Weekly Market Update – July 26, 2024

Quick Takes

• The market rotation from large cap and growth stocks to small cap and value stocks continued for a third straight week. The S&P 500 had its worst day of the year on Wednesday on the way to a -0.8% drop for the week, and the Nasdaq fell -3.6% on Wednesday on the way to a -2.0% fall for the week.
• Small cap stocks rallied for a third straight week as the Russell 2000 Index rose +3.5%. The Russell 3000 Value Index also outperformed the Russell 3000 Growth Index by +3.5% over the week, the third consecutive week of outperformance.
• The week’s economic data was a good combination of stronger than expected GDP growth for the second quarter, generally combined with relatively mild inflation data. That left markets still pricing in a September cut in interest rates by the Fed.

Source: Bloomberg. Data as of July 26, 2024.
Price Returns for Equity, Total Returns for Bonds.
* 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.

Market mixed despite solid economic growth and mild inflation

Weakness in the Magnificent Seven stocks led major equity indices down despite the desirable combination of stronger than expected GDP growth and tepid inflation. The first estimate of Gross Domestic Product (GDP) for the second quarter was a +2.8% annual rate, twice the +1.4% rate in the first quarter. The solid report had the potential to roil markets because it could lead to rising inflation pressures. However, that connection appears to be breaking down because, on Friday, the Personal Consumption Expenditure Index (PCE) showed mild inflation of just +0.1% in June, which was in line with economists’ expectations. Moreover, Core PCE, which strips out food and energy components, rose just +0.2% in June and +2.6% year over year – not too far from the Fed’s 2% inflation target. As a result, the markets feel the Fed will still be on track for a September cut in interest rates. That helped boost stocks at the end of the week after they fell hard earlier in the week following disappointing earnings results by Mag 7 members Tesla and Alphabet (Google). Tech stocks have lost their luster of late, with the S&P 500 Information Technology sector now down more than -7% over the last two weeks. 

In the end, the headline S&P 500 Index fell -0.8% for the week, following a -1.9% drop the prior week. With its approximately 50% weighting in the tech sector, the Nasdaq Composite Index was hit harder, slumping -2.0% last week and -3.7% the previous week. Meanwhile, the rotation trade to small cap companies has continued, with the Russell 2000 Index up +3.5% for the week, following +1.7% and +6.0% the prior two weeks, respectively. The rotation has also seen value styles outperform growth over the last three weeks, the first such streak since October 2023. Going back the last three weeks, the Russell 3000 Value Index has outperformed the Russell 3000 Growth Index by +3.5, +4.5%, and +3.1%. In each week the growth index was negative, and the value index was positive. The rotation has coincided with a return of volatility. The VIX volatility index jumped above 16 after spending much of the summer under 13. Notable last week was the S&P 500 Index selling off on Wednesday by more than -2%, the first daily decline of more than 2% since February 2023. The Nasdaq suffered its worst daily loss since October 2022, dropping -3.6%. A -12.3% decline in Tesla and a -5.0% decline in Class C shares of Alphabet following disappointing earnings reports contributed heavily to Wednesday’s declines. 

Non-U.S. equities struggled as well, with developed market international stocks (as measured by the MSCI EAFE Index) falling -1.0% for the week and the MSCI Emerging Markets Index dropping -1.6%. For the first time since early June, markets are now pricing in 50 basis points (0.50 percentage points) of interest rate cuts from the European Central Bank (ECB) over the remainder of 2024. Japan’s stock markets registered sharp losses last week, with the Nikkei 225 Index falling -6.0% as Japanese technology stocks remained under pressure following the selloff of U.S. mega-cap technology companies.

The 10-year U.S. Treasury yield traded off -4 basis points to finish the week with a yield of 4.19%, while the 2-year U.S. Treasury yield fell -13 basis points to finish at 4.38%. This left the spread between the 2-year and 10-year yield at -19 basis points, near the least inverted levels all year. Bond prices and yields move in opposite directions, and the Bloomberg U.S. Aggregate Bond Index finished the week up +0.3%, while the Bloomberg Global Aggregate ex U.S. Bond Index (non-U.S. bonds) rose +0.4%.

