June 3, 2024

Macro-economic data over the past couple of weeks has been more balanced relative to expectations. On the positive side, “Flash” PMIs, especially services, improved in May.  Durable goods orders were stronger than expected.  Consumer confidence bounced higher in May (contrary to the Michigan survey), and jobless claims remain benign. On the negative side, housing (new, existing, pending home sales) remained weak in April following another brief surge in interest rates. Personal spending in April was also soft (consistent with April retail sales).  It is too early to know if this was calendar-related (i.e., Easter shift) or the effects of increasing consumer stress (growing credit balances – including “buy now, pay later” – and rising delinquencies) now that excess savings are depleted. The Chicago PMI was also very soft in May, consistent with readings on manufacturing activity from the Empire State and the Philly Fed surveys.  Overall, growth and inflation appear to be back on a path of moderation.

A resumption of cooling inflation, as hinted in April, would be welcomed by the Federal Reserve as they remain in a “wait and see” mode.  However, base effects will likely make it difficult to see much progress towards the Fed’s 2% target this summer unless the month-to-month numbers come in less than +0.1%, which we haven’t seen so far this year. If monthly numbers come in greater than +0.2% during the summer, we could actually see rising year-over-year inflation rates, which will likely not be greeted warmly by the financial markets.

The 2Q GDPNow estimate has now slipped all the way to +1.8% Q/Q A.R., down from over 4% a month ago, on weaker consumer spending, net exports, and private fixed investment.  That is still decent growth, but we could be on the precipice of a more substantial slowdown on the back of a weakening consumer, especially as the lagged effects of monetary tightening land and the fiscal impulse diminishes. Offsets include falling prices at the gas pump, ample liquidity, and overall financial conditions that remain too loose as reflected by the Chicago Fed’s National Financial Conditions Index, which is back to the levels we saw prior to the Fed’s tightening cycle.

NVIDIA capped off another strong earnings season. The magnitude of the earnings beat and year-over-year growth helped to push 1Q and calendar 2024 estimates higher for the S&P 500.  Investor sentiment appeared poised to cross  back into “euphoric” territory; however, Nvidia’s blowout numbers were not enough to power the market higher as has been the case over the past year.  This was troubling and probably a market signal worthy of attention.

The set up for the equity market does not look favorable at present with stocks overbought, valuations rich, sentiment overly bullish, the CBOE Volatility Index (VIX) and credit spreads closer to lows, and the yield curve still inverted.  The only thing missing for a market set-back is a catalyst to drive earnings estimates lower.  Thus, in our view, the market appears especially vulnerable to any unexpected exogenous shock.