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Brian Pietrangelo:
Welcome to the Key Wealth Matters weekly podcast where we casually ramble on about important topics including the markets, the economy, human ingenuity, and almost anything under the sun, giving you the keys to open doors in the world of investing. Today is Friday, August 16th, 2024. I'm Brian Pietrangelo, and welcome to the podcast. Earlier this week I had the tremendous opportunity to spend a lot of time in the upstate New York capital region visiting Syracuse, Saratoga Springs, and Albany for a number of client events as well as meeting with our internal partners and our field reps. So thanks everybody for hosting me. What a great opportunity. Met a lot of great people, had a great time, and even had an opportunity to visit the famed Saratoga Racetrack. With that, I would like to introduce our panel of investing experts here to share their insights on this week's market activity and more.
George Mateyo, Chief Investment Officer, Steve Hoedt, Head of Equities, and Rajeev Sharma, Head of Fixed Income. As a reminder, a lot of great content is available on key.com/wealthinsights, including updates from our Wealth Institute on many different subjects and especially our Key Questions article series addressing a relevant topic for investors each week. In addition, if you have any questions or need more information, please reach out to your financial advisor. Taking a look at this week's market and economic news, we've got four quick updates from an economic release schedule perspective, starting with initial unemployment claims on a weekly basis. Decline for the week ending August 10th to 227,000, down 7,000 from the prior week and down from two weeks ago. Again, we mentioned this because there was a little bit of volatility about three weeks ago where there was a spike and people were wondering whether this would be an ongoing trend, but of course it seems to not be that case right now. So again, good news on the unemployment initial claims front.
Second, industrial production across the United States for the month of July actually declined 0.6%, which was a pretty decent decline. As a preliminary read, again, this number gets revised for two months, so if we go back to June and May, there was actually very positive momentum up 0.3% in June, up 0.8% in May, so down 0.6% in July. We'll have to see again whether this is just a temporary monthly trend or something more negative in terms of overall industrial production in the US. And third, on the other side of the economy, we got a report regarding retail sales for the month of July as well showing an increase of 1.0%, which was a pretty decent increase on a month-over-month basis and above expectations. However, June was revised downward by 0.2%. So all in all, the market reacted pretty favorably for this number, given that it continues to show the consumer resiliency in the face of a number of headwinds.
And again, we'll keep track of this number on an ongoing basis to see if it is predictive of where the economy is headed. And finally, our fourth, the big news for the week was the inflation print for Consumer Price Index, otherwise known as CPI, that even though it showed moderate increases on a month-over-month basis in July from June, the bigger number that the market seemed to have cheered was the CPI year-over-year for July, which came in overall at 2.9% and excluding food and energy otherwise known as core inflation came in at 3.2%, again, year-over-year ending in July, which was 0.1% below June's rating for both overall and core. In addition, shelter inflation continues to remain persistent along with transportation costs, so we'll continue to monitor those going forward. But all in all seems to be net-net good news. So let's turn to George to start our conversation today with George's reaction to what's happening in the overall economy given the multiple reports that came out this week in addition to his overall thoughts. George?
George Mateyo:
[inaudible 00:04:06] Brian. I mean, I think it was a pretty busy week overall in terms of some of the economic numbers that came out this week, but overall, net-net seemed to be pretty market-friendly and maybe kind of dashed some of those concerns we had just a few days ago, literally around softening and rolling over of the economy. I think if you put it in a couple different areas, it seemed to me like some of the more cyclical areas of the market probably got hit hardest, which is probably a residual of the higher interest rates and the tightening of credit and so forth. Maybe there's some hurricane-related noise in there too, but housing starts, which throughout this morning for example, were down. And I think a lot of that has to do with, as I said, hurricane-related activity, but certainly that's one sector that's more sensitive to interest rates.
So not surprisingly to see housing starts probably fall a little bit weaker than expected. You mentioned industrial production was also a bit soft. I think that might be kind of related to some of the weakness we're seeing in overseas markets, particularly Asian and European region. But retail sales, as you also mentioned, was really the upside surprise of the week. And even there too, I think we kind of saw some of the cyclical areas of the economy do quite well, particularly autos, which rebounded quite nicely. And so we had retail sales of 1% month over month, which was a really big reversal from the prior month, which was down, I think a couple tenths of a percent suggesting at the time that the consumer was running out of gas, no pun intended. And I think it is notable though that we have to be mindful of the fact that maybe some of this recent spending might've been leveraged in the sense that savings have actually been depleted a little bit more.