Chart of the Week

The U.S. economy grew at a 2.8% pace in the second quarter, much more than the expected +2.0% rate. Gross Domestic Product (GDP) for the second quarter was twice as fast as the +1.4% annual pace in the first quarter. The increase in real GDP, the official scorecard for the economy, was driven by a +2.3% increase in Personal Consumption Expenditures (PCE), higher than expectations for +2.0% rise and up from +1.5% the prior quarter. A large +0.8% increase in Inventories also contributed to GDP. Government Spending was up +3.1% in the second quarter compared to +1.8% in the first three months of the year, boosted by defense spending. Government outlays have been up considerably from the 10-year average of about +1.8%. Business Investment grew at the fastest pace in almost a year, up +8.4% in Q2 versus +4.4% in Q1, led by the strongest jump in Equipment since the start of 2022. The GDP report probably won’t have much impact on the Fed’s rate decisions and is still widely expected to cut interest rates no later than September.

U.S. economy grew at a +2.8% rate in the second quarter

Real Gross Domestic Product (GDP), percentage change from prior quarter

Note: Seasonally adjusted annual rate.
Source: U.S. Bureau of Economic Analysis via FRED, CNBC.

Economic Review

• The preliminary “flash” S&P Global U.S. Composite Purchasing Managers Index (PMI) was 55.0 in July, the highest since April 2022, up from 54.8 the prior month. Levels above 50 indicate economic expansion, while levels below 50 indicate contraction. The Manufacturing PMI fell to 49.5 from 51.7 the prior month, well below expectations for 51.6 and the lowest level since December 2023. The Services PMI jumped to 56.0, the highest reading since March 2022, up from 55.3 the prior month and well ahead of expectations for 54.9. The service side of the economy — retailers, banks, hospitals, and the like — employs most Americans and has driven the expansion since the pandemic. The S&P Global “flash” PMI surveys are among the first indicators of each month to give a sense of how well the U.S. economy is doing. On the inflation front, the composite of Prices Paid for inputs, including rising shipping costs and higher wages, climbed. Even so, growth in Selling Prices slowed to a six-month low. Employment levels were muted, suggesting that fewer companies overall are hiring.
• The Commerce Department reported Durable Goods Orders for long-lasting items such as televisions, appliances, and transportation equipment sank -6.6% in June, its sharpest drop since the pandemic, following an unrevised +0.1% rise the prior month and breaking four consecutive months of gains. That was well short of expectations for a +0.3% rise. Durable Goods Orders Excluding Transportation, were up +0.5% versus the prior month’s unrevised -0.1% dip and ahead of expectations for +0.2%. The important Core Capital Goods Orders (nondefense capital goods excluding aircraft), a proxy for business spending, improved +0.1 from -0.9% the prior month (revised down from -0.6%) and shy of expectations for +0.2%. Business investment appears to be faltering. Year-over-year, durable orders are down 10.3%. That’s the largest drop since June 2020.
• The Federal Reserve Bank of Chicago reported that U.S. economic activity slowed in June, as the Chicago Fed National Activity Index (CFNAI) dropped +0.05 from +0.18 the prior month (which was revised lower from the originally reported +0.23). That is below the February high of +0.30. Readings below zero indicate below-trend-growth in the national economic activity. The CFNAAI three-month moving average improved, however, to -0.01 from -0.08, suggesting that economic growth is stabilizing. It is off a low of -0.35 in December 2022. During the last 20 years, there has been a 91% correlation between the three-month index level and the q/q change in real GDP. Three of the four broad categories of indicators used to construct the index decreased from a month earlier, and one was unchanged. The Production and Income category contributed +0.11, down from +0.23 the prior month, and was the only broad category that was positive for the month. The Employment, Unemployment, and Hours category was down at -0.02 from +0.01 the prior month. The Personal Consumption and Housing category contribution was -0.02 for the second straight month. The Sales, Orders, and Inventories category contribution was down to -0.02 from +0.01 the prior month. Overall breadth of the index regressed, with 42 of the 85 individual indicators making positive contributions, down from just 48 the prior month.
• The U.S. housing market remains sluggish as mortgage rates hover near 7%. The National Association of Realtors (NAR) reported that Existing Home Sales fell by -5.4% in June to a seasonally adjusted annual rate of 3.89 million units, below expectations for 3.98 million units, down from an unrevised 4.11 million units the prior month. That is the slowest pace of home sales in any June since 1999 when the NAR began tracking the data. Year-over-year existing sales are down -5.4% versus the -2.8% annual rate the prior month. The Median Existing Home Price was up +4.1% to $426,900, the seventh consecutive record high and the twelfth consecutive month of year-over-year price increases. The Inventory of Homes for Sale was up +3.1% from the prior month and +23.4% from last year, to 1.32 million units, which is the highest level since October 2021. Unsold Inventory is at a 4.1-month supply, which is the highest level since June 2020 and up from 3.7 months the prior month. Homes Listed for Sale remained on the market for 22 days on average, down from 24 days the previous month. First-Time Buyers were 29% of sales in the month, down from 31% the month before. All-Cash Sales held steady at 28% of transactions. For the month, sales fell in all regions, with the Midwest down the most at -8%, the South down -5.9%, the West down -2.9%, and the Northeast down -2.1%. 
