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, October 18th, 2024. I'm Brian Pietrangelo, and welcome to the podcast. If you are a Major League Baseball fan, you certainly got a treat last night in the competition between the New York Yankees and the Cleveland Guardians. Key Bank has a significant presence in both New York and in Cleveland, so we figured there's probably a lot of listeners out there that might've watched the game. The Guardians won that game in dramatic fashion, but the Yankees are still up in the series, so we'll still see where the rest of this particular competition goes for the remainder of the week.
With that, I would like to introduce our panel of investing experts some might call them major-leaguers in their own right here to share their insights on this week's market activity and more. George Mateyo, Chief Investment Officer, Stephen 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 activity, we've got three key updates for you first starting with the initial unemployment claims for the week ending, October 12th came in at 241,000. Now this is important because the prior week ending October 5th claims had jumped a significant amount all the way up to 260,000. Certainly some of that data in the previous week's spike were related to hurricane claims for unemployment, and so it's good news to see that that has receded back to a little bit around the 240,000 mark, but with the expectation that Milton will also have some of the same challenges that Helene did, we might see the spike again for the second week next week when the data comes out.
And second, overall retail sales for the United States were released yesterday and came in at $714 billion, which was a month-over-month increase of 0.4%, which was higher than the previous month in August at 0.1%. So the consumer continues to drive results that might be a little bit stronger than expected, and we'll have to talk to George about what this might mean for the overall economy.
And third, industrial production across the US was also released yesterday and came in for September at a negative 0.3% following August's read of positive 0.3%, and that goes back also to July of negative 0.6%. So for four consecutive months we've had the vacillation of up, down, up, down. So we'll take a look at that on the manufacturing side of the equation to complement what's happening in retail sales as a little bit of a mixed story in overall economic news and some seasonality.
We'll also talk about third quarter earnings with Steve and take a look at what happened with the ECB, European Central Bank with Rajeev as we round out our conversation with our panel today. So let's start with George with his reaction to some of the economic data and his overall thoughts and pitch it this way in terms of, will the Fed continue to throw maybe a curveball into their overall thinking of what the recent data means for the overall economy including retail sales, the recent CPI report and other strong reports that we continue to get or will they continue with their cutter? George?
George Mateyo:
Well, in terms of the pitch, Brian, I think it's going to be a slider. I think it's not going to be a curve or a cutter. I think the Fed's going to slide one in before the end of the year, whether it's November or December, I'm not quite sure based on the latest economic data, but I do think the Fed is still predisposition to try and cut rates a little bit further really simply because they want to normalize policy right? They've done a lot to take inflation down by cutting rates aggressively in 2022 and 2023 and now things are probably giving them some degree of room to start cutting rates again. We've talked about just building a normalized policy and that's actually a pretty good backdrop for risk assets and [inaudible 00:04:23] we've talked about on these calls, but you're right that have asked the question in the sense that the Fed probably is rethinking some of its speed or the velocity of those cuts to use another baseball term.
And I think it's probably fair to say that what we've seen in the past few days and weeks or so is that the economy is doing quite well, and so there is probably some second guessing that maybe 50 basis points last meeting wasn't needed. I don't think that's really worth rehashing, frankly. I mean, I think they probably could have cut once before that, and so maybe again, we're just splitting the hairs here as [inaudible 00:04:55] they did too much or if they made a mistake, but I think it is probably irrefutable that the economy is still growing quite well and fairly resilient. You mentioned some of the consumer numbers and retail sales were pretty strong. CPI was a little bit hotter than expected, but still not really quite in the elevated range, and we do see prices coming down in many parts of the economy and the world, so I think there is still some elements of inflation cooling.
It's not cooling to the extent that the Fed can be cutting aggressively as we talked about. And also as we've talked about, the Fed's not going to be cutting aggressively until we see a significant deterioration in the labor market and we haven't seen that. Jobless claims you mentioned is something we've watched to try to get a near-term indicator and where things are headed with the labor market and they've actually come down this past week despite the fact that the hurricane maybe has kind of swayed these numbers back and forth and maybe pushed them up a little bit last week as we talked about this time a week ago. So overall, I think the Fed's probably going to be likely to suggest that yes, we need to do more, but I think they're also have to acknowledge that the economy's still in a pretty good place right now. Rajeev, as you think about this as we go ahead into next month's meeting, what are you processing right now as relates to the Fed and the economy itself?
