· The combination of the interest rate hike from the Bank of Japan a week ago Wednesday (July 31), a relatively weak July Payroll Report released by the Department of Labor a week ago Friday (Aug 2) and the news of Berkshire Hathaway selling half of their position in Apple, their largest holding, last Saturday (Aug 3) which built their cash pile up to $277 billion, resulted in a nearly 4% drop in the S&P 500 on Monday’s open. However, that index as well as the other major averages fought their way back throughout the balance of the week with most closing Friday with only fractional losses. In fact, if for some reason you didn’t pay attention to the financial markets this week you would have thought it was uneventful as the S&P 500 closed down a mere 0.04%. The volatility also extended to the U.S. Treasury market as the yield curve sank to its lowest level in a year during the trading day on Monday prior to bouncing all the way back throughout the remainder of the week.
All of the above begs the question as to where we go from here. We believe that the majority of the unwinding of the carry trade (see below) has been completed, but may still cause some volatility in the financial markets. That, along with the fact that August and September are historically seasonally weak months as both are the only two that have on average declined over the past fifty years (August -0.33%, September -1.28%; Source, Bespoke), lead us to believe that it would be wiser to add meaningfully to positions on weakness rather than on strength. We also believe that now is a good time to make certain that the positions we hold for clients are those in which we have the strongest conviction.
· As noted above the Bank of Japan raised it key lending rate by 0.25% to 0.25%, sparking a reversal of what is known as a “carry trade,” a process where investors borrow money from a lender in a country with low interest rates and invest in countries with a higher potential return. In this instance, investors borrow in yen, convert to dollars and invest in the U.S. financial markets, the bulk of which most likely ended up in information technology and cryptocurrency. Eventually those investors hope to convert dollars back to yen and reap a windfall profit. However, when the Bank of Japan raised rates, that process backfired as the value of the yen surged against the dollar and U.S. stocks began to correct.
· Two key pieces of economic data that were released during this past week helped the market recover as both pointed to a U.S. economy that is slowing, but not stalling. On Monday at 10:00am, the Institute for Supply Management released its composite index of non-manufacturing (service) sector activity which showed a strengthening of that measure to 51.4 during the month of July from 48.8 during June. (A reading below 50.00 indicates a contracting economy.) The index strengthened in four key categories, New Orders, Backlog of Orders, Business Activity, and Employment. It is also important to note that the service sector accounts for nearly 70% of U.S. GDP. On Thursday, the Department of Labor released data on Weekly Initial Claims for Unemployment Benefits which showed a 17,000 drop for the week of August 3rd to 233,000 from 250,000.
The recovery in the financial markets as well as the above data helped quell the call for either an intra-meeting rate cut from the Fed or for a 0.50% cut at their upcoming regularly scheduled two-day meeting September 17-18. At this time, we believe that Fed Chair Jerome Powell will signal a 0.25% cut at the September meeting when he along with other Fed officials and economists meet at a symposium in Jackson Hole, Wyoming, sponsored by the Federal Reserve Bank of Kansas City August 22-24. One caveat is the release of wholesale and retail inflation data this Tuesday and Wednesday in the form of the Producer (PPI) and Consumer Price Indexes (CPI).
· Last week’s payroll report most likely flipped the script from bad news is good news and good news is bad to good news is good news and bad news is bad. We will most likely chop our way through the summer until we get more clarity regarding the economy and the policy platforms of each presidential candidate and then ultimately the election.
· According to the Federal Home Loan Mortgage Corporation (FreddieMac), “mortgage rates plunged this week to their lowest level in over a year following the likely overreaction to a less than favorable employment report and financial market turbulence for an economy that remains on solid footing. The decline in mortgage rates does increase prospective homebuyers’ purchasing power and should begin to pique their interest in making a move. Additionally, this drop in rates is already providing some existing homeowners the opportunity to refinance, with the refinance share of mortgage applications reaching nearly 42 percent, their highest since March 2022.”
· Upcoming Economic Reports scheduled to be released this week include the following, on Tuesday, July Wholesale Inflation as Measured by the Producer Price Index; on Wednesday, July Retail Inflation as Measured by the Consumer Price Index; on Thursday, the Weekly Report of Initial Claims for Unemployment Insurance, July Retail Sales, June Business Inventories and July Industrial Production and Capacity Utilization; and, on Friday, July Housing Starts and a Preliminary look at August Consumer Sentiment from the University of Michigan.
· The Q2 Earnings Season continues to roll along. Companies of note scheduled to report this week, include – Barrick Gold (GOLD), Home Depot (HD, Cisco Systems (CSCO), Cardinal Health (CAH), Deere (DE), Applied Materials (AMAT), Walmart (WMT), Alibaba (BABA) and Ross Stores (ROST).
General Disclosure: “This presentation is not an offer or solicitation to buy or sell securities. The information contained in this presentation has been compiled from third party sources and is believed to be reliable, but its accuracy is not guaranteed and should not be relied upon in any way, whatsoever. Fagan portfolio characteristics and holdings are subject to change at any time and are based on a representative portfolio. Holdings and portfolio characteristics of individual client portfolios may differ, sometimes significantly, from those shown. This information does not constitute, and should not be construed as, investment advice or recommendations with respect to the securities listed.
Additional information including management fees and expenses is provided on our Form ADV Part 2. The actual return and value of an account fluctuate and, at any time, the account may be worth more or less than the amount invested. Bond Investments are affected by interest rate changes and the credit-worthiness of the issues held in the portfolio. A rise in interest rates will cause a decrease in the value of fixed income positions. Past performance results are not indicative of future results.”