• The Commerce Department reported New Home Sales dipped -0.6% in June to an annual rate of 617,000 units, after plunging -14.9% the prior month (to 621,000 units). That was below expectations for a +3.4% increase, or 640,000 units, and marked a seven-month low. The prior month was revised down from the originally reported -11.3% (619,000 units). New Home Sales data tend to be volatile month-on-month and are often revised. New-home sales remain far below the recent peak of over 1 million units in August 2020. Year-over-year, sales of new homes fell -7.4% compared to -16.5% the prior month. By regions, month-over-month sales plunged -7.7% in the Northeast, rose +0.3% in the South, dropped -6.9% in the Midwest, and rose +1.4% in the West. The Median New Home Price rose to $417,300 from $407,100 the prior month. The inventory of new homes for sale rose to 2.2%, the highest level since October 2022. The months of supply at the current rate of sales was 9.3 compared to 9.1 the prior month, the longest since October 2022.
• Personal Spending rose again in June, but at a mild +0.3% rate, matching expectations and a tick down from +0.4% the prior month, which was revised up from +0.2%. Spending in April was also revised higher. After adjusting for inflation, Real Personal Spending was up +0.2%, below expectations for +0.3% and down from the +0.4% pace the prior month (revised up from +0.3%). Households spent more on travel, recreational goods, medicine and higher utilities from the summer heat wave. Consumer spending was likely suppressed by a nationwide cyberattack that prevented buyers and dealers from completing many sales. Meanwhile, Personal Income rose a tepid +0.2%, below expectations of +0.4%, which is where it was the prior month after being revised lower from the originally reported +0.5%. The Personal Savings Rate fell to just +3.4% from +3.5% the prior month and marked the lowest level since December 2022. If that trend continues, economists worry that spending could slow in the months ahead and result in weaker U.S. growth.
• The final reading of the July University of Michigan Consumer Sentiment Index rose slightly to 66.4 from the preliminary 66.0 estimate. Expectations were for it to tick up to 66.5. It has now fallen four months in a row and, is at its weakest point since last winter, and remains far below the prepandemic peak of 101. The Current Economic Conditions component fell to a 19-month low of 62.7, down from the initial estimate of 64.1 and sharply lower the prior month’s 69.5. The Consumer Expectations component was revised higher, to 68.8 from the initial estimate of 67.5, and was up from 67.2 the prior month. One-year inflation expectations were unchanged from the initial estimate of +2.9% and a tick down from +3.0% the prior month. The five-year inflation expectations came in at +3.0%, a tick up from the initial estimate of +2.9%, which is where it was expected to stay and matching the prior month.
• The cost of goods and services rose slightly in June, with the Personal Consumption Expenditure (PCE) Deflator (aka PCE Price Index) inching up just +0.1%, as expected, from +0.0% the prior month. On a year-over-year basis, the PCE Price Index was also up a tick at +2.5%, matching expectations and up from the prior month’s +2.5% annual rate. The Core PCE Price Index, which excludes food and energy and is the Fed’s preferred inflation gauge, increased by +0.2%, in line with expectations and a tick up from the prior month’s +0.1% pace. Year-over-year, the Core-PCE Price Index is unchanged at +2.6%, which is a bit higher than the +2.5% rate expected. Essentially, there was little change in this inflation report that would have much sway on the Fed’s timetable for rate cuts.
• The Richmond Fed Manufacturing index fell to -17 in July from an unrevised -10 the previous month, which was below expectations for -7. All three component indexes weakened in July, retreating further into contractionary territory. The Shipments component plummeted to -21, from -9 the prior month. The New Orders index, part of the Shipments component, plunged to -23 from -16. The Employment index declined to -5 from -2. The Capacity Utilization component slowed to -13 from -8. 
• The Kansas City Fed Manufacturing Survey worsened to -13 in July from -8 the month before, which was below expectations for -5 and the lowest level in four years. The New Orders index plunged to -21 from -13, while the Production index slipped to -121 from -11. The Employment index fell as well, down to -12 from -11, and the Average Employee Workweek index fell from -12 to -17. The Prices Paid jumped to +17 from +9 the prior month. The Kansas City Fed Service Sector Outlook Survey fell to -4 from +2 the prior month.
• Weekly MBA Mortgage Applications fell -2.2% for the week ended July 19, following the prior week’s +3.9% increase. The Purchase Index was down -4.0% following a -2.7% drop the prior week. The Refinance Index inched up +0.3% following a +15.2% jump the prior week. The average 30-Year Mortgage Rate dropped to 6.82%, down from 6.87% the previous week and the lowest level since January 12, when it was at 6.75%.
• Weekly Initial Jobless Claims fell -10,000 to 235,000 for the week ending July 20, below expectations for 238,000. The prior week was revised up to 245,000 from 243,0000. The number of people already collecting unemployment claims (i.e., Continuing Claims) fell to 1,851,000 in the week ended July 13, below consensus estimates for 1,868,000. Last week’s reading of 1,867,000 was revised down to 1,860,000.

