This morning, we received two reports on the U.S. economy. At 8:30 A.M. (EDT), the Labor Department said that initial jobless claims for the week ending July 2nd came in at 235,000, which was down slightly from the previous week’s revised figure of 239,000. Meantime, the U.S. Census Bureau reported that the international trade deficit in May fell to its lowest level of 2022, at $85.55 billion. Overall, neither report moved the market needle, as Wall Street is more focused on inflation, the minutes from the June Federal Open Market Committee (FOMC) meeting, and the June labor market figures, which are a better assessment of the overall health of the U.S. economy than today’s data. The latter will come tomorrow, with the consensus expectation calling for a 250,000 increase in June nonfarm payrolls. The U.S. equity futures markets, which were indicating some buying at the start of the trading day stateside, were little changed on the economic data.
It has been another choppy week for the U.S. equity market. After a mixed, but slightly bearish performance, to start the abbreviated trading week on Tuesday, as recession fears mounted on Wall Street, the major averages rebounded modestly yesterday, with investors shrugging off the June FOMC minutes, which confirmed the market’s assumption that the central bank plans to remain very hawkish on the monetary policy front. On point …
The latest Fed minutes showed that central bank policymakers believe that a 50- to 75-basis point (0.50% to 0.75%) hike to the benchmark short-term interest rate is appropriate at this month’s meeting, given the continued stubbornly high inflation data, including a 6.3% year-over-year rise in the May Personal Consumption Expenditures (PCE) index. The central bank leaders also expressed concerns that a “soft landing” for the economy will be hard to pull off, given its more-restrictive monetary policies. It is also worth noting that language about the Fed hitting its 2% inflation target with full employment was absent from the latest minutes. The Fed appears to be willing to see some demand deterioration (threatening continued full employment) to avoid a continued stretch of rising prices becoming entrenched inflation. In general, all of these factors appear to have been already priced into the market, hence the orderly reaction we have seen since the release of the minutes.
The Federal Reserve release also did nothing to quell the growing sentiment on Wall Street that the U.S. economy is headed into a recession down the road. The recent slide in oil prices (crude quotations fell below the $100-a-barrel mark yesterday after a notable decline on Tuesday), a sharp drop in metals commodities, including copper prices, the inversion of the yield curve this week (the two-year Treasury note is yielding more than the 10-year Treasury note), and a sharp downward revision in the Atlanta Fed’s second-quarter GDP forecast (to -2.1%) last week gives more credence to the recession predictions. Further, recent drops in consumer confidence and sentiment and a decline in manufacturing activity in June suggest that the economy is slowing. The economic picture looks worse in Europe, where the energy crunch is more severe, and the escalating worries have the euro trading around a 20-year low versus the dollar. The energy, financial, and consumer discretionary sectors have been under pressure recently on these concerns.
The talks of a recession for the U.S. economy on Wall Street has prompted a “flight-to-safety” the last few trading sessions. The value of the U.S. dollar, which is the most popular safe-haven holding these days, given the weak bond market in 2022, continues to rise against a basket of international currencies. In the equity market, investors are giving extra attention to the more established technology companies, as well as the consumer staples, utilities, and healthcare sectors.
The more-defensive industries have historically performed better during periods of slowing growth. Investors, though, would be wise to look beyond the broad sectors, as within each group the more-defensive subsectors are outperforming the higher-growth, but more speculative names. For example, within the healthcare sector, the more-stable pharmaceutical stocks are doing better than the more volatile biotechnology issues, while in the technology sector, the mega-cap names with strong balance sheets and steady earnings growth are faring better than the industry’s less profitable companies.
With so much uncertainty in the market right now, especially with regard to inflation and recession fears, we continue to recommend that investors exercise caution. The stocks of high-quality companies with strong balance sheets, ample cash flows, a history of steady earnings growth and returning capital to their shareholders via dividends, are likely best positioned to weather a period of slowing economic growth, which may be exacerbated by the Fed tightening the monetary reins into a period of likely slowing earnings growth. Historically, and again during this year’s market selloff, the stocks ranked 1 (Highest) and 2 (Above Average) for Safety by Value Line have fared better than the broader market indexes.
– William G. Ferguson
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.
