Dear Friends,
In June, US large-cap equities experienced strong momentum with the S&P500 index touching a new record despite the Fed continuing to hold rates at a high level even with the mild CPI report. However, only 44% of the stocks in S&P 500 are above their 50-day moving average and we are now seeing a rotation of funds from the tech sector. Looking ahead, a new earning season will start in two weeks and uncertainty is surrounding the election in France. Find out more about what is driving the markets in this week’s newsletter.
Economy, Geopolitics, and Commodities
1. Fed Projects Just One Cut This Year Despite Mild Inflation Report
Last Wednesday, Federal Reserve officials penciled in just one interest-rate cut for this year, indicating most are in no hurry to lower rates, even after a widely watched report Wednesday showed inflation improved last month. The central bank also held its benchmark rate steady, in a range between 5.25% and 5.5%, a move that was widely expected. New economic projections showed 15 of 19 officials expect the Fed will reduce rates this year, with that group roughly split between one or two rate cuts. The median, or midpoint, of those projections reflected expectations of one reduction. Fed officials meet four more times this year, in July, September, November and December, and the rate projections tempered investors’ expectations of a September cut. Those expectations rose earlier last Wednesday after the inflation report.
The Fed decision came hours after the Labor Department reported the consumer-price index—a measure of goods and services costs across the economy—was essentially flat from the month before and up 3.3% from one year earlier. The report showed a slowdown in price pressures in May was broad based and could help Fed policymakers restore their confidence that inflation will return to their target. Officials were surprised in the second half of last year by how rapidly price growth slowed despite strong spending and hiring. Inflation turned around after that and was unexpectedly hot at the start of this year, derailing expectations by investors and the Fed itself that the central bank might have been able to cut rates by now. Powell and his colleagues don’t want to cut rates without more convincing evidence their policy stance is as restrictive as they think it is—but they are uneasy that by the time they see that evidence, it will be too late to avoid a big rise in unemployment. They face two risks. One is that there is more pain to come as banks and businesses least prepared for and most vulnerable to higher rates will encounter serious challenges if rate cuts don’t come down in the months ahead, as widely anticipated. 1
2. US Services Activity Expands by Most in More Than Two Years
US services activity picked up marginally early this month to the fastest pace in more than two years while the outlook improved on cooler price pressures and prospects for lower borrowing costs. The S&P Global flash June business activity index for service providers edged up 0.3 point to 55.1, the highest since April 2022. Figures above 50 indicate expansion. The gauge topped all estimates in a Bloomberg survey of economists.
The US survey signals resilience in overall business activity as the second quarter drew to a close. Moreover, the report pointed to a further softening in price pressures that Federal Reserve policymakers need to see continue before reducing interest rates. S&P Global’s composite measure of prices received eased to the second-lowest level since 2020. Growth in input costs also cooled. Nonetheless, the indexes are running higher than they were in the years leading up to the pandemic. An index of future activity at US service providers rose nearly 2 points to 68.5, the second-highest level in a year. Respondents often indicated that the more upbeat outlook reflected easing inflationary pressures and expectations for lower borrowing costs. However, prospects dimmed among manufacturers, many of whom expressed concerns about the outlook for demand and the impact of the upcoming elections on policy.2
3. Bank of Japan Set To Reduce Japanese Government Bond Purchases
The Bank of Japan kept its benchmark interest rate unchanged on last Friday but indicated it’s considering the reduction of its purchase of Japanese government bonds. The central bank left short-term rates unchanged at between 0% to 0.1% at the end of its two-day policy meeting, as widely expected. But notably, the bank said in its statement it could reduce its purchases of Japanese government bonds after the next monetary policy meeting, scheduled for July 30 and 31. The decision was passed with an 8-1 majority vote, with board member Nakamura Toyoaki dissenting.