Rajeev Sharma:
Well, you're right George. We've seen a lot of movement when it comes to the pace of rate cuts going forward by the Fed. The attention is squarely on the November FOMC meeting right now. The odds of a 50 basis point rate cut for that meeting we're dashed after we got that blockbuster jobs number two weeks ago. Then we got the CPI data that pointed towards stubborn inflation, and then we got claims data that was higher than expected. So the market is looking at each and every single piece of economic data to try and figure out what the Fed is going to do next. Eventually we got to a point where the market expected a 25 basis point rate cut for next month, and then the retail sales numbers came out and all of a sudden again, those expectations started to erode. We started thinking, are we really going to get a rate cut next month or not?
Yields across the curve jumped higher. The retail sales number beat across the board. Again, the bets started to get pared back as far as what the Fed is going to do next month. However, now that the rate-cutting cycle has started, it's hard for me to imagine that the Fed will pause. That's the last thing the Fed really wants to do, is to start a rate-cutting cycle or even when they start a rate-hiking cycle, they want keep some kind of momentum going and they don't want to feel like they had a policy error by doing a pause. One jobs report does not stop the Fed from cutting. However, the market expectations will continue to fluctuate on every single piece of data. Currently, swap traders are putting in a 92% chance that we'll have a 25 basis point rate cut next month. The yield curve reflects this constant shift in market expectations.
The yield curve has been steepening since July where front-end yields were moving lower at a faster rate than longer-term rates. However, as the market started recalibrating the pace and magnitude of future rate cuts, we saw the curve flatten this week. We saw the front-end rates move higher and faster than long-term rates, and the steepening trade proved to be the pain trade this week. So it's going to be very interesting to see where investors start to add duration. Do they start going further out the curve or not? We did see the ten-year Treasury yield move above 4%, and 4%'s a very important point. It's a psychological level right now where investors typically view that as a value and they start to invest when they see treasuries on the ten-year go above 4%. It's an entry point, and we did see investors take part in the latest $39 billion auction that we saw where yields were actually 40 basis points higher than they were at the last time we had a ten-year auction, which is back in August.
So I think all of these moving parts are going to consistently have a shift in the yield curve, consistently have a shift in the expectations of what the Fed does next month and going forward. Right now, the Fed has already said they're going to talk about 100 basis points of rate cuts next year. Do we even get that? Does that change? I think all of this is in shift right now.
What would keep the yields higher for longer are those Treasury auctions that we're seeing, the supply that's coming to market. Another thing we have to think about is geopolitical risk and also the elections obviously that are coming forward as well in November. So there's going to be a lot of movement in the yield curve. There's going to be a lot of shifts in volatility across the bond markets, but right now, I think being neutral to duration has been the way to go and looking at high quality assets and liquid assets is very important as well. Nothing is pointing towards an economic downturn if you look at credit spreads, but we have to be prepared if that does happen, and right now you are not getting paid enough to take credit risk further down their rating spectrum. So you want high quality names, you want liquid names, and you want to insulate yourself from any economic downturn.
George Mateyo:
Rajeev, do you think the Fed is right to keep this data dependency policy? I'm not sure if it's even a policy. They kind of signal that they want to be data dependent. Of course, there're always going to be data driven right? They want to have data influence their decisions as opposed to relying on some other indicators or just relying on their intuition. But do you think we're kind of in the situation where they've become too focused on just short-term data maybe?
Rajeev Sharma:
I really do think that's true, George, because they have a dual mandate. They want price stability, they want full employment, but when they keep shifting the narrative that, "Okay, inflation seems to be under control now let's focus on labor," the market takes each and every cue by the Fed, and that's where you see the volatility in the market. We had claims data last week and we also had a CPI report come out last week, and the market has to juggle these two things. The CPI came out a little hotter than expected. Claims came out higher than expected or lower than expected. So the market at that point has to really decide where's the Fed's head at? And this has added volatility to the market. This whole question of data dependency, every single report that comes out, whether it's PPI or whether it's manufacturing information, retail sales, it really does move the market and those expectations. So this dependency on data that the Fed has kind of propagated out there in their narrative, I think it really does cause more volatility in the market.
George Mateyo:
So Steve, switching to you and speaking of data, we've had a little bit of data so far on the earnings season. I don't think we've seen anything conclusive yet to think about a direction and change or a change in direction perhaps, but what's your early read on earnings so far and what do you make of the rise in equity prices this week?
Stephen Hoedt:
So far so good with earnings season, George. We've had a handful of reports, namely major banks and a couple of others that are notable, and what we've seen is that the numbers have been good enough and we've got the forward 12 month earnings forecast for the S&P 500 at yet another all time high as we exit this week. I'm staring at my Bloomberg screen right now and it's over $265 per share for the S&P 500. So far so good. Also interesting is that earnings multiples, as the companies have reported, have held in there too, right around 22. We've not seen earnings multiples compress at all the last couple times that we've gone through earnings season, namely back in March and April, we saw earnings compression as both March and April and then June, July we saw earnings compression as the earnings line went up. We're not having that this time, at least not yet.