Some incomes are down a little bit, so I think there is probably some consumer spending that's being financed, maybe be a credit card debt and some other things that probably aren't as sustainable otherwise. So good news nonetheless, and Walmart's backed that up in terms of what they talked about with respect to the consumer being pretty healthy overall. But I think the number, the big reading of the week anyway was on the inflation side, which also came in pretty much in line with expected, continued to show some signs of disinflation or kind of falling prices, but still higher maybe than where they were pre-pandemic, but we made good progress there. So the overall numbers on the inflation side suggest that maybe the Fed can actually think about cutting rates when they get together sometime soon. I don't think it gives a whole lot of credence to that. They have to cut aggressively right now, and I think that was further substantiated by what we saw in the labor market.
When you talk about jobless claim numbers, jobless claims are one of those the things that we probably need to remind ourselves that's a very volatile data series. These numbers change around a lot, but they did come down a little bit less for the prior week or so. In the prior two weeks, they were actually somewhat elevated and getting to be somewhat cautionary... in the cautionary range that we have to pay attention to in terms of some softness in the labor market. But I [inaudible 00:06:47] suggest, I guess Rajeev, unless we see a really significant deterioration in the labor market, you could start thinking about the Fed just going around this business essentially moderately taking back some of the policy cuts that they put in place in 2022. But I don't really think the Fed at this point today is in a position to cut aggressively unless and until we see a significant deterioration in the labor market. But that's how I would think about where we go from here. Rajeev, if you think about what we saw particularly in the inflation print, what do you think the Fed is thinking about doing next?
Rajeev Sharma:
George, I agree with you on the fact that perhaps the Fed doesn't need to be as aggressive as maybe the market had expected. The CPI print came right in line with what the expectations of the market was, and I think that if there would've been any surprise there, we could have had a different discussion, but it was kind of baked in that CPI is going to come in pretty much on the screws, and that's exactly what happened. The Fed has kind of now shifted their focus more towards the labor market, and I think that's going to be something that they're going to really be focused on because there have been some cooling in the labor market over the last couple of prints. But if you look at what the Fed could possibly do next, I mean it's been 14 months since the Fed hiked rates, and that's an awfully long time to be on pause.
Once we got past this week's CPI report and retail sales numbers, the runway should be pretty clear for the Fed to finally cut rates in September. Right now I feel like a probability is they're pointing to a market that's expecting at least 25 basis points of rate cuts for September and four rate cuts for 2024. That would be one full percentage of rate cuts by the end of the year. The market had been expecting a 50 basis point rate cut for September given some of the cooling numbers that we saw in the jobs market. However, the retail sales data that came yesterday took down some of those fears of a recession and pretty much took down expectations of a 50 basis point rate cut for September. It might make more sense for the Fed to go for a full 50 base point rate cut in September, so they do not find themselves off sides if there was some significant cooling of the economy.
But with the Fed now focused on its dual mandate of inflation and jobs, we really have to look for cues that we can get from FedSpeak. Namely, we got some cues this week. Fed Reserve Bank of Chicago president Austan Goolsbee came out with a statement that pretty much said that he does have some concern about the labor markets moreover than his concerns about inflation. He admitted that the current interest rate environment is very restrictive, but if we go into a recession, he said that that would impact the pace of rate cuts and the magnitude of each rate cut. You also said Atlanta Fed president Bostic come out and say that he's open to cutting rates in September. He's a voting member and that the Fed cannot afford to be late to ease monetary policy, but he also kind of tempered those expectations by saying that it would be really bad if the Fed started cutting rates and then inflation pops up again and the Fed would've to turn around and reverse course.
That comment right there does not sound like a voting member that is ready to cut 50 basis points next month. Obviously, the critical voice that we're all waiting for is that of Fed Chair, Jerome Powell, he'll be coming out next week at the Jackson Hole Symposium, which is August 23rd. It'll be interesting to listen for any cues from him regarding the mindset of the Fed, any hints towards the magnitude of the first rate cut, also how much emphasis is he placing on preventing a downturn in the jobs market and pretty much the shift of focus from inflation to one that's now focusing on full employment. If you look at bond yields during the week, we haven't had much of a move in the front end as the market's kind of priced in those rate cuts. Now, if you move further out the curve, we did see the ten-year and thirty-year yields move slightly lower.
The ten-year treasury note yield is again below 4% or around 3.9%. This could have a lot to do with the amount of treasury supply that's hit the market and how they've had to perform. That's adding pressure to keep yields from going too much further lower. You did see the ten-year auction that came out a couple of weeks ago, that ten-year auction really did not see a lot of investors getting excited about yields at the ten-year below 4%.
So that's kind of become a restrictive point now. And as we see more auctions, it's going to be interesting to see if market participants really want to play yields that are below 4% for the ten-year. Now, if you look at credit spreads, we continue to trade at very tight levels in investment grade. We're about 95 basis points over US treasuries and that too in the face of huge new issue supply that we saw this week. In fact, this year we have already had more than $1 trillion in new issuance for investment grade, but the demand continues to be there, and these deals are getting done. High-yield credit spreads, they also rebounded from last week's year-to-date wides. Just this week alone, we have seen high-yield spreads tighter by 22 basis points. So again, the risk-on trade is fully on. With that, back to you George.
