What We're Talking About This Week!

• Weekly Market Reset

• Key Economic Reports This Week

• Dividend Landscape

• Market Outlook

Weekly Market Reset

With the 4th of July holiday reducing the trading week by about 30%, conditions were lined up for light trading and low volatility. Those types of environments tend to lead to gains for risk asset prices and that’s exactly what we got. It was more domination by tech and mega-caps with everything else struggling to keep pace. The fact that only three S&P 500 sectors managed to beat the index this week - tech, communication services and consumer discretionary - shows that growth remains firmly in control and even modest road bumps on the economic data front don’t seem to be deterring investors from continuing to buy this market’s leaders.

The one big thing that raised red flags for me last week was something that the markets largely interpreted as positive - Friday’s non-farm payroll report. While the headline number for June beat expectations, almost everything else is indicating that the labor market isn’t just slowing, but may be slowing rather quickly. April’s and May’s jobs added numbers were revised lower by more than 100K jobs combined. The unemployment rate rose to its highest level since late 2021. Wage growth also slowed to its lowest level since 2021. The number of job openings has been trending lower throughout 2024. Initial jobless claims have been rising steadily. None of these figures is at panic levels that suggests a recession or anything of the like is imminent, but collectively it demonstrates that the economy where job seekers were in complete control and could job hop while picking up 10%+ raises at will is clearly over. The strong labor market has been the one thing throughout the post-COVID pandemic environment that has reassured investors the soft landing remains the base case outcome. Once the employment market weakens, there may be little standing in the way on the financial markets turning more bearish and bringing an end to magnificent 7 dominance.

The gains in gold and Treasuries last week may provide a good tell. Long bonds have been very up and down in recent weeks, but the overall trend is still towards lower yields, consistent with the belief that the economy is slowing and the Fed may cut later this year. Gold rose sharply on Friday, not just in response to lower Treasury yields, but, in my opinion, a modest flight to safety. Non-equity markets reacted to the jobs report as a negative and I think that’s the right take. If you consider the fact that consumer strength has maxed out at this point and retailers are starting to 1) miss quarterly earnings/revenue estimates and 2) warn of more challenging environments ahead, I think there’s just too much evidence here not to think that the global economy is definitely slowing and U.S. equity prices as a whole have yet to price that risk in.

My original forecast for the Fed earlier this year was one rate cut in December and the remainder getting pushed into 2025. I’m starting to come around to the idea of the first cut actually happening in September and the second in December. If inflation were the only factor to consider, I still don’t believe there’s a good case for cutting in September and maybe not even in December, although a slight normalization of policy rates could be justified. The labor market is now telling the story of a broader economic slowdown, one that the Fed could risk falling behind on if it doesn’t cut sooner than later. I think Powell is in a real tough spot here. He probably needs to cut in order to get ahead of the prevailing economic trends, but he risks re-igniting inflation if he does so. The 2nd half of the year could be a matter of picking his poison and hoping for the best with the path he doesn’t choose. Let’s not forget either that the presidential election creates another wild card that could add another layer of volatility to the situation.

Key Economic Reports This Week

Thursday’s CPI report and, to a lesser degree, Friday’s PPI report could potentially cement the case for a September rate cut from the Fed. Powell reiterated in a speech last week that he still wanted to see more data confirming that a disinflationary trend is firmly in place before pulling the trigger on a cut. I don’t know if the June CPI report alone would be enough, but delivering on the consensus expectation of a modest 0.1% rise in prices would provide a 2nd straight month of below target inflation. Powell’s speech the day before should essentially reconfirm what he said last week.

Outside of that, next weekend’s bonanza of Chinese data - GDP, industrial production and retail sales - should tell us where we are in their economic cycle. All three are expected to be noticeably lower than where they were previously. This will be important as China is heavily dependent on foreign demand for goods and the focus on reshoring manufacturing in the United States is likely to intensify as the U.S. presidential election cycle approaches November.

Dividend Landscape

Last week was a microcosm of the challenges involved in dividend investing over the past 18 months. If nobody wants anything besides the magnificent 7, growth, tech and mega-caps, there’s little real opportunity set for dividend ETFs. Dividend stocks broadly have lagged the S&P 500 by about 10% over the past year with plain beta, ironically enough, being perhaps the best and steadiest performer.

If the labor market is truly marking a turning point in the U.S. economic cycle, there’s a chance that dividend stocks can begin outperforming again. On the other hand, we’re about to enter the Q2 earnings cycle this week and expectations are for fairly significant growth in both earnings and revenue. If that’s the case, investors may see this as just another opportunity to load up on recent winners and keep the bias towards large-cap growth alive and well.

Market Outlook

I expect that last week’s bullish momentum will carry forward into at least the first part of this week, but Thursday’s inflation report will be a key market mover. Given that expectations are for another low number in June, I suspect this will be more than enough reason for investors to keep buying. First because lower inflation is a positive at the margins for the soft landing narrative and second because lower inflation should lead to interest rate cuts later this year.

With a likely positive earnings season kicking off with the big banks on Friday, I think there’s a firmly bullish market sentiment underlying the action this week.

Looking better for: tech, financials, growth, earnings, Treasuries

Looking worse for: dividend growth, precious metals, China, emerging markets