Caution Flag: As Yields Briefly Top 5%, Stocks Pull Back Amid Geopolitical Worries

(Friday market open) A wall of worry looms, and investors haven’t shown much appetite to climb it the last two days. Another inflation warning from Federal Reserve Chairman Jerome Powell yesterday and an earnings deluge dialed up caution on Wall Street as stocks edged lower again in premarket trading Friday.

Late yesterday, yields on the benchmark 10-year U.S. Treasury note briefly topped 5% for the first time since July 2007, though they dropped before Friday’s open. Geopolitics also are rattling Wall Street ahead of the opening bell as the Middle East conflict extended to attacks against American targets in the region. U.S. crude oil moved back above $90 per barrel yesterday, a two-week high.

Yesterday’s steep losses tipped the S&P 500® Index (SPX) into negative territory for the month. The SPX is now on pace for a lower week and for the first three-month downturn since January–March 2020. The weakness runs against seasonal trends, as October’s been positive for stocks in six of the last nine years, including the last two.

As stocks fell, volatility popped. The Cboe Volatility index® (VIX) climbed above 21 for the first time since early May, suggesting the SPX could experience sharper moves.

The market lacks positive catalysts–such as progress toward a resolution of the Middle East conflict, traction on Capitol Hill before a possible government shutdown, or spirited earnings results and guidance from major info tech firms next week. There’s no guarantee any of that will happen.

Morning rush

• The 10-year Treasury note yield (TNX) slipped 2 basis points to 4.96%.
• The U.S. Dollar Index ($DXY) is steady at 106.18.
• Cboe Volatility Index® (VIX) futures added to recent gains and trade at 21.66.
• WTI Crude Oil (/CL) is down slightly at $89.49 per barrel.

The recent spike in benchmark 10-year Treasury note yields reflects multiple factors: increased supply from the U.S. Treasury; mounting worries that inflation and high interest rates could last well into 2024; and the Fed’s quantitative tightening (QT) policy. On the other hand, futures trading now dials in nearly zero chance of a rate hike at the Fed’s meeting October 31–November 1 and falling chances of a December hike.

What to watch

Next week: The last full week of the month features potentially market-moving data, including the government’s first estimate of Q3 Gross Domestic Product (GDP) and Personal Consumption Expenditure (PCE) prices, the Fed’s favorite inflation monitor.

Those come relatively late next week, but between now and then investors hike through a forest of company reports. Technology takes the pole position with Microsoft (MSFT) getting things started Tuesday afternoon. For more on expected tech earnings, see below.

Before the Federal Reserve’s November 1 rate decision, three other central banks meet: the European Central Bank (ECB) and Bank of Canada next week, and the Bank of Japan (BoJ) the following week just before the Fed. “All are expected to be on hold, with inflation easing in all three countries,” says Michelle Gibley, director of international research at Schwab. “The global rise in yields is helping to tighten financial conditions, although stronger relative economic data in the U.S. is contributing to the rise in the dollar.”

September Existing Home Sales and Leading Economic Indicators from The Conference Board went different directions. Home sales exceeded Wall Street’s expectations, but the Leading Economic Index fell -0.7% for the month versus the average estimate of -0.4%. This marked the 18th consecutive month the LEI was negative–the kind of long weak stretch that in the past preceded recessions.

Stocks in spotlight

With 86 (17%) of S&P 500 companies reporting, Q3 earnings per share growth averaged +2.2% vs. the average Wall Street estimate of -0.1%. Revenue growth was +5.8% vs. the average +1.6% estimate. Compare this to -5.7% and +0.9% respectively in Q2.

American Express AXP shares were flat after the company reported better-than-expected earnings per share but revenue that met analysts’ expectations. The company reaffirmed prior guidance and said credit metrics remained strong, with delinquency rates below prepandemic levels. Visa (V) is expected to report next week, and investors might want to track whether it says similar things about credit metrics, considering current high interest rates and widespread focus on consumer health.

CSX CSX shares got sidetracked in premarket trading after the railroad just missed analysts’ average earnings per share estimate. Revenues came in as Wall Street had expected. The coal business remains solid, and Q4 could benefit from a strong Midwest harvest, CSX said in materials accompanying its earnings. But international intermodal volumes remain soft CSX said, “as retailers see uncertain consumer demand.” That’s not the most upbeat indication ahead of the holiday shopping season.

Strike update: Bloomberg reports that General Motors GM and the United Auto Workers (UAW) are inching toward a tentative deal.

