Stock market futures were displaying weakness heading into today’s open. A flurry of economic data impacted trading on Thursday, setting a negative tone; the major indexes closed down a couple of percentage points. Most visibly, the Consumer Price Index for January came in at a four-decade high of 7.5%. Inflation was hot in the energy, food, and housing sectors. Also, real wages for the month fell 1.7% short of the year-earlier level. Wage hikes were offset by goods and services inflation. The news heightened investors’ concerns that the Federal Reserve will aggressively raise interest rates this year, hurting market momentum. Tempering some of this pressure was a positive report from the Labor Department. Initial unemployment claims for the week ending February 5th were a modest 223,000, versus economists’ outlook for 230,000. Following an Omicron virus-induced surge in unemployment in mid-January, this weekly data point has since trended favorably. Importantly, the unemployment rate, at 4.0%, remains modest, and labor participation, recently at 62.2%, is ticking higher. There’s no big economic news on tap for today, so we don’t expect any wide share-price swings. That said, Russia’s military posturing toward Ukraine is a wildcard, which could exacerbate market volatility at any moment.
Russia’s posturing aside, the market now appears to be factoring in the possibility that the Fed will announce a 0.50 percentage-point hike in short-term interest rates next month. Recently, a 0.25 percentage-point increase seemed more likely but, with inflation running so strong, a more draconian move cannot be ruled out. Up to six rate hikes might be implemented through 2023. Furthermore, the central bank is implying that it will soon suspend bond purchases and start to trim its balance sheet. We note that the 10-year Treasury bond yield has risen above 2.0%. A flattening yield - curve the difference between short-term and long-term Treasury rates - suggests the bond market is worried that the Fed will fumble in its strategy for reducing inflation, while sustaining a strong economy and full employment. However, we’re optimistic the Fed will prevail. Coronavirus cases are declining, corporate earnings growth is healthy, jobs are plentiful, and supply-chain disruptions are easing. A moderation in inflation seems likely in the back half of 2022. Stock prices ought to rebound.
The in-progress earnings season is winding down. Results have been good. Two standouts are The Walt Disney Co. (DIS) and Uber Technologies, Inc. (UBER). Disney’s revenues and earnings for the latest quarter were better than the Wall Street consensus, thanks to gains in video streaming subscriptions and rising theme park visits. Customer bookings for Uber’s ride-share services were strong in the December quarter and, here too, financial results exceeded the Street’s expectations. Management provided a bright outlook for all of 2022, considering the decline in Omicron cases and continued reopening of the economy. Both stocks rose sharply on the reports, but Uber’s valuation has since pulled back, suggesting skepticism about the company’s guidance. Looking ahead, we advise investors to focus on cyclical, value stocks, which typically perform well in a rising interest rate environment. The most appealing sectors are: energy, financials, and materials. More venturesome investors, confident that the Fed will execute its inflation strategy well, may want to consider the stocks of large tech companies with consistent earnings growth, such as Google parent Alphabet (GOOG) and online retailer Amazon (AMZN), and select air carriers, for example, Delta Air Lines, Inc. (DAL).
– David M. Reimer
At the time of this article’ writing, the author did not have positions in any of the companies mentioned.
