Dear Friends,
The past two weeks have brought with it a wide range of weather here in Charlottesville and it appears there may be some correlation to what we are seeing in the markets. All kidding aside, the US economy is proving to be more resilient than initially expected and the markets have been reacting to what this could mean for the future.
Economy, Geopolitics, and Commodities
1. U.S. Economy Shows Surprising Vigor in the First Half of 2023
Fresh signs of labor market strength reinforced a picture of an economy with broad-based momentum despite rising interest rates. Layoffs retreated last week, and economic growth was stronger than initially reported in the first quarter, the government reported Thursday.
At the start of the year, many economists forecast a recession to materialize by now. Indeed, consumers, workers and businesses have faced challenges over the past year, with interest rates rising and inflation elevated. Instead, the economy has continued to grow, even in pockets sensitive to higher interest rates. The housing market is a key example. A historically low number of existing homes for sale has helped push up sales of newly built ones. New home sales rose by double digits in May, far exceeding economists’ expectations.
GDP grew at a 2% annual rate in the first quarter, revised up from a previously reported 1.3% growth rate, according to the Commerce Department’s release on June 29th. Stronger consumer spending was a driver behind the upward revision. Consumer spending grew at a 4.2% rate in the first quarter, the fastest pace since mid-2021, when the economy was rebounding from pandemic lockdowns. Americans splurged on long-lasting goods such as cars in the first three months of the year, with spending on long-lasting durable goods rising at a 16.3% annual rate. Consumer spending on services, which includes healthcare, dining out and traveling, also notched a solid annualized gain of 3.2% in the first quarter.
2. Jobs Report Shows Hiring Eased Slightly in June
U.S. employers added 209,000 workers in June, a sign of slight economic cooling. Last month’s gains were still strong but marked a slowdown from earlier in the year, Friday’s Labor Department report showed. May’s employment gain was revised down to 306,000. The unemployment rate fell to 3.6% last month from 3.7% in May, indicating the labor market remains tight. Wages grew 4.4% in June from a year earlier.
Government, healthcare, and construction were among the sectors that added jobs last month. Leisure and hospitality hired workers at a slow pace in June. Employment at restaurants and similar businesses remains below pre-pandemic levels. Companies adding workers and raising wages keep upward pressure on inflation, which complicates the Federal Reserve’s efforts to weaken price pressures by slowing the economy through higher interest rates. “The job market has been surprisingly strong in 2023,” said Bill Adams, chief economist for Comerica Bank. “People who have lost jobs in tech or real estate have been able to find new jobs very quickly in industries that are still short-handed.” At the start of the year, many economists forecast that the Fed’s rate increases would cause a recession by midyear and hiring to ease.
Instead, inflation and economic activity haven’t slowed as much as Fed officials expected, prompting them to project more rate increases to come, according to minutes of their June meeting, released Wednesday. Friday’s report gives officials their last look at the broadest labor data before their policy meeting later this month. Labor-market gains have supported brisk economic activity this year. Better-paid workers spent more on travel, dining out and ballgames. Others bought new cars.
The economy grew at a solid 2% annual rate in the first quarter, and many economists estimate similar gains for the April-through-June period. Still, the labor market is cooling in some corners. Job openings fell in May. Initial applications for unemployment benefits, a proxy for layoffs, rose last week and are up about 20% from the start of the year. And the average number of hours worked a week declined this year, which in the past often preceded job cuts. The labor-force participation rate, or the share of Americans who are working or actively seeking jobs, remains well below the February 2020 pre-pandemic level of 63.3%. That largely reflects the aging U.S. population and is triggering persistent labor shortages.
3. U.S. and China Look to Repair Ties, Again
U.S. Secretary of State Antony Blinken’s visit to Beijing last month was billed as an effort to put a floor under fast-deteriorating ties between the world’s two biggest economies. In the weeks that followed, if anything, the U.S.-China relationship has gotten rockier.
On Thursday, as a fresh emissary from the Biden administration, Treasury Secretary Janet Yellen arrived in Beijing, some Chinese observers struck a cautiously optimistic tone, saying her meetings could help establish more avenues for dialogue between two governments that have struggled to maintain high-level talks in recent years.
