We have accepted the fact that there will not be many quiet weeks in the markets this year.
Stock markets fell Tuesday morning (news agencies blamed growing fears of a recession), but most stock markets rose for the rest of the week and ended up gaining nearly 2.0% before Friday.
Bond yields ended slightly higher, with yields on all maturities up to 10 years trading around 3%, but not before briefly falling as low as 2.75% on Wednesday.
When it comes to currency, the euro is approaching parity with the US dollar for the first time since the early 2000s. Expect to see a lot more of Paris and Positano on your Instagram feeds this summer.
The sell-off in commodities continued, although a rebound on Thursday flattered the complex’s performance. Nonetheless, U.S. retail gasoline prices are expected to fall back toward $4.50 a gallon, after peaking above $5 in early June.
Meanwhile, investors weighed reports that increased stimulus could come from policymakers in Beijing and watched the end of Prime Minister Boris Johnson’s momentous term as head of Britain’s government.
On Friday morning, the United States woke up to sad news from Japan. Shinzo Abe, who served as the country’s prime minister for most of the 2010s, was assassinated while delivering a campaign speech. Investors will remember him for championing an unprecedented economic policy called “Abenomics”.
While we would appreciate a break, the volatility looks set to stay. The VIX index of stock market volatility suggests a move of around 1.5% up or down each day for the S&P 500 for the next month. Implied volatility in the fixed income market is higher today than at any time in the past 10 years. Currency volatility was only higher during the Chinese currency devaluation episode in late 2015/early 2016 and the initial COVID crisis.
We don’t think markets will calm down until central banks are satisfied that they have brought inflation down to a more tolerable rate. Policy rates are the foundation of the global financial system. When investors do not know exactly where they will be in the future, it introduces enormous uncertainty about the appropriate price of assets today.
The good news is that we think most of the hard work to control inflation has already been done. The bad news is that this also means the risks of recession are high. Now, investors will just have to wait and see if central bankers see enough evidence of lower inflation in the data that they can feel confident enough to lift the brakes.
Spotlight: Rays of Hope
This week has been encouraging for those who think the US economy will avoid a near-term recession. Although the risks of a significant economic slowdown are clearly high, we have seen this week that inflation could deteriorate faster than the labor market.
The financial markets seem to be taking the Fed’s message to fight inflation at all costs very seriously. Even after a rebound on Thursday, broad commodities are 16% below recent highs, retail gasoline is down 21% and copper is down 29%. Industrial metal prices are lower today than they were a year ago.
In stocks, the energy sector is down 25% from early June highs, copper miner Freeport McMoRan is down 45% and US Steel is down 55%. In the bond markets, the 5-year inflation breakevens derived from the TIPS are close to the 1-year lows.
Weakness in commodities, housing (new home sales in San Diego are down 35% year over year), and durable goods (how about those outdoor furniture sales? ) does and what it signals it will do. Of course, this also provides evidence that an intractable slowdown in growth is well underway.
However, the labor market appears to be cooling at the margins, but there are very few signs of outright weakness. Challenger job cut data for June grabbed headlines as layoff announcements rose 57%, but rose from 20,700 job cuts announced in May to 32,500 layoffs in June don’t worry us at all. In fact, the rise to 32,500 brings us closer to the average of the expansion months in data dating back to 1994.
Initial jobless claims are hovering around 230,000 a week, which is entirely commensurate with an expanding economy. The nonfarm payrolls report released this morning showed the economy added 372,000 jobs last month, which is still likely too strong in the eyes of the Fed. Overall, this data seems consistent with a labor market going from extremely tight to quite strong.
While the market was concerned about the fall in durable goods, the latest services PMI data for the US also painted a picture of subdued, not plunging, growth. The ISM services index for June is above expectations and very solidly in expansion territory (55.3 vs. 54 expected, anything above 50 indicates continued growth). Remember that services account for more than 2/3 of overall consumption and real spending there is still growing at a 4.7% year-over-year rate, or more than 170 basis points more faster than at any time in the post-global financial crisis period. . We’re in the midst of a slowdown in growth, but the outflow of goods probably makes it look worse than it actually is right now.
This week supported the idea that weakness in commodities could calm headline inflation and should help temper consumer inflation expectations, that a subdued labor market could reduce the risk of a wage spiral and prices and that continued job gains could support future spending, investment and investment. hiring.
Of course, that’s if all goes well. All it takes is another energy supply disruption, a haphazard survey of consumer inflation expectations, or labor market weakness in real estate from fintech sectors to tip the scales back. a much more negative result.
Investment Takeaway: Portfolio Maintenance
Although the range of possible outcomes seems wide, we believe that inflation and growth should slow and volatility will remain high. That’s why we think investors should focus on core fixed income, quality stocks and strategies that effectively monetize volatility before, so they don’t exploit them again.
Instead, we wanted to highlight two clear considerations for investors, even if the outlook is murky.
First, tax loss harvesting can help extract some value from positions that are underwater. Second, managing cash and short-term assets is very important now that yields are higher. Many investors appreciate the liquidity and relative safety that Treasuries offer, but we believe they are historically expensive relative to what synthetic markets expect from the Fed. Based on liquidity and risk preferences, better options might be available.
Finally, we may reach a point this year where markets are selling off to such an extent that we will be more inclined to actively add risk assets. Preferred shares and small and mid caps are two sectors that we are watching closely.
Please reach out to your JPMorgan team to discuss what our latest insights can mean for you and your plan.
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Originally posted by JPMorgan