After last week’s hawkish Fed news, investors were frantic selling and worrying about the health of the domestic economy. Now, traders seem to have had an epiphany … realizing they overreacted. Oopsie.
The Dow Jones Industrial Average (DJIA) and Russell 2000 indexes have sprinted higher this week with gains of 3.3% and 2.4%, respectively. These indexes are largely populated by cyclical companies.
The exodus last week from banks, industrial and energy is being reversed, and the overall market has increased this week.
Also, Powell just gave all 23 of the largest domestic banks a big thumbs up following a so-called stress test.
You can see where all of this is going, and it is all very bullish for stocks.
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To be clear, the recent weakness never made much sense. The consensus opinion is traders freaked out because the Federal Reserve is signaling higher rates in 2023. The problem with that theory is rates have actually declined a lot since last week’s Federal Open Market Committee (FOMC) meeting.
The much-watched 10-year U.S. Treasury bond yield is now at 1.52%.
The Fed is talking about higher interest rates two years off in the future, and the 10-year yield is still down around 10 basis points from a month ago. This means more mortgage refinancing and cheaper money.
It’s hard to figure how that ever became a bad thing for economically sensitive stocks.
The economy is strong, but not so much so that the Fed will take away access to cheap money. Inflation is a bit firmer than normal, but not so much so that the Fed will take away access to cheap money. The banks are doing well, and their balance sheets are strong, but the Fed is still going to make sure they have access to cheap money, too.
Near term, investors should keep our heads down and remain focused on what is working.
Despite the big gains for cyclical stocks earlier this week, the intermediate term relative strength is concentrated in big capitalization technology stocks.
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That’s because the Fed put big tech into the investor sweet spot. Steady sales and profit growth are beginning to look mighty appealing when compared to cyclical businesses that might see growth clipped later as the Fed begins to tighten … or so the theory goes.
Savvy investors should play this trend by looking into tech, especially major digital transformation winners like Amazon.com, Inc. (Nasdaq: AMZN), Microsoft Corp. (Nasdaq: MSFT) and NVIDIA Corp. (Nasdaq: NVDA).
Best wishes,
Jon D. Markman
