Fears of higher borrowing costs amid climbing Treasury yields look like they'll continue pressuring the market after Monday's losses.
(Tuesday Market Open) Anxiety stalks the Street early Tuesday after the week got off to a rough start the previous session. Peoples’ focus might start turning toward the big football game as the weekend approaches, but for now, attention seems firmly locked on one market indicator: The 10-year Treasury yield, above 2.7% for the first time since 2014.
Rising yields, as investors know, reflect inflation fears and can raise borrowing costs for businesses and consumers, potentially slowing the economy. They also can raise fears of a potentially more hawkish Fed. We’ve had cheap money for a long time, and investors realize someday money might get more expensive.
Stock futures trading pointed toward possible 200-point losses for the Dow Jones Industrial Average ($DJI) early Tuesday, which would wipe out much of the rally from late last week but still leave stocks not far from all-time highs. None of this changes the fact that the year is off to an amazing start, and a couple days of sell-off isn’t necessarily unprecedented.
Besides yields, another number that indicates potential market worries is VIX, the so-called “fear index,” which leaped to 14.3 by early Tuesday after rising more than 20% on Monday. Meanwhile, foreign stock markets joined the selling, while oil got hammered and gold remained near recent highs.
At times like these, it’s important not to panic, or to try to time the market. Keep things in perspective, and remember that despite the worries about rates, even at 2.7%, yields remain historically low, and signs of inflation remain muted. Right now, it looks like fear of possible inflation more than any actual inflation might be hitting the bond market, and that’s caused trouble for sectors like real estate and utilities that are more sensitive to rates. The telecom and real estate sectors both fell more than 1% Monday.
Still, nothing looked too good on Monday or early Tuesday after every sector fell yesterday and energy cratered 1.55% to finish as the worst performer thanks in part to a loss in the oil market. Small caps also took it on the chin. Even financials, which often rise when yields go up, fell nearly 0.5% on Monday. Profit taking after last week’s rally to record highs might have played a role, and don’t count out the possibility of similar action today.
Concerns about Apple (AAPL) are another weight early Tuesday. It’s pretty well reported by now that analysts have concerns about iPhone demand. AAPL reports on Thursday, and its conference call could be well attended. Any signs of flagging iPhone demand, if verified by the company, would likely hurt, but it’s also important to pay attention to what executives say about future product rollout and how they see demand shaping up. Meanwhile, stocks in Asia got hurt Tuesday as shares of AAPL supplier companies fell. We continue to see more warning signs ahead of earnings, especially related to iPhone X. A problem could be that $1,000 price point.
AAPL shares the spotlight with more than 120 other S&P 500 earnings reports in what’s arguably the busiest week of the season. Things started off on a strong note Monday as Lockheed Martin (LMT) and Seagate Technology (STX) both topped analysts’ estimates. For LMT, the Missiles and Fire Control business helped light up Q4 revenue growth, rising more than 30%.
Pfizer (PFE) and McDonald’s are the big ones this morning, while tomorrow brings one of the busiest earnings days of the quarter highlighted by Boeing (BA) in the morning followed by AT&T (T), Microsoft (MSFT), and Facebook (FB) after the close.
MCD reported earnings per share that easily beat Wall Street analysts’ estimates, but the stock fell in pre-market trading, perhaps because company-owned same-store sales weren’t as good as some investors had hoped. PFE results looked very strong, and expectations for the rest of the drug industry remain high.
A Fed meeting starts today, under the guidance of Chair Janet Yellen for the last time. It seems unlikely the rest of the team would send Yellen off into the sunset with a rate hike, as odds remain below 5% in this week’s meeting, according to the futures market. Still, Wednesday’s statement is probably going to be the last with Yellen’s imprint before Jerome Powell takes over ahead of the March meeting. Odds of a hike by then are around 75%, up slightly from last week.
The focus could turn away from earnings and the Fed momentarily tonight when President Trump delivers his State of the Union address to Congress. Investors might want to consider watching to see what sort of tone the president takes. Trump’s remarks at Davos last week seemed helpful to the market, especially because of some market-friendly language on trade. Also stay tuned to hear if the president has anything to say about infrastructure. That’s something many investors have been waiting to hear more about for a while now after Trump’s campaign promises, and the materials and industrial sectors both tend to benefit from major infrastructure projects.
FIGURE 1: VIX TAKES OFF.
The VIX (purple line) hit a five-month high Monday, rising more than 20%. Volatility has been more prevalent so far this year, and higher bond yields might be one reason. Sometimes volatility also climbs during the heart of earnings season. VIX is compared here to the S&P 500 (SPX) over the last year. Recently, VIX has not only been rallying on SPX breaks, but also hasn’t been receding on rallies in the SPX. Last week, it even rallied on an SPX rally. That’s unusual for the so-called “fear index,” which tends to move inversely to stock prices. Data source: CBOE, Standard & Poor’s. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.
Diving into Subs: Last week we looked at the S&P 500 sectors leading Wall Street so far this year, but it can also help to plunge further into the depths to get a sense of which sub-sectors are leading and why. The leading sub-sectors through the end of last week come from all around the economy, and that’s potentially a sign that growth is firing on multiple cylinders. Internet and direct marketing retail stocks were up more than 21%, followed by department stores, biotechnology, health care distributors, and forest products, according to research firm CFRA. It’s a little twist to see department stores on this list. So much ink has been spilled over the last two years arguing that department stores are dead, but it seems that investors may not all agree.
As we noted last week, biotech got a tailwind from hopes for more mergers and acquisitions in the industry due in part to the tax bill. Health care distributors are among the leading sub-sectors in a roaring health care market so far this year and may be getting a boost from the failure of Congress to overturn health care reform last year, some analysts say. Forest products? Well, when people have money in their pockets, one thing they sometimes go out and buy is new furniture.
Getting Healthy: Everyone is talking about info tech earnings this week, and that’s no surprise considering earnings from Apple (AAPL), Alphabet (GOOG), Amazon (AMZN), Facebook (FB), and Microsoft (MSFT) all hit the wire over the next few days. Another sector coming into focus is health care, where some of the big reporting names include Pfizer (PFE) today, Eli Lilly (LLY) tomorrow, and Merck (MRK) on Friday. AbbVie (ABBV) posted strong quarterly earnings last Friday that some analysts said might be a precursor for some other big pharma firms. When LLY reports before the open tomorrow, investors might be looking for any impact from the 2017 patent expirations for LLY’s Strattera, which treats ADHD, its blood clot medicine Effient, and Axiron, a testosterone treatment.
Yields Rise Despite Inflation No-Show: Monday’s rise in 10-year Treasury yields to 2.71% — the highest in nearly four years —came despite another lackluster government inflation report. The Personal Consumption Expenditure (PCE) price index rose just 0.1% in December, below Wall Street analysts’ expectations for 0.2%. Core PCE prices rose 0.2%, in line with consensus. PCE prices are up just 1.7% year-over year, down from 1.8% in November and still comfortably below the Fed’s 2% inflation target. If inflation seems tempered, at least judging from Monday’s data, why are yields still on an upswing? Perhaps there’s a wind blowing in from overseas, where German bund yields rose above 0.7% to their highest level since late 2015.
FIGURE 2: THIS WEEK'S ECONOMIC CALENDAR.
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