Weekly Market Update – July 05, 2024

Quick Takes

• Major stock indices were mostly higher in a quiet, holiday-shortened week. The S&P 500 and Nasdaq finished at record highs, up 2.0% and +3.5%, respectively. However, the small cap Russell 2000 slipped -1.0%, and value indices fell as well.
• Hopes for lower interest rates fed the rally for large cap and growth stocks. An unexpectedly higher unemployment rate, softer construction spending, weakening factory orders, and contraction in both manufacturing and services activity pushed the probability of a quarter-point rate cut by September to 77%.
• Bonds also rallied on the softer economic data, with the yield on the 10-year U.S. Treasury note falling -12 basis points and the 2-year U.S. Treasury yield dropping -15 basis points. As a result, U.S. and non-U.S. bonds were up +0.7%.

Falling interest rates boosts stocks, but gains are narrow

Stock indices started the second half of the year with a bang, with the S&P 500 Index rising nearly +2%, its best week since late April. Markets were closed Thursday in observance of the Independence Day holiday, so trading volume was light. Nevertheless, the trends of the first half of the year continued in the first week of the second half. In terms of sectors, Consumer Discretionary, Technology, and Communication Services stocks led the rally. That helped the Nasdaq Composite to a +3.5% gain. Both the S&P 500 and Nasdaq finished the week at record highs. Likewise, small- and mid-cap stocks started the second half by lagging the large cap indices just like they did in the first half. The small cap Russell 2000 Index slipped -1.0% for the week. And value stocks continued their struggles, with the Russell 1000 Growth Index outperforming the Russell 1000 Value stocks by over +4% for the week (+3.7% to -0.4%, respectively). 

The rally was driven by hopes for lower interest rates, fed by an unexpectedly higher unemployment rate, softer construction spending, weakening factory orders, and contraction in both the manufacturing and services activity per ISM surveys. Investors sense it was supporting the case for the Federal Reserve to cut interest rate cuts. Fed chairman Jerome Powell expressed dovish comments on Tuesday, saying he was pleased with inflation’s downward shift, but he stopped short of saying that rate cuts would be coming in September. The probability of at least a one-quarter point rate cut by September now stands at 77%, up from 64% a week ago, according to Fed Funds futures tracked by CME Fedwatch.

Bonds certainly liked the softer economic data, with the yield on the 10-year U.S. Treasury note falling -12 basis points over the holiday-shortened week, including a sharp -7 basis point drop on Friday alone following the June employment report. It finished the week with a yield of 4.28%. The 2-year U.S. Treasury yield was down even more, falling -15 basis points for the week and -9 basis points on Friday, to finish at 4.60%, its lowest level since March. Bond prices and yields move in opposite directions, and the Bloomberg U.S. Aggregate Bond Index finished the week up +0.71%, while the Bloomberg Global Aggregate ex U.S. Bond Index (non-U.S. bonds) was up +0.68%.

Chart of the Week

The monthly Employment Situation report showed slightly stronger than expected hiring in June. On Friday, the Labor Department reported that U.S. employers added 206,000 new Non-Farm Payrolls (NFP) during the month, more than Wall Street expectations for 190,000. That was down from 218,000 the prior month, even though the prior two months were revised lower by a total of 111,000 jobs. Moreover, one-third of the new hires were in government in June, with just 136,000 new private-sector jobs in the month. Job gains were again concentrated in Health Care, Social Assistance, and Construction. Under the surface, there were some signs for concern. The Unemployment Rate unexpectedly climbed to 4.1%, tied for the highest level since November 2021, up from 4.0% the prior month, where it was expected to stay. The unemployment rate had been as low as 3.4% just 14 months ago. Inflation watchers noted that Average Hourly Earnings rose +0.3% for the month, in line with expectations but down from the prior month’s +0.4% pace. Year-over-year, Average Hourly Earnings slowed to +3.9% from +4.1%, matching expectations and hitting the lowest level in three years. The Fed would like to see wage growth slow to around +3% annually or less, a level it sees as consistent with low inflation. Average Weekly Hours held steady at 34.3, as expected. Labor-Force Participation inched up to 62.6% from 62.5% as expected. Jan Hatzius, chief economist at Goldman Sachs, characterized it as “a soft-landing kind of report,” adding that it “does support the idea that [the Fed] will cut [fed fund rates] relatively soon,” noting September as the most likely. 

