Lower Bond Yields, Softer Dollar Give Boost to Stocks
Contributing to the strength in equities was the better tone in the bond market. After hitting a peak of 2.95 percent on Wednesday following the release of minutes from the Fed’s January meeting, the yield on the ten-year treasury note fell back to end the week at 2.87 percent, relieving some of the anxiety triggered by the inexorable climb in yields since the start of the year. The yield on the two-year note receded for the first time in two weeks - although the move was modest, just 2 basis points from Wednesday’s peak - to end the week at 2.23 percent. But the lower yields, along with strong economic reports and leading indicators, were enough to turn the focus back to stocks and conditions supportive of firming growth and rising earnings.
It has been precisely the cyclical stocks, most sensitive to economic growth, that have rallied the most since stocks began to recover from the correction on Friday, February 9. Technology, financials, materials, and industrials have been the best performers, not surprising since they were among the sectors that declined the most in the downdraft. That laggard group also included healthcare and energy, however, both of which have trailed the market in the subsequent rebound.
Also providing a boost to stocks last week was the softer dollar, which eased off at the end of the week. Since the end of a sustained move lower on February 1, days of dollar strength have mostly proven to be a headwind for stocks, and a tailwind on days of weakness. Expectedly wide trade and budget deficits have led many to expect continued dollar weakness, while others have questioned whether faster growth and signs of firming inflationary pressures might lead to a more aggressive Federal Reserve response than currently anticipated, providing support for the dollar.
Credit spreads have followed a similar path to stocks since the correction began. The yield spread between the Bank of America Merrill Lynch High Yield Master II index and the ten-year note reached its tightest for this cycle of 323 basis points on January 26, the same day that the S&P 500 peaked. The spread subsequently widened as stocks were falling, peaking at 382 basis points on February 9, when the rebound in stocks began. As stocks recovered, spreads narrowed, falling back to 350 basis points by Friday the 16, although that pattern diverged last week, as spreads widened slightly to 358 basis points.
On this week’s economic calendar, the January personal consumption expenditure (PCE) deflator will command the most attention. The Bloomberg consensus anticipates that year-over-year increases for both the headline and core rates will remain unchanged at 1.7 and 1.5 percent respectively, as large monthly increases will be replacing increases of similar size one year ago. These inflation measures are likely to get far more interesting, however, as we approach the replacement of negative readings in March of last year, and again in May for the headline report. The ISM manufacturing report is also scheduled, as is consumer sentiment. New Fed Chair Powell speaks to Congress this week as well, on both Tuesday and Thursday, in his first semiannual report as chair. The February jobs report is scheduled for release a week from Friday. And overseas, Italy will hold its general election on Sunday, March 4, in a test of strength of the populist movement and its implications for future of the Eurozone.
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Past performance is not a guarantee of future results.
S&P 500 Index: Is an unmanaged capitalization-weighted index of 500 stocks designed to measure performance of the broad domestic economy through changes in the aggregate market value of 500 stocks representing all major industries.
Bank of America/Merrill Lynch High Yield Master II is an index of high-yield corporate bonds which measures the broad high yield market.
The personal consumption expenditure (PCE) measure is the component statistic for consumption in gross domestic product (GDP) collected by the United States Bureau of Economic Analysis (BEA).
The ISM manufacturing index is a national manufacturing index based on a survey of purchasing executives at roughly 300 industrial companies.
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