Yield Tailwind: Stocks Get Early Lift As Falling Odds For Rate Hike Boost Treasury Market

(Wednesday Market Open) Stock index futures climbed Wednesday as Treasury yields eased, but some of the same concerns that dogged the market earlier this week haven’t necessarily evaporated. Recent rallies faded, so we’ll see if this strength generates additional buying interest.

One positive takeaway this week is that several sectors besides info tech and communications technology attracted some buying. Perhaps this reflects more confidence coming into the market and money looking for a home beyond a few mega-cap companies.

A weaker dollar and what until today had been a drop in Treasury note values (which move opposite of yields) might also hint we’re moving away from the “flight to safety” mentality that prevailed a few weeks ago amid banking uncertainty.

Just In

While banking fears have subsided, concerns persist that the Federal Reserve could remain hawkish on inflation and keep interest rates high longer.

Treasury yields climbed Tuesday as the futures market at that point priced in stronger chances of a rate hike, hurting some of the same mega-cap tech stocks that helped lift the major indexes over the last two weeks. That’s because tech is a growth sector that’s sensitive to climbing yields, which raise borrowing costs. Yields fell today as rate hike odds slipped (see below), but it wouldn’t be surprising to see tech come back under pressure if yields go up.

On top of that, there’s the question of whether the recent situation with banks will tighten the credit market and accelerate a recession. The Fed might pause its rate hikes or even reduce rates if that were the case, but no one would likely welcome rate cuts if they result from a serious economic slowdown.

With these thoughts looming, the market appears to be stuck in a holding pattern as data and earnings go into a bit of a lull. There’s just not much buying conviction, and even on recent days when the major indexes rose, they often finished well off their highs. We’ll see if that remains the case today or if this early rally has more legs. Some of the early strength may be technical, reflecting spillover from the market’s late turnaround yesterday.

Morning rush

• The 10-year Treasury note yield (TNX) fell 1 basis point to 3.55%.
• The U.S. Dollar Index ($DXY) dipped to 102.44.
• The Cboe Volatility Index® (VIX) futures fell all the way to 19.28 after peaking above 30 two weeks ago.
• WTI Crude Oil (/CL) rose to $73.94 as supply concerns surfaced.

The dollar often spikes amid financial turmoil like the type we recently experienced. While it did rally a bit in mid-March, it now has tracked back toward recent six-week lows and remains well below last year’s peaks.

This partly reflects the market’s sense that the Federal Reserve could begin cutting interest rates later this year, which tends to weaken the dollar. But it also could suggest faith in the strength of other economies, including in Europe, where there has been robust economic activity this month.

Eye on the Fed

Here’s your rate scorecard update for the morning. Probability of a 25-basis-point rate increase at the Fed’s May meeting now stands at close to 40%—down from 47% yesterday—while chances of a rate cut by July are now near 45%, according to the CME FedWatch Tool.  

There’s still a tug-of-war between market participants and the Fed. While the Fed seems steadfast in trying to work in at least one more hike, futures market traders appear convinced that a forthcoming economic slowdown will eventually force the Fed’s hand into cutting rates.

What to Watch

Tomorrow morning brings the final government read on Q4 Gross Domestic Product (GDP). This is a backward-looking number, because Q4 ended long ago. Nevertheless, it could be a helpful guidepost as Q1 ends and focus turns to early-2023 growth data. Analysts expect GDP growth of 2.7% in Q4, steady with the government’s last estimate. Even if growth comes in higher or lower, the data might be discounted as old news and not have a large impact.

A more up-to-date GDP number to track may be the Atlanta Fed’s GDPNow calculator for Q1, currently at 3.2%. That estimate might not change much with most of the quarterly data now in, but we’ll have to wait until late April to get the government’s first official read. Many analysts expect far weaker Q1 U.S. growth.

Also of note are Friday morning’s February Personal Consumption Expenditure (PCE) prices and Chicago Purchasing Managers Index (PMI) on Friday. PCE and core PCE were both elevated in January, growing 0.6%. Analysts expect just a small dip in the pace of February PCE price growth to 0.5%, according to Trading Economics. Year-over-year core PCE is seen rising 4.7% in February, unchanged from January’s monthly growth.

Pending Home Sales for February are due soon after the open today, and analysts expect a 2.3% monthly decline after a strong read in January, according to Briefing.com.

Stocks in Spotlight

Micron: Semiconductor chip maker Micron (MU) shares rose in premarket trading despite the company missing analysts’ earnings per share (EPS) estimates late yesterday. MU’s been dealing with slowing demand in the memory chip market, but market participants initially seemed cheered by what the company said was a better inventory situation and a gradually improving industry supply-and-demand balance.