Unemployment Rate unexpectedly climbs to 4.1%

U.S. Unemployment Rate, January 2021 through June 2024

Source: U.S. Bureau of Labor Statistics via FRED, CNBC.

Economic Review

• The Institute for Supply Management’s (ISM) Manufacturing PMI fell for a third straight month in June, hitting a three-month low of 48.5% from an unrevised 48.7% the month before and shy of expectations for a 49.1% reading. The manufacturing PMI has been stuck in contraction territory for 19 of the last 20 months (levels below 50 indicate contracting economic activity). New business rebounded as the key New Orders component rose to 49.3% from 45.4% the prior month, which was the lowest level since hitting 42.9% in May 2023. The Production component fell to 48.5% from 50.2%. The Employment component slipped to 49.3% from 51.1%. On the positive side, the Prices Paid index, a measure of inflation, fell to 52.1% from 57.0%. “The manufacturing economy still appears to be stalled,” said Timothy Fiore, chairman of the ISM Manufacturing Business Committee. Meanwhile, the ISM Services PMI sank to 48.8% in June from 53.8% the prior month, the lowest reading since May 2020 and far below expectations for 52.7%. Service-oriented companies such as restaurants and retailers that dominate the economy “report that in general, business is flat or lower,” said Steve Miller, chairman of the survey. The New Orders index fell to 47.3% from 54.1%. The Employment index contracted again, slipping to 46.1% from 47.1%, its fifth straight month in contraction. The Production index plunged to 49.6% from 61.2%. On the services inflation front, the Prices Paid index cooled further to 56.3% from 58.1%. The services sector makes up more than two-thirds of economic activity, so the report could spur the Federal Reserve to cut interest rates as early as September.
• In contrast to the bleaker ISM Manufacturing PMI, the final reading of the S&P Global U.S. Manufacturing PMI for June ticked up to a three-month high of 51.6 from 51.3 the prior month, beating expectations for 51.7. The reading signaled a modest improvement in the health of the manufacturing sector, the fifth in the past six months. June saw a second straight expansion in New Orders, following a modest reduction in April. Employment rose for the sixth month running, and at a solid pace that was the fastest in 21 months. Expectations of an increase in new orders, plus higher current output requirements, encouraged firms to take on extra staff. Companies were also less optimistic regarding the 12-month outlook for Production. Sentiment dropped to the lowest since November 2022. Although Input Cost continued to rise sharply, the rate of inflation eased in June, while Selling Prices increased at the slowest pace year-to-date. Also contrasting the ISM data, the competing S&P Global U.S. Services PMI improved in June, up to 55.3 from 54.8 the prior month. The increase in business activity reflected a renewed expansion of New Orders, which expanded at the fastest rate in a year. The higher new orders resulted in a fresh increase in Employment in the service sector, ending two months of reduction. Moreover, the rate of job creation was solid and the sharpest since May 2023. The rate of Input Cost inflation softened in June but remained marked and was faster than the pre-pandemic average. 
• The May Job Openings Labor Turnover Survey (JOLTS) showed Job Openings rose to 8.140 million after falling to the lowest level in three years the prior month at 7.919 million (revised down from 8.059). That was above expectations for 7.946 million but far off the peak of 12 million in 2022. Job openings are an indication of the health of the labor market and the broader U.S. economy. Most of the increase was in government. The ratio of Job Openings to Unemployed Workers held steady at 1.22, a bit above prepandemic levels of 1.2 but down from a peak of 2.0 in 2022. The Fed is watching the ratio closely and wants to see it fall back to prepandemic norms. The Number of People Quitting Jobs was also unchanged at 3.5 million, and far off the record, 4.5 million job quitters reached in late 2021. The Quits Rate held steady at 2.2%. People tend to quit less often when the economy softens, and jobs become harder to find. The Hiring Rate inched up to 3.6% from 3.5%.
• The Commerce Department reported that Construction Spending slipped -0.1% in May, far short of expectations for an increase of +0.2% and below the prior month’s +0.3% rise (revised up from -0.1%). Over the past year, construction spending is up +6.4%, versus an annual rate of +7.6% the previous month. Total Private Construction was down -0.3% compared to -0.1% the prior month, and total Public Construction was up +0.5% versus -0.2% the prior month. Private Residential Spending dipped -0.2% month-over-month while private Nonresidential Spending slipped -0.1% month-over-month. The report showed that single-family construction fell -0.7% and multifamily construction was flat.
• U.S. Factory Orders fell -0.5% in June, far below expectations for +0.2%, down from +0.4% the prior month (which was revised lower from the originally reported +0.7%), breaking a streak of three straight monthly increases. Factory Orders Ex-Transportation were down -0.7%, far below the prior month’s +0.5% (which was revised lower from +0.7%). Meanwhile, Durable Goods Orders were up +0.1%, matching expectations and the prior month’s level and marking four months of increases. The important Core Capital Goods Orders (Nondefense Capital Goods Excluding Aircraft), a proxy for business spending, fell -0.6% versus +0.2% the prior month. Shipments of Core Capital Goods Orders, which feeds into Gross Domestic Product (GDP), were down -0.6% for the month versus a +0.4% rise the prior month.
• According to the U.S. Bureau of Economic Analysis, the U.S. Trade Deficit widened +0.8% in May April to a 19-month high because of an increase in imports–a sign of solid demand in a growing economy.  The deficit expanded to -$75.1 billion from -$74.5 billion the prior month (which was revised lower from the originally reported -$74.6 billion). That was narrower than the expected -$76.5 billion. Smaller trade deficits help contribute to economic growth, while larger deficits inhibit growth. Both Exports and Imports fell in May, with Exports falling slightly more, down -0.7% to $261.7 billion, while Imports dipped -0.3% to $336.7 billion. Industrial supplies and fuel oil led the drop in Exports, and consumer goods and autos led Imports lower. Year to date, the Trade Deficit increased $14.4 billion or 4.2% from the same period last year. 
• Weekly MBA Mortgage Applications fell -2.6% for the week ended June 28, following the prior week’s +0.8% rise. The Purchase Index was down -3.3% following a +1.2% increase the prior week. The Refinance Index slipped -1.5% following a -0.05% dip the prior week. The average 30-Year Mortgage Rate was back above 7%, at 7.03%, up from 6.93% and 6.94% for the two previous weeks.
• Weekly Initial Jobless Claims rose +4,000 to 238,000 for the week ended June 29, above expectations for 235,000. The prior week was revised up to 234,000 from 233,0000. The number of people already collecting unemployment claims (i.e., Continuing Claims) rose to 1,858,000 in the week ended June 22, above consensus estimates for 1,840,000. Last week’s reading of 1,839,000 was revised down to 1,832,000.

