Before The Bell
The U.S. stock market took a bit of breather yesterday after two very bullish sessions to start the week, though the major averages did extend their winning streaks with additional gains.
This morning, we learned that initial jobless claims for the week ending December 4th came in at 184,000, a pandemic-era low. The equity futures, which were suggesting some profit taking heading into the report, have not changed much. The claims data weren’t expected to have a big impact on trading, but tomorrow’s release from the Labor Department before the opening bell concerning consumer prices, along with next week’s companion data on producer (wholesale) prices, may drive trading, as those reports are expected to be closely monitored by the Federal Reserve for clues about inflation. Last week, Fed Chairman Jerome Powell walked backed the central bank’s previous stance that inflation will prove transitory, saying it might be here for longer than initially expected. If the aforementioned reports show hotter-than-expected readings on inflation, such data may give the cyclical stocks a boost. These financial, basic materials, and energy sectors have historically fared well in an inflationary environment.
The Dow Jones Industrial Average is up 3.4% so far this week, putting it in position for its best week since June. The main story driving trading over the last week is the emergence of the new form of the COVID-19 virus, the Omicron variant. Recall that the market sold off sharply last week on fears that the new strain may cause renewed global lockdowns that could slow the pace of economic growth. But the market has since retraced most of last week’s losses after reports surfaced that the Omicron variant may not be as severe as initially feared. Commentary from Pfizer (PFE) that studies are showing its vaccine is providing a level of effectiveness against the new coronavirus strain also gave a boost to stocks.
The sectors that were punished last week, on the emerging Omicron fears, were in rally mode during the last few trading days. Investors again turned back to the transportation (i.e., travel), consumer discretionary, and energy stocks, which would all benefit from the continued economic reopening. The price of oil, which fell sharply on the Omicron fears, has rebounded more than 15% from its December-low price, and that is giving a boost to the energy stocks. In general, all of the major sectors have been in demand, though the gains in the more-defensive areas, which usually perform better when stock market volatility is on the rise, have been more measured of late. Investors should note that all 11 of the major equity groups have traded above their 200-day moving averages in recent sessions, which indicates that investors are again buying, and maybe using last week’s dip as an opportunity to reshape their portfolios.
That said…
The technology sector and small-cap stocks also have done well this week, even as bond yields have rebounded some. The yield on the 10-year Treasury note has currently stabilized around the 1.50% mark. What actually may be helping the technology stocks is the recent narrowing of the spread between the five-year and 30-year Treasury notes, which has historically foreshadowed a slowdown in growth. In a slower growth environment, the higher-growth technology stocks are usually desired, as their fates are considered somewhat independent of economic ups and downs. Investors also should note that over the last week, there has been a developing trend in the technology sector. Specifically, there has been a divergence in the performances of the stocks based on whether the companies are losing money or are profitable. The stocks of tech companies with negative earnings have mostly been out of favor on Wall Street, while the profitable ones are being scooped up by investors. On point, the blue-chip stock of technology behemoth Apple (AAPL) established a new high this week and the company’s market capitalization is fast approaching the $3 trillion mark.
With little economic and earnings news, and Wall Street feeling a bit better about the Omicron variant situation, the attention of traders may well turn back to the Federal Reserve and its upcoming monetary policy decision. The Federal Open Market Committee, a group of central bank leaders who set the central bank’s monetary policies, will meet for the final time in 2021 next week. The expectation following last week’s commentary from Fed Chairman Powell is that the central bank will begin tapering its supportive monthly bond purchases and may provide a clearer timeline for when it will begin to raise short term interest rates in 2022. With the Fed’s decision on tap, we would give the banking stocks, which pulled back last week as yields fell on Omicron fears, a look again, as they could benefit from a more-hawkish central bank and the likely resultant higher lending rates.
If the expectation is that bond yields will move higher next year, as the Federal Reserve becomes less accommodative, one would think that the high-growth stocks would not do as well. However, the market seems to have priced a few 2022 interest-rate hikes into valuations, and if the monetary tightening takes place as the economy continues to grow, which is the expectation given the continued strength of the U.S. consumer, and earnings reports remain solid, the investment community may be able to take a less supportive central bank and higher rates in stride. Opportunities may be found among companies that possess strong balance sheets, and generate ample cash flows. Such companies would be in a position to buy back their shares at lower prices in the event a market correction eventually occurs. Investors like such repurchases both because they tend to stabilize the stock price, and over time raise earnings per share since there will be fewer shares outstanding. On point, pharmacy giant CVS Health (CVS) announced this morning that it will resume its share-repurchase activity.
– William G. Ferguson
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.
