriptions of the indexes and economic terms referenced in this publication, please visit our website at lplresearch.com/definitions.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Tracking # 1-05376752

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Jeffrey J. Roach, PhD, Chief Economist

Tuesday, August 1, 2023

Key Takeaways:

• Credit card debt hit a new high in the first quarter of this year, just shy of a trillion dollars and rates on card debt also hit a new high since the data series began in 1972.
• The average credit card debt at the end of last year was over $7,200 and half of those individuals say it would take over a year to pay off that balance.
• The trajectory for consumer spending will likely downshift when credit card bills come due.

What’s the Latest Trend with Credit Card Usage?

Total credit card balances are getting close to a trillion dollars. As of Q1 of this year, the Federal Reserve (Fed) reported card balances were $986 billion, roughly $60 billion higher than the previous record set in 2019.

Typically, card balances fall in first quarters, but sometimes consumers present an anomaly. This year along with 2000 and 2001 were the only years where Q1 balances did not fall. Balances are growing amid higher credit card rates. At the end of last year, the average debt for card holders who had unpaid balances was over $7,200, and the most concerning part is survey respondents confess that it would take over a year to pay off those balances.

View enlarged chart

What Can Credit Card Usage Tell Us About the Future?

The growth of credit card debt accelerated into the recession of 2001 and 2008. So, the increasing rate of card debt could be a harbinger of things to come. As shown in the chart above, when an economy is slowing and going into recession, consumer spending slows and card balances grow to offset factors such as slowing real wage growth.

The increase in card balances foreshadows a weakening consumer, and as the consumer goes, so goes the economy.

Conclusion

Investors should pay close attention to unpaid credit card balances for signs of any cracking within the consumer sector. Stubborn inflation is one reason credit card debt has spiked this past year. In Q1 of this year, credit card debt reached a record $986 billion, roughly $60 billion higher than the previous peak in 2019. Amid rising balances, credit card rates reached an all-time high since the data series began in 1972, putting additional pressure on consumers.

As the economy searches for stability, we think the inflation dynamic will continue to improve throughout the year as consumer spending slows and the Fed likely pauses in September.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Adam Turnquist, CMT, VP Chief Technical Strategist

Friday, July 28, 2023

Key Takeaways:

• Broadening participation in this year’s rally has changed the narrow leadership narrative.
• The average stock is doing quite well, evidenced by continued technical progress on the S&P 500 Equal Weight Index.
• The S&P 500’s advance/decline line has broken out to new 52-week highs after diverging from the broader market this spring. The breakout provides additional confirmation of the S&P 500’s rally to year-to-date highs.
• The percentage of stocks trading above their 200-day moving average has notably improved this year. Furthermore, the composition of breadth leadership remains heavily tilted toward cyclical stocks.
• Global stocks are also participating in this rally. The MSCI All Country World Index ex-USA has recently reached a new 52-week high.

A New Chapter

The narrative of this year’s rally has changed as this bull market is no longer just a mega-cap story. A new chapter of broadening participation has developed. Relatively resilient economic data in the U.S., receding inflation pressures, and expectations for the end of the Federal Reserve’s (Fed) rate-hiking campaign have underpinned a notable expansion in market breadth since early June.

The following four charts highlight why this rally is no longer just a mega-cap story.

• Equal Weights Getting Even

After lagging behind the S&P 500 (SPX) for most of the year, the S&P 500 Equal Weight Index (SPW) kicked back into gear last month and staged an impressive comeback. As the name implies, each stock within the index is equally weighted, unlike the market-cap-weighted SPX. The equal weighting eliminates the distortion of the mega-cap components and significantly changes several sector weightings, including technology, which drops from around 29% on the SPX to only 13% on the SPW. The industrials sector has the biggest increase in weight, jumping from 9% on the SPX to 16% on the SPW.

Technically, the SPW has cleared resistance off the August highs after confirming support off an uptrend. The rising 20-day moving average (dma) is above the rising 50-dma, which is also above the 200-dma (20-dma > 50-dma > 200-dma). This moving average alignment provides additional confirmation of the SPW’s uptrend.

