Volatility Test: VIX Makes an Early Move Higher as Stocks Slide Ahead of Manic Market Week

(Monday Market Open) For those who like market news, this week has no shortage. There’s something for everyone with central bank meetings, earnings, and a jobs report all straight ahead.

Monday kicked off with heavy selling before the open. This appears to be a situation where things closed strong last week, tons of stuff is on the calendar, and there’s a feeling of uneasiness as we approach all these key events. Market participants could be backing away from some of their risk exposure.

Morning rush

• The 10-year Treasury yield (TNX) rose 3 basis points to 3.55%.
• The U.S. Dollar Index ($DXY) fell 0.15% to 101.77.
• Cboe Volatility Index® (VIX) futures are up sharply at 19.89.
• WTI Crude Oil (/CL) slipped slightly to $79.61 per barrel.

Keep an eye on VIX today. Futures popped back above 20 early Monday after falling below 18 late last week. When VIX rises and stock index futures fall, it often signals caution creeping into the markets. This may reflect Ideas that last week’s rally got a little overdone considering everything ahead of us this week.

The Week Ahead

This week is likely to be the busiest of the quarter. The Federal Open Market Committee (FOMC) delivers a rate decision on Wednesday, followed by earnings from three mega-cap tech companies Thursday.

Friday wraps things up with January’s Nonfarm Payrolls report. The Bank of England (BoE) and European Central Bank (ECB) also meet this week, on Thursday. Analysts expect a 25-basis point rate hike from the Fed and 50-basis point hikes from the BoE and ECB.

Key companies scheduled to report in coming days include Apple (NASDAQ: AAPL), Amazon (NASDAQ: AMZN), Alphabet (NASDAQ: GOOGL), Meta (NASDAQ: META), Starbucks SBUX, Advanced Micro Devices AMD, McDonald’s MCD, Caterpillar CAT, Pfizer PFE, and UPS UPS.

There are few common threads across all of these, but one thing to keep an eye on is pricing power.

• Many companies increased their profits last year thanks in part to being able to raise prices. Now inflation appears to have peaked and most of the pandemic stimulus money has been spent. Will firms still be able to get customers to reach deeper into their wallets? It’s questionable.
• Info tech earnings come under a microscope this week after disappointing reports from Microsoft (MSFT) and Intel (INTC) last week. Will the cloud outlook from AMZN and GOOGL be less than stellar, as it was for MSFT?
• Listen closely to companies’ earnings calls. Sometimes, these can be more useful than the data. Also, company outlooks may matter more than what happened last quarter. Take a stock like CAT, which rallied over the last six months based in part on anticipated demand triggered by last year’s bipartisan infrastructure bill. What can CAT do for an encore?
• Also, prices of some raw commodities like copper and lumber are rising. How will that affect industrial companies and homebuilders?

The post-FOMC press conference Wednesday afternoon from Fed Chairman Jerome Powell could spark volatility, though that’s pretty much vanished lately on Wall Street. Several times recently, the market’s moved one way immediately after a Fed rate decision only to whiplash in another direction when Powell talks. What Powell says, along with earnings and data, could help shape the entire month ahead, as we discussed last week in our February Outlook.

On top of all that, this week also brings an OPEC meeting. An announcement is expected Wednesday, and analysts think the cartel will likely keep crude oil production unchanged amid uncertainty about Russian supplies and Chinese demand, according to industry publication Oilprice.com.

Earnings scorecard

Through Friday, about 30% of S&P 500 companies had reported Q4 earnings, and 69% of them reported a positive earnings per share (EPS) surprise, according to research firm FactSet. Only 60% reported better-than-expected revenue. These are well below historic averages and speak to the mixed nature of earnings season so far.

Analysts now expect Q4 EPS to decline 5%, FactSet said, worse than the average -4.6% forecast a week ago. And things don’t necessarily improve in Q1. Of the 19 companies issuing Q1 guidance so far, 17 had negative forecasts.

All this is a bit concerning for anyone who watches Wall Street’s price-earnings (P/E) ratios. Last week’s rally took the P/E of the SPX to nearly 18, above the historic average. While that’s down from peaks near 22 a year ago when the market hit record highs, it’s never reassuring to see the “P” going up while analysts forecast “E” to fall.

Rally Check

Stocks that powered Wall Street so far this month were almost all mega-cap techs that populate the $COMP, including Tesla (TSLA), AAPL, Nvidia (NVDA), and AMZN. These are the same stocks that ran the ball downfield from 2017 through 2019 when tech was the hottest game in town. They also have huge market weights, meaning their strength can contribute to outsized gains in the major indexes.