From Beijing’s perspective, “Yellen is a more rational voice on China issues within the Biden administration,” said Wu Xinbo, dean of the Institute of International Studies at Shanghai’s Fudan University. She has her work cut out for her, however, with Washington and Beijing trading fresh blows across trade, technology, and security affairs.
In recent weeks, the White House has confirmed reports of China ramping up its military presence in Cuba, while President Biden called Chinese leader Xi Jinping a dictator. Washington has been preparing measures to curb exports of advanced semiconductors to China and to cut Chinese companies off from U.S. cloud computing platforms. Beijing, meanwhile, responded by blasting what it called American attempts to contain and smear China. It announced this week new export controls on two minerals critical for advanced chips, in what Chinese observers called a countermeasure against U.S. efforts to derail China’s tech development.
Yellen’s trip comes amid simmering bilateral tensions that have prompted both the U.S. and China to reconsider the deep commercial and investment ties that have defined the relationship for decades. In her first trip to China since taking office as Treasury secretary in 2021, Yellen will hold talks with senior Chinese officials, though it wasn’t clear she would get to meet Xi. Yellen will hope to gain insights into the state of China’s economy in a series of meetings Friday, and plans to meet Premier Li Qiang, in addition to sitting down with her former Chinese counterpart Liu He and Zhou Xiaochuan, a former governor of China’s central bank and one of the country’s best known economic reformers.
4. Mortgage Rate Soars to 7.22% after Strong Economic Data
The average rate on the popular 30-year fixed mortgage hit 7.22% on Thursday, according to Mortgage News Daily. That’s the highest point since early November. Mortgage rates loosely follow the yield on the 10-year Treasury, which leaped higher following a much stronger-than-expected employment report from ADP.
Rates had already begun rising last week, following signals from Federal Reserve Chairman Jerome Powell that the central bank may continue raising interest rates following a pause in June. In remarks to Congress just after the June Fed meeting, Powell said the central bank has “a long way to go” to bring inflation back to the 2% goal. The next interest rate decision is on July 26. The 30-year fixed mortgage rate has now risen 31 basis points in just the past week. For a homebuyer taking out a $400,000 mortgage, the monthly payment of principal and interest rose to $2,720 from $2,637 in just one week.
For sellers, higher mortgage rates have created a so-called golden handcuff effect. The vast majority of homeowners today have mortgages with interest rates below 4% or even below 3%, as rates hit record lows in the first year of the Covid pandemic. They now don’t want to move and have to give up that low rate to buy at a higher rate. “Recent data indicated that nearly 82% of home shoppers reported feeling locked-in by their existing low-rate mortgage, while around 1 in 7 homeowners without a selling plan cited their current low rate as their reason for remaining on the sidelines,” Jiayi Xu, an economist at Realtor.com, said in a release. Because of that, there is currently a critical shortage of homes for sale, with year-to-date new listings now 20% behind last year’s pace.
5. Cheaper Natural Gas Prices in Store This Summer
Natural gas is starting the summer at less than half the price it was a year ago. Cheaper natural gas should mean lower electricity bills for a lot of American households when they crank up their air conditioners. Makers of chemicals, cat litter, fertilizer, paper, wallboard, and steel have told investors over the past few weeks that lower gas bills are easing cost pressures and bolstering profit margins.
Despite a 15% rally this month, spurred by triple-digit temperatures in Texas and elsewhere, prices for the power-generation fuel aren’t expected to surge this summer like they did in 2022, when energy markets were shocked by Russia’s invasion of Ukraine. By late August, natural-gas prices had shot to their highest level in more than a decade, due largely to Europe’s rush to replace Russian supplies with imported liquefied natural gas, or LNG, from the U.S.
European buyers paid up for LNG cargoes and stockpiled gas for a winter that never really arrived. Unusually warm weather on both sides of the Atlantic left a lot of gas unburned and ample supplies heading into summer, when demand picks up to power air conditioners. The least amount of gas in seven heating seasons was withdrawn from domestic storage facilities between Nov. 1 and the end of March, according to Energy Information Administration data. Natural-gas futures for July delivery ended Wednesday at $2.603 per million British thermal units, down 60% from a year ago. August futures settled at $2.668. Goldman Sachs Group analysts expect prices to remain around the current level this summer. The investment bank has forecast summer prices to average $2.85 per million BTUs, down from an earlier estimate of $3.30.
