Rolling Along: Late-Quarter Rally Gains Steam As Banking Fears Continue To Dissipate

(Thursday Market Open) Banking fears continue to dissipate, building a sense of relative calm and allowing stocks to flex their muscles. Stock index futures rose again overnight, building on Wednesday’s gains after closing near one-month highs.

The S&P 500® index (SPX) is on pace for its third positive week in a row following the mid-March bank-related slump. Buying on Wednesday was broad-based across sectors again, not just centered on info tech, and that’s healthy to see. However, volume was below normal, raising questions about how much investor conviction is behind this rally.

Recent gains, especially in tech, may represent so-called “window dressing” as some fund managers load up on winners before the end of the quarter. If that’s the case, it might be hard for stocks to build much on this upward move next week when the second quarter begins.

It looks like the SPX is trying to build a base around 4,000, a level it’s had a lot of trouble holding onto so far this year. It’ll be interesting to see if 4,000 can hold if the market pulls back.

Morning rush

• The 10-year Treasury note yield (TNX) is down 1 basis point at 3.55%.
• The U.S. Dollar Index ($DXY) fell slightly to 102.4.
• The Cboe Volatility Index® (VIX) futures keep rolling lower, now down to 18.94.
• WTI Crude Oil (/CL) is slightly higher at $73.54 per barrel.

VIX futures are below 19 for the first time since March 9, after briefly rising above 30 on March 13. The VIX futures complex indicates expectations for rising volatility as the year advances, but not to extreme degrees. Investors price in a VIX level of 22 by June and 23 by July. This can change in a hurry, as we all learned earlier in March.

Just in

The government’s final estimate for Q4 Gross Domestic Product (GDP) was 2.6%, down from the previous 2.7% and just below Wall Street analysts’ 2.7% estimate. The data is backward-looking by nature, but the dip could suggest that the economy is slightly less hot than people thought, a positive indication if you’re hoping for the Federal Reserve to consider pausing interest rate hikes.

However, on that same note, initial jobless claims remained below 200,000 last week at 198,000, another hint that the labor market remains tight—something the Fed wants to see change as it fights inflation. So, a bit of a mixed bag from the data, this morning. The numbers didn’t have an immediate impact on the market’s positive preopen tenor.

Eye on the Fed

Probability of a 25-basis-point rate increase at the Federal Reserve’s May meeting now stands at 41%, while chances of a rate cut by July have slipped to 35%, according to the CME FedWatch Tool.

We’ll get plenty of input from the Fed long before May. Several Fed members are scheduled to speak this afternoon, and more follow tomorrow.

What to Watch

The quarter closes tomorrow with one last inflation check, this time courtesy of February Personal Consumption Expenditures (PCE) prices, due an hour before Friday’s open. This report, one that’s closely watched by the Federal Reserve, could go a long way toward shaping how markets behave in the final hours of Q1, setting the stage for April developments.

• PCE and core PCE prices 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.
• Personal spending is also key, indicating whether consumers kept their wallets open or exercised  more caution as layoff news filtered through the headlines. Signs of cooling home prices could also hurt spending, as the so-called “wealth effect” might begin to wane.  Analysts expect a drop to just 0.3% growth in personal spending that month, according to Briefing.com.
• Tomorrow is definitely jam-packed, with a look at the Midwest economy through the Chicago Purchasing Managers’ Index (PMI) report and a check on the University of Michigan’s final Consumer Sentiment reading for the month. Both are due soon after Friday’s open.
• With so much data ahead, don’t be surprised to potentially see markets display more volatility early tomorrow, especially if PCE prices come in hotter than expected. That would likely weigh on both the Treasury market and growth stocks, including mega-cap info tech.

Stocks in Spotlight

Regional banks: This sector rebounded a bit recently, but that doesn’t change what could be an unpleasant outlook.

As commercial real estate sags, pressure could build on smaller banks. Analysts expect office defaults to increase as more mortgages that were signed before the pandemic expire, the Wall Street Journal reported this week. Around $2.6 trillion in commercial mortgages are set to mature between 2023 and 2027, according to the newspaper—and many of these loans are held by smaller banks.

Understanding which banks are at most risk is difficult, partly due to the “lower granularity” of smaller-bank reporting, according to a report by the Federal Reserve Bank of Chicago. The best way for investors to evaluate which banks may come under pressure as loans mature is to keep an eye on regional bank firms as they open their books over the coming months. Analysts on those calls are bound to have questions about these banks’ credit positions and the health of their deposits.

