Economic Update 7-24-2023 

• Economic data for the week included the index of leading economic indicators continuing a long stretch of declines, pointing to ongoing recession risks. Industrial production and retail sales slowed, as did sales and starts in the housing sector. 
• U.S. stocks saw gains last week, coupled with mixed results abroad. Bonds were little changed in the U.S. with a stable yield curve, while foreign bonds suffered from a weaker dollar. Commodities were also mixed, with gains in energy offset by weaker prices for industrial metals. 

U.S. stocks were mixed last week, with continued positive sentiment from the prior week’s better inflation readings and optimism about potential avoidance of a recession—seen by improved outlooks from some prominent economists. However, in earnings season, results are often stock-specific. Growth sectors ended in the negative, in contrast to recent strength, while value names gained over 2%. Small cap stocks outperformed large caps, to make up some of their lost ground in 2023, with some investors acknowledging their multi-year valuation discounts relative to larger companies. By sector, gains were had in energy and financials (for example, better than expected earnings for some firms, and Charles Schwab losing deposits at a slower rate than feared) as well as more defensive sectors health care and utilities. On the negative side, communications (Alphabet/Google) and consumer discretionary (Amazon and Tesla) each fell -2% to -3%. The reconfiguring of the Nasdaq 100 today (along with its popular tracking funds like the QQQ) will serve to trim weightings from the largest seven firms, while boosting the relative sizes of the rest, which may have also influenced some pre-emptive trading. 

Insofar as Q2 earnings are concerned, per FactSet, nearly 20% of S&P firms have reported so far, with 75% showing positive earnings surprises. Of course, with the quarterly earnings cycle being how it is, and earnings expectations often set low, the surprise statistic isn’t really that ‘surprising.’ Though, the blended expectation for year-over-year earnings growth (which includes combining actual results so far with remaining estimates) has fallen from -7% on June 30 to now -9%. On the positive side, estimated earnings gains of 30% in consumer discretionary and 14% in communications are at the top, while declines of -51% in energy, -34% in materials, and -29% in healthcare represent the low end. Revenue growth is strongest in financials, at 8%, and lowest in energy, at -29%. The poor energy results are in line with a drop in crude oil prices over the past year of over -20%, although that acts as a positive for other sectors that count petroleum as an input cost.  

In addition to revenue and earnings results vs. expectations, management commentary and ‘outlook’ during quarterly calls remain additional wildcards that can end up boosting or working against individual company stock prices. This hasn’t been a completely smooth ride, with results from usually-boring firms such as State Street Bank coming in slightly better than expected, yet the share price fell in the double-digits. Net interest income, a key factor in banking revenue, has again risen in focus with the ongoing treasury yield curve inversion (which works against how banks tend to make money when the yield curve is in its normal positive, upward-sloping state). Markets are very fickle, and naturally want it all. Another concern this earnings season is the ability for firms to maintain their high profit margins, which have been running several percent above long-term average levels for several years. One of the few positives about higher inflation is that it boosts revenue and earnings, as those are measured in nominal terms, not in ‘real’ after-inflation terms like GDP. (This is one of the reasons why stocks are considered an adequate inflation hedge over long periods of time, as inflation gets embedded into these nominal growth results.) Now, though, PPI and CPI have swung into disinflation, which threatens the high levels at which these margins are running. This coming week is the busiest for earnings releases, which could offer more interesting insights. 

Foreign stocks were mixed, with developed markets ending with small gains in local terms pulled down by a rise in the U.S. dollar. Gains in the U.K. were helped by decelerating inflation readings, which were offset by flat returns in Europe and Japan, and declines in emerging markets. Interestingly, eurozone economic growth for Q1 was revised up from -0.1% to flat, which avoids a technical recession, although the difference is minimal. EM results were largely led by a drop in China, and related markets South Korea and Taiwan. Concerns linger in China about the strength of their post-pandemic growth recovery, with a disappointing quarterly growth pace of an unannualized 0.8% in Q2, below the Q1 pace of 2.2%, and continued very high youth unemployment, which concerns government officials perhaps as much as any other economic statistic. 

Bonds were little changed last week, along with minimal changes in the U.S. treasury yield curve. Investment-grade and high yield corporates outperformed, as credit spreads tightened. Foreign bonds generally fell back as the U.S. dollar rose over a percent.  

Commodities gained ground in energy and agriculture, while industrial metals declined by several percent. Crude oil rose over 2% last week to $77/barrel. Natural gas rose 7%, with the continued U.S. heat wave ramping up the need for air conditioning. 

Period ending 7/21/2023	1 Week %	YTD %
DJIA	2.13	7.54
S&P 500	0.70	19.24
NASDAQ	-0.57	34.69
Russell 2000	1.52	12.23
MSCI-EAFE	-0.57	14.06
MSCI-EM	-1.31	7.94
Bloomberg U.S. Aggregate	0.01	2.30

 

U.S. Treasury Yields	3 Mo.	2 Yr.	5 Yr.	10 Yr.	30 Yr.
12/31/2022	4.42	4.41	3.99	3.88	3.97
7/14/2023	5.49	4.74	4.04	3.83	3.93
7/21/2023	5.50	4.82	4.09	3.84	3.91

Sources:  LSA Portfolio Analytics, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Kiplinger’s, Marketfield Asset Management, Minyanville, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, Payden & Rygel, PIMCO, Rafferty Capital Markets, LLC, Schroder’s, Standard & Poor’s, The Conference Board, Thomson Reuters, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wells Capital Management, Yahoo!, Zacks Investment Research.  Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends.  Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.                                                                                    

The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness.  All information and opinions expressed are subject to change without notice.  Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product.