George Mateyo:
So speaking of trades that are fully on, Steve, it seems to me that this thing that we talked about the last, I think two podcasts now has been this yen care trade, which is essentially kind of Wall Street gibberish for people barring short-term rates and trying to refinance that or maybe buy assets with higher yields and longer duration so forth. And that trade, as we know, came unwound two weeks ago and now it seems like it's back on. I mean, we've quickly gone back to the point that people are pulling back into some of these more aggressive names, but it's been a tale of two tapes in terms of what we've seen so far in Q3 in terms of the stock market. I mean, July was a pretty great month. People were concerned or maybe not really concerned. They were actually focused on and celebrating this soft landing narrative, and we had a big rotation into some beaten down left under loved, I guess small cap securities.
But August was a reversal, obviously with the first few days being pretty weak given the unwinding of the security trade and also because of the concern of softness in the labor market, which have certainly maybe even pushed aside. You've seen other things improve since then, but you've seen actually tech stocks underperform a little bit of late. It seems to me that the best performance sectors, at least through the first few months, few weeks rather of this quarter, are those, again, interest sensitive sectors like real estate and financials and so forth. So how has earnings been played out and how do you kind see the market trading from here?
Stephen Hoedt:
Well, George, earnings has been good enough, but obviously expectations were really high coming into the quarter, so it's not been good enough to generate a massive amount of upside for the market in terms of a reaction to it. But we have seen the estimates continue to creep higher, which long-term is key to having the market resolve higher. As long as forward earnings continue to go up, the stock market tends to resolve higher over time. To me, I think the story of what's happened in the last 10 days is actually more the story of what hasn't happened in the last 10 days. There was a lot of fear in the market after we had that kind of thunderclap of volatility based on the yen carry trade unwind a couple of weeks ago. To part of Rajeev's point, credit really was the telltale here because credit did not crack. It more normalized relative to where we've been over the last five plus years.
But you saw a no blowout in credit spreads. So even though you had the huge spike pre-market in the CBOE VIX, which printed over 65, again, untradeable numbers, but you had that spike in volatility, it didn't manifest itself in credit. And I think that what that speaks to is the underlying strength in the macro narrative. And I know it's strange to talk about underlying strength, but even if we're having a slowing economy, a slowing growth rate, you're still talking about growth right? And there's a big difference between one and a half, 2%-ish growth and negative growth. We have decelerating growth, but we still have growth. And you're in a market where I think people are understanding that you're going to have slower growth, but at the same time you're going to have Fed rate cuts. I mean, the market's pricing in a couple hundred basis points of rate cuts.
If you look at where the two year is, whether we get all that or not is yet to be seen, but clearly you've got 100 basis points of cuts priced in between now and the end of the year. You've got 200 overall. A durable economy with rate cuts is a healthy macro for risk assets. So I think it's hard to mistake that when you look at historical multistandard deviation breaks in the market. When you get those, you tend to have an opportunity to put capital to work for the trade in the other direction. And when you've got a macro setup like what we have, it seems much more reminiscent to me of the kind of setup that we had in the mid 90s or late 90s when we got the Fed into a cutting cycle when we had a favorable macro backdrop. And I think that if you focus on quality, you'll be paid well for it in the equity markets over the next few months.
Again, to this point, the narrative around AI obviously has been a big deal this year, but I think it's really healthy that we've seen that narrative turn two ways over the last couple of months. So it's not just a one-way narrative to the upside. Now you've got people chiming in on the other side of that, and the fact that that's less one-sided, I think speaks to better conditions overall in the market. There's a lot less euphoria around that kind of stuff. And when you've got a less euphoric situation, it sets us up better for a grind higher as we get some of the uncertainty of the geopolitical political stuff out of the way as we move through the back end of the year.
Brian Pietrangelo:
Well, thanks for the comments today, everyone. And before we close today's podcast, we want to mention that we're having a national client call on Wednesday, September 4th at 1:00 PM Eastern, where George will be joined by a very special guest to talk about the upcoming presidential election. You won't want to miss this call as it should be very, very interesting. So if you have not already received an invite, please reach out to your KeyBank contact. Again, national client call Wednesday, September 4th at 1:00 PM Eastern. And so sign up if you can.
Well, thanks for the conversation today, George, Stephen, Rajeev. We certainly appreciate your insights as always, and thanks to our listeners for joining us today. Be sure to subscribe to the Key Wealth Matters Podcast through your favorite podcast app. As always, past performance is no guarantee of future results, and we know your financial situation is personal to you. So reach out to your relationship manager, portfolio strategist, or financial advisor for more information, and we'll catch up within next week to see how the world and the markets have changed and provide those keys to help you navigate your financial journey.
Speaker 5:
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