The Consumer Price Index (CPI) grabbed most of the headlines last week, but it wasn’t all bad news. The CPI was up 9.1% year over year in June, the most since November 19811. Energy prices accounted for a significant portion of the gain as fuel prices soared in June1. Market participants reacted by selling equities in anticipation that the Federal Reserve will have to continue with their hawkish policy of raising interest rates rapidly and thereby push the economy into recession in the process. The S&P 500 slid 0.91% last week, leaving it down 18.27% for the year2. The NASDAQ fell 1.57% for the week, leaving it down 26.50% for the year2. Our global equity benchmark, the MSCI All Country World IMI Index, was off 1.62% for the week and 20.14% for the year. Bonds helped investors last week as longer interest rates moved lower. The Bloomberg Aggregate Bond Index was up 0.89% for the week and down 9.80% for the year2.
While the headline CPI was eye-catching and worse than expected, we do know that commodity prices fell significantly in July1 - so perhaps the June CPI report will prove to be the peak for this painful surge in inflation. Aside from the CPI, economic data wasn’t bad. U.S. Retail Sales rose 1% month over month in June, signaling consumer spending strength1. The University of Michigan Consumer Sentiment Survey also rebounded from a record low in early July, while longer-run inflation expectations in the Survey retreated back below 3%, also highlighting the potential that inflation may be peaking1. We are still of the view that the Federal Reserve will talk and act tough at their meeting next week, but perhaps they will have to be less aggressive in Q4 if we have seen the peak in inflation.
Still, we are cognizant that the economy is slowing and the potential for recession has grown substantially. We continue to watch the bond markets for guidance on the outlook. Some measures such as the 10-Year/2-Year Treasury spread are concerning; other parts of the Treasury curve are less so. Credit markets have been under some stress as well, but high-yield credit spreads to Treasury notes are only around their longer-term average. We will continue to monitor these data and many others, but for now, we view the bond market as signaling a rather sharp slowdown in economic growth, but not necessarily recession. If it isn’t, both equity and bond markets have priced in a lot of bad news already.
Regardless, we are now in the thick of earnings season, so investor attention will focus on these numbers and management guidance. It will be interesting to see how companies navigated a challenging Q2, and how executives adjust guidance for the balance of the year. Analyst expectations are still quite high, so we will be closely following how much earnings will need to be adjusted in the forward Price/Earnings ratio and how much investors will be willing to pay for any adjustments. Last week brought earnings from Pepsico, JP Morgan and other banks. On the whole, the numbers and guidance were not too bad, and stocks gained back some ground late last week as the data came in1. In the week ahead, 73 S&P 500 companies report, including Bank of America, Goldman Sachs, IBM, Johnson & Johnson, Lockheed Martin, Netflix, Tesla, CSX, AT&T and Verizon1. Their reports are likely to set the tone for the week.
We again reiterate that this environment requires immense levels of patience, balance, and discipline from investors. We think investors should be prepared for continued volatility through the balance of the summer.
Thank you for your confidence in our team during this heighted period of volatility,
Asset Management Department
Sequoia Financial Group
Sources: 1. Bloomberg/Bloomberg News, 2. Morningstar Direct
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