Fed concerns easing despite recent big rate hikes
Yesterday’s decision by the Federal Reserve to raise rates by 75 basis points for a second consecutive time was historic, as it marks the most aggressive back-to-back rate hikes (150 basis points in less than two months) since the early 1980s, before the Fed was formally targeting the fed funds rate as its key policy focus.
The Fed’s statement and press conference yesterday clearly indicated that the Fed is not done with raising rates yet, but gave some of the first indications that they are acknowledging the signs of slowing economic growth and that the lagged effects of the rate hikes to date have not been fully felt yet. Markets reacted favorably to the news (75bps was well anticipated before the meeting), as it brings the potential for smaller rate hikes and the eventual end of the rate hike cycle closer.
Sector Earnings Estimate Revisions Update: Divergence in Commodities
Tracking analyst earnings estimate revisions activity (i.e., are estimates rising or falling, and by how much?) is a key feature of our research. With earnings season underway, we can check in on how revisions activity looks across the 11 US sectors, where we find, among other things, a big divergence between the commodity-related sectors of Energy and Materials.
Is the Fed closer to its goals than we think?
Markets remain volatile, but the narrative driving the volatility has been shifting recently, a topic we have written about and discussed with clients recently. For much of the year, the concern was that the economy was “too strong” and inflation was out of control, and thus the Fed would need to raise rates and reduce their balance sheet quite aggressively to combat inflation. The Fed has taken several steps in that direction, but now conditions have changed such that investors are more worried about growth slowing too quickly and turning into a recession rather than excessive inflation.
Store shelves are filling again, just not car lots
A growing concern among economists and investors is that retailers have been rebuilding inventories rapidly recently, potentially turning what had been partly empty shelves into excess supply. And indeed, the data on inventories held by various categories of US retailers, while lagged, shows evidence of rapidly normalizing (or even excessive) inventories in many areas except for those selling cars and related products. While this might relieve some of the inflation pressure facing consumers and the Fed, it would also imply lower earnings and economic growth, at least for a while.
Rare event: Europe looking better than the US
After nearly a decade of US equities mostly outperforming those in Europe, our indicators are finally more decisively aligned in favor of Europe now.
Fundamental momentum has shifted to Europe now
All of the indicators in the chart below are based on bottom-up aggregations of the constituents of the iShares Core MSCI Europe ETF (ticker IEUR) and the SPDR S&P 500 Trust (ticker SPY). The middle section of the chart shows our key metrics of “fundamental momentum” for Europe relative to the US.
Commodity prices diverging: energy vs the rest
Last month we commented that while the CPI readings remain very high, there are signs of moderation in commodity prices. With commodity prices remaining center stage as a macro driver, we continue to closely watch the various commodity indices, including the S&P GSCI index and its subcomponents.
There now seems to be a greater divergence between energy prices and other commodities.
The chart below shows the S&P GSCI Commodity Index (top section) along with its component indices over the last three years.
A closer look at gasoline and oil prices
Gasoline prices remain in the headlines, and leave an impression every time a driver fills their tank as prices hit new highs.
Oil prices are a global issue, with OPEC and the US being the biggest producing regions. Producers face mixed incentives about increasing production longer-term, including messages from the futures markets.
Gasoline and diesel refiners face reduced capacity, leaving them struggling to meet even historically normal levels of demand despite high potential profit margins.
Corporate earnings are fine, but estimates are no longer rising broadly
The level and growth rate of corporate earnings remain reasonably good – earnings are at record highs, and are expected to grow about 10% this year and next. However, analysts are no longer revising their earnings forecasts higher on average, halting a trend that has generally been in place since mid-2020.
The table below shows the current consensus earnings per share estimates for the S&P 500 index (based on the bottom-up aggregation of individual company estimates). While estimates are slightly higher than they were three months ago, in the last month there has been essentially no change in either this year or next year’s estimate.
CPI remains high, but commodity prices stabilizing
The latest CPI report yesterday showed prices in April still rising at a worrisome rate, led by recovery in service-related spending like airline fares. The monthly increases in the headline CPI and the core (excluding food and energy) rate were both above consensus expectations.
Notably, the core rate (+0.6%) rose substantially more than the headline rate (+0.3%), as the impact of food and energy was negative in April. However, the year-on-year increase in the headline CPI, which eased slightly to 8.3%, is still substantially higher than the core rate of 6.2%.
Fed coming late to tightening party
Yesterday’s Fed policy announcement was certainly the focus of attention, and monetary policy has been driving headlines and market action for much of the year. However, our view is that fiscal policy is likely the bigger policy force in the economy nowadays, and fiscal tightening started some time ago.