As Expected: Fed's Favored Inflation Data Mostly In Line With Consensus And Wall Street Gets Boost From Amazon

(Friday market open) Consumers kept opening their wallets last month, but inflation was near expectations, according to numbers released early Friday. Stocks appeared headed for a slightly higher open after the data and encouraging earnings news from Amazon AMZN and Intel INTC.

Personal Consumption Expenditure (PCE) prices, the Fed’s favored inflation monitor, rose 0.4% in September while core PCE rose 0.3%. Core strips out volatile food and energy prices. Analysts had expected 0.3% for both.

Personal Spending in September rose a larger-than-expected 0.7% and continues its blistering pace. However, strong consumer spending in Q3 should come as no surprise considering the consumer-driven Gross Domestic Product (GDP) report yesterday showing Q3 GDP up at a 4.9% annual pace.

Before today’s slight rebound, this week’s mega-cap retreat had an outsize impact on the market cap-weighted S&P 500® Index. The SPX descended Thursday to its weakest close since May 24 as Apple (NASDAQ: AAPL) carved a six-month low and Alphabet posted a three-month low. Even Microsoft (NASDAQ: MSFT) got caught in the selloff despite reporting strong earnings. At its intraday low yesterday, the SPX fell into correction territory, down 10% from its July 31 peak.

In addition, cautious guidance on semiconductor chip demand and internet advertising hurt the info tech and communication services sectors yesterday, though they remain 30% and 33% higher year-to-date, respectively, compared with 7.7% for the SPX. In a nutshell, the broader market is steadily giving back gains from earlier this year that were driven mainly by the largest stocks. One way to think of it is that the market is “catching down” to what the other 99% of stocks are doing.

Beyond earnings, geopolitics is also a factor in the downturn. Some of the advertising guidance caution stemmed from worries about war in the Middle East. Lack of obvious positive catalysts also plays a role, especially amid ideas that stalwart Q3 U.S. economic growth could potentially represent a high mark.

“It’s not one particular event that’s prompting people to sell stocks,” says Kevin Gordon, senior investment strategist at Schwab. “Sentiment has become supportive, but you need a positive catalyst to launch you back into the other direction. Improving breadth should be the catalyst, but it isn’t happening so far.”

Morning rush

• The 10-year Treasury note yield (TNX) rose 1 basis point to 4.86% after the PCE data.
• The U.S. Dollar Index ($DXY) is steady near one-week highs at 106.74.
• Cboe Volatility Index® (VIX) futures eased to 20.27.
• WTI Crude Oil (/CL) rose 1.6% to $84.56 per barrel.

Just in                     

The futures market prices in lower chances of a December Federal Reserve rate hike despite yesterday’s firm GDP and today’s strong personal spending data. The chance of a hike that month is now around 20%, according to CME trading. That’s down from nearly one-third earlier this week.

Judging from today’s PCE data, the inflation beast could be checked but not tamed.

“Core was still up 0.3% and bucked the summer trend of an average 0.17% gain, so the Fed is not going to declare victory on this,” Schwab’s Gordon says. “The major upside surprise was spending.”

Annual core PCE grew 3.7% as Wall Street analysts had expected—the lowest since May 2021.

Stocks in spotlight

A host of heavyweights disappointed with earnings results, guidance or both this week, including Meta Platforms (META), Alphabet (GOOGL), Texas Instruments (TXN), and General Motors (GM). However, Amazon shares edged up in premarket trading after reporting late Thursday. IBM (IBM), Intel, and Merck (MRK) also rose after earnings.

• The question today is whether Amazon can stop the bleeding in mega-caps ahead of Apple’s earnings next week. Meta shares initially rallied after reporting late Wednesday only to sink as investors detected caution about advertising in its earnings conference call. Amazon beat analysts’ earnings per share (EPS) and revenue estimates and reported Amazon Web Services (AWS) cloud revenue up 12.3% year-over-year.
• However, Amazon’s guidance was below Wall Street’s estimates. Other big companies got punished for low guidance recently, but so far Amazon has bucked the trend. Investors appeared encouraged by improved profit margin that reflected cost-cutting.
• Intel’s earnings, margin, and guidance all surpassed analysts’ forecast in what the chipmaker described as a “standout third quarter.” Improved gross margin was a key metric after Intel struggled on that front recently. Intel’s ability to work through supply and increase average selling prices contributed to margin improvement and raised hopes that the chip industry is seeing improved demand.
• Ford (F) earnings yesterday followed the company reaching a tentative labor agreement with the United Auto Workers (UAW). Its EPS missed Wall Street’s average estimate, but revenues were in line with expectations. Ford also withdrew its full-year 2023 guidance pending ratification of the tentative labor agreement. In its conference call, Ford executives called the quarter “mixed.”
• Turning to energy, shares of Exxon Mobil (XOM) were flat in premarket trading after EPS and revenue came up short of Wall Street’s estimates. Earnings fell sharply from a year ago, in part because oil prices fell year-over-year in Q3. The company’s CEO told CNBC he expects oil supply to remain fairly tight. Weakness in Chevron (CVX), which also missed Wall Street’s expectations, appears to be hurting the Dow Jones Industrial Average ($DJI) early on.

With earnings season about 40% complete, 78% of companies have beaten Wall Street’s earnings per share estimates while 47% have exceeded revenue estimates (see more below). The 78% mark is above recent averages, but 47% is well below.