That said, it isn’t exactly a late-2010s scenario with tech taking all the carries while everyone else sits on the bench. The Equal Weight S&P 500 index ($SP500EW), which uses the same constituents as the S&P 500® index (SPX) but with each company allocated the same weight, is up more than 7% so far this year. That’s actually better than the 6% gain by the SPX, where the heavyweights dominate. This suggests we’re seeing a nice balanced rally.

Another 2017-2019 theme was “buy the dip,” and that’s also characterized January.  We’ve been in what Barron’s calls a “risk-on rally,” meaning aggressive growth stocks have led the way. Consumer discretionary, communication services, and info tech are the top-three S&P sectors year to date.

Reviewing the market minutes

The SPX lost steam late Friday following an attempt at the 4,100 resistance level. The market’s been on a tear lately and that may continue, but 4,100 could remain tough resistance early this week with the FOMC meeting, jobs report, and so many earnings still ahead. Recent rallies to that level were quickly sold.

Here’s how the major indexes performed Friday:

• The Dow Jones Industrial Average® ($DJI) rose 28 points, or 0.08%, to 33,978.
• The Nasdaq Composite ($COMP) rose 0.95% to 11,621 and is now up four weeks in a row. It’s up 12% so far in January.
• The Russell 2000® (RUT) climbed 0.44% to 1,911.
• The SPX added 10 points, or 0.25%, to 4,070.

Three Things to Watch

Rally interruptus? On Wednesday, the FOMC will conclude its February meeting with what could be the market event of the week—policy news that could kill or sustain January’s rally. We’ve seen this before. Moments after the last three FOMC meetings, hawkish comments to the press from Fed Chairman Jerome Powell stopped rallies cold. Chances of another quarter-point rate hike are pretty much baked in, according to the CME FedWatch Tool, and the market and many companies seem to be adjusting to higher borrowing costs. Many analysts believe rising rates could ultimately bring a recession, albeit a mild one. But we have to ask—could everyone be getting a bit too sanguine before Powell takes the podium? The answer arrives after 2 p.m. ET on February 1.

Lean forecast: Consumer staples are one of the worst-performing sectors so far in 2023, and the going could get rougher as tax season approaches. That’s because government stimulus—including tax credits—won’t be as available for lower-income consumers who spend most of their money on staples. “There’s some one-offs that were present last year from the pandemic that won’t be there when folks file their tax returns this year,” said Chris Senyek of Wolfe Research, in a Friday interview on CNBC. “Most notably, the child tax credit expired at the end of last year. That was $3,000 per unit and that’s reverted back down to $2,000.” Another benefit now vanishing included some people getting tax refunds last year if they’d missed out on COVID-19 stimulus checks the prior year. “We see at least a $25 billion headwind this tax season,” Senyek said. “There could be some headwinds for retail sales in February and March and what looks like a weak Q1 for Gross Domestic Product (GDP).” He thinks this could be tough on auto parts retailers like Advanced Auto Parts (AAP), casual restaurants like Cracker Barrel (CBRL), and retailers like Walmart (WMT).

From green to red? If you—or HVAC equipment manufacturers—were anticipating a big 2023 from climate-friendly home electrification rebates that went into effect January 1, consider babying your aging gas or oil-fired furnace a little longer. Attractive home decarbonization rebates of up to $14,000 will be available for years as part of last year’s passage of the Inflation Reduction Act (IRA), but for many, not this year. The Los Angeles Times reported that the IRA requires the program to be administered through all 50 state energy offices, which depending on implementation, could take longer in some states than others. For taxpayers with equipment that fails this year that could be bad news if they don’t have a program up and running until 2024 in their home state. The Times said the IRA doesn’t authorize states to offer those rebates retroactively.

Notable calendar items

Jan. 31: Start of FOMC meeting, January Chicago PMI, December Consumer Confidence, and expected earnings from ExxonMobil (XOM), General Motors (GM), Pfizer (PFE), McDonald’s (MCD), Caterpillar (CAT), and UPS (UPS)

Feb. 1: FOMC rate decision, December Construction Spending, January ISM Manufacturing, and expected earnings from Altria (MO), Meta (META), Peloton (PTON), and Waste Management (WM)

Feb. 2: December Factory Orders and expected earnings from Apple (AAPL), Amazon (AMZN), and Alphabet (GOOGL)

Feb. 3: January Nonfarm Payrolls and expected earnings from Sanofi (SNY) and Cigna (CI)

Feb. 6: Expected earnings from Cummins (CMI) and Tyson Foods (TSN)

Feb. 7: December Trade Balance and Consumer Credit and expected earnings from BP (BP), Centene (CNC), and Hertz (HTZ)

Feb. 8: December Wholesale Inventories and expected earnings from Bunge (BG), Uber (UBER), and Yum Brands (YUM)

 

TD Ameritrade® commentary for educational purposes only. Member SIPC.

 

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