Tag: west texas intermediate

Weekly Recap:

Macro news released last week showed continued normalization of the labor market. JOLTS job openings fell to 8.8 million, the lowest print in more than 2 years. And while monthly nonfarm payrolls were in line with consensus at +187k, several of the underlying components of the report were a bit soft. Net NFP revisions for the prior 2 months totaled -110k, average hourly earnings rose just 0.2% m/m (the lowest in over a year), and the labor force participation rate rose to 62.8%, the highest level since February of 2020. Lastly, the unemployment (U-3) and underemployment (U-6) rates both rose, to 3.8% (+30bp) and 7.1% (+40bp), respectively.

Rate volatility continued to subside as August drew to a close, allowing most financial asset prices to rise. The ICE BofA MOVE Index (essentially the equivalent of VIX for interest rates) fell ~7% on the week to close at 102.92, the lowest level since early February and one of the lowest prints since the Fed first began raising interest rates nearly 18 months ago. Rate vol is still elevated relative to the second half of 2020, however, when the Fed’s ZIRP pandemic response looked set to continue for years to come. See the Chart of the Week (bottom left of the page) for a time series.

With rates (and rate vol) falling and credit spreads stable, bond prices rallied for the second week in a row. Stocks finished higher as well, with growth sectors outperforming while defensive sectors lagged. That’s been the trend throughout much of 2023, resulting in what is now fairly dramatic dispersion in YTD sector returns (see bottom right chart for details). This same dynamic (growth outperforming, defensives lagging, with cyclicals in the middle) also shows up in the YTD performance difference between the Nasdaq (+34.9%) and the Dow (+6.7%), with the S&P 500 (a blend of the two from a sector standpoint) sitting almost squarely in the middle (+18.9%).

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Fed Funds Futures now show a slight odds-on probability of one addition 25bp rate hike before year-end.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

The Jackson Hole Economic Symposium was last week’s main event, with investors focused on Fed Chair Jerome Powell’s Friday speech as an indicator of near-term monetary policy. Powell struck a hawkish tone as he continued to emphasize that inflation remains too high for the committee’s liking, and that additional policy tightening may still be warranted. An unexpected (albeit mild) increase in inflation expectations in the final August release of the University of Michigan’s Consumer Sentiment survey lent credence to Powell’s determined inflation-fighting stance.

Otherwise, macro data released last week was mixed. Existing home sales (-2.2% m/m) remain muted thanks to affordability issues and low inventory, both caused by high mortgage rates. Several regional Fed activity surveys (Philly, Richmond, and KC) remain near or in contraction territory. S&P’s US Composite PMI fell to 50.4, a third straight decline led once again by weakness in manufacturing. On the flip side, durable goods ex-aircraft came in ahead of expectations at +0.5% m/m in July, and initial jobless claims fell for the 2nd straight week as labor remains strong.

Yields were pushed higher at the front end of the curve by Powell’s speech, but yields in the belly and long end of the curve fell, reversing what had been a steady grind higher over the previous five weeks.

Growth stocks were the main beneficiary of the yield curve’s twist, as the reversal eased some of the recent pressure on P/E multiples. Cyclicals and defensives lagged. Blowout earnings from tech bellwether Nvidia also helped boost demand for stocks related to the generative A/I theme, including the mega-caps that dominate the Nasdaq, extending to strong YTD outperformance of that index.

Albion’s Four Pillars:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Fed Funds Futures now show a slight odds-on probability of one addition 25bp rate hike before year-end.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Stocks fell for the 3rd week in a row as a combination of rising rates and China growth concerns weighed on P/E multiples. US investors woke up Monday morning to a slew of weak July macro data coming out of China, as a long-simmering decline in the Chinese property sector showed signs of bleeding into the broader economy:

* Industrial production fell 70bp to +3.7% y/y vs. consensus of +4.3%

* Retail sales fell 60bp to +2.5% y/y vs. consensus of +4.0%

* Property investment fell deeper into contraction at -8.5% YTD

The People’s Bank of China responded to the weakening economy by cutting its benchmark 1y lending facility rate by 15bp, to 2.50%.

