Weekly Market Commentary – February 22, 2021

Economic Data Watch and Market Outlook

Last week, I wrote that the equity markets could see some consolidation based on potential clues in last week’s Fed minutes release that may have referenced “tapering”. The phase feared universally by investors did not surface, as the Fed in fact stated there would be “no reduction in asset purchases” and the economic “vulnerabilities were notable”. Such a statement would have sent rates soaring, however upside surprises in PPI (1.3% versus 0.4% projected) and retail sales (5.2% versus 1.2% estimated) sent treasury rates to their highest levels since March 2020. The 10-year yield ended the week at 1.339% (up from 0.919% end of 2020), while the 30-year rose to 2.133% (ended 2020 at 1.649%). The yield curve has steepened dramatically on reflationary expectations, with the 2-10 spread rising to 1.23% after bottoming at 0.13% on February 25, 2020 and the 5-30 spread after reaching its nadir on March 9, 2020 at 0.53% has widened to 1.52%. The sharp increase in rates took its toll on technology and growth names, while value stocks shinned as positively rate sensitive sectors such as energy and financials rallied strongly. The important question to ask is, how high can rates go before the equity  rally stops and reverses? Based on historical data provided by Citigroup dating back to the early 1980’s, the nominal rate on the 10-year would need to reach 1.70%, and real rates would need to climb above -0.50% for a correction and 0.00% for an outright sell signal. With the 10-year Treasury yield at 1.339% and the PCE at 2.4% on a rolling six-month basis, we are a decent distance away from an equity market sell signal.

As we enter next week’s trading sessions, we will see if the recent trend of investors buying on the dip continues. Recent equity market setbacks seem to bottom out at down -3.0% to -5.0%, as investors jump in and buy to reverse the downtrend. Investor confidence has been buoyed by the growing rollout of the COVID-19 vaccine, increased confidence that new and large fiscal stimulus package will be approved, and better than expected corporate earnings. With 83% (419 companies) of the S&P 500 having reported, 79% and 74% have beaten their earnings and revenue estimates. The average beat on earnings has been a strong +14.6%, and the blended earnings for the Index has far exceeded projections, coming in at +3.2% versus the initial estimate of -9.3%. The equity markets can have a positive trend next week after the short consolidation, however a potential speed bump could be Friday’s release of the Fed’s preferred inflation indicator the PCE. A sizable upside surprise in the PCE would send rates higher and equity prices lower.

In turning to the coming week’s economic calendar,  the week will be filled with housing, personal consumption and spending data, and the all important PCE report. On Wednesday, the February Conference Board Consumer Confidence Index is estimated to have decline 0.3 points to 89.0. The slight drop is most probably associated with the recent rise in new COVID-19 cases.

The New Single Family Home Sales report for January is projected to show an increase of 2.1% to 860,000 units on a seasonally adjusted annual rate.  The rise shows housing continues to benefit from low mortgage rates.

On Friday, the Personal Income report is projected to show a surge of 10.3% in January, with much of the increase coming from transfer payments approved in the December stimulus package. Within the same report, the PCE Price Index for January is expected to show a rise of 0.5%, while the core PCE increased by 0.38%.  Despite the rise, the PCE at 1.6% and core measure at 1.7% on a year over year basis both remain below the FOMC’s inflation target of 2.0%.

The Week In Review

U.S. Equities

US equity markets were mixed as soaring interest rates prompted by better-than-expected US retail sales and PPI increases, caused equities to mostly decline last week.

US Index Performance

  • Dow Jones +0.16%  MTD +5.22%  YTD +3.17%
  • S&P 500 -0.68%  MTD +5.29%  YTD +4.23%
  • Russell 2000 -0.98%  MTD +9.37%  YTD +14.88%
  • NASDAQ -1.57%  MTD +6.87%  YTD +7.65

Drivers: I) The stimulus package passed in December has already bolstered growth and there is an anticipated $1.9 trillion of additional fiscal support under consideration. The additional stimulus along with the abatement in new COVID-19 cases, are highly supportive of economic growth, prompting Street economists to revise GDP growth higher. JPMorgan has raised Q1 GDP estimates (5.3% to 6.4%) and for the year (2.6% to 2.8%).

II) The late December round of fiscal stimulus helped push January retail sales up by 5.3%, well above the consensus estimate of 1.2%.  The $600 stimulus checks from the December fiscal package paid out in January, boosted sales particularly in discretionary products including electronics and sporting goods.

III) The FOMC minutes from the late January meeting intimated that asset purchases should remain intact. The Fed officials stated that the economy was “far from the goals” of making substantial further progress on inflation and employment.  Further, they stated it would take “some time” before they would think about tapering. But if they altered their thoughts on tapering, they would communicate a change “well in advance” of that decision.

IV) Equities Month to Date are higher with Small-Cap, Value, Energy, and Financials leading equity price performance. The laggards for the period are Large-Cap, Growth, Utilities and Healthcare.

Capitalization: Large Caps +5.80% (YTD +4.92%), Mid-Caps +8.47% (YTD +8.18%) and Small Caps +9.37% (YTD +14.88%). Style: Value +9.36% (YTD +12.30%) and Growth +7.55% (YTD +10.96%). Sector Groups: Energy +17.43% (YTD +21.86%), Financials +11.84% (YTD +9.96%), Communication Services +9.10% (YTD +8.85%), Consumer Discretionary +4.62% (YTD +5.43%), Information Technology +5.61% (YTD +4.82%), Technology +5.48% (YTD +4.50%), REITs +3.57% (YTD +4.11%), Materials +6.19% (YTD +3.68%), Industrials +7.27% (YTD +2.66%), Healthcare -0.59% (YTD +0.81%), Utilities -1.22% (YTD -2.12%), and Consumer Staples +1.28% (YTD -3.76%)

European Equities

The MSCI Europe Index rose last week as the Euro-zone saw the IHS Markit Composite PMI in January rise for a second month in a row.

