The fierce rally of the last few days might bring to mind the rally of mid-January, but history tells us more volatility might be on the way.
(Thursday Market Open) It’s starting to feel like mid-January again, not mid-February, as the rally keeps rolling. It’s amazing how quickly the psychology has changed in this market. Still, volatility like investors just saw typically takes a while to play out, so caution remains a watchword.
Stocks looked poised to continue moving higher early Thursday, as the Dow Jones Industrial Average ($DJI) climbed 250 points in pre-market trading despite another rise to new four-year peaks in bond yields. European and Asian markets rose in the wake of Wall Street’s fourth-consecutive session of gains Wednesday, and crude oil climbed while the dollar eased. The S&P 500 (SPX) is up nearly 7% from the intraday low of last Friday.
This rally comes even as yields in the interest rate complex show no signs of slowing down. The benchmark 10-year yield traded at 2.92% early Thursday, marking new four-year highs and creeping toward the closely watched 3% level. It last touched 3% in early January 2014. However, the market doesn’t appear too shy about 3% at this point, perhaps because some people might have come around to the view that rising rates often signal economic strength.
Yesterday’s hotter-than-expected consumer price index (CPI) report seemed to generate some new selling in bonds as investors contemplated the possible impact of inflation on Fed policy this year. Keep in mind, however, that as far as rates are concerned, the report didn’t really change things on the ground. The market had been pricing in chances for three to four rate hikes this year before the data, and continues to now (see more detail below).
Early Thursday brought the producer price index (PPI) for January. The results met Wall Street analysts’ consensus of 0.4%, so presumably it won’t send stocks on a wild ride the way CPI did yesterday, though you never can predict these things.
The big earnings news late Wednesday came from Cisco (CSCO), where revenue rose 3% after declining eight-consecutive quarters. The company’s results beat Wall Street analysts’ estimates on both top- and bottom-lines, and shares jumped more than 7% in pre-market trading. That followed a day when the info tech sector helped lead the rally with gains of nearly 2%. The so-called “FAANG” stocks led the way Wednesday, and have generally done pretty well vs. the overall market in this time of tumultuousness. Apple (AAPL), Amazon (AMZN), and Facebook (FB), and Netflix (NFLX) all delivered big gains yesterday.
Though the info tech sector is down over the last month, it’s posted better gains than the broader market over the past week. So have financials, another sector sometimes seen as a leader on Wall Street.
Volatility eased in a massive way Wednesday, with VIX falling below 20 for the first time since things went haywire earlier this month. VIX kept falling early Thursday, descending to 18.8. This doesn’t mean the crazy ride is necessarily over, however. It usually takes a few weeks to work through the kind of correction we had and the associated volatility.
With options contracts expiring on Friday and a day off for markets next Monday, as well as important data releases, it’s probably a time when investors might want to consider remaining wary. Another thing investors might want to consider is the pace of this comeback.
The market’s big plunge in a compressed time frame earlier this month was abnormal. It would also be abnormal if stocks keep climbing without volatility after what they just went through. There’s no guarantee Wall Street is out of the woods, despite what’s happened the last few sessions.
One distinct corner of the market appeared especially strong yesterday: Department stores. Both Kohl’s (KSS) and Macy’s (M) shares jumped sharply following a January retail sales report that showed large gains in clothing sales. We’re getting close to the time of earnings season when big retailers roll out results, so the next step is seeing how holiday numbers turned out for the sector. One thing to keep in mind is that any retail company that misses analysts’ estimates on revenue could be taken out to the woodshed. In a booming economy like the one we’re in, there’s often little tolerance among investors for consumer discretionary companies that can’t make sales numbers.
In the aftermath of yesterday’s explosive upsurge, it’s interesting to look back on where the market has been. Back on Feb. 9, just last Friday, the S&P 500 (SPX) hit an intraday low of 2532.69. That was the weakest level since early October, and marked a nearly 12% decline from the Jan. 26 all-time high of 2872.87.
