We see a temporary period of consolidation rather than a prolonged period of pain

08/28/2023 — Equity markets look to extend their bounce, as the S&P 500® Index gained for the first week in four. The bounce around Fed Chair Powell’s speech was encouraging, reflecting that the overbought conditions in play coming into August have been resolved and expectations have been reset. Perhaps more impressive than the strength in the face of Powell’s comments was the lack of volatility, with the VIX finishing below 16, reflecting a less emotional investor. Interest rate volatility is hovering at the lowest level of the year. Interest rate pressure has eased, with the 10-year Treasury yield down 0.11% over the past week, bringing the Bloomberg US Aggregate Bond Index to a slight positive for the year.

August is set to close with the first negative month since February, and the worst month of the year. September has been the weakest month on the calendar dating back to 1928, though Bespoke Research notes that in years where the S&P 500 is up more than 10% for the year through August, September averages a gain of 0.44%. Notable in the month has been the weakness in the large technology companies that have been the market leaders this year. Apple, Microsoft, Alphabet (Google’s parent), Amazon, Tesla, Nvidia, and Meta (Facebook’s parent) accounted for three-quarters of the S&P 500 Index’s year-to-date gain but have lost $600 billion in market capitalization (6%) this month.

While momentum seems to have stalled on a relative basis, expectations and reality are coming back into balance as we’re now in a healthy period of consolidation that is allowing big tech names to absorb the gains we’ve seen year to date. This combined with the lack of emotion driving the markets and the predictable seasonality for August is giving me confidence that we’re in a temporary period of consolidation rather than at the start of a prolonged period of pain.

News

Fed Chair Powell delivered his Jackson Hole speech on Friday, providing a balanced view of the outlook and Fed policy. The hawks point to comments around upside risks to US growth and inflation, and the need for a softer economic and labor environment to get inflation back to the 2% target. Doves will note his comments around the lagged effect of previous policy actions and the balanced risks of doing too much versus too little. The committee will be data-dependent around additional rate hikes, and Powell did not push back against the market pricing in rate cuts next year. He was firm about keeping the 2% inflation target in place.

Domestic economic data have stalled following an impressive run of better-than-expected data. Last week saw disappointing results in existing home sales, PMI data, durable goods, and consumer sentiment. The Citigroup Economic Surprise Index remains elevated at 60, but is below the two-year high of 82 from a month ago. The Atlanta Fed’s GDPNow forecasts 5.9% growth in the third quarter, well above the 1.7% consensus of economists. China’s economy continues to struggle, as officials launch a series of stimulus and market stabilization measures. China was expected to account for one-third of global economic growth this year, though data has continually disappointed.

The Federal government faces a shutdown when funding expires at the end of September, with only 12 legislative sessions remaining to come to a resolution. This could be a headwind to growth, as fiscal spending has been a stealth stimulus for the economy. It is possible that, in anticipation, the Treasury increases debt issuance ahead of the date, putting upward pressure on yields, consistent with the warning Fitch noted in last month’s downgrade.

What to watch

An important week of data awaits, including consumer confidence and JOLTS job openings on Tuesday, revised second-quarter GDP and pending home sales on Wednesday, PCE inflation, personal income, and personal spending on Thursday, and the monthly payroll report on Friday.