Big Tech Back Under Pressure From Rising Yields, With Apple, Microsoft, Semis Hit

A day after the Fed waved the green flag, the Treasury market raised a caution sign for growth stocks. New 14-month highs in the 10-year yield have investors’ feet firmly on the brakes this morning, especially in the Tech sector.

Even without the early yield rise to as high as 1.75%, yesterday’s post-Fed rally would have been a tough act to follow. The Dow Jones Industrial Average ($DJI) closed above 33,000 for the first time and the S&P 500 Index (SPX) started to flirt with 4,000. Investors apparently enjoyed the Fed’s forecast for strong economic growth and low rates. 

But the love didn’t last. This wall of worry we keep scaling isn’t getting any smaller. As noted earlier this week, we’re in a rally that gets no respect. It really is amazing how many people are waiting for the market to fall as we move higher. Fed Chairman Jerome Powell gave a fairly bullish testimony on the economy, but the market seems to be saying this improving economy could push the Fed to change its dovish stance. 

Remember, regarding rates, the Fed only controls the overnight rate, and the rest is controlled by the market, so this spread between the short end of the curve and the long end keeps getting wider. That’s not necessarily a bad thing, especially for the Financial sector. The spread between 2-year Treasury yields and 10-year yields is now the highest since July 2015. 

Volatility is back up this morning, and that’s no surprise with quadruple witching tomorrow. It will be interesting to see how many people roll positions forward and have the same optimism for the coming months as they’ve had this quarter.

There’s usually a couple days of uncertainty after a Fed meeting, and these higher yields make people feel uncomfortable holding high-flying Tech stocks. However, “buy the dip” has been a strategy that’s worked for many traders so far this year, so we’ll see if that comes into play here. You usually get some decent moves the day before witching, too.

This afternoon brings two major earnings reports that investors should watch: FedEx Corporation FDX and Nike Inc NKE. Both are great barometers for demand, with FDX more of a business barometer and NKE more on the consumer side. Yesterday saw home builder Lennar Corporation LEN report better than expected earnings and the stock surged 13% in pre-market trading. The company said it’s enjoying strong gross margin on home sales and expects that to continue, a positive sign for the housing market. 

Overseas, the Bank of England kept rates there unchanged this morning, which came as no surprise to investors who watch that market. A long rally in the British pound does seem to hint at optimism for the U.K. economy coming out of Brexit. The 10-year rate has risen steeply there this year, just like it has here. The Bank of Japan makes its policy decision tomorrow as “central bank week” continues.

Now we’ll return to the central bank everyone’s still buzzing about, including Powell’s very interesting press conference yesterday. Yes, you’re reading that adjective right.

Powell Eased Minds, For A While

A few years ago, the market sometimes took a spill when Powell spoke. These days, not so much. Yesterday, Powell soothed investors after the Federal Open Market Committee (FOMC) meeting, judging by the market’s reaction. The Nasdaq (COMP), which had spent most of the day under water, bounced back very nicely as Powell spoke, and all the major indices finished higher. 

Meanwhile, the Cboe Volatility Index (VIX) finished under 20 for the second day in a row, pulling back from an early rise above that level earlier in the day. It’s slightly above 20 this morning. 

The dollar eased after the Fed left rates unchanged and kept its long-term outlook for rates to stay unchanged until 2023, and the 10-year Treasury yield stepped back from early 13-month highs, finishing the day near 1.65%. That’s historically low, but up almost 75 basis points from where it began the year.

Though the Fed’s strong outlook and commitment to accommodation probably drove a lot of the rally, you could argue that Powell’s press conference also played a role. The market came back forcefully as he spoke after gyrating for the first 25 minutes after the meeting ended. 

Fed Reaches Fork In Road And Takes It

Baseball legend Yogi Berra said that if you hit a fork in the road, take it. That’s actually kind of relevant now when you consider what the Fed seems to be doing. 

Powell and company have embarked on a journey the Fed has arguably never taken before. They’ve indicated plans to let the economy boom, with no change to their interest rate target until at least 2023—if you give the dot-plot outlook of future rates any credence. They also have no plans to taper their bond-buying program anytime soon, or to change its focus to longer-term bonds, based on what Powell said yesterday. This looks like an experiment, and anyone in the markets is part of it.

It’s actually pretty bold of the Fed when you consider how cautious the central bank typically has been. They seem to be betting that what happened in the years after the Financial Crisis of 2008 will repeat, with no inflation amid accommodative conditions and the bond market not getting unruly. Basically, you could argue they’re throwing the “Phillips Curve” out the window, saying it’s not relevant anymore. The Phillips Curve states that when unemployment goes down, wages go up. Some economists say this naturally leads to inflation. One of the Fed’s dual mandates is to encourage price stability.

