This morning, the attention of Wall Street turns to the U.S. economy with a number of important reports on the schedule. The headline story came at 8:30 A.M. (EDT), with the Commerce Department releasing August retail sales data. That report showed retail sales were up 0.3% last month (versus -0.1% expectation), but when excluding auto sales, the figure was down 0.3%. In general, the data highlight the resiliency of the U.S. consumer.
The equity futures, which were higher early this morning on news of a tentative deal to avoid a nationwide railroad strike, are now indicating a mixed and relatively flat start to the trading day stateside. The aforementioned deal would avert a freight railroad strike that had threatened to cripple an already stressed U.S. supply-chain system and push prices for many goods higher. The deal with the union was announced just after 5:00 A.M. (EDT) in a statement from the White House. The railroad stocks, including those of CSX (CSX) and Union Pacific (UNP), are higher in pre-market action.
As noted, there were a number of other reports released today that, while they were not expected to drive trading, provided some more insight about how the economy is doing and what impact higher costs are having on production and output. The Labor Department reported that initial unemployment claims for the week ending September 10th totaled 213,000, which was lower than the prior week’s figure and still another indicator of a healthy labor market. Meanwhile, manufacturing activity in the greater New York and Philadelphia areas was mixed. The Empire State survey came in at -1.5%, which was much better than the expected forecast of -13%, but the Philadelphia Fed Manufacturing Index clocked in at -9.9%, a big reversal from the gain (+6.2%) registered in the prior month. At 9:15 A.M. (EDT), we will get the latest reading on nationwide industrial production and capacity utilization, which will give more clues about the health of the U.S. manufacturing sector.
Nevertheless, we expect trading to be driven once again by the recent inflation data and the likely impact it will have on the Federal Reserve’s next monetary policy decision, which will be announced next Wednesday following the conclusion of the lead bank’s two-day Federal Open Market Committee (FOMC) meeting. The stronger-than-expected August Consumer Pricing Index data on Tuesday shook the stock market, as it raised expectations that the central bank will hike the benchmark short-term interest rate by at least 0.75% next week and will now likely continue tightening the monetary reins through the early portion of next year. Today’s strong retail sales and labor market data will likely only add to this narrative. On Tuesday, the stock market delivered its worst daily performance since June 2020 when the nation was in the lockdown to stop the spread of the coronavirus.
The as-expected reading on August producer (wholesale) prices (released yesterday morning) helped the major averages stabilize, though they were not able to retrace much of Tuesday’s outsized setback, which included the seventh-biggest point drop on record for the Dow Jones Industrial Average. The carnage was even worse for the technology-dominated NASDAQ Composite.
Indeed, the sharp rise in Treasury market yields this week, driven by the higher-than-expected reading on consumer prices, pummeled the higher-growth sectors, most notably the technology stocks. That is because many of the technology companies are unprofitable and are valued on their future cash-flow potential. So in instances when rates rise, the values of their cash flows are reduced when discounted back to present value, and investors therefore are not as willing to pay a bigger premium for their stocks. The real estate group also has been under significant selling pressure this week, as higher borrowing costs make it more expensive to buy a home. Conversely, the financial stocks may perform better in a higher rate environment, especially if the U.S. economy is able to avoid a hard landing (a deep or prolonged recession) caused by the Fed’s more-restrictive monetary policies.
In addition to worries about higher inflation, investors are concerned about slowing economic growth. The continued inversion of the Treasury market yield curve and the dour commentary on the economy from many business leaders in Corporate America suggests that the U.S. economy may be headed into a mild recession or a period of stagflation. The latter happens when high inflation persists at the same time when the economy is slowing and unemployment is rising. Neither of those scenarios would make for an ideal backdrop for investing.
Given this uncertain outlook for the U.S. economy and even more worries about a sharp economic contraction later this year in Europe, which faces an unsettling oil and gas situation this winter, we continue to recommend that investors take a cautious near-term approach to investing that includes a mixture of high-quality stocks and cash in one’s portfolio. This should include looking at companies that have strong balance sheets, generate healthy cash flows, and have demonstrated an ability to maintain their dividends during turbulent economic times. On point …
Value Line, with its stock-screening capabilities, gives subscribers an ability to target companies with these attributes. For example, our scale of Financial Strength Ratings, from A++ to C summarizes most of the factors we mentioned. Investors should also note that stocks ranked 1 (Highest) and 2 (Above Average) for Safety by Value Line have historically outperformed the broader market during extended periods of volatility, which again occurred during the stock market’s selloff over the first half of this year.
– William G. Ferguson
At the time of this article’s writing, the author did not have positions in any of the companies mentioned.
