Weekly Market Update – August 18, 2023

Quick Takes

• In the U.S., all three major indexes finished the week down more than -2%. The S&P 500 Index fell -2.1%, the tech-heavy Nasdaq Composite Index declined -2.6%, and small cap Russell 2000 Index suffered the largest losses of the week with a -3.4% drop. 
• The 10-year U.S. Treasury yield closed the week at 4.25%, its fifth straight week of increases and its highest close since 2008. The Bloomberg U.S. Aggregate Bond Index fell -0.5% for the week, while the non-U.S. bond Bloomberg Global Aggregate ex U.S. Bond Index fell -1.0%.
• Mostly favorable economic data drove the narrative that the Federal Reserve will keep interest rates higher for longer. Retail Sales, Industrial Production, and Housing Starts all came in higher than economists’ consensus expectations.

Global stocks and bonds extend multi-week slump

Stocks and bonds around the world were broadly lower last week, extending multi-week losing streaks. In the U.S., all three major indexes finished the week down more than -2%. The S&P 500 Index fell -2.1%, the tech-heavy Nasdaq Composite Index declined -2.6%, and small cap Russell 2000 Index suffered the largest losses of the week with a -3.4% drop. It wasn’t any better overseas, with developed market international stocks (as measured by the MSCI EAFE Index) falling -3.4% and the MSCI Emerging Markets Index down -3.3%. 

Mostly favorable economic data drove the narrative that the Federal Reserve will keep interest rates higher for longer. July Retail Sales were up +0.7% from the prior month, roughly double consensus estimates. July Industrial Production was up +1.0%, or about three times above expectations. Housing Starts also rose more than expected. The Wednesday release of the FOMC Minutes from the Federal Reserve’s July policy meeting showed policymakers feel better about the U.S. economy’s near-term health and no longer expect a mild recession in 2023. Investors appeared to interpret the minutes as mostly hawkish, as the Fed kept alive the possibility of further rate hikes. 

The positive economic data and hawkish Fed outlook pushed Treasury yields higher over the week. The yield on the 10-year U.S. Treasury note closed the week up 10 basis points (bps) at 4.25%, its fifth straight week of increases and highest close since the summer of 2008. For most of 2023, investors have looked past the sharp rise in interest rates and bond yields. But the recent surge may finally be making investors wary that the high rates may destabilize markets. As seen in the Chart of the Week below, this is becoming apparent in the housing market as the average 30-year fixed-rate mortgage topped 7%, the highest level seen in more than 20 years. Even adjusted for inflation, yields have surged to multi-year highs. The yield on 10-year U.S. Treasury Inflation-Protected Securities was negative until May of last year, but it touched 2% this week, its highest yield since 2009. Of course, bond prices move inversely to yields, so the major bond indices continue to fall. The Bloomberg U.S. Aggregate Bond Index fell -0.5% for the week, while non-U.S. bonds were down twice as much, with the Bloomberg Global Aggregate ex U.S. Bond Index falling -1.0%. They are now down for four and five consecutive weeks, respectively.

Chart of the Week

The average 30-year mortgage rate rose to 7.09%, its highest level in more than two decades, according to mortgage giant Freddie Mac. The increase extends a lengthy stretch of high borrowing costs that has slowed refinancing and purchase activity. The housing market is the part of the economy hit most directly by the Federal Reserve’s interest rate policies. This marked the first time since last fall that the rate on a 30-year, fixed-rate mortgage rose above 7%. A year ago, rates were around 5%.

Mortgage Rates Hit Highest Level in More Than 20 Years

30-year fixed-rate mortgage vs. the 10-year U.S. Treasury yield

Note: Weekly averages.
Source: Freddie Mac, Federal Reserve via St. Louis Fed, The Wall Street Journal.

