The U.S. stock market just put in its best week of 2023 as Treasury yields tumbled, stoking hopes for an early “Santa rally” to end the year. Scrooges say there’s still plenty that stands in the way.
“I don’t believe in this rebound and I don’t think we get a year-end rally,” said Jason Hsu, chief investment officer at Rayliant, in a phone interview.
Doubters contend early signs of a cooling labor market, which is currently reinforcing market expectations the Federal Reserve is finished hiking rates, remains likely to curdle into a full-blown slowdown that crimps consumer spending and whacks corporate earnings in coming quarters.
Bulls counter that the consumer is holding up well coming off remarkably strong third-quarter gross domestic product growth that defied economists’ predictions the U.S. would be in recession by now. Consumer spending has remained robust, rising by 4% from July to September.
Consumer credit is where bearish investors see trouble brewing. “Data suggests the consumer is tapped out in terms of credit,” Hsu said.
Consumers, previously flush from pandemic stimulus payments, have been increasingly reliant on credit cards to fuel spending. Revolving credit as a share of personal spending sits below pre-COVID levels, but the trend is “concerning,” said Michael Reid, U.S. economist at RBC Capital Markets, in a note.
Personal interest payments as a percentage of disposable income hit 2.7% in September and will continue to rise as federal student loan payments resume, Reid said. As monthly interest payments rise, consumers will need to further dip into savings to maintain current spending levels (see charts below).
“With little room for savings to fall further, the current path is not sustainable,” Reid said.
Economists will be watching the Fed’s Nov. 7 consumer credit report for September.
The bulk of third-quarter earnings reporting season is now in the rearview mirror. Downbeat investors focused on weak guidance around the potential for a slower economy.
And during the month of October, analysts lowered earnings-per-share estimates for the fourth quarter by a larger margin than average, according to John Butters, senior earnings analyst at FactSet.
Bottom-up fourth-quarter earnings-per-share estimates fell by 3.9% between Sept. 30 and Oct. 31, he said. Analysts typically lower the bar during the first month of a quarter, but not so aggressively. Butters noted that the average fall in earnings estimates in the first month of a quarter has averaged 1.9% over the last 5 years and 1.8% over the past 10 years.
A hurting consumer likely means disappointment is in store on the earnings front in coming quarters, Hsu said, even as executives attempt to guide investors toward a “hard landing.”
So what propelled stocks to a stellar week? Just as a rapid runup in long-term Treasury yields were the primary culprit behind the stock market’s slide off its 2023 high set in late July, a sharp retreat by yields this past week gave equities room to snap back.
After briefly trading above 5% for the first time since 2007 last week, the 10-year Treasury yield
dropped 28.9 basis points this week for its biggest weekly decline since the period that ended on March 17.
It was one positive catalyst after another for bond bulls this past week. The U.S. Treasury on Tuesday set plans for less debt issuance on the long end of the yield curve than anticipated and jobs data, particularly the Friday jobs report, showed some signs a robust jobs market may be showing some early signs of cooling.
The big event came Wednesday, when the Fed, as expected, left rates unchanged and Chair Jerome Powell was seen leaving the door open to another rate hike, but not committing to one. That led investors to largely declare the Fed is done raising rates — a supposition some investors contend stands a significant chance of being proven premature.
It was a backdrop that allowed stocks to score a big bounce a week after the S&P 500
and Nasdaq Composite
had suffered corrections — a decline of 10% from their 2023 highs. The Dow Jones Industrial Average
jumped 5.1% last week, its biggest such advance since the week ended Oct. 28, 2022. The S&P 500
rose 5.5% and the Nasdaq advanced 6.6% — their biggest weekly rises since last November.
Previously jittery bulls now see a clear path for a year-end rally.
November and December have been the best two-month period on the calendar from a historical perspective with an average gain of 3% and positive performance 75% of the time, noted Mark Hackett, chief of investment research at Nationwide, in a note.
Also, the market’s “relief rally” had “some notable echoes of the market bottom of a year ago, with extreme weakness in momentum and sentiment indicators,” Hackett wrote. “The resilient macro backdrop, strong seasonality, and improved valuations should provide tailwinds into year-end.”
Technical analysts said the market’s bounce, particularly Thursday’s 1.9% advance by the S&P 500, helped cheer up the charts. The bounce also came as markets had become significantly oversold and bearish sentiment extreme, which can be contrarian catalysts for a rebound.
However, there’s still more work to be done to throw off the gloom, said Adam Turnquist, chief technical analyst for LPL Financial, in a Friday note.
Thursday’s rally pushed the S&P 500 back above its closely watched 200-day moving average at 4,248. That’s a “step in the right direction,” but a close above 4,400 is needed for the index to reverse the emerging downtrend, Turnquist said, noting that market breadth remained underwhelming, with less than half the stock in the S&P 500 trading above their 200-day moving average.