Today, stocks look to add to their earlier gains of this week, based on the futures markets. At 10 o’clock this morning the University of Michigan will release its latest read on consumer sentiment, which is expected to show a modest improvement from the previously reported low level of 59.2 for the month of May. This will be the only major data point today. Aside from this release, investors will be considering thoughts given by Federal Reserve Governor Christopher Waller (prior to the market open) and Richmond Fed President Tom Barkin (at 2:30 p.m.). We don’t expect these Fed officials to veer very far from Chairman Jerome Powell’s guidance provided this past Wednesday.
The major market indexes gathered a bit of strength this week. Trading on Monday and Tuesday trended positive. That trend was upset at mid-week when Fed Chair Powell made public the central bank’s likely interest rate strategy for the coming months. At its June meeting, the Federal Open Market Committee decided to hold short-term interest rates steady, at 5.00%-5.25%. The kicker was Mr. Powell’s statement that the Federal Funds range could rise another one-half percentage point before year end, depending on developments in the domestic economy. Another hike, potentially one-quarter of a point, could come as early as July. On Thursday, investors, after digesting the Fed news and stronger-than-expected retail spending, decided to adopt a positive view on the economy and stocks. For all of this week, market gains in the low single-digits would be no surprise.
Pundits on Wall Street are busy arguing whether the Fed will actually hold rates steady or raise them in the near term. The argument for no hikes considers that inflation is receding, albeit at a stubbornly gradual pace, thus far. Declines in inflation may become more pronounced in the second half of 2023, given easier comparisons against strong year-ago price growth for products and services. Notably, food and fuel costs are currently moving lower, and the rental sector of the housing industry appears to be cooling. Also backing the no-hike point of view is that the Fed must consider that higher rates could cause additional significant stress in the regional banking sector, including consumer and business lending, or some other unforeseen area in the financial system. Furthermore, the manufacturing and industrial sectors are displaying pockets of softness. Of course, the Fed wants to avoid a severe recession.
Those saying rate hikes are more likely point to still-high inflation, a resilient jobs market, a favorable wage environment, solid consumer spending, relatively modest debt burdens and low loan delinquencies, decent, though cautious, business development, recent stability in the banking sector, and renewed vigor in the stock market.
Of particular note, share prices have been on the upswing lately, and more sectors, beyond technology, are beginning to take part in this rally. Investors seem to think, probably rightly so, that the Fed is near the end of its rate-hiking cycle. Fewer of them, but still a sizable contingent, believe rate cuts are in the cards, if not later this year, then early next year. We prefer to err on the side of caution by anticipating two more one-quarter-point increases in short-term rates.
Adding support to stock valuations, particularly those of tech issues, is excitement surrounding the potential benefits of generative Artificial Intelligence, the applications of which are being implemented at a rapid pace. There’s probably more upside in tech issues, such as Advanced Micro Devices (AMD), NVIDIA (NVDA), Alphabet (GOOG), Microsoft (MSFT), Apple (AAPL) and Meta Platforms (META). Still, many on The Street are expecting a rotation into cyclical stocks, for example, American Express (AXP), Boeing (BA) and Caterpillar (CAT), which, though not especially apparent, might now be starting. In any case, investors would do well to stay with industry leaders with proven operating (and stock performance) track records throughout the business cycle. – David M. Reimer
At the time of this article’s writing, the author did not hold any positions in any of the companies mentioned.
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