Recession and sectors: Chances of a recession later this year remain high, many analysts say, and the futures market bakes in high probability of Fed rate cuts. Then yesterday, analysts downgraded Foot Locker (FL) and Macy’s (M), both “cyclical” companies vulnerable to falling consumer demand in an economic downturn. Also, natural gas prices hit one-month lows Thursday, a sign of declining interest in a commodity widely used for manufacturing. All these signals seem to fire up ideas of gathering economic clouds.

But how do you square those developments with this week’s Conference Board March Consumer Confidence headline figure soaring above analysts’ expectations to 104.2? Or financials stocks continuing to power higher on Wall Street yesterday, accompanied by recent strength in cyclical materials and industrial stocks? And the job market staying robust, plus this week’s rise in copper (/HG) and crude (/CL) prices? Data yesterday also showed mortgage applications and pending home sales climbing. The Atlanta Fed’s GDPNow tool still projects 3.2% Gross Domestic Product (GDP) growth in Q1. That’s all healthy, not recessionary.

One possibility is that a recession may be ahead as credit conditions tighten and low-interest loans mature, but perhaps it’s not imminent. That’s why the Fed might keep pounding the table in fighting inflation and investors could be disappointed if they expect rate cuts anytime soon.

Sector-wise: Wednesday featured leadership from many areas, including cyclical ones that tend to do well in an economy firing on all cylinders. Airlines, automakers, retailers, chipmakers, major industrial firms, and regional banks were among the leading stocks, though mega-cap tech companies rallied as well. It’s only one day, but judging from the gainers, it didn’t appear investors got the message about a coming recession.

It’s also encouraging that the rally happened even as Treasury yields held their ground. The 2-year Treasury note yield (TNX) actually rose slightly Thursday and is up more than 50 basis points from this month’s low (though down nearly 100 points from the March high, showing just how volatile this market has been). If stocks can continue climbing even as yields don’t collapse, that might be evidence of investors feeling they can step in despite a hawkish Fed.

Market Minutes

Yesterday’s broad-based rally lifted the SPX to its highest close since March 6 and only its second above 4,000 since then. It tested the March intraday high of 4,039 but didn’t quite get there. Still, the SPX managed to finish just above its 50-day moving average (MA) of 4,014. That particular technical feat also hadn’t been accomplished since March 6 and could draw some spillover buying, especially considering the strong rally toward the close.

Dot Connector: Last week’s Fed “dot plot” got a lot of attention. What’s the dot plot and how do you read it? Check the latest Schwab video to aid your understanding of this key market driver.

CHART OF THE DAY: TRACKING METALS. Industrial metals like copper (/HG—candlesticks) and platinum (/PL—purple line) can be good barometers for economic demand. Both have been marching in place this month and remain well below recent highs. Data source: CME Group. 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

Going to the movies: If Amazon (AMZN) buys a chain of movie theaters, does that possibly cannibalize its streaming video business? Apparently AMZN doesn’t see it that way, as it is reportedly considering a purchase of AMC Entertainment (AMC). This would expand AMZN’s brick-and-mortar presence beyond grocery stores (Whole Foods) and into entertainment. Barron’s, in an article Wednesday about AMZN’s possible exploration of an AMC purchase, says “it doesn’t make a ton of business sense.” While AMC shares initially popped on the headlines, they gave back much of the upside as prospects for a potential deal seemed unlikely.

Calendar conflict: Next Friday, April 7, brings the Labor Department’s March Nonfarm Payrolls report—arguably the most critical data of the month, particularly now as a full labor market continues to push up inflation and interest rates. That day the market will be closed to observe Good Friday, so participants will have to stew over this key data all weekend, though futures trading will be open and may help provide clues about the market reaction. This could result in heightened volatility and a very interesting market open on Monday, April 10.

PCE versus CPI: A hot PCE price report in January (0.6% monthly growth) delivered a blow to Wall Street, and the next PCE report is due early tomorrow. The January PCE data were followed by lower February Consumer Price Index (CPI) growth, at 0.4%. Keep in mind some differences between the reports as you look over tomorrow’s February PCE numbers. Generally, health care plays a bigger role determining PCE prices, while housing costs have a bigger role in the CPI. Also, the PCE accounts for substitution behavior. If apple prices rise and orange prices fall, people might buy more oranges and fewer apples. The CPI doesn’t consider that, only updating its “goods basket” once a year. Ever wonder why PCE price inflation tends to be lower than CPI? Think substitution.

Calendar

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).

April 6: No major data or earnings expected.

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

Image sourced from Shutterstock

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