Last week was relatively quiet, with many traders and policy makers on vacation, and a light calendar for economic news. Risk asset markets took advantage of the calms to push ahead on low volume, but perhaps the most remarkable action was in the normally sedate bond market. Let's break down the numbers:
Stocks: The market began the week by continuing to consolidate the summer gains, but the bid came in again later in the week. It started on Wednesday with the small caps, and the large caps joined the party Thursday, with a broad market advance coming on the week's heaviest volume. By Friday's closing bell the Russell 2000 had chalked up a weekly gain of nearly 2.3%, the NASDAQ a little under 1.9%, the Dow and S&P less than 1%. Volume again was light.
S&P sector action was generally in line with what we might expect in a confirmed rally, with the techs again leading the way with a gain of 1.5%, as Apple re-asserted its market leadership. The shares gained more than 4% on the week, reaching a new high over $648. Financials and industrials gained more than 1%, while the consumer cyclicals added nearly 2% after a surprisingly positive retail sales report. At the other end of the table, utilities continued to give back previous strong gains, falling nearly 1.5%, and the health care sector also finished in the red.
The rally continued to go global, with eight of the twelve major foreign indexes we follow posting weekly gains. Most European markets continued to move higher, as did Australia, and Tokyo's Nikkei on the fall in Yen. On the other side of the ledger, the Shanghai composite fell again, re-testing the low of 2,100.
Bonds: Treasury yields rose for the fourth consecutive week, with the rate of increase highest on the shorter end of the curve: the five year note sold off to yield over 8% at one point on Thursday, briefly topping the 200 day moving average. The ten and thirty year bond yields closed above 1.8% and 2.9%, respectively, as the overall yield curve flattened a bit. With the big move in Treasury yields, the selloff extended across the bond market, as many corporate and municipal issues were marked down, but the discounting was quite moderate, and yields on some grades and maturities actually fell on the week.
Commodities: The broad commodities indexes moved sideways, as different groups went in different directions. WTI crude oil closed above $95 for the first time since early May, while natural gas continued to give back its summer gains, breaking near term support. Gold continued to grind sideways, once again bouncing off the 50 day MA and the $1,600 level. Copper and the industrial metals also saw choppy sideways trading around either side of the 50 day. The grains sold off on Monday, but prices backed up again later in the week, with corn closing back above $8.
Currencies: The U.S. dollar index was nearly unchanged on the week, moving in a tight range between 82 and 83. The euro spent the week trading under $1.24, finding steady resistance at the 50 day MA. Among the major currencies the biggest move was in Yen, with the dollar moving above JPY79.5 as the Japanese currency has fallen in seven of the past nine sessions. The Aussie dollar also pulled back, more modestly, against the greenback.
There was not a great deal of economic or earnings data for the markets to consider last week, but what there was, seemed to bolster investor confidence. As mentioned above, retail sales, both in aggregate and ex-autos, came in solidly above expectations. Business inventories were slightly lower than forecast, and Conference Board leading indicators, though weak, were less weak than expected, and more importantly remain above zero. Even though Empire Manufacturing and the Philly Fed missed, the market appeared to see the big picture for business conditions as less worrisome, and there is little sign of recession in the data.
Earnings again were a mixed bag, with high profile misses from the likes of Wal-Mart (WMT) and Priceline (PCLN) offset by upbeat reports from blue chips Cisco Systems (CSCO) and Home Depot (HD). Elsewhere we saw a continuation of the trend of companies making bottom line numbers with top line misses - a trend that is not sustainable in the long run, but doesn't seem to worry the market in the short run.
Stocks: In last week's article I noted that, while I liked the trend, I had some concerns about the failure of small caps to participate in the rally. Over the past week the small caps arrived at the party, and with quite a splash. In a previous article, I expressed some doubt that we would see a new yearly high on the SPX this summer. As of Friday's close we are within little more than 4 SPX points from the April 1st top. To this point my suspicion that there would be another leg down before we saw that new high, an outlook based on weakening corporate revenues and economic data, and a breakdown in several previous leaders, has been mistaken. As a result, I have incorrectly been underweight equities this summer.
Instead, we have a number of factors that I view as very positive for the markets: a solidly positive trend, broadening participation from the small caps, improving breadth, major indexes close to new highs, tech sector leadership, and the market bellwether par excellence - Apple - actually making a new high. With the correction in bond markets, we will also have to see whether there is any outflow from the very crowded bond trade. Much of that money could find a new home in the rallying equity market. Of course, there is always plenty to worry about, and significant events are just ahead, with potential to move the markets - Jackson Hole, the European Commission, German Constitutional Court, etc. However the market is acting about as well as anyone could expect. At this point it does look a little extended, and the VIX is at an extraordinarily low level; being currently underweight, my strategy will be to look for a pullback to add to long equity positions.
click to enlarge images
Bonds: The bond market correction has certainly attracted plenty of notice and commentary. There have been the usual proclamations of the death of the forty year old bond bull, and some suggestions to back up the truck and load up on short bond positions. While I have been avoiding the Treasury market myself and have cautioned my readers about Treasuries for months, let's not get too worked up here. Yields on the benchmark ten year note remain well under 2%, and are only back to the levels of mid May. We could see 3% - a very low near term probability in my view - and still not break the long down trend. Certainly that would inflict pain on investors who bought at the top, seeking safety, but let's keep some perspective here. Bonds were extremely overbought, and it's difficult to see how anyone could have been surprised by the correction. Extending the analysis to an inflationary collapse of the bond market when GDP growth is in the low single digits, and wage growth is even lower, just does not make sense.
We're still not buyers of Treasuries at current levels, but I would look at a general selloff in the bond market as an opportunity to buy duration, as we currently are overweight short term paper in the income portfolio. Another ongoing correction that I have my eye on, though it is not fixed income, is the action in utility stocks. They are pulling back after an extended run up, as yields rise and equity investors rotate into more growth oriented positions. There are some nice dividend yields on offer, and I am considering adding some bargain priced issues to what is otherwise an almost entirely fixed income portfolio.
Commodities: The commodity rally continues to decelerate as the U.S. dollar steadies. The CRB index has essentially moved sideways over the last four weeks, following the big move in the first half of July. On a technical note, WTI crude has just completed a 62% Fibonacci retracement of the move from the May high to the July low, and sits just underneath the 200 day MA. We still have geopolitical uncertainty, the west coast refinery shutdown, and a surprising crude inventory drawdown, so it is possible to make a case for ongoing strength. My own view is that fundamentally, and absent a renewed move down in the dollar - which I do not anticipate - or an outbreak of military action involving Iran, we aren't likely to see oil move much higher.
The metals are less politically sensitive, and not subject to the vagaries of weather, so I believe they are telling the real story here. The story is that there isn't much upside momentum to be seen. "Dr. Copper" is mired in the low to mid $3s, and iron ore continues to be weak. Gold is also moving along an increasingly narrow price range, which doesn't lend much support to the bond bears' theories that inflation is about to explode higher. I am simply not a believer in the commodity rally, though I do maintain a small allocation to gold.
Currencies: The U.S. dollar index has steadied as the market appears to be less confident in the advent of a QE3 program, and bond yields have been rising. Several of the major currencies, like gold, are chopping sideways and within relatively narrow trading bands. Others, like the Aussie and Yes, are pulling back from advances against the greenback. The market appears to be waiting for some catalyst for the next directional move and, as noted above, several upcoming events on the calendar have the potential to provide it. In the shorter term, look for more of the same.