The Week Ahead

The calendar is chock full this week with both economic and earnings reports that have the potential to keep volatility elevated. On Tuesday, the Bureau of Labor Statistics (BLS) will release the Job Openings and Labor Turnover Survey (JOLTS) for June. S&P CoreLogic and FHFA release their respective Home Price Indices (HPIs). The Conference Board’s Consumer Confidence Index for July will also be released on Tuesday. On Wednesday, the Fed’s policy making committee is expected to keep interest rates unchanged. Thursday brings manufacturing PMI reports from both ISM and S&P Global. Then, on Friday, the BLS will publish the July Employment Report. Economists expect a 178,000 gain in nonfarm payrolls following June’s 206,000 new jobs.

There are more than 160 S&P 500 companies scheduled to report second-quarter earnings results, including Magnificent 7 tech heavy weights Apple, Amazon, Meta Platforms (Facebook), and Microsoft. These will be watched closely after fellow Mag 7 members Tesla and Alphabet (Google) disappointed with their results last week. Other earnings highlights will include McDonald’s, Advanced Micro Devices, Merck, Pfizer, Procter & Gamble, Starbucks, Boeing, eBay, Etsy, Lam Research, Marriott International, Mastercard, Booking Holdings, ConocoPhillips, Intel, Chevron and Exxon Mobil.

Did You Know?

BACK ONLINE – As of Thursday, July 25, more than 97% of Microsoft Windows sensors were back online after the prior week’s massive global outage, according to CrowdStrike, the company whose software update caused the havoc. More than 8.5 million devices were impacted, and because many of them were part of broader corporate IT systems, the fallout was even farther reaching. Everything from air travel to government agencies to businesses in almost every industry was hit (Source: The Wall Street Journal).

FIVE IN A ROW – On July 16, the Russell 2000 closed up at least 1% for the fifth straight day. Since its inception in 1979, there have been four other periods when the index has had as long of a streak. Two of those streaks also ended at five days (10/20/98 and 9/10/09), while the other two (1/21/00 and 4/29/20) ended at six days (Source: Bespoke).

DOMESTIC GENERICS DWINDLE – There are 243 facilities in the U.S. making generic drugs in their final form. That’s down roughly -20% since 2018, according to federal data. Others have gone bankrupt, moved their operations overseas, or cut the number of products that they offer. Prices for the often critical medicines have dropped so low that U.S. manufacturers have a hard time competing with companies overseas. Drug shortages have become common in the U.S. (Source: The Wall Street Journal).

This Week in History

CROSS COUNTRY – On July 26, 1903, Vermont doctor Horatio Nelson Jackson completed the first crossing of the U.S. by automobile. The journey from San Francisco to Manhattan, with a mechanic and a dog, took 63 days (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.