Lululemon (LULU) shares advanced 14% in premarket trading after the athletic apparel company surpassed Wall Street’s expectations on revenue and EPS. Guidance also topped Wall Street’s thinking, and the company’s 15% comparable sales growth flexed some muscle.

European vacation: How are Europe’s markets and economy dealing with the recent bank troubles there? So far, the fallout has been modest, says Jeffrey Kleintop, chief global investment strategist at Schwab. Despite the hit to many bank stocks in March, the overall stock market in Europe has held up reasonably well, and the banking sector there appears to be healthy. European bank stocks have outperformed U.S. ones so far this year, by the way.

Confidence factor: There’s still plenty of recession talk, but yesterday’s March Consumer Confidence data might run counter to fears that a downturn is right around the corner. The headline figure from research firm The Conference Board climbed to 104.2, well ahead of analysts’ expectations and up from an upwardly revised 103.4 in February. Consumer spending makes up a big chunk of the economy, and tightening credit conditions down the road could certainly slow it. Some of the numbers deeper in the report did suggest consumers might be getting ready to tighten their belts, however, and the Fed almost certainly can’t be happy with the report showing no decline in 12-month inflation expectations, which remain above 6%.

All the major stock indexes slid yesterday, but for the S&P 500® index (SPX), it was mainly a function of weakness in mega-cap tech stocks that dominate the weightings. You could easily throw darts blindfolded at a target full of major tech companies and not hit a single one that finished in the green yesterday. Semiconductors were among the laggards. However, cyclical sectors like materials and industrials—which tend to do better in a growing economy—posted gains yesterday.

CHART OF THE DAY: CORRELATION? You can always wonder if a pattern is correlation or causation, and the relationship over the last six months between the U.S. Dollar Index ($DXY—candlesticks) and the Cboe Volatility Index (VIX—purple line) has been interesting to watch. Recent dollar upticks were accompanied by rising volatility, while volatility fell when the dollar declined, as we’re seeing now. Data sources: Cboe, ICE. Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.

Thinking cap

Ideas to mull as you trade or invest

Opening hours: This was the quarter when China’s reopening had been expected to provide a nice boost, and in some sense it has. The Shanghai Composite is up 5% year-to-date, and shares of Alibaba (BABA) took off Tuesday on news that the Chinese e-commerce firm plans to split into six units that will individually raise funds and explore initial public offerings. Generally, the government in Beijing seems to be lightening up a little on regulatory restrictions taken over the last two years that hindered tech sector growth, according to media reports. Also, reclusive BABA founder Jack Ma made a rare public appearance in China, CNN reported this week.

Jitters abound: While there are signs of new life, questions remain about China’s progress. This week, the Financial Times reported that the leader of A.P. Moller-Maersk, the world’s second-largest container shipping group, observed that China’s recovery has been weaker than expected, and that consumers there remained “stunned” by COVID-19 and are “not in a splurging mood,” though trading volumes associated with China’s economy remain resilient. China set a growth target of just 5% this year—its lowest in decades. And even though 2023 was touted to be the year China would return to liquid natural gas (LNG) markets after huge declines during the pandemic, readings from Q1 suggest that’s not happening, according to crude oil trade publication Oilprice.com. Spot LNG prices in Asia recently dropped to nearly two-year lows amid a slower pickup in industrial activity. China’s LNG imports between January and March this year are down 3% from the same period a year ago.

Data on way: Of course, the proof’s in the pudding, as they say. We’ll get a taste on April 17 when a host of Chinese economic data hit the market, according to Trading Economics. Key among them are Q1 retail sales, industrial production, and GDP. It’s early, but consensus among analysts is for GDP growth of 3.2% year-over-year and 1.2% quarter-over-quarter. If analysts are right, China’s economy—long the global growth engine—will need to pick up steam later this year to meet Beijing’s expectations. In the much longer run, investors might want to adjust their own expectations about China’s ability to keep powering economic demand. Its population fell last year, and the number of births in 2022 was barely half the 2016 level, according to National Geographic. Even if the birth rate stabilizes, China’s population will decline 50% or more by 2100, National Geographic says.

Calendar

March 30: Q4 GDP-third estimate.

March 31: March Chicago PMI, February Personal Consumption Expenditures (PCE) prices, February Personal Income and Spending, and University of Michigan Final March Consumer Sentiment.

April 3: February Construction Spending and March ISM Manufacturing Index and expected earnings from Yum Brands (YUM).

April 4: February Factory Orders and February Job Openings and Labor Turnover Survey (JOLTS).

April 5: February Trade Balance and March ISM Non-Manufacturing Index. Expected earnings from Conagra (CAG).

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

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