The Week Ahead

The economic calendar is light this week but will pack a big punch with U.S. inflation data set to be reported. The Bureau of Labor Statistics will report the Consumer Price Index (CPI) for June on Thursday and the Producer Price Index (PPI) follows on Friday. The other headline-grabbing event will be Federal Reserve Chairman Jerome Powell speaking at two days of testimony before lawmakers for his Semiannual Monetary Policy Report to Congress beginning on Tuesday before the Senate Committee on Banking, then he moves to the House Financial Services Committee on Wednesday. Second quarter earnings season will also get underway at the end of the week, with Delta Air Lines and PepsiCo reporting earnings on Thursday, followed by several big banks on Friday (Bank of New York Mellon, Citigroup, JPMorgan Chase, and Wells Fargo).

Did You Know?

HALFTIME – In years like 2024, when the S&P 500 was up more than +10% in the first half of the year, the index saw a median gain of +9.6% in the second half, with gains 76% of the time. In all other years, the median second-half gain was less than half that at just +3.6% (Source: Bespoke, MFS).

TAKING STOCK – Total world stock market capitalization stood at $118.4 trillion on 6/26/24.  That’s up +92% since hitting a low of $61.5 trillion in March 2020 but still -3.4% below its record high of $122.5 trillion made on 11/17/21 (Source: Bloomberg, MFS). 

USA DOMINATES – The U.S. stock market capitalization represented 48% of total world market capitalization as of 6/26/24. That’s up +12 percentage points over the last ten years and at the highest level since at least 2004 (Source: Bloomberg, MFS).

This Week in History

BAD GUY BANK BUSTED – On July 5, 1991, regulators in seven countries staged a coordinated strike to seize the Bank of Credit & Commerce International (BCCI). BCCI operated in more than 70 countries and counted drug traffickers, terrorists, and crooked politicians among its clients. Former Manhattan District Attorney Robert Morgenthau called BCCI “the largest bank fraud in world financial history.” (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 from 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.