Meanwhile, rates continued to leak higher in the US as fresh macro data showed a continuation of recent trends, including a resilient consumer (July retail sales accelerated), weak manufacturing (Empire Manufacturing sank deeper into contraction territory), mixed signals in housing (starts and permits showed modest gains, but builders report a decline in buyer traffic), and a strong labor market (initial jobless claims fell after a bump higher the previous week). Finally, the Conference Board’s Leading Economic Index (LEI) fell for the 16th month in a row.

Rising nominal yields combined with stable longer-term inflation expectations have pushed real 10y US Treasury yields (nominal yield minus inflation breakevens) to their highest levels since late 2008 / early 2009, when the threat of deflation during the depths of the financial crisis caused long-term inflation expectations to collapse. Dislocated markets aside, the current ~2% real yield on the 10y is more comparable to the pre-GFC market environment that prevailed in the mid-2000s. See the Chart of the Week for a time series.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets now imply that the Fed Funds overnight interest rate will remain unchanged at 5.25-5.50% until at least March of next year.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Stocks were mixed and bonds were mostly lower last week despite July inflation data that came in close to expectations:

* Headline CPI was +0.2% m/m and +3.2% y/y (slightly below consensus of +3.3%)

* Core CPI was +0.2% m/m and +4.7% y/y (in line with consensus)

* Headline PPI was +0.3% m/m and +0.8% y/y (10bp above consensus on both)

* Core PPI was +0.3% m/m and +2.4% y/y (also 10bp above consensus on both)

In addition, Friday’s preliminary August release of the University of Michigan’s Consumer Sentiment survey showed a 10bp decline in 1-year forward inflation expectations, from 3.4% to 3.3%, while longer term (5-10 year) expectations also declined by 10bp, from 3.0% to 2.9%.

Despite the relatively encouraging inflation outlook, US Treasury yields continue to be pulled higher by a combination of domestic supply technicals and the potential for shifting relative value versus Japanese Government Bonds (JGB’s) as the Bank of Japan relaxes its long-held policy of yield curve control. Yields moved higher across the curve last week as a result, sending most bond prices lower.

Stocks finished mixed against this backdrop. Idiosyncratic winners included energy stocks, which have been lifted by the rising tide in oil and gas prices over the past six weeks, and a handful of healthcare names (particularly Eli Lilly) that were the beneficiary of investor enthusiasm regarding the mass market potential of new weight-loss drugs. On the other side of the ledger, most technology stocks were lower on the week as rising rates impacted P/E multiples for longer-dated growth companies.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets now imply that the Fed Funds overnight interest rate will remain unchanged at 5.25-5.50% until at least March of next year.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Last week Fitch Ratings became the second credit rating agency to downgrade the sovereign rating of the United States one notch from AAA to AA+ (the first was S&P in 2011). While arguably of no real concern in terms of a direct impact on US borrowing costs, this move did dampen sentiment and may have contributed to lower stock and bond prices.

Meanwhile, the Treasury yield curve steepened last week due to a combination of supply technicals and macroeconomic data. At the front end of the curve, rates were lower on the week after dropping significantly on Friday thanks to a soft(ish) nonfarm payroll report. Futures markets discounted the probability of another rate hike this year, while 1y Treasury yields fell 8bp and 2y yields dropped 9bp.

Conversely, rates rose in the belly and long end of the curve thanks to the announcement of greater-than-expected supply of new borrowing from the US Treasury, which in turn contributed to P/E multiple compression, sending stock prices lower.

The most significant macro data last week was the monthly nonfarm payroll report from the Bureau of Labor Statistics. While unemployment remains near historic lows, the report was slightly softer than expected on balance:

* Change in nonfarm payrolls = +187k vs. consensus of +200k (net 2m revision -49k)

* U-3 Unemployment = 3.5% vs. previous month 3.6%

* U-6 Underemployment = 6.7% vs. previous month 6.9%

* Average hourly earnings = +0.4% m/m (prior month was also +0.4%)

* Average weekly hours = 34.3 (down 0.1 from prior month of 34.4)

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets now imply that the Fed Funds overnight interest rate will remain unchanged at 5.25-5.50% until at least March of next year.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Better-than-expected inflation data drove rates lower across most of the curve last week, which in turn facilitated P/E multiple expansion and sent stocks higher.

The party got started in earnest on Tuesday, when core and headline CPI both came in below expectations for the month of June. Closely watched core CPI was just +0.2% m/m and fell to +4.8% y/y, while headline CPI also printed at +0.2% m/m and dropped to +3.0% y/y thanks to much lower energy prices relative to this time last year. See the Chart of the Week for a time series of the y/y change in core and headline CPI.