Relative strength is improving for the average stock. The SPW vs. SPX ratio chart recently inflected higher off support from the 2021 lows. While it’s too early to make the call for an uptrend on the ratio chart, the recent higher lows near support provide a constructive sign for the SPW. Furthermore, a pullback or consolidation within the mega-cap space, coupled with a soft landing economic scenario, could serve as a catalyst for a confirmed relative uptrend of SPW outperformance.

View enlarged chart

• Advancers > Decliners

The chart below shows the two-year cumulative advance-decline (A/D) line for the SPX. The line is calculated by taking the difference between the number of advancing and declining stocks on the index for a given trading day and adding that difference to the prior day’s value. A rising A/D line is indicative of positive market breadth as the number of advancing stocks is outpacing the number of declining stocks, and vice versa for a declining A/D line.

Earlier this spring, the A/D line (bottom panel) was trending lower as the SPX (top panel) continued to climb higher. This negative divergence resulted from narrow participation pushing the broader market higher, a concerning technical sign for the sustainability and strength of the rally. However, the tables have turned as participation in the rally began to broaden last month. As a result, the A/D line reversed course and surpassed resistance from the August 2022 highs. The breakout on the A/D line provides additional confirmation of the SPX’s rally to year-to-date highs.

View enlarged chart

• From Bad Breadth to Good Breadth

The percentage of stocks on an index trading above their longer-term 200-day moving average (dma) is another important way to quantify and compare market breadth. As a general rule, if a security is trading above its 200-dma, it is considered to be in an uptrend, and vice versa if price is below the 200-dma. Furthermore, the higher the percentage of stocks above their 200-dma implies buying pressure is more widespread—suggesting the market’s advance is likely sustainable.

As shown in the chart below, 73% of stocks within the S&P 500 are trading above their 200-dma as of July 27. This compares to only 48% at the end of 2022. In addition, the composition of breadth leadership has turned increasingly bullish. The highest sector readings include technology, industrials, energy, and consumer discretionary. So not only is breadth on the index robust, but cyclical stocks are also leading.

View enlarged chart

• Participation is Global

The U.S. equity market is not the only place to find a bull market. Global stocks are also doing relatively well, with several major indices recently hitting new 52-week highs, including the MSCI All Country World Index ex-USA. This index, comprised of over 2,300 constituents, tracks mid and large cap companies operating across 22 of 23 developed markets (excludes the USA) and 24 emerging market countries. As shown below, the index has recently broken out from an ascending triangle formation and registered a new 52-week high.

View enlarged chart

SUMMARY

Technical evidence suggests this year’s rally is no longer just a mega-cap story as broadening participation has changed the narrative. The relative performance of the average stock is building, while the market’s A/D line trades at new 52-week highs. Nearly 75% of S&P 500 stocks are back above their 200-dma, with cyclical sectors posting the highest percentages among sector peers. International stocks are also participating in this year’s rally as most major global benchmarks are in bull market territory. Overall, we view the expansion in market breadth as a constructive sign for the sustainability of this bull market.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Colby Hesson

Thursday, July 27, 2023

Highlights:

• The Federal Reserve (Fed) raised its benchmark interest rate by a quarter percentage point to 5.25% to 5.50%, the highest rate in 22 years, due to ongoing concerns over high inflation.
• Fed Chairman Jerome Powell reaffirmed the 2% inflation target but acknowledged a long way to go, indicating the importance of bringing inflation down to a manageable level.
• Future rate decisions will be data-driven, and the Fed will closely monitor two jobs reports and two consumer price reports before the next meeting in September.
• The central bank aims for a “soft landing” to combat inflation without causing significant economic losses, balancing inflationary pressures, and promoting economic growth.
• The Fed’s cautious stance suggests a possible rate hike in September, depending on economic conditions, while pandemic-related distortions may cause market volatility.

Bottom Line: Powell and the Federal Open Market Committee (FOMC) are cautiously data-driven, seeking to strike a balance between combating inflation and supporting economic growth. Staying informed about economic conditions and watching out for two more inflation reports and two more labor market reports by the next meeting will be key to navigating the markets.

