Last week, the US stock market swept away the gloom of the first week of the new year, and the decline in US bond yields boosted risk appetite. Technology stocks once again led the market up. Stimulated by positive inflation data, the pricing of the March interest rate cut has returned to its previous high, which has put pressure on the Federal Reserve, which is attempting to suppress expectations of easing. There are still two weeks left until this year's first interest rate meeting, and investors will continue to gamble on the interest rate path. In addition, the financial reporting season will become a new disruptive factor.
Betting on interest rate cuts sharply increases pressure on the Federal Reserve
Last week, the United States released two seemingly contradictory inflation reports. Driven by the steady increase in housing and healthcare costs, the Consumer Price Index (CPI) in December increased by 0.3% month on month, and the year-on-year growth rate is also stabilizing and recovering. Excluding energy and food, the core CPI increased by 3.9% year-on-year last month, still far above the Federal Reserve's medium-term target. As a result, the market's forecast for a rate cut in March has dropped to around 60%.
The subsequent release of the Producer Price Index (PPI) has brought hope back to the outside world. Data shows that due to a decrease in the cost of goods such as food and diesel, US producer prices unexpectedly fell by 0.1% in December, while service prices remained unchanged for the third consecutive month. With the easing of cost pressures on enterprises, downstream consumer spending pressure is expected to decrease, and investors' expectations for the Federal Reserve's easing are expected to rise again.
Bob Schwartz, senior economist at the Oxford Institute of Economics, said in an interview with First Financial reporters that restoring a 2% inflation rate still looks like a bumpy road. It should be noted that the obstruction of shipping in the Red Sea and Panama Canal represents an upward risk of short-term inflation. For the Federal Reserve, the continued signs of gradual disinflation in the service industry are crucial. Schwartz's analysis suggests that as rent falls, housing inflation rates will continue to decline in 2024. Next, the broader trend of inflation in the service industry will be determined by the intensity of wage growth.
As an important indicator of policy path, US bond yields plunged in the late trading session. The 2-year US Treasury bond, closely related to interest rate expectations, fell to 4.14%, a 25 basis point drop on a weekly basis, reaching a new low since May last year. The benchmark 10-year US Treasury bond fell to over 3.95%, missing an important psychological threshold of 4.0%. Many market insiders are optimistic that achieving the inflation target has reached the "last mile". Robert Pavlik, Senior Portfolio Manager at Dakota Wealth, said, "As demand cools and supply and demand further balance, producer level inflation will eventually translate into easing consumer pressure."
The Federal Reserve has taken note of the optimistic sentiment from the outside world towards policy easing. Several officials attempted to cool down this enthusiasm in their latest speeches. Federal Reserve Director Bauman believes that the relaxation of financial conditions may lead to another acceleration of price increases. Atlanta Fed Chairman Bostic reiterated his prediction that interest rates may only need to be lowered by 50 basis points by the end of the year.
Schwartz told First Financial that he believes the Federal Reserve still needs more data to confirm the achievement of inflation targets, and there is no sign that policy easing discussions have entered a substantive stage, so the expectation of a rate cut in March seems too optimistic. He believes that as long as there is clear evidence of sustained relaxation in the labor market and further decline in wage growth, the Federal Open Market Committee (FOMC) will begin to consider the topic of policy shift.
The S&P 500 has once again reached a new historical high
In the past week, technology stocks have once again become the main players in the market. The holding of CES 2024 has attracted a lot of attention to the artificial intelligence industry. Nvidia has set a new historical high, while Microsoft has surpassed Apple again in nearly three years to become the largest listed company in the US stock market.
Adam Turnquist, Chief Technology Strategist at LPL Financial, believes that technology stocks will still have bull market conditions in the new year and face the same risks as in the past. "The decline at the beginning of the year and the decline in 10-year US Treasury bonds gave investors enough confidence to return to the technology sector. Stocks were oversold, coupled with oversold US Treasury yields, giving rise to a reason for a double rebound."
Bill Merz, head of capital market research at United States Bank Wealth Management, said, "Now is a yield driven market, and investors are trying to discount the number, timing, and magnitude of rate cuts they will see. We may be in a more rational position, but the question is whether the reason for the decline in yields is right or wrong? So far, investors believe that the decline in yields is due to the Federal Reserve achieving a soft landing."
Next, corporate performance will become an important factor affecting market trends. Large banks have kicked off the financial reporting season with mixed results. Due to the increase in net interest income, JPMorgan Chase announced record profits, while the credit loss reserves of Wells Fargo and Bank of America increased significantly, and credit quality became the focus of the end of the tightening cycle.
Investors remain cautious in the flow of funds before the financial reporting season. According to LSEG statistics from the London Stock Exchange, US stock funds recorded a net redemption of $11.55 billion last week, which is also a new high since June last year, with outflows from large cap funds reaching $8.8 billion. Under the risk aversion sentiment, $4.6 billion has returned to the money market, and the fund size in this market has approached $6 trillion.
Jiaxin Wealth Management stated in its market outlook that the rebound of US stocks before the Federal Reserve decision requires the financial reporting season as a catalyst to help the S&P 500 index smoothly break through historical highs. Although the technology sector is expected to account for the majority of the fourth quarter profit growth of the S&P 500 index, market bulls may hope to see profit growth in other industries in the coming weeks to help support the "soft landing" theory.
The institution believes that investors still need to be cautious in the coming week, while continuing to observe the performance of the financial sector to evaluate the economic outlook. On the other hand, as the S&P 500 index stagnates below the key resistance of around 4800, technical indicators have dulled, and if it cannot break through quickly, adjustment pressure will begin to accumulate. After reaching a new historical high, the space above will be further opened, which may depend on whether the financial reporting season can bring greater surprises.