By late Wednesday — just four sessions after hitting that low point — the SPX climbed briefly back above 2,700 before finishing just below that round number. That’s up nearly 7% from Friday’s bottom, but still a long way from the Jan. 26 high. Basically, in those four days, the SPX has charged back from being at the level it was in early October to reaching a level it first hit in early January of this year — 2,700. Three months in four sessions.
FIGURE 1: BIG DROP; BIGGER RECOVERY.
Futures on the S&P 500 (/ES) took a sharp turn south early yesterday , mostly before the open, on higher-than-expected CPI and soft retail sales data, but shifted course soon after to post solid gains on the day. Data source: S&P Dow Jones Indices, CME Group. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.
Numbers Game: The market did a good job processing Wednesday’s bearish economic numbers. First, investors seemed to realize that the January retail sales and inflation data represent a snapshot of one moment in time, and it takes several months before a trend becomes visible. That’s why it’s never a good idea to panic based on one bad number. Also, the consumer price index (CPI) that spooked everyone for a few minutes after it came out really wasn’t that far above expectations. Wall Street analysts had projected 0.4% CPI growth, and it came in at 0.5%.
In addition, core CPI, which strips out more volatile items like food and gas, rose 0.3%. That was above expectations by a touch, but nothing too mind-blowing. It’s also worth noting that year-over-year, inflation actually declined a tick from the December figure, rising 2.1% in January vs. 2.2% in December. Core CPI was up 1.8%, and has now been up 1.7% or 1.8% for nine consecutive months.
What About the Fed? A big fear for some investors going into CPI was that a higher-than-expected number might alarm the Fed, raising chances of a more hawkish interest rate regime. However, odds of a March rate hike, already pretty much baked into the futures market even before the report, remained pretty stable after the data crossed. As for the prospect of four rate hikes instead of three this year — something that’s arguably one of the fears that hit the stock market so hard earlier this month — there’s really been no change in how the market is pricing that in. It was around 25% a week ago, according to CME Group futures, and still stood at 25% in the hour after CPI hit.
For now, it’s just a matter of watching more data roll in until Feb. 28, when new Fed Chair Jerome Powell is scheduled to deliver his first testimony to Congress. That’s probably going to be very closely watched as investors try to get a sense of what a Powell-led Fed might look like. One question to consider going into Powell’s testimony is whether January’s weaker than expected retail sales might play into the Fed’s view. Remember it’s just one data point, but December’s number was also revised downward. If consumers are losing some of their mojo, it could become a factor in the Fed playbook. Consumer spending is a huge part of gross domestic product (GDP), so check some of the Q1 GDP estimates for any possible impact. The Atlanta Fed’s “Fed Now” monitor already had lowered its GDP projection even before retail sales.
Looking Ahead to DE and KO: Investors thirsty for a look at how two behemoths of U.S. industry are performing recently await earnings from CocaCola (KO), and Deere (DE), both due Friday morning. KO has been in a transition period that includes everything from operations to rebranding of its iconic Diet Coke brand. Like its rival PepsiCo (PEP), KO has been battling a multi-year slump in soda sales as Americans have opted toward healthier beverages and bottled water. Investors could get more insight into how KO is navigating these stormy seas when the company holds its call.
DE’s fiscal Q1 earnings, meanwhile, give investors a chance to dig into the farm economy, since agriculture is one of DE’s biggest segments. Last time out, DE delivered earnings per share that topped the average estimate from Wall Street analysts, and consensus ahead of Friday is for more strength in sales of both equipment and agriculture and turf. When DE reported three months ago, executives expressed optimism about how 2018 farm demand might progress in the U.S., potentially helping its sales of tractors and combines. Friday’s call could touch on how that’s working out so far. It could also be interesting to hear from DE executives whether they think the president’s infrastructure proposal could help raise demand for the company’s construction equipment.
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FIGURE 2: THIS WEEK'S ECONOMIC CALENDAR.
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