Analysts and traders say the staying power of low prices will depend on how hot it gets this summer, and how much air conditioning is needed to beat the heat. Last year, 41% of U.S. electricity was generated by burning natural gas, according to EIA data. That is up from 26% a decade earlier and more than was generated from coal and renewable sources combined. Another risk is that low prices prompt producers to pull back, reducing supplies and setting the market up for potential shortages and price spikes in the future.
6. Japan’s Plan to Become a Chipmaking Champ Hinges on This Football-Loving Engineer
In his rare off-hours, Atsuyoshi Koike, a 71-year-old Japanese engineer, likes to put on pads and play tailback in weekend football games. Koike is carrying the ball for Japan in a different contest, this one with tens of billions of investment dollars and global economic security at stake. After slipping near the bottom of the semiconductor-manufacturing league, Tokyo once again wants to field a championship contender. Koike heads a startup called Rapidus that plans to invest some $35 billion by 2027 building a factory in northern Japan to manufacture 2-nanometer chips, the current state-of-the-art design.
When he met Commerce Secretary Gina Raimondo early this year to discuss the plan, Koike said he told Raimondo that he felt his team was going for it on fourth-and-inches, signifying a risky gamble, except this play would be “fourth and 2 nanometers.” Raimondo and the other Americans broke out laughing, he recalled in a recent interview, and she told him that the Japanese plan would get Washington’s full support. It helps that Koike is well-versed in the kind of football beloved by Americans, because the project relies on the kind of U.S.-Japan cooperation that would have been inconceivable in Japan’s glory days of the late 1980s.
Back then, Japan accounted for about half of the global semiconductor industry, and the U.S. was left to beg, plead, and threaten as it tried to get a small slice of the Japanese market. A bestselling book in Japan during the Cold War’s waning days called “The Japan That Can Say No” suggested that Tokyo could leverage its dominance in semiconductors to control the world’s military balance—and perhaps help the Soviet Union instead of the U.S.
Today, the great fear driving chip investments is China, and U.S. policy calls for helping allies such as Japan build a supply chain that is less exposed to risks posed by a hostile Beijing. China is trying to build its own world-leading semiconductor industry and is threatening to take by force, if necessary, the self-ruled island of Taiwan, which Beijing considers part of its territory and where the majority of the world’s most cutting-edge chips are made. While the U.S. is expanding its own chip production through the Chips and Science Act, which includes some $53 billion of spending, people involved in the Rapidus project said the U.S. needed further global diversification.
Japan still leads the world in niche parts of the supply chain, such as chemicals used in chipmaking. A government-backed investment fund in June offered more than $6 billion to buy one of those chemical makers, a Tokyo company called JSR. But the country felt a lack of domestic manufacturing capacity during the pandemic-era chip shortages that battered its car industry. Rapidus aims to get Japan back into the heart of the business by building facilities on the northern island of Hokkaido, known for its ski resorts. Rapidus says it wants to begin pilot production in 2025 and full-scale production in 2027. Some 6,000 workers are being drafted to put up the factory.
Financial Markets
1. Nasdaq, S&P 500 Close Lower After Data Showing Hiring Eased in June
Major indexes slipped after data showed U.S. job growth cooled in June, though the unemployment rate remained historically low. Though the unemployment rate remains historically low, some investors were more focused on the latest wage growth data. Wages ticked up more than economists projected, a sign that the Federal Reserve may have to keep raising interest rates more than expected.
As of Friday’s close:
Stocks finished lower after a back-and-forth session. The S&P 500, Nasdaq Composite and Dow finished the week with losses. Bond yields were little changed. The benchmark 10-year yield settled at around 4.047%, versus 4.040% late Thursday. The dollar weakened. The U.S. Dollar Index lost 0.8% in a decline that accelerated after the release of the jobs data.
Rivian Automotive, the electric-vehicle startup’s stock jumped 15%, on track to gain for an eighth session. Rivian has been on a tear since it said second-quarter deliveries rose. Tesla’s stock edged higher. Energy stocks climbed alongside oil prices. Brent crude, the global benchmark, was up more than 2% at about $78 a barrel, reaching its highest settle value since May. The S&P 500’s energy sector jumped around 2%, with oil-field services giant Schlumberger up 8%. Solar shares also rose. Shares of First Solar led a group higher after the company said it finalized a $1 billion credit line from big banks to help fund new factories.
