“The battles that count aren't the ones for gold medals. The struggles within yourself – the invisible, inevitable battles inside all of us – that's where it's at.” ~Jesse Owens, Olympic gold medalist (1936)

Good evening,

After the Federal Open Market Committee meeting on Wednesday, July 31, we had expected markets to rally. Instead, they got bludgeoned over the next three trading days. It was an inauspicious start to August, already associated with historical/seasonal challenges (in non-bear markets since 1950, markets have ended August higher than they began the month only 39% of the time). 

As followers of our work will recall, the selloff was largely triggered by a soft jobs report released on August 2 that sparked fears of a recession. Fundstrat Head of Research Tom Lee had immediately expressed skepticism about what the report implied. Despite assertions to the contrary by the Bureau of Labor Statistics, he questioned whether the impact of Hurricane Beryl on Texas and its job market had caused – in his words – a “fluke” in the labor statistics. 

After all, on July 8, Beryl knocked out power to 1.3 million homes in Texas for several weeks, and this coincided with a surge in July jobless claims in the state. This week, Lee’s theory was arguably strengthened when Texas reported weekly jobless claims falling to 20,264 from 25,078 the week prior, a sharp decline of 4,814. 

Also reassuring to those worried about the labor market were this week’s jobless numbers: 233,000 initial claims for unemployment benefits, versus Street expectations of 240,000, and compared to 250,000 initial claims last week. Markets rallied on this news – evidence to Lee that the three days of equity carnage we saw on August 1, 2, and 5 were indicative of a growth scare rather than the beginning of a bear market or recession. 

Head of Technical Strategy Mark Newton had an orthogonal observation about the rally. “For most of the year, bad news has been good news for stocks. Anything that's been bad for the economy has caused rates to pull back sharply to the benefit of the stock market. That recently has ended,” in his view.

Or as Head of Data Science Ken Xuan put it during our weekly research huddle: “I think bad news is bad news again.”

During the selloff, fear (as measured by volatility) surged, with the VIX on Monday reaching 66, its third-highest level ever. (Only during the pandemic and the 2008 Global Financial Crisis did the VIX go higher.) As of Friday afternoon, the VIX had fallen back to around 20, which, while less extreme, is still elevated and suggestive of fearfulness in the market. 

Anecdotally, Lee told us that “I did multiple client Zooms this week, including one in which more than 2,000 investors tuned in. On the margin, the sharp three-day decline of 8% rattled the confidence of many institutional investors, and our conversations revealed investors are still leaning cautious/bearish given the poor price action and mounting concerns of a recession.” 

Head of Technical Strategy Mark Newton saw similar sentiment in technical indicators. “We saw a huge overbalance in declining versus advancing issues, as well as volume to the downside. We now technically have hit ‘extreme fear’ based on the Fear and Greed Index.” As he noted, historically, these are the types of things that are seen “near when the market tends to bottom out.” 

In any case, the selloff has not been as worrisome to Newton as one might expect. “The equal-weighted S&P 500 barely fell at all, and we’ve seen recent all-time highs in Financials and Industrials. The broader indices might make some think the market’s selling off,” he said, “but look at what non-Technology sectors have done since the market peak on July 16. We've seen REITs, Utilities, Healthcare, Financials, and Industrials all up more than 5%. That's actually a very good sign for the market despite the fact that Tech has been falling. So I think a lot of this fear is unfounded.” 

That is not to say that Newton is near-term optimistic. “I still think we're in a tough spot between now and the election. I don't think it's going to be a straight shot to the downside or the upside. I sense it's going to be a tough, choppy couple of months,” he warned. 

Fundstrat Head of Research Tom Lee acknowledges the seasonality factors at play, but in his view, “much of the ‘badness’ of this August was front-loaded and has already passed.” While agreeing that the technical damage done by the selloff will take time to repair, Lee suggested that “in fact, the selloff arguably left the market in better shape than before.”

Perhaps the biggest reason for Lee’s assertion is the change in expectations for the Federal Reserve. As implied by Fed Funds Futures trading, markets now anticipate as many as five rate cuts from the Fed before the end of the year – a huge step up from three months ago, when the market was resigned to just one cut before the end of December. We can see this in our Chart of the Week:

The latest jobs scare could force the Fed to move away from its backwards-looking approach of data dependence. “There is a growing chorus of economists urging the Fed to shift away from data dependence for logical reasons,” Lee observed, adding: “As evidence grows of a softening labor market, being data-dependent risks the Fed being too late.” 

Nevertheless, like Newton, Lee urges caution this month. “As many are aware, it is hard to make money in August. Seasonal trends tend to be worsened by the diminished liquidity, as many take vacations in August.”

Elsewhere

A U.S. court ruled that “Google is a monopolist,” finding that the Alphabet subsidiary illegally used distribution agreements with browser developers, smartphone companies, and mobile carriers to unfairly maintain anti-competitive dominance in web search and text advertising. Google said it plans to appeal the ruling. 

Hurricane Debby made landfall this week, killing at least five in Florida before swamping Savannah, Georgia, and Charleston, South Carolina. The slow-moving Debby dumped nearly 20 inches of rain in parts of Florida, and only slightly less in parts of Georgia and the Carolinas.

Bangladesh’s Sheikh Hasina resigned her post as prime minister after weeks of deadly protests, fleeing to neighboring India as dissidents stormed the official residence and began looting it. The country’s parliament was subsequently dissolved and Nobel Peace Prize Laureate Muhammad Yunus was named to lead the interim government until elections can be held. What began weeks ago as demonstrations against a quota system that set aside government jobs for descendants of veterans of the country’s war for independence escalated after government forces responded violently. More than 400 protesters are alleged to have been killed during the unrest. 

A previously announced plea deal with the accused terrorists of the 9/11 attacks has been revoked. Khalid Sheikh Mohammed, Walid Muhammad Salih Mubarak bin Attash, Mustafa Ahmed Adam al-Hawsawi, Ramzi bin al-Shibh, and Ali Abdul Aziz Ali had reportedly agreed to plead guilty to all charges in exchange for the death penalty being taken off the table, but Secretary of Defense Lloyd Austin nullified the agreement and announced that the military court officer who signed the agreement has had his authority in the matter withdrawn.

The Biden administration announced $450 million in CHIPS Act grants to SK Hynix to help the South Korean maker of memory chips build a manufacturing facility in Indiana. The announcement means that all five bleeding-edge semiconductor companies in the world have agreed to build facilities in the U.S. (The administration had previously awarded CHIPS incentives to Intel, Taiwan Semiconductor Manufacturing Company, Samsung, and Micron.) SK Hynix will also invest an estimated $3.87 billion in the facility.

And finally: Michael Bloomberg continued his philanthropic efforts in the field of medicine, announcing $600 million in donations to the endowments of four historically Black medical schools in hopes of training more Black physicians. Black Americans are underrepresented in the medical field relative to their share of the population, a disparity many experts cite as an important reason why Black Americans fare worse in many measures of health.