Economic Review

• The Conference Board’s Leading Economic Index (LEI) fell for the 16th month in a row in July, though -0.4% decline was in line with expectations and an improvement from the unrevised -0.7% drop the prior two months. At 105.8, the LEI is the lowest level since June 2020. The last two times the index has fallen consecutively for this long coincided with the recessions that started in 1973 and 2008. The breadth of the index was negative, with five of the ten indicators tracked by the Conference Board negative, two unchanged, and three positive. On a year-over-year basis, the index was down -7.5%. Non-Financial components, specifically New Orders and Consumer Expectations for Business Conditions, were the largest detractors, and two of the three Financial Component indicators, the Leading Credit Index and Interest Rate Spread, continued their slide. According to the Conference Board, the LEI “continues to suggest that economic activity is likely to decelerate and descend into mild contraction in the months ahead. The Conference Board now forecasts a short and shallow recession in the Q4 2023 to Q1 2024 timespan.”
• July Industrial Production rose +1.0%, well above expectations for a +0.3% rise and the negatively revised -0.8% drop the prior month (originally -0.5%). Manufacturing output rose +0.5%, reversing a -0.5% drop from the prior month. Motor vehicle assemblies spiked +8.8%, and the output of utilities surged +5.4% following a -3.0% decline the previous month, as high temperatures in July increased demand for cooling. Capacity Utilization increased to 79.3% from 78.6% the prior month (revised down from 78.9%), above expectations for 79.1%. The capacity utilization rate reflects the limits to operating the nation’s factories, mines, and utilities. Overall, most major market groups showed growth for the month, indicating that the economy continues to expand despite the Fed’s rate tightening.
• July Retail Sales posted their largest gain in six months, rising +0.7%, ahead of expectations for +0.4% and the prior month’s upwardly revised +0.3% (+0.2% originally). Retail sales represent about one-third of all consumer spending and are seasonally adjusted but not inflation adjusted. July’s results were boosted by a big month from Nonstore Retailers (Online), up +1.9% with the help of the annual two-day Amazon Prime Day event, as well as a +1.4% increase in Food Services & Drinking Places (i.e., Restaurants and Bars), which is the only service-sector category in the report. Retail sales ex-autos ticked up +0.1% for the month, shy of expectation for +0.4%, and down from an unrevised +0.4% the prior month. Sales ex-autos and gas were also up +0.1%, below expectations of +0.4% and down from the prior month’s +0.4%, which was revised up from +0.3%. Overall, sales increased in 9 of the 13 retail categories. The Control Group, a figure used to calculate GDP, was up just +0.1%, well below expectations of +0.5%and the prior month’s +0.5% (revised down from the originally reported +0.6%). Year-over-year Retail Sales were up +3.2%. 
• Homebuilder confidence sank for the first time this year, with the National Association of Home Builders (NAHB) Housing Market Index (HMI) falling -6 points to 50, well under expectations to remain at 56 (levels above 50 indicate “good” building conditions). The figure was below all estimates in a Bloomberg survey of economists. All three subcomponents declined, with Current Sales down -5 points, Sales Expectations (in the next six months) down -2 points, and Traffic of Prospective Buyers off -6 points. Sentiment fell across all four major US regions. The August data suggest high mortgage rates — more than double where they were at the end of 2021 — are starting to hurt demand and are now leading more builders to offer sales incentives to attract buyers. 
• July Housing Starts rose +3.9% to a seasonally adjusted annual rate of 1,452,000 units, down from a negatively revised 1,398,000 units in June (originally 1,434,000) but above expectations for 1,450,000 units. Single-family starts led the starts with a +6.7% increase, while multi-family units fell by -1.7% to the lowest level since September 2021. Starts were up for the month in three of the four regions, led by the West (+14.0%) and falling in the South (-1.3%). Building Permits, one of the leading indicators tracked by the Conference Board, rose +0.1% after June’s unrevised -3.7% drop, to an annual rate of 1,442,000 units, below expectations for 1,463,000 million and the positively revised 1,441,000 in June (originally 1,440,000). Single-unit permits were up +0.6%, while multi-unit permits with at least five units dropped -1.0%.
• July Import Prices rose +0.4%, more than expectations for+0.2%, and June’s -0.1% (revised up from -0.2%). Import prices have declined in 10 of the last 13 months. Year-over-year, import prices were down -4.4%, versus -6.1% for the year ending June, which was the largest annual decline since May 2020. Imported fuel prices rose +3.6% in July but are down -36.4% over the year. Nonfuel import prices were flat for the month. 
• The New York Fed’s Empire State Manufacturing Index, a gauge of manufacturing activity in the state, plunged -20.1 points to -19 in August, far below expectations of -1.0 and the first negative reading since May (readings below zero indicates economic contraction). New Orders sank -23.2 points to -19.9, while Shipments plunged -25.7 points to -12.3. Price indicators increased in the month, and the average workweek dropped to -10.7. The only positive aspect of the report was expected demand, as the Expected (six-months-ahead) general business conditions index rose +5.6 points to +19.9, the highest level since April 2022. 
• Manufacturing in the Federal Reserve’s Third District jumped in August, with the Philly Fed Manufacturing Business Outlook Survey rising to +12.0 from an unrevised -13.5 in July, well above expectations of -10.4. No forecasts had the Philly Fed turning positive. This is the first positive reading after 11 straight months of contraction. Any reading below zero indicates deteriorating conditions. New Orders surged 31.9 points to +16.0 from -15.9 the previous month. The Shipments index rose +18.2 to +5.7. On the negative side, the Prices Paid index jumped +11 points to 20.8, the Six-Month Business Outlook plunged -25 points to +3.9, its lowest reading since May, and Employment fell further into contraction.
• The weekly MBA Mortgage Application Index fell -0.8% for the week ended August 11, following the prior week’s -3.1% drop. The Purchase Index fell -0.3% following a -2.7% drop the previous week, and the Refinance Index dipped -1.9% following a -4.0% drop the prior week. The average 30-Year Mortgage Rate rose for the third straight week, up +7 basis points to 7.16%, the highest since October 2022 and 1.71% percentage points higher from a year earlier.
• Weekly Initial Jobless Claims rose +11,000 to 239,000 for the week ended August 12, above expectations for 240,000 and last week’s positively revised 250,000 reading — up from the initially reported 248,000 and a seven-week high. The number of people already collecting unemployment claims (i.e., Continuing Claims) rose +32,000 to 1,716,000 in the week ended August 5, below consensus for 1,707,000, and up from last week’s unrevised reading of 1,684,00.