The Fed’s benchmark interest rate has been on a steady rise since March 2022, reflecting the central bank’s concern over elevated inflation. The Fed raised interest rates by a quarter percentage point at its meeting yesterday, raising the benchmark rate to a range of 5.25% to 5.50%. The Fed has raised rates faster and higher in the last 17 months than in the previous decade, showing the seriousness of the economy’s inflationary pressures.

View enlarged chart

During his press conference, Fed Chairman Jerome Powell reaffirmed the Fed’s commitment to its 2% inflation target. He admitted that there is still “a long way to go” in reaching this goal, underlining the importance of bringing inflation down to a more manageable level. However, most analysts and market participants predict the July rate hike will be the last of this cycle, noting inflationary momentum and signs of a slowing economy. The fed fund futures markets is currently pricing in a 23% chance of a September hike.

Commitment to Inflation Targets

Powell made it clear that future rate decisions will be heavily influenced by incoming data. Policymakers will have the opportunity to evaluate two additional jobs reports and two more consumer price reports with a longer interval of eight weeks before the next meeting in September. These reports will play a crucial role in shaping the Fed’s policy direction moving forward.

One significant takeaway from the Fed’s interest-rate decision and Powell’s news conference is the central bank’s cautious stance. The Fed did not adjust its pronouncements about the scope of additional policy tightening, presumably to avoid market overreaction and preserve its optionality. Powell also stated the Fed will consider the “totality” of incoming data when making choices regarding the economy’s trajectory.

Potential for Further Rate Hikes

The Fed’s language at the news conference suggested rate hikes could occur in September, depending on economic conditions. Powell added that the Committee would continue to evaluate new information and its implications for monetary policy, leaving their options open as they search for a stopping point in the current tightening cycle.

The central bank’s dilemma is determining the appropriate balance between combating inflationary pressures and promoting economic growth. Powell and the FOMC of course want a “soft landing,” in which inflation declines without generating substantial economic losses, but they must also be careful not to tighten policy too forcefully, which might stifle economic growth.

This week’s rate hike raises the benchmark rate to a level that has not been consistently exceeded in over 22 years, reflecting the gravity of the issue. Despite some reduction in inflation, key price indicators continue to rise at rates more than double the Fed’s target. Economic growth continues to outpace the Fed’s anticipated trend rate, and employment growth remains strong. The economy is growing at a moderate pace, which Powell feels is required for inflation to fall.

Economic Indicators and Future Direction

The Fed’s decision to raise interest rates demonstrates its commitment to economic stability and addressing inflation concerns. While there are signs of progress, the central bank’s approach remains cautious and data-driven. The course of interest rates in the future will be determined by incoming data on inflation and labor market conditions.

Looking ahead, investors should evaluate the potential impact of pandemic-related distortions, which could cause market volatility. As the economy continues its transition, there may be some uncertainty in future quarters. The Fed’s stance will likely remain cautious, and whether we get a rate hike in September or not, no rate hikes are anticipated beyond then.

Conclusion

The Fed’s latest interest rate hike demonstrates the central bank’s attention to tackling inflationary concerns. Powell and the FOMC are closely watching economic data in order to find a balance between combating inflation and supporting economic growth. As investors, staying informed about economic conditions and the Fed’s policy stance will be crucial to navigating the markets in the coming months. The central bank’s commitment to achieving its 2% inflation target and managing the economy’s path will shape the future direction of interest rates and overall market sentiment.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value

Posted by Kent Cullinane, Research Analyst

Tuesday, July 25, 2023

Highlights:

• The Conference Board Consumer Confidence Index (CCI) increased to 117.0 in July, up from 109.7 in June.
• Consumers under the age of 35 contributed the most to the increase, as the index for the under 35 cohort reached 135.6, up from 132.6 in June.
• Actual versus expected consumer confidence continues to diverge.

Bottom Line: While consumer confidence is at the highest level this year, we recommend investors take a cautious approach when considering adding risk to diversified portfolios.

