Stocks Look to Regroup Following A Shaky Start to the New Year
The rise in bond yields is also unnerving the longer-duration parts of the equity market, primarily technology stocks, where elevated valuations are justified by the expectation of future earnings. The Nasdaq Composite tumbled 4.5 percent last week. In contrast, the Dow Jones Industrial average was down only 0.3 percent. At the other end of the spectrum from technology were the financial stocks, where prices soared higher by 5.4 percent, as the rise in yields makes lending and other services more profitable.
The Fed Takes a More Hawkish Stance; First Rate Hike Could Come As Early As March
The Fed minutes reinforced the hawkish shift at the Federal Open Market Committee (FOMC) meeting. The meeting discussion raised the possibility of a faster rate hike cycle this time, as well as the possibility of an earlier start to reducing the balance sheet. And the Fed did accelerate the pace of tapering so that it now concludes in March, clearing the way for a possible first rate hike at the March meeting. The Fed has believed for some time, dating back to last fall, that its inflation mandate has been achieved, but that it wanted to see more progress toward full employment. And while the growth in non-farm payrolls over the last two months has been disappointing, the unemployment rate has now fallen to 3.9 percent, the lowest since the 3.5 percent rate in February, 2020, just before it soared to 14.7 in April.
The CME FedWatch tool now ascribes a 70 percent chance to a rate hike in March. Last week, those odds were 50/50, and one month ago were one in three. And the odds are only slightly higher that we will see three rate hikes this year and not four.
Omicron Provides Surprises, But May Not Be As Economically Disruptive As Feared
The prevailing sentiment seems to be that the Omicron variant will not be as economically disruptive as feared. In South Africa, the surge in the seven-day rolling average of Omicron infections intensified over a roughly 30-day period, peaking in mid-December, followed by a precipitous decline over the past three weeks. In the UK, where the outbreak lagged by several weeks, a similar pattern may be close to unfolding. A December surge of similar length to South Africa’s may be in the process of peaking. For the pattern to hold, new cases must now begin to decline sharply. If they do, it would suggest that a similar pattern might be in store for the U.S., leading to a pre-Omicron infection rate by late February or so. Of course, this virus has provided plenty of surprises.
Fourth Quarter Earnings Start This Week; Bond Investors Will Closely Watch This Week’s CPI Report
Somewhat lost in the shuffle of interest rates and Covid infections is the start this week of fourth quarter earnings season. According to Factset, earnings are expected to grow by 21.7 percent, up slightly from the start of the quarter. If that turns out to be the actual growth rate, then earnings for all of 2021 will have grown by 45 percent. Earnings growth is expected to slow to 9.4 percent next year. JP Morgan Chase, Citigroup and Wells Fargo start things off on Friday.
Beyond earnings, this week’s economic calendar is quite full. Bond investors will be watching the December CPI report on Wednesday with trepidation. The year-over-year headline rate is expected to climb to 7.0 percent, its highest since 1982. The core rate is expected to climb 5.4 percent, its highest since 1990. December retail sales are expected to be held back by both Omicron fears and supply chain problems, especially for automobile manufacturers. Industrial production is expected to rise modestly, while consumer sentiment is believed to have edged lower.
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