Eye on the Fed

Early today, the probability that the Federal Open Market Committee (FOMC) will raise its benchmark funds rate from its current 5.25% to 5.50% target range following its October 31–November 1 meeting was 1%, according to the CME FedWatch Tool. Odds that rates could be a quarter-point higher coming out of the December 12–13 meeting were about 23%. Odds for both are down since Powell spoke yesterday.

Powell’s speech yesterday is pretty much digested as the Fed enters its “quiet period” ahead of the FOMC meeting. In a nutshell, Powell said inflation remains too high, though it is cooling. He also feels the job market is slowing despite recent strength. He hinted that the bond market has been helping to tighten financial conditions, but he didn’t rule out more rate hikes. Economic growth remains resilient, Powell said, consistently surprising to the upside.

Talking technicals: The SPX is now less than 50 points above its 200-day simple moving average (SMA) of 4,231. The 200-day SMA held on the market’s last test of it early this month, and the SPX hasn’t traded below it since late March. This week saw the SPX fail in an attempt at resistance near the 50-day and 100-day SMAs that currently sit near 4,400.

All about debt: How is interest expense affecting the economy and stock market, and how should it shape investors’ approach? Learn more in the latest article from Liz Ann Sonders, chief investment strategist at Schwab, and Kevin Gordon, senior investment strategist at Schwab.

Thinking cap

Ideas to mull as you trade or invest

Tech tock: Several major info tech firms report next week, including Microsoft (MSFT), IBM (IBM), and Texas Instruments (TXN). Together, they could provide health checks on the cloud, chip, artificial intelligence (AI), and personal computer markets. Amazon (AMZN) isn’t a tech company but runs the biggest cloud business in the world, and it’s also on deck. Tech’s poor Q3 stock market performance reflected accelerating U.S. Treasury note yields, slow China growth, increased friction in the U.S.-China trading relationship, and underwhelming Q2 results from many key companies, including Microsoft. Cloud growth has been under a microscope lately and Q3 results could help shed light on business demand for this service. Tech valuations remain the second highest of any S&P sector, though down from recent peaks.

Breadth test: The market’s breadth–an important measure of strength–is somewhat improved from recent lows but remains relatively soft. About 24% of S&P 500 stocks traded above their 50-day moving averages as of Thursday. Energy, communication services, and info tech have the highest percentage of stocks trading above that line. However, in real estate, consumer staples, and consumer discretionary, 85% or more of sector names trade under their 50-day moving averages. A healthy rally typically lifts all boats, but this year’s has mostly been in a handful. At the same time, bullish sentiment measured by the American Association of Individual Investors (AAII) remains below the long-term average at 34%. It peaked above 51% in July. Bearish sentiment of 34.6% is down slightly from above 40% earlier this month. Sentiment is worth tracking because it’s often a counter-intuitive indicator. When bullish sentiment goes below 20% or above 50%, it can point toward shifts in the market. 

Nothing ventured: Fundraising for venture capital this year is on track to fall 67% from the 2022 record, according to data and research firm Pitchbook. A projected $57 billion in venture funds raised would be the lowest in 10 years, but market participants say things seem to be improving. Still, industry experts don’t necessarily expect a return to 2021 and 2022 levels anytime soon, and that’s a challenge for small companies trying to find investors. Ultimately, a sluggish venture capital climate can hurt Wall Street. For instance, it likely means fewer initial public offerings (IPO) down the line, continuing the pain for investment banking firms already struggling with low volume. In addition, the newest companies often do more than their share to help drive innovation. Even today’s mega-caps once sought early-stage funding, though stories of companies “starting in a garage” may stretch the truth.

Calendar

Oct. 23: Expected earnings from Whirlpool (WHR).

Oct. 24: Expected earnings from Archer Daniels (ADM), Coca-Cola (KO), 3M (MMM), General Electric (GE), General Motors (GM), Verizon (VZ), Microsoft (MSFT), Texas Instruments (TXN), and Visa (V).

Oct. 25: September New Home Sales and expected earnings from Boeing (BA) and IBM (IBM).

Oct. 26: Initial Weekly Jobless Claims, September Durable Orders, Q3 Gross Domestic Product, and expected earnings from Bunge (BG), Comcast (CMCSA), Honeywell (HON), Mastercard (MA), Merck (MRK), Southwest (LUV), Amazon (AMZN), and Ford (F).

Oct. 27: September Personal Income and Personal Spending, September Personal Consumption Expenditures (PCE) prices, Final October University of Michigan Consumer Sentiment, and expected earnings from AbbVie (ABBV), Exxon Mobil (XOM), and Chevron (CVX).

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

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