Drivers: I) Euro-zone manufacturing continued its strong recovery, led by the growth in Germany where manufacturing output rose by 3.2 points to 62.2.  Manufacturing across the region was also strong, but lower than the reading from Germany.  France showed a rise of 2.8 points to 52.4, while the rest of the Euro-zone posted a 2.6-point increase to 54.7. German exports are benefitting from the revival of global economic growth.

II) Household Confidence for February in the Euro-zone came in at -14.8, above the January reading of -15.5. Confidence has been stymied by the strict virus related lock-downs that have been in effect throughout the region since January. The sentiment reading has been impacted by concerns over household finances, which have been negatively hit by the pandemic.

III) Performance of European Indexes for the week, month-to-date and year-to-date. The MSCI Europe Index was higher by +0.41% for the week (MTD +4.75% YTD +3.23%).

Asian Equities

Asian markets rose last week on optimism over the COVID-19 vaccine rollout, and Japan’s monthly purchasing managers’ index for manufacturing which jumped to its highest level in over two years. The DJ Asia Index was higher by +0.44% for the week, (MTD +8.53% YTD +10.23%).

Drivers: I)  In Japan,  the Composite PMI for February rebounded with a 0.5-point rise to 47.6, with the manufacturing sector driving the improvement.  The Services sector saw a decline of 0.3 points due to the extended state of emergency, while manufacturing rose by 0.8 points to 50.6.  The rise in manufacturing was led by the increase in the output and new orders indexes, which rose by 2.1 points to 51.3 and 0.9 points to 51.0 respectively.

II) In China, high frequency economic data is showing a sharp improvement in Lunar New Year Golden Week activity for 2021 versus 2020. Economic activity collapsed last year due to cross-region travel lock-downs, but local consumption has been strong this year, with retail sales activity up 28.7% year over year. Movie box office sales have risen to a record RMB 7 billion, which is 20% higher than in 2019.

III) Performance of Asian Indexes for the week, month-to-date and year-to-date. The Nikkei rose by +1.69% (MTD +8.51% YTD +9.39%), the Hang Seng Index was higher by +1.56% (MTD +8.34% YTD +12.52%) and the Shanghai Composite was advanced by +1.12% (MTD +6.12% YTD +6.42%).

Fixed Income

The 10-year and 30-year Treasury yields experienced their sharpest rise in over six weeks, as the combination of increasing inflation fears and expectations for further fiscal and monetary stimulus drove rates higher. Performance: I) The 10-year Treasury yield rose last week ending at 1.339% up from 1.209%. The 30-year yield advanced last week finishing at 2.133% rising from 2.014%.

II) Performance for the week, month-to-date and year-to-date. The Bloomberg Barclays US Aggregate Bond Index fell by -0.57% last week, MTD -1.09% and YTD -1.80%. The Bloomberg Barclays US MBS TR was lower by -0.20% last week, MTD -0.38% and YTD -0.30%. The Bloomberg Barclay’s US Corporate HY Index declined by -0.05% for the week, MTD +0.96% and YTD +1.30%.

Commodities

The DJ Commodity Index rallied last week by +1.58% and is up month to date +7.01% (YTD +10.89%). Commodity prices continued their strong climb, as industrial metals such as copper hit multi-year highs as global industrial production remains strong, and agricultural commodities are seeing strong demand from China.

Performance: I) The price of oil declined last week by -1.20% to close at $59.01 and is higher month to date by +13.17% (YTD +21.62%). Oil declined in price on expectations the shutdown in crude production due to the winter storms in Texas will soon be restored, and rumors the Biden administration would open negotiations Iran which could bring two to three million barrels of Iranian oil back into the market.

II) The ICE USD Index, a gauge of the U.S dollar’s movement against six other major currencies, was lower by -0.12% ending at 90.34 for the week (MTD -0.21% YTD +0.46%). The USD declined last week on rising global bond yields and wider vaccine distribution will soon re-open economies and accelerate economic growth.

III) The price of gold declined last week as expectations of a sharp global economic rebound and rising global interest rates curbed demand for the precious metal. Gold dropped in price by -2.27% last week, declining to $1783.1 (MTD -3.60% YTD -5.91%).

Hedge Funds

Hedge fund returns in February are positive for the month with all of the core strategies Equity Hedge, Event Driven, Macro/CTA, Relative Value and Multi-Strategy higher.

Performance:

  1. The HFRX Global Hedge Fund Index is higher at +2.38% MTD (+2.21% YTD).
  2. Equity Hedge advanced by +3.85% MTD (+2.77% YTD).
  3. Event Driven is up MTD +2.18% (+2.81% YTD).
  4. Macro/CTA has risen by +2.46% MTD (+1.87% YTD).
  5. Relative Value Arbitrage is higher by +0.91% (+1.24% YTD).
  6. Multi-Strategy is up MTD by +0.79% (+1.04% YTD).

Data Source: Haver Economics, Standard & Poor’s, HFR, Bloomberg, Morningstar and FactSet

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