S&P 500 Record High - New Record High For Stocks As Fed Turns Dovish
Another record this week as the S&P 500 Record High turned heads. Interestingly, the market didn’t fall much when the odds for a 50 basis point cut fell from approximately 30% to very close to zero. Now the odds are back up and stocks are at a new record high.
That low impact might be because not many people really believed the Fed would cut rates twice. That’s not to say no one sees a 50 basis point cut now.
Morgan Stanley came out on Wednesday saying it sees a 50 basis point cut because, “Risks to the outlook remain skewed to the downside. A non-linear impact to growth could materialize if financial conditions tighten, bringing corporate credit risks to the fore.”
I agree that risks are to the downside, but I’m not sold on a recession yet. That can change if economic reports get worse.
The market firmly believes the July rate cut is an insurance cut. If the stock market saw a recession, it wouldn’t be at its record high. Either that, or the market thinks there would be a recession without these rate cuts.
That’s a stretch because rate cuts occur all the time during recessions, but they don’t prevent them. Do some believe if rate cuts are early enough, recessions can be avoided? I think a couple hikes could cause a recession. But the 2-3 cuts this year won’t prevent one.
Specifics Of Wednesday’s Action
S&P 500 Record High - Stocks rallied strongly on Wednesday as the S&P 500 tagged 3,000 for the first time ever. It was up 0.45%, Nasdaq was up 0.75%, and Russell 2000 was up 0.16%.
As you can see from the chart below, the Russell 2000 remains weak versus the S&P 500. That’s because of how weak the financials, especially small banks, have been recently. For example, the KBW regional bank ETF is up only 6.1% year to date.
S&P 500 is now up 19.4% year to date.
S&P 500 Record High - It’s 2 basis points away from the gains in all of 2017. After it passes that performance, the next most recent strong year was 2013 when stocks rose 29.3%.
I highly doubt such a performance will be matched. But this has still been a way above average year. On the other hand, the S&P 500 is up just 4.18% from its peak in January 2018. That’s not surprising because January 2018 was undoubtedly the sentiment peak of this expansion. Performance in that timeframe is the best response to those saying stocks shouldn’t be up this much in a slowdown.
The stock market is frothy again as the VIX fell 7.52% to 13.03. CNN fear and greed index increased 2 points to 58. Which isn’t absurd, but something to watch out for.
As you can see from the chart below, 78.20% of S&P 500 stocks are above their 50 day moving average. This isn’t as high as when above 90% of stocks were above their 50 day moving average in February. But things are beginning to get dicey.
S&P 500 Record High - 3 sectors fell on Wednesday: the financials, the industrials, and the materials.
They were down 0.46%, 0.29%, and 0.19%. Big banks will report earnings next week. But that’s not why the financial sector fell. It declined because of the dovishness from the Fed.
The yield curve steepened, but yields fell, so banks were hurt. Specifically, the 10 year yield is now at 2.04% and the 2 year yield is at 1.81%. There is a 28.7% chance the Fed cuts rates 50 basis points in July. There is a 56.9% chance the Fed cuts rates 3 times in 2019.
Biggest winners were energy and communication services which were up 1.4% and 1.26%. I have talked a lot about the Fed. But one of the biggest drivers of stocks on Wednesday was the hurricane that is predicted to form in the Gulf Coast. It pushed oil prices higher.
WTI oil was up 4.4% on Wednesday as it closed at $60.63 which is the highest price since May 23rd. As of Wednesday, there was a low pressure system in the Gulf that was predicted to have a 100% chance of additional development.
It is expected to become a hurricane this weekend. And to make landfall on Saturday or Sunday in Texas or Louisiana with top sustained winds of 85 miles per hour.
Very Solid MBA Applications Report
S&P 500 Record High - Even though we’ve seen some weak housing reports lately, economists expect Q2 to end the 5 quarter streak of negative real residential investment growth.
Some are saying the weakness in residential investment growth is a recession signal. Nearly all the ingredients for a strong housing market are in place. Namely a low unemployment rate, solid real wage growth, and low interest rates. All except affordable prices.
House price growth has recently come down. Eventually, the decline will be enough to strengthen demand if the economy doesn’t fall into a recession.
MBA composite index from the week of July 5th, which obviously isn’t in Q2, was down 2.4% weekly on top of a 0.1% decline. That was caused by weakness in the refinance index.
It was down 7% weekly on top of a decline of 1%. Purchase index was up 2% weekly on top of a 1% improvement.
As you can see from the chart below, purchase applications have been strong this year. Yearly growth was 6% which is solid.
S&P 500 Record High - Conclusion
The market is frothy. It has rallied lately because of the Fed’s dovish turn. It has occurred despite financial conditions being loose.
The next big test for the market will be earnings season. I will start reviewing those in depth next week when the big banks report results.
Financials aren’t as overheated as most sectors because rates are so low. The curve has recently steepened. But it is still flat which is a problem for banks as well.
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