Escalator up. Elevator down. That is the way of the Stock Market. It’s an old saying. It’s a long-term theme. The volatile price action can be gut-wrenching. It’s certainly not everyone’s favorite ride. Wouldn’t it be nice if Market price action was more like the beach, with the tide consistently and soothingly rolling in and out? Some days are calm, I suppose. Not the last few weeks.
The Market had a strong rally Friday, on the back of a much better February Job Report than expected. 379K jobs were created last month, well ahead of the 180K estimate. Unemployment fell to 6.2%. The Leisure & Hospitality industry was the big gainer after big losses for months. That’s Travel, Restaurants and Entertainment. The area that has been hurt so much by the pandemic is showing signs of acceleration in recovery as the vaccine rollout broadens.
The Friday rally was far from certain though. The overnight Futures went from red to green on the Job Report. Stocks opened the regular session higher, but hit resistance at the 3800 level on the S&P. That coincides to approximately 31,200 on the Dow. That was a level that for weeks had been support, bringing buyers back in. This morning it brought sellers. The selling was sharp, taking the S&P below the breakeven point on the year. The 2021 gains were erased. There have been quick intraday panics for both buyers and sellers. This is price action that is suggestive of bottom formation, but it’s too early to know. It was a critical day however, one that resolved itself to the upside, capping an ugly week with some green shoots to study over the weekend.
Investors had been looking to February to turn the tide with an accelerating reopening theme on the back of more vaccine. This is the first job report of the Biden administration. It comes as congressional Democrats rush to approve a massive economic relief package. The goal was to have bipartisan support. That goal does not look likely for achievement. There are many disagreements over how much aid the country currently needs and where it’s needed most. This debate will continue over the weekend and the weeks ahead as politicians keep politicking.
Interest rates keep rising, which has put the brakes on the stock rally. The Market was laser-focused on Fed Chair Jerome Powell’s next move. It didn’t get what it wanted. At a meeting Thursday, Powell reiterated the Fed’s slow and steady policy as the Economy improves from the pandemic, allowing inflation to rise. He basically said the same thing on Capitol Hill last month. It’s pretty much the same approach the Fed has had throughout the Covid crisis. It is an impossible job being Fed Chair. The Stock Market was showing signs of a bubble; Blame the Fed. The Stock Market is selling-off; Blame the Fed.
The sell-off in equities accelerated as the 10-year Treasury Yield jumped over 1.6%. That is the highest in over a year. The rise has been swift. The thing is, interest rates are rising for the right reason. It’s the speed that is causing the disruption, like a shock. Higher rates reflect the accelerating growth. The reopening of America is inflationary. Prices are rising again. That’s new. Investors aren’t used to inflation. We’ve been facing deflationary pressures for 2 decades.
While Powell didn’t say anything new, the Market was focused on what he didn’t say. The environment has changed significantly since he last made a public appearance. Treasury yields have spiked, along with a broader rise in borrowing costs, and the big concern is that these moves could be destabilizing. The Market was clearly unstable. Rising rates hurt high-growth companies dependent on easy borrowing. It was the fastest-growing companies that saw their stocks hit the hardest. This is a complete reversal from the previous 10 months. Powell did say that if things get disorderly, the Fed has the tools to deal with them, but investors were likely looking for something that was more specific.
Many on the Street were calling for another “Operation Twist” as the yield curve steepened. That’s where the Fed buys longer-dated Bonds and sells shorter-dated Bonds to bring down rates at the longer end. The goal is to flatten the curve. It would be Operation Twist Part 3, with the first coming in 1961 in an effort to strengthen the Dollar and stimulate spending, and the second in 2011 to push down longer-term rates with the overnight Fed Funds rate at zero. Powell didn’t channel his inner Chubby Checker. The Fed Chair showed no sign he’s interested in doing the Twist. Other policy tools at Powell’s disposal include an increase in rates on excess reserves or overnight repo operations.
Instead, Fed Chair Powell spooked the Market Thursday by stating they don’t plan to address the runaway rate rise on the back-end of the curve. After a rapid runup, interest rates backed off their highs and settled back in with some calming influence. Importantly, rates are rising for the right reason, it’s just the speed that has created a bit of a shock. We would much rather see the 10-Year Treasury Yield at 1.5% rather than 0.5%, which was the crisis level from a year ago. Powell did say there is no plan to raise rates whatsoever, which should be music to the ears of the Stock Market, which has enjoyed the strong support and cheap money. The Stock Market needed correcting; It was overheated. The relentless Tech rally got ridiculous. The Tech-wreck this week makes it more interesting for investment again. That’s where we are focused now.
The good thing is that leadership has simply rotated from Growth to Cyclicals. Tech is going through a major and necessary correction, while Industrials, Financials and Energy are rallying. The reopening plays have been among the best performers with additional support from a fairly steady stream of improving Covid headlines. Traditional Energy stocks were left for dead as investors have been supremely focused on Renewable sources. Renewable Energy is the future, unquestionably. In fact, it’s already a big part of the present.
We outlined in our 2021 Outlook our preference for stocks that had not yet participated in the rally. We called them Boring Blue Chips which pay safe dividends. We looked at them as a safe-haven and a buffer against an inevitable correction for the high-flying Tech. It took a while, but it finally happened. Boring Blue Chips like Coca-Cola, Johnson & Johnson and AT&T are doing their jobs and hanging in quite well. We have started buying weakness in the Growth arena, and will continue to do so as the healthy correction runs its course.
Is the bottom in? We never know for sure. But the price action off today’s low, which was a re-test of yesterday, was impressive. There’s a lot of support in the mid 3600 level on the S&P, which is another 5% lower from today’s close. But there’s a lot of fear for lower levels now, which had been absent for a while. Get greedy when other’s are fearful. That’s been sage advice from Mr. Buffett. The reverse is true too. There was a lot of greed baked into the Stock Market for a while. Corrections are designed to get rid of the excesses. The elevator down. That fastball up and in, referenced last week, seems to have worked for now. There sure was a shakeout on Wall Street. We shall see how next week sets up with the end of the Quarter nearing and Spring on the horizon.
There is plenty of reason for optimism ahead. The President said we are on track to have enough supply for all American adults to have at least a first shot of vaccine by the end of May. That is a huge push forward from the previous expectation of July. It seems so close. Helping that cause is Merck teaming with Johnson & Johnson in a historic Corporate Union to expedite the vaccine rollout to Americans. These traditional rivals don’t plan to make any money on it. Very patriotic. The reopening of America is very real. There is so much pent-up demand to get out and recreate. People want to take a trip, go to a restaurant and spend quality time with family and friends. We might not return to normal immediately. But realistically, what is normal anyway?
Have a nice weekend. We’ll be back, dark and early on Monday.
Mike