The CCI increased to 117.0 in July, up from 109.7 in June and reaching levels not seen since July 2021. A reading above 100 means consumers are more optimistic than the benchmark CCI of 100, established in 1985. The strong reading highlights the resilience of both businesses and consumers in the current economic cycle, pushing back against the narrative of an impending recession.

When analyzing the CCI further, it appears the rise in expectations was widespread across current and future conditions. The Present Situation Index—a sub-component of the CCI, which is based on consumers’ assessment of current business and labor market conditions—rose to 160.0, up from 155.3 last month. Another sub-component of the CCI, the Expectation Index—which is based on consumers’ short-term outlook for income, business, and labor market conditions—increased to 88.3, up from 79.3 in June. Notably, Expectations rose above 80 – the level that has historically signaled a potential recession in the next year.

While expectations have risen considerably from a year ago (July 2022’s reading was 95.3), the exuberance is not shared across age groups. Consumers under the age of 35 have the brightest outlook for business and labor conditions, with the CCI for the under 35 cohort at 135.6, hovering around pre-pandemic levels. The under 35 cohort differs considerably from those 55 and over, with the CCI reading for this age group at 106.6, below pre-pandemic levels of roughly 120.

View enlarged chart

Spending habits among the two cohorts also differs considerably, as the younger demographic tends to spend more on rent, mortgage interest, jewelry, and infant accessories, while the older demographic spends more on financial services, entertainment, food at home, nursing home care, and prescription drugs.

It is also worth noting the differing trajectories of expected CCI versus actual CCI over the last few years. In the below chart, you’ll see the expected and actual CCI move nearly in lockstep between mid-2020 and early 2021. The divergence occurs at the end of the first quarter of 2021, where expected CCI decreases, following a string of rising expectations. Actual CCI continues to increase into the end of the second quarter of 2021, creating a 20 point gap between actual and expected. Today, the gap stands at 29, further highlighting the differing views between actual and expected confidence.

View enlarged chart

As mentioned earlier, a CCI reading below 80 indicates a potential recession in the next year. In the chart above, expected consumer confidence has been below 80 in 14 out of the last 16 months, suggesting an economic slowdown in the near future. In contrast, actual consumer confidence has come below 100 only twice in the last 16 months, which would suggest a more positive outlook for the economy. The conflicting signals lead us to believe a mild and short recession is the most likely scenario in the future, potentially over the next 6 to 9 months.

Amid the uncertainties of a potential recession, the LPL Research Strategic and Tactical Asset Allocation Committee (STAAC) has become increasingly positive on core bonds, as the equity-risk premium (as measured by the S&P 500 earnings yield minus the U.S. 10-year Treasury yield) no longer favors stocks over bonds. In addition, bonds have historically generated above-average returns after the end of Federal Reserve rate hiking cycles. In a multi-asset portfolio, we recommend maintaining a neutral position on equities, coupled with a slight overweight to fixed income and underweight to cash.

IMPORTANT DISCLOSURES

This material is for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views or strategies discussed are suitable for all investors. To determine which investment(s) may be appropriate for you, please consult your financial professional prior to investing.

Investing involves risks including possible loss of principal. No investment strategy or risk management technique can guarantee return or eliminate risk in all market environments. For more information on the risks associated with the strategies and product types discussed please visit https://lplresearch.com/Risks  

References to markets, asset classes, and sectors are generally regarding the corresponding market index. Indexes are unmanaged statistical composites and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance referenced is historical and is no guarantee of future results.

Unless otherwise stated LPL Financial and the third party persons and firms mentioned are not affiliates of each other and make no representation with respect to each other. Any company names noted herein are for educational purposes only and not an indication of trading intent or a solicitation of their products or services.

All information is believed to be from reliable sources; however, LPL Financial makes no representation as to its completeness or accuracy.

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker-dealer. Member FINRA/SIPC.

Not Insured by FDIC/NCUA or Any Other Government Agency | Not Bank/Credit Union Deposits or Obligations | Not Bank/Credit Union Guaranteed | May Lose Value