Toyoaki was in favor of reducing JGB purchases but is of the view that the BOJ should only decide to reduce them after reassessing developments in economic activity and prices in the July 2024 outlook report, slated for July 31. Ahead of the next meeting, the BOJ said it will collect views from market participants and will decide on a detailed plan for the reduction of its purchase amount for the next one to two years. Purchases of JGBs, commercial paper and corporate bonds will also continue as decided in the March monetary policy meeting. Following the BOJ decision, the Japanese yen weakened 0.52% to 157.84 against the U.S. dollar, while the yield on 10-year JGB fell 44 basis points to 0.924.3
4. Week Ahead: Markets Nervously Await French Elections, Focus on U.S. PCE Data
In Europe, focus remains on politics and any moves in French assets as investors remain nervous ahead of snap elections in France, with the first round set for June 30. Analysts will be watching data to see how the eurozone economy is recovering and particularly any indications that the upcoming French election is hurting sentiment. Provisional inflation figures for June from France, Spain and Italy on Friday will be watched for signs of whether or not prices are coming down as investors seek a steer for when the European Central Bank will next cut interest rates. The ECB cut rates in June but was cautious about signaling further moves due to concerns about inflation.
A busier week awaits for U.S. economic data as investors continue to look for evidence of whether the economy and inflation are slowing sufficiently to allow the Federal Reserve to cut interest rates in the coming months or whether this move will have to wait until December or even later. Key will be U.S. PCE inflation data for May on next Friday, the Fed’s preferred measure of inflation, as well as revised first-quarter gross domestic product data on Thursday. The Conference Board’s index of consumer confidence for June on Tuesday will give an indication of how the economy has been performing in recent weeks.1
Financial Markets
1. S&P, Nasdaq End Lower as Nvidia Drags the Tech Sector for Second Day
The S&P 500 and Nasdaq closed marginally lower on Friday, weighed down by a decline in Nvidia shares for a second straight day, which dragged down the technology sector. The broad market index fell 0.16% to finish at 5,464.62, while the Nasdaq Composite dipped 0.18% to settle at 17,689.36. The Dow Jones Industrial Average edged up 15.57 points, or 0.04% to close at 39,150.33. The S&P 500 notched an intraday record of 5,505.53 earlier in the week, and it registered a 0.6% weekly advance. The Nasdaq finished the week flat, while the Dow rose 1.45% for its best weekly performance since May. U.S. Treasury yields inched up a bit, settling at 4.256%.
Some signs of an overextended market have begun to appear in recent sessions, although it’s unclear whether the artificial intelligence-fueled rally has reached its limits. Even Nvidia, which is large enough to sway the market, is showing signs that its upward momentum may be slowing.4
2. Apple’s AI Rally Puts Valuation at Risk of Outpacing Reality
Apple Inc.’s record-breaking rally has invited skepticism as to whether its artificial intelligence strategy justifies the stock’s valuation. The shares surged to a fresh all-time high last week, briefly taking Apple back above Microsoft Corp. as the world’s most valuable company after it unveiled new AI features that investors hope will spur a massive upgrade cycle among users. That’s pushed the valuation to around 30 times forward earnings, a level that the stock has struggled to sustain in the past. While Apple’s plans were cheered by investors seeking faster revenue growth and higher returns on capital at the firm, questions remain as to when exactly that boost will arrive.