The Week Ahead

Economic data during the week remains on the lighter side with no releases on Monday. Existing and New Home Sales come on Tuesday and Wednesday. Wednesday also brings S&P Global’s U.S. Purchasing Manager’s Indices (PMIs) to shed light on the latest manufacturing and services activity. Other releases will include the Census Bureau’s durable goods report for July on Thursday and the University of Michigan’s consumer sentiment index for August on Friday. The Federal Reserve Bank of Kansas City will host its 2023 Economic Policy Symposium from Thursday through Saturday in Jackson Hole, Wyoming. This year’s topic will be “Structural Shifts in the Global Economy.” Fed Chairman Jerome Powell is scheduled to address the conference on Friday. The vast majority of the second-quarter earnings season is over, but a handful of major technology and retail names are left to report next week, including Lowes, Dicks Sporting Good, Kohl’s, Nvidia, Zoom, and Intuit.  Overall, 472 (94%) of companies in the S&P 500 have reported Q2 results so far, and earnings growth is -7.3% year-over-year, down from -2.9% earnings growth in Q1.

Did You Know?

SHELTER COSTS HEADED FOR THE BASEMENT – One of the primary factors keeping the Consumer Price Index (CPI) elevated in recent months has been the price of shelter, which accounts for about 30% of the overall index, but according to a recent study from the San Francisco Fed, shelter inflation is set to slow and may even turn negative by mid-2024 in what would be the most severe contraction in shelter inflation since the Global Financial Crisis of 2007–2009 (Source: The San Francisco Fed, MFS).

IT GETS BETTER WITH AGE – By waiting until age 70 versus 62 to start claiming benefits, retirees can increase the size of their monthly Social Security benefit by up to 76% on an inflation adjusted basis. According to a study from Schroders, 72% of non-retired investors are aware of this, but only 10% of them plan to wait until 70 before they start to claim benefits (Source: Schroders, MFS).

HELP DESPERATELY WANTED – The National Federation of Independent Business’ (NFIB) latest survey of small business sentiment for July showed that quality of labor retook the lead over inflation as small businesses’ most important problem. 42% of small business owners reported having trouble filling job openings, and of the 61% of firms that were hiring, 92% said there were few to no qualified applicants (Source: NFIB, MFS).

This Week in History

SAFETY NET STARTS – On August 14, 1935, the Social Security Act was signed into law, ensuring retirement income for all working Americans. Payroll taxes were set at 1%, for both workers and employers, on the first $3,000 of earnings (Source: The Wall Street Journal).

Asset Class Performance

Source: Bloomberg.

Asset‐class performance is presented by using market returns from an exchange‐traded fund (ETF) proxy that best represents its respective broad asset class. Returns shown are net of fund fees for and do not necessarily represent performance of specific mutual funds and/or exchange-traded funds recommended by The Retirement Planning Group. The performance of those funds may be substantially different than the performance of the broad asset classes and to proxy ETFs represented here. US Bonds (iShares Core US Aggregate Bond ETF); High‐Yield Bond (iShares iBoxx $ High Yield Corporate Bond ETF); Intl Bonds (SPDR® Bloomberg Barclays International Corporate Bond ETF); Large Growth (iShares Russell 1000 Growth ETF); Large Value (iShares Russell 1000 Value ETF); Mid Growth (iShares Russell Mid-Cap Growth ETF); Mid Value (iShares Russell Mid-Cap Value ETF); Small Growth (iShares Russell 2000 Growth ETF); Small Value (iShares Russell 2000 Value ETF); Intl Equity (iShares MSCI EAFE ETF); Emg Markets (iShares MSCI Emerging Markets ETF); and Real Estate (iShares US Real Estate ETF). The return displayed as “Allocation” is a weighted average of the ETF proxies shown as represented by 30% US Bonds, 5% International Bonds, 5% High Yield Bonds, 10% Large Growth, 10% Large Value, 4% Mid Growth, 4% Mid Value, 2% Small Growth, 2% Small Value, 18% International Stock, 7% Emerging Markets, 3% Real Estate.
* The term basis points (bps) refers to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 0.01%. Bond prices and bond yields are inversely related. As the price of a bond goes up, the yield decreases.

* The term basis points (bps) refers to a common unit of measure for interest rates and other percentages in finance. One basis point is equal to 0.01%. Bond prices and bond yields are inversely related. As the price of a bond goes up, the yield decreases.