Further upstream, PPI printed at +0.1% m/m across the board (headline, core, and ex trade), with headline PPI nearly entering outright deflation territory for the first time since 2020 at just +0.1% on a y/y basis as well.

The inflation news sent rates lower across the curve, and the likelihood of a second additional rate hike before year-end flipped from odds-on to odds-off (a single 25bp hike at the July meeting appears all but assured at this point).

P/E multiples flexed up on falling discount rates, pushing most US equity benchmarks higher by 2-3% with duration-sensitive growth sectors outperforming. International stocks also outperformed, but continue to lag the US on a YTD basis.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets are currently pricing 1-2 additional 25bp rate hikes over the summer, with no rate cuts expected before year-end.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Last week was a tough one for stocks and bonds alike, as resilient labor market data lent support to the Fed’s “higher for longer” interest rate road map:

• JOLTS job openings remained historically elevated at 9.8 million
• ADP employment change nearly doubled m/m at 497k for May
• Nonfarm payroll growth of 209k in June was the 30th straight month over 200k
• U-3 unemployment fell 10bp to 3.6%
• Average hourly earning growth accelerated to +0.4% m/m and +4.4% y/y

Minutes from the June FOMC meeting were also released last week, and painted a picture of a less unified committee than the unanimous decision to pause might have suggested. Some committee members had advocated for raising rates by another 25bp, specifically because of the historically tight labor market.

The combination of somewhat hawkish meeting minutes and the ensuing strong labor market data has convinced most investors that another 25bp rate hike is coming at the FOMC meeting later this month. Meanwhile, the belly and long end of the Treasury curve shifted higher by ~20bp as investors recalibrated their longer term inflation and interest rate expectations, pushing the entire curve above 4% for the first time since October/November of last year.

The incrementally more hawkish outlook for monetary policy pushed equity prices lower as well. The selling was broad-based across sectors, market caps, and geographies, with most US and global benchmarks down 1-2% on the week.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy showed resilience in the first half of 2023, and Wall Street analysts expect full-year corporate earnings to be roughly flat y/y. Albion’s base case expectation is that the US economy will enter recession in the second half of 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 due to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets are currently pricing 1-2 additional 25bp rate hikes over the summer, with no rate cuts expected before year-end.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Stocks moved lower last week on a cocktail of soft economic data and a reminder from Jerome Powell that the Fed is not done raising interest rates. On the latter point, Powell testified before the US Senate Banking Committee that “it will be appropriate to raise rates again this year, and perhaps twice.” Fed fund futures have not yet bought into the notion of multiple additional rate hikes this year, but are now taking Powell at his word that there will be one more, and the no rate cuts will occur until at least early 2024.

Macro data was mostly weaker last week, with one exception: housing. Residential building permits rose to nearly 1.5 million, while housing starts jumped to more than 1.6 million, with significant increases in both single-unit and multi-family. Absent a recession, it increasingly appears that the cyclical trough in US housing activity may have occurred around the start of this year.

Otherwise, macro data released last week was not encouraging. Initial jobless claims printed at 264k, pulling the 4-week moving average above 250k for the first time since November of 2021. Meanwhile, S&P Global’s US Composite PMI slipped sequentially in the preliminary June reading, with m/m declines in the manufacturing and services components. And finally, the Conference Board’s Leading Economic Index (LEI) fell sequentially for the 14th consecutive month.

The consequence of all this was a broad-based pullback in US stocks, with cyclical sectors (industrials, materials, financials, and energy) all underperforming as the nearterm direction of the economy became the primary concern.

Albion’s Four Pillars:

Economy & Earnings

The US economy enjoyed a strong second half of 2022, but growth has slowed in early 2023 and corporate operating margins have fallen as labor and input cost pressures bite. Albion’s base case expectation is that the US economy will enter recession in 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 19x is above the long run average, so valuation could be a mild headwind to future returns. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the mid single digits.

Interest Rates

Rates rose dramatically in 2022 in response to a sharp pivot in monetary policy, and have remained elevated in 2023 as progress on inflation has been slower than hoped. Futures markets are currently pricing one additional 25bp rate hike over the summer, with no rate cuts expected before year-end.