2. Here’s Why Microsoft Is the Only Stock Rising in the Dow on Thursday
Microsoft was rising and bucking a broader selloff Thursday after a Morgan Stanley analyst raised his price target on the stock and named it a top pick in large-cap software. Microsoft rose 0.7% to $340.62, making it the only stock trading higher in the Dow Jones Industrial Average index. At last check, the Dow was falling 435 points, or 1.3%, as investors anticipated more aggressive monetary policy from the Federal Reserve following strong U.S. jobs data. Microsoft shares would need to hit $403.47 to achieve a $3 trillion market capitalization, making it the second company to do so after Apple, according to Dow Jones Market Data.
Morgan Stanley analyst Keith Weiss raised his 12-month price target on Microsoft to $415 from $335 and maintained his Overweight rating on the stock. Weiss named Microsoft as Morgan Stanley’s top pick in large-cap software, citing confidence in the company’s future with artificial intelligence integration.
“Generative AI looks to significantly expand the scope of business processes able to be automated by software, and Microsoft stands best positioned in software to monetize that expansion,” Weiss said. He added that Microsoft should be one of the first beneficiaries of monetizing AI. Microsoft shares have surged 42% in 2023.
3. Toyota Taps US ESG Bond Market to Fund Electric-Car Push
Toyota Motor Corp. is selling socially conscious debt denominated in dollars for the first time in two years as the Japanese carmaker looks to boost its production of electric vehicles to compete with Tesla Inc. The automaker is selling a benchmark-sized sustainability bond in as many as three parts, according to a person with knowledge of the matter. The longest portion of the offering, 10-year security, may yield 1.35 percentage points above Treasuries, said the person, who asked not to be identified as the details are private. The total target size of the issuance is said to be around $1.5 billion, with overnight book orders said to be over $2.5 billion, said the person. It’s the first time the firm is tapping the US investment-grade market with a bond linked to environmental, social, and governance issues — or ESG — since 2021, according to data compiled by Bloomberg.
Toyota is among three issuers selling new debt in the US investment-grade primary market Thursday. Deutsche Bank AG is looking to sell a fixed-to-floating rate note through its New York arm, following a number of other Yankee bank issuers that tapped the market this week. Syndicate desks are anticipating a very slow week in the primary market with $5 billion to $10 billion in new debt expected to price. Proceeds from the debt, which the automaker is calling “woven planet bonds” will help fund projects that range from the development and manufacturing of battery electric vehicles, or BEVs, to green projects like solar and wind, according to according to an SEC filing.
Toyota’s Chief Executive Officer Koji Sato in early April unveiled the beginnings of a long-awaited plan to electrify the automaker’s vehicle lineup, promising that by 2026 Toyota will sell 1.5 million battery electric vehicles a year and roll out 10 new EV models. Meanwhile, Toyota is still far from producing electric vehicles at the same scale and pace as Tesla and its rivals in China.
4. Travel Stocks Charge Higher Ahead of Peak Season
The U.S. travel industry has recovered from the impact of Covid-19. Its stock-price recovery is still a work in progress. Americans are once again boarding flights in numbers similar to pre-pandemic levels. About 2.3 million passengers, on average, have passed through U.S. airports each day this year, according to data from the Transportation Security Administration. That is on par with the daily average in 2019.
Demand for domestic leisure travel soared after the worst of the pandemic as flexible work schedules became more common. Meanwhile, business travel and international demand have been slower to recover, said Michael Bellisario, senior hotels analyst at Baird.
The resurgence has led to booming business and rising share prices for airlines and related industries, such as hotels and casinos. Executives say they expect the good times to continue.
Shares of Carnival have more than doubled this year, making it one of the top performers in the S&P 500. United Airlines Holdings has advanced 42% this year. Booking Holdings is up 32%, while Marriott International has gained 22%. The S&P 500 is up 15%. Investors pay attention to travel trends because they provide insight into the willingness of both consumers and businesses to spend. Despite fears of a recession, which hit travel stocks last year, unemployment remains low, and consumers are still spending on discretionary categories.