The timing of when Apple’s AI strategy will deliver a meaningful boost to revenue is key. The rollout of new AI offerings may be slower than investors want, stretching into 2025. The stock rose as much as 1.1% Friday morning. Wall Street expects Apple’s revenue growth to tick back up in the second half of 2024 but end the year at just 1% before accelerating to 7% in 2025. In the iPhone segment, revenue is forecast to slip in the last two quarters of 2024, when compared to the same period a year earlier. Climbing valuations are top of mind for investors considering how to play the next leg of the AI rally. Other than Apple, gains to record highs in shares of Microsoft and Nvidia Corp. have pushed the broader market higher, but have also pushed up price-to-earnings ratios for the stocks. Microsoft trades at about 34 times forward earnings, while Nvidia trades at 43 times. The Nasdaq 100 index trades at about 27 times forward earnings.2
3. Why Your Starbucks Frappuccino Is Now Half-Price
Starbucks’s grande Caramel Frappuccino is typically listed at around $5.65 on the chain’s menu boards. These days, many customers pay about half that price. For a grande-size brewed coffee, same deal: An average listed price of $3.65 rings up more like $1.83 with a buy one get one free offer. After largely eschewing special deals for decades, the coffee at Starbucks is now often available at a discount. The world’s largest coffee chain is trying to bring back lapsed customers, betting big on BOGO offers, supersize perks for loyalty members and other deals. The company ran promotions for about half the month of May, according to documents viewed by The Wall Street Journal. This month, for the first time in more than a decade, Starbucks began offering bundles of coffee and breakfast food starting at $5. “50% off a drink. It’s on,” Starbucks said in a recent email to customers. “Keep checking the app all summer for more deals heading your way.”
Seattle-based Starbucks has long positioned itself as a premium brand—with prices to match. A single iced coffee with extra syrups and foams can cost about $10 at full price. The chain’s global expansion was powered in part by reimagining a commodity beverage as an aspirational treat for teens, office workers and suburban moms. Surging inflation over the past several years is now spurring more Americans to rethink their spending on everything from food to furniture. The promotions are helping bring more customers to Starbucks, including at times of the day when cafes are typically busy, according to workers, store managers and chain licensees. Baristas at U.S. stores have complained online about the flood of deal offers, saying they are creating long lines of impatient customers.1
4. Kroger Shares Fall After Company Flags Pressure on Earnings
Kroger Co.’s shares slipped, erasing earlier gains, after executives flagged a dip in profit due to pressure in the supermarket operator’s pharmacies and an increase in promotions. Earnings, excluding some items, will decline in the second quarter, the company said Thursday on a call with analysts. Executives pointed to challenges in the pharmacy business — including low margins and limited availability for wildly popular GLP-1 drugs, which are often used for weight loss. Kroger is now the second grocery company flagging the drugs’ low profitability. Kroger is also offering more discounts to stay competitive as promotions increase to pre-pandemic levels.
Comparable sales, a key metric for retailers, rose 0.5% last quarter, the largest US supermarket operator said in a statement earlier Thursday, topping the average analyst estimate. Growth has stalled in recent quarters as grocery sales normalize after the pandemic and gains fueled by high levels of inflation taper off. Adjusted earnings of $1.43 a share also outpaced estimates. The company reiterated its guidance for the full year. Kroger executives said lower-income households are spending more after that category fell off last year. Customer visits are rising in part due to personalized discounts. Kroger’s results add to a cloudy picture of the retail landscape. US shoppers have remained resilient, but some are holding off on bigger purchases. Many are turning to cheaper store brands and visiting multiple retailers to save money.2
5. A New Way to Make Green Steel
Making steel has long been defined by flying sparks and blast furnaces roaring at temperatures hotter than molten lava. A startup backed by Amazon.com and steel producer Nucor says it has a new process that works at temperatures cooler than freshly brewed coffee. Colorado-based Electra has begun producing iron plates that can be used to make steel without consuming fuels such as coal, natural gas or hydrogen—an initial step to potentially reducing the industry’s huge carbon footprint. The company dissolves iron ore in a chemical solution, then runs electricity through it to separate pure iron from impurities. The process runs at temperatures around 140 degrees Fahrenheit, a fraction of the 3,000 or so degrees needed for conventional steelmaking.
The breakthrough escalates a potentially lucrative global race to clean up a roughly $1 trillion industry that serves builders who erect everything from apartment buildings to bridges. The main production method used today generates roughly two tons of carbon emissions for every ton of steel, making the sector account for about 10% of global emissions. Consumers and governments are pressuring automakers to manufacture electric cars with cleaner steel, a trend that is playing out across every industry. That push is forcing steelmakers to accelerate green investments.1
Sources:
(1) www.wsj.com
(2) www.bloomberg.com
(3) www.cnbc.com
(4) www.reuters.com
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