What to watch

The Week ahead: Next week will provide manufacturing economy insight with the October Chicago Purchasing Managers’ Index (PMI) and the October Institute for Supply Management (ISM) Manufacturing Index. On Wednesday the September Job Openings and Labor Turnover Survey (JOLTS) will be in the spotlight after August’s report came in well above expectations. But the highlight will be the October Nonfarm Payrolls report next Friday. Early consensus from analysts is for 172,000 new jobs, down sharply from 336,000 in September, Trading Economics says.

GDP redux: Q3 Gross Domestic Product (GDP) was stronger than expected but didn’t change sentiment around interest-rate policy. The market continues to build in virtually no chance of a rate hike next week from the Federal Reserve, bolstered by pause decisions this week from the European Central Bank (ECB) and the Bank of Canada.

The Bank of Japan’s (BoJ) two-day meeting ends Tuesday, with 76% of economists surveyed by Bloomberg expecting no change to its policy. “The odds that a change comes sooner than 2024 have increased recently, as the yield on 10-year Japanese government bonds continue to rise, along with the global trend,” says Michelle Gibley, director of international research at Schwab.

Eye on the Fed

Early today, futures trading pegged chances at 99% that the Federal Open Market Committee (FOMC) will hold its benchmark funds rate at the current 5.25% to 5.50% target range following its October 31–November 1 meeting, according to the CME FedWatch Tool. The market isn’t quite as confident on the expected results following the FOMC’s December 12 meeting, with chances of a pause currently at 79%.

Talking technicals: The S&P 500® Index (SPX) took out a key support level at the 200-day simple moving average (SMA) which now rests near 4,240. “The next technical support for the SPX is near 4,050, which represents the 50% Fibonacci retracement level from October 2022 low,” says Nathan Peterson, director of derivatives analysis at the Schwab Center for Financial Research. “On the bullish side, the Russell 2000 (RUT) appears to be maintaining support around 1,650.”

CHART OF THE DAY: BEAR SIGHTING. The S&P 500 Index (SPX-candlesticks) broke below the bottom of a channel on the charts, which could set it up for further losses based on technical weakness. The level it broke below on this chart is 4,169. Data source: S&P Dow Jones Indices. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.

Thinking cap

Ideas to mull as you trade or invest

Bitter aftertaste: One eye-opening statistic is the low percentage of firms outpacing Wall Street’s Q3 revenue estimates. Through midday Thursday, just 47% of 207 S&P 500 companies reporting posted revenue above the average analyst forecast. That suggests less traction from price hikes versus recent history, and it could reflect consumers and businesses either reducing purchases or choosing cheaper alternatives. “We’ve heard from consumers that they need to make difficult choices,” a Hershey (HSY) executive said on this week’s earnings call, noting that consumers face less government assistance, rising interest rates, and resumed student loan payments. Other companies sounded similar notes.

Shift change? Defensive sectors like staples and utilities are the only ones not down significantly over the last week. Meanwhile, cyclicals like energy and consumer discretionary that often do better in strong economic times are dragging. That’s a reversal from recent months when defensives wilted. Thursday’s outperformance in small caps could also be instructive, though one day isn’t a trend. One reason defensives and small-caps have struggled is competition from Treasury yields that offer roughly twice the yield of dividends from utilities and staples—so called “bond proxies” often bought for income. If utilities and staples continue outperforming cyclicals, it could suggest investors see economic growth slowing. Small-cap strength could suggest investors seek relative value rather than expensive stocks amid perceptions of a softening economy. It’s still early and data could work against the theory of slower economic growth, but perhaps this marks the start of a broader shift into defensive mode.

Q4 outlook: It’s early, but the New York Fed’s “Nowcast” pegs Q4 GDP at an annual pace of 2.3%. However, Q3 estimates grew throughout the quarter, and two months remain in Q4. Analysts’ consensus for Q3 growth rose from around zero in late June to above 3% by early October as economic data proved more resolute than expected. GDP is always backward-looking because it comes weeks after the quarter ends, but it still can help investors understand trends like inflation, interest rate probabilities, and comparisons between U.S. and overseas growth. When tracking GDP, remember that some believe the GDP deflator, which measures the difference between nominal and real GDP, is a better inflation indicator than the monthly Consumer Price Index (CPI) because the GDP deflator captures changes in prices related to production and income developments. Nominal GDP measures GDP at current prices, while real GDP is adjusted for inflation.

Calendar

Oct. 30: Expected earnings from McDonald’s (MCD).

Oct. 31: S&P Case-Shiller home price index and October Consumer Confidence. Expected earnings from Cadence Design (CDNS) and Nucor (NUE).

Nov. 1: October ISM Manufacturing, September Job Openings and Labor Turnover Survey (JOLTS), September Construction Spending, Fed rate decision, and expected earnings from DuPont (DD), Humana (HUM), Kraft Heinz (KHC), American International (AIG), McKesson (MCK), PayPal (PYPL), Qualcomm (QCOM), and Roku (ROKU).

Nov. 2: September Factory Orders and expected earnings from ConocoPhillips (COP), and Apple (AAPL).

Nov. 3: October Nonfarm Payrolls, October ISM Non-Manufacturing Index, and expected earnings from Cardinal Health (CAH).

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

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