5. Alzheimer’s Drug Leqembi Gets Full FDA Approval
The Food and Drug Administration has fully approved the first drug shown to slow down Alzheimer’s disease. The action means that Leqembi, whose generic name is lecanemab, should be widely covered by the federal Medicare health insurance program, which primarily serves adults aged 65 and older. So, more people who are in the early stages of the disease will have access to the drug – and be able to afford it.
In studies reviewed by the FDA, Leqembi appeared to slow declines in memory and thinking by about 27% after 18 months of treatment. It also dramatically reduced the sticky beta-amyloid plaques that tend to build up in the brains of people with Alzheimer’s. Leqembi comes from the Japanese pharmaceutical company Eisai and its U.S. partner Biogen. The companies have said Leqembi will cost about $26,500 a year.
In January, the drug received what’s known as accelerated approval from the FDA, based on its ability to remove the substance beta-amyloid from the brains of people in the early stages of Alzheimer’s. Full or traditional approval reflects the FDA’s assessment that Leqembi also helps preserve memory and thinking. Also in January, the Centers for Medicare and Medicaid Services announced it would broaden coverage of Leqembi on the same day the drug received full FDA approval. That should mean the drug will now be covered for most Medicare patients with early signs of cognitive problems and elevated levels of amyloid. Until now, Medicare has paid for Leqembi only for patients in certain clinical trials. Under the expanded coverage, a million or more Medicare patients are potential candidates for the drug. But it’s likely that a much smaller number will actually get it in the next year or so.
Trading of the biotech stock resumed before the market opened Friday, after being halted Thursday on news that the Food and Drug Administration approved Biogen and Esai’s Alzheimer’s treatment drug Lequembi. The FDA approved a treatment for Alzheimer’s disease developed by Japan-listed Eisai and Biogen. The U.S. company’s shares, Biogen fell 2.8% in afternoon trading.
6. China Hits Alibaba Affiliate Ant Group with $985 Million Fine for Violating Various Regulations
China’s central bank hit Alibaba affiliate Ant Group with a 7.12 billion yuan fine ($985 million) on Friday. The People’s Bank of China, which issued the fine, said that the penalty was in response to violations of various laws and regulations, including around corporate governance, consumer protection, and anti-money laundering requirements.
The fine is one of the biggest against a Chinese internet firm and looks to conclude the years-long scrutiny and restructuring of Ant Group after its blockbuster $37 billion initial public offering was scrapped in late 2020. Since that moment, which sparked an intense two-year crackdown from Beijing on China’s domestic tech sector, Ant has been forced to overhaul its business. This included turning itself into a financial holding company under the purview of the PBOC. Alibaba owns around a 33% stake in Ant Group, and Chinese billionaire Jack Ma is the founder of both firms.
Authorities canceled Ant’s listing over regulatory concerns in 2020. Recent signs have emerged that Ant has been on the right side of regulators. In January, the company received approval to expand its consumer finance business. The fine and potential resolution to Ant’s regulatory woes comes as China looks to inject life into private industry amid a difficult domestic economic picture. Chinese regulators tightened rules on the domestic tech sector since Ant Group pulled its IPO in November 2020, aiming to rein in some of the country’s biggest firms. Beijing introduced rules in areas from data protection to antitrust, catching investors off guard and wiping billions of dollars of value off the country’s tech giants.
Jack Ma’s empire of Alibaba and Ant Group particularly came under fire. Regulators hit Alibaba with a $2.8 billion antitrust fine in 2021. Ma, an outspoken billionaire who was often seen in public, laid low for many months following the Ant Group IPO cancellation. Also on Friday, Alibaba launched its A.I. tool, Tongyi Wanxiang. Alibaba (BABA): American depositary receipts for the e-commerce giant rose 8.5% in afternoon trading after Chinese authorities slapped its affiliate, Ant Group, with a nearly $1 billion fine. The move takes Ant closer to the end of its lengthy overhaul.
Sources:
(1) www.bloomberg.com
(2) www.spglobal.com
(3) www.wsj.com
(4) www.bls.gov
(5) www.barrons.com
(6) www.cnbc.com
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual security. To determine which investment(s) may be appropriate for you, consult your financial advisor prior to investing