While the Fed does dial in some inflation this year due in part to supply bottlenecks and reopening, it sees inflation falling next year to 2% from 2.4% in 2021, implying the economy can grow quickly and get back to full employment without stirring much inflationary pressure, or at least not enough to require much Fed tightening, if any.

This is where the Fed appears to be making a bet on the best-case scenario—the return of the proverbial “Goldilocks economy”—and the market reacted positively yesterday. In fact, you could argue that with its run to record highs, the market built in this positive outcome before the Fed even got there. If the market and Fed were wrong, however, and inflation creeps in and yields soar, there may be a day of reckoning. 

Powell At The Podium

Powell continues to run the Fed in a way that recalls the words of a former Defense secretary who said, “You go to war with the army you have.” Meaning Powell’s used everything in his and the Fed’s power to fight back against the pandemic, incorporating the same weapons his predecessors did. This obviously includes near-zero rates, but also “quantitative easing,” in which the Fed snaps up $120 billion every month in bonds to keep its fat finger on rates.

The Fed only has so many weapons, though. Last year, Powell spent a lot of his firepower at the podium encouraging Congress and the Trump administration to pass fiscal stimulus. Now he’s gotten his wish with $1.9 trillion more. So between that money coming online and many economists now predicting incredible gross domestic product (GDP) growth this year, the question becomes, does Powell decide to lay down any of his weapons, and when could it happen? 

That’s what reporters tried to get Powell to say at yesterday’s post-Fed meeting press conference, but he didn’t bite. There was a lot of discussion about the Fed’s “dot plot,” which showed a few more officials anticipating a rate hike next year compared with what we saw in December. Powell tried to steer people away from too much focus on that, saying basically that financial conditions that far off are too uncertain. He said it’s important that monetary conditions remain accommodative and that the economy is still far away from the Fed’s employment and inflation goals.

CHART OF THE DAY: WHICH WAY FOR GOLD? Although gold futures (/GC—candlestick) seems to be taking a breather at its 61.8% Fibonacci retracement level (yellow horizontal lines), it’s still moving within its bearish channel (blue lines). It’s looking like the metal could move either way. Data source: CME Group.  Chart source: The thinkorswim® platform. For illustrative purposes only. Past performance does not guarantee future results.  

Gold: Bull Breather of Bearish Bust? After its record-shattering high last August, gold retraced about 60% of the upside move between the Covid nadir last March and the August high. As of yesterday it’s pretty much at the midpoint of the move. It’s easy, then, to see some kind of breakout—but which way? Like many things in this market, it goes back to inflation expectations. Chairman Powell reminded yesterday that the Fed is OK with inflation running a little hot, which may have helped lift gold from its recent mini-slump.

But remember the FOMC members’ rate projections show any uptick in inflation could be transitory (Fed-speak for “temporary”). From that, one could infer less of a need to own gold as a classic “inflation hedge.” Plus, the bearish channel setup in the above chart shows a clear downtrend, indicating the rally had maybe gotten a bit over its skis. So here gold sits, smack dab in the middle of its 52-week range. 

More Thoughts on Retail Sales: While overall economic growth and unemployment remain weaker than the Fed wants, there’s been a surge in economic data lately, another sign to some that the Fed might need to start getting out more in front of improving conditions and perhaps plays into this yield rally. However, February retail sales data might have hurt that rising tide narrative, falling 3% from January. Remember, the Texas weather probably played a big role in that decline. Also, January saw incredibly strong growth of more than 6%, so the comparison was very tough. Motor vehicle sales took a big dip in February, which more likely than not reflects the winter wipeout. People still tend to shop for cars at brick-and-mortar retailers, not online. If they couldn’t get to the dealer, they might have decided to wait, so let’s see where that category goes in March. 

Plenty of Dip and No Chips In the Auto Industry: Earlier this month The Ticker Tape covered the semiconductor shortage and its potential impact on digital devices and cars. With vaccinations rolling out—and with restaurants, retail businesses, and other commercial spaces opening up—the demand for new cars is heating up as well. But then we get to the supply end of the equation which throws a little cold water on the story. Looking to buy a General Motors Company GM pickup truck? It may be missing a fuel module that it typically carries. Meanwhile, Honda Motor Co Ltd HMC opted to cut car production in some US plants rather than skip its parts, a move that mirrors Toyota Motor Corp TM and Volkswagen AG VLKAF as well. There aren’t enough chips to go around.

Now the issue has made its way to Washington, with lawmakers on both sides of the aisle saying we’ve been relying too heavily on foreign semiconductor producers. And last month, President Biden signed an executive order pledging around $37 billion to supercharge homegrown chip manufacturing. How long might this last? But that can take a while—even the rosiest predictions suggest it could be the second half of this year at the soonest. Until then, we can likely expect less supply, scaled-down products, and/or higher prices.

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

Photo by Wes Hicks on Unsplash