Summary
– S&P 500 closed at an all-time high of 4,436.52 up from 4,396.26 from last Friday. The Dow closed at an all-time high of 35,208.51.
– The week continued the seasonal ‘chop’ that often pervades the summer months. Epicenter and travel names began recovery on Thursday and continued gains on Friday.
– Earnings have continued to come in historically strong. Revenue and earnings estimates have been beat by the highest level since the first quarter of 2008.
– Despite a plethora of potentially ugly and impactful risks, the economy continues to show organic strength and positive momentum appears to still be accelerating.
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Markets had another choppy week, which is common for this type of year. They also ended at an all-time high despite fears mounting of new virus restrictions. A bumper jobs report this morning certainly helped the market gain direction. The US economy gained nearly 950,000 jobs in July which was well above the 845,000 estimate. Similarly, the unemployment rate fell more than expected from 5.9% to 5.4%, again significantly better than the estimate of 5.7%.
The report has some complicated implications as we will discuss in this week’s Fed Watch below. Find out why the hawks may have their hand helped by this blockbuster report. Not only are wage gains happening at a faster rate than recent history, but the breadth of the gains are also far more evenly distributed with much of them occurring in the low-wage sectors of leisure, hospitality, transportation and education services. This should also make the doves very happy as well.
There are a lot of all-encompassing narratives floating around in financial media. Many doomsayers use this statistic and that statistic to say we are right on the verge of a 2008-like crisis. Even sillier ones will regularly bring up reasons why we are just on the verge of a new Great Depression. Anything is possible, but we ask you to think beyond the first level. We’d urge you to take these alarmists with a heavy grain of salt. Why do we sound so confident? Well because we’ve dived into the economic data ourselves and we clearly see that America is humming under the hood.
Firstly, let’s look at housing which is often used by doomsayers to stir the residual fear still left over from the vicious markets that occurred after the mortgage meltdown. When you see concerning datapoints, like that the median existing-home price increasing 23.4% versus a year ago, it might be natural to remember that fear of the past and think something awry is indeed afoot. However, this is being driven by genuine demand. Consumers wanted to get out of the cities, and this changed the profile of demand. This is a very different situation than the deplorable moral hazard that led to the buildup of financialized systemic risk. The banking system has been a source of strength for America since March, not an overleveraged liability.
This is not to say these gains aren’t alarming and if anything tips the Fed’s hand to act earlier it will likely be these dramatic price increases showing up in the shelter component of their preferred inflation measure. So, we are watching this area closely for the potential wider impacts. Nonetheless, the demand-boom that caused the price appreciation is healthy and not driven by moral hazard or shady lending officers.
On top of this, the consumers are strong and so are adjacent markets. If you will remember one of the main lessons of the 2008 financial crisis, that equity is junior to debt, you will see more evidence that the market is in better straights than the perma-bears would like you to think. July was the busiest July ever in terms of high-yield bond sales. They came in at just under $30 bn. Most new issues were oversubscribed by at least three times. Pricing was generally at the lower end of range.
This is not to say the effect of the Delta variant is not being felt. For those who want to dismiss COVID-19, there is still plenty of human suffering and tragedy occurring as a result of its spread. Spreads on offered debt did rise to their highest level in 2 months, but they didn’t even come close to approaching levels felt early in the pandemic fear. As Jay Powell noted in his press conference last week, the economy has absorbed each successive wave of COVID-19 more effectively and we see no immediate or tangible reason why this would change despite the virulent nature of Delta.
So, the market is at all-time highs again despite fear permeating virtually every corner of the economy. Masks are coming back; conferences are getting cancelled and people with comorbidities are dying in concerning numbers in the United States. Despite this, the appetite of lawmakers for lockdowns in the US at least, seems low. It sure sounds like the market is climbing a wall of worry, as the old saying goes. We are not proclaiming we know with certainty which way the future will turn out. We are never doing that. However, we do want you to read between the lines and investigate the data yourself. Headlines are rarely short enough to complex economic insights, so as a result, they often DON’T!
We could be on the verge of a depression. This is always possible. However, if we were, don’t you think it is peculiar that the ISM Services PMI hit an all-time high marking the fastest pace of service sector growth, ever? The services sector is about three quarters of GDP. We are also highly encouraged new orders of capital goods, which is a proxy for future confidence, hit an all-time high as well and is up by 16% since the beginning 2020. This confidence isn’t usually exuded on the eve of recessions.
So, from several vantage points it does not appear economic momentum has peaked. It appears there’s still a lot of gas left in the tank, so to speak. Energy is still our favorite sector. We know it’s been tough. We feel it too. We are convinced the cash-flow rich management of Energy firms have found a pro-shareholder religion and it’s only a matter of time before conversions begin.
There is still pent-up demand from consumers, but one of the stories that many in the financial media may be missing is the pent-up demand the businesses have to invest in the future. They are sitting on record amounts of unused credit. Despite the rise of the problematic variant, business confidence is at the highest level in the 11-year history of JPM’s survey. Nearly half expect to increase CapEx in the coming quarters. There are a lot of risks in the air. There is a lot to monitor and watch. However, we are biased toward a ‘risk-on’ rally this month, as my colleague will further elaborate on below.