Inflation

After reaching 40yr highs in spring of 2022, inflation has moderated somewhat over the past 12 months. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

Stocks were mixed and bonds were lower last week, as somewhat hawkish comments from regional Fed presidents (and FOMC members) Raphael Bostic and James Bullard outweighed a clear weakening in incoming economic data.

Starting with the economy, most forward-looking metrics deteriorated last week. After a sharp rebound in activity in February, housing starts and new residential building permits fell sequentially in March, calling into question whether the nascent housing recovery is sustainable. Initial jobless claims continued to drift higher, extending the trend that began in March. And finally, the Conference Board’s Leading Economic Index (LEI) fell sequentially for the 12th month in a row, to a level that historically has been consistent with the onset of recession within a few months.

However, unlike earlier periods this year when a softening economy was met with optimism that the Fed may soon pivot to rate cuts, the comments from Bostic and Bullard served as a reminder that the Fed is firmly committed to the inflation fight. In response, Fed Fund Futures lowered the odds of any rate cuts happening in the back half of the year and yields rose across the Treasury curve, pushing bond prices lower.

The impact on equity prices was mixed as there was a discernable rotation across styles and sectors. Longer-dated growth stocks underperformed, causing the Nasdaq to lag the Dow and S&P. Defensives (staples, real estate, and utilities) held up better, to the benefit of small and midcap benchmarks with greater exposure to those sectors.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy enjoyed a strong second half of 2022, but corporate operating margins have been gradually falling as labor and input cost pressures bite. Albion’s base case expectation is that the US economy will enter recession in 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 18x is above the long run average. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the single digits.

Interest Rates

Rates rose in 2022 in response to a sharp pivot in monetary policy, but have mostly fallen (except for the very front end) so far in 2023. Futures markets are currently pricing in one additional 25bp rate hike in May, followed by a pause with the possibility of rate cuts in the back half of the year.

Inflation

After reaching 40yr highs in spring of 2022, inflation moderated in the second half of the year. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.

Weekly Recap:

It was a strong week for equities after inflation data for March came in slightly below expectations, although rates markets did not share in the enthusiasm after fresh survey data revealed that consumers’ near-term inflation expectations are rising.

Fresh inflation data was abundant last week. First, headline CPI was +0.1% m/m in March and fell to +5.0% y/y, while core CPI was +0.4% m/m and increased slightly to +5.6% y/y. Meanwhile, headline PPI was -0.5% m/m and fell to +2.7% y/y, the first time aggregate input price inflation has been below 3% since early 2021. Finally, import (-0.6% m/m) and export (-0.3% m/m) prices both fell sequentially.

Despite these clear disinflationary (or in some cases outright deflationary) trends, the University of Michigan’s monthly consumer sentiment survey showed a sharp uptick in 1-year forward inflation expectations, jumping from a final print of +3.6% in March to a preliminary April reading of +4.6%.

Knowing that the Fed has heightened sensitivity to inflation expectations, bond investors responded to the U of M survey by pushing yields higher across the curve on Friday, resulting in price declines for most high quality fixed income.

Equities also gave back some of their WTD gains on Friday after the U of M survey release, but key US benchmarks still managed to finish in the green for the week. Somewhat surprisingly, cyclicals were the biggest winners, despite the mid-week release of FOMC minutes containing a staff economic outlook that included a mild recession later this year.

Albion’s “Four Pillars”:

Economy & Earnings

The US economy enjoyed a strong second half of 2022, but corporate operating margins have been gradually falling as labor and input cost pressures bite. Albion’s base case expectation is that the US economy will enter recession in 2023, putting downside pressure on earnings.

Valuation

The S&P 500’s forward P/E of 18x is above the long run average. More predictive metrics like CAPE, Tobin’s Q, and the Buffett Indicator (Mkt Cap / GDP) suggest that compound annual returns over the next decade are likely to be in the single digits.

Interest Rates

Rates rose in 2022 in response to a sharp pivot in monetary policy, but have mostly fallen (except for the very front end) so far in 2023. Futures markets are currently pricing in one additional 25bp rate hike in May, followed by a pause and then multiple rate cuts in the back half of the year.

Inflation

After reaching 40yr highs in spring of 2022, inflation moderated in the second half of the year. Goods inflation has fallen due to softening demand and excess inventory, while services inflation remains elevated, in part due to shelter costs which are somewhat lagged.