So it'll be interesting to see if that holds up as we go through the balance of the earnings season. What we see this week was again, the market continuing to power its way higher. I mentioned last week that we ran counter to the normal seasonal in September, and here we are in what's supposed to be kind of a choppy period as we head into the teeth of the pre-election kind of time period. And historically that's kind of been a period of time where the market chops and yet here again, we're continuing to power higher. It's almost getting to the point where I'm starting to think that the market's pulling forward gains that we would normally see post-election into this pre-election period. I don't really know what to make of it. But that's the working forecast that I've had was that you would see a really positive response just to getting clarity on what the power structure is going to look like in DC post the election, and then you would rally in November and December.
I mean, man, if we rally now from where we're likely going to be through the end of the year, you're talking low 6,000s on the S&P 500, not just another 150 points on the market. So we'll see. That's a pretty optimistic view. A couple of things that did catch my eye this week though, in particular volatility. So within the last week or so, we did see both the VIX and the MOVE index, which is the VIX is the volatility measure for equity markets, the MOVE index is the volatility measure for the bond markets go within... those things are calculated on a 30 day rolling basis. So election came into the figures for both of those indices. And the interesting thing is if you look at the bond market, the bond market's telling you that you're going to have one of the largest one day moves ever in treasuries as a reaction to the election.
The VIX was briefly over 20 as we annualized into that period, and now we have dropped a little bit this week, but it's not normal to see the VIX turning over 20 when you're at new highs for the market. That's something to keep our eyes on, but clearly the market thinks that there's going to be volatility in reaction to the election results, whatever they may be. So irrespective of the fact that we are at all time highs with the S&P 500, that is something that I still am looking at as a little bit of cause for near term concern, just the fact that the bond market is projecting such a large move. And I'm curious as to what Rajeev's thinking about what the MOVE index is saying about bond market reaction to the election.
Rajeev Sharma:
Yeah, I mean, it's a very good point, Steve. I think that the market really does feel that unlike many other markets where uncertainty goes away and all of a sudden everything's fine after the election, the fact that we've gone so far in anticipating what the Fed's going to do, the yields have dropped a little further than they expected. I think the bond market really does feel that yields have maybe gone too far, and we need to kind of temper that a little bit. Along with that also is credit spreads. I mean, we are at the tight since 2021 in credit spreads, which is really, really hard to imagine that we got to this point. So I think the market's looking for a pullback in any way, and I think the election is the catalyst for that pullback for the bond market.
Brian Pietrangelo:
Well, speaking of election terminology and everything else, when I'm on the road a lot meeting with clients, and I know all of you are as well, we oftentimes get asked the question, "Where should we invest our money? If the Democrats win or the Republicans win and the presidency and all this kind of good stuff, what sectors should we put our money?" George, what do you want to tell our audience in terms of historical trends and where they should be thinking about investing in terms of elections?
George Mateyo:
Well, in terms of elections, I think this year, as Steve pointed out, is somewhat behaving differently than past election years in the sense that typically the market does languish a little bit at the beginning of the year and then it rallies into the summer. We then consolidate some of those gains around Labor Day to mid-October, and that hasn't happened this year. The market's actually been much stronger than a typical election year, and as Steve rightly pointed out, we've been thinking that maybe this year because it's cyclical so it's different in the past, we might have a letdown come the election itself. We'll see. I don't want to get too precise about it because that's more of a short-term call. And I think in terms of the political calls you talked about, I think history has shown that the obvious political calls are usually wrong, meaning that typically when people think that there's going to be one sector that does extraordinarily well or poorly under one administration or another, it's usually the exact opposite.
And we've seen that probably happen time and time again where people think there's going to be an obvious sector rotation away from one sector to another based on somebody's tax proposal or some economic proposal that one candidate makes. It's often different that once a candidate gets elected, what she or he does once they're in office is usually different from what they say on the campaign trail. So we think we don't want people to get too hung up on trying to make a policy bet ahead of time, and we really don't want people to actually have their long-term investment views derailed by their political views. And I know it's hard to separate those two in a day of media and 24/7 news coverage and so forth, and frankly, a lot of sensationalism. But I think if people can be patient, if they can be diversified and really focus on long-term, I think they'll be better off over the long-term if they maintain their patience and discipline over the long run.
Brian Pietrangelo:
As usual, thanks for the conversation today, George, Steve, and Rajeev. We appreciate your perspectives 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 with you next week to see how the world and the markets have changed and provide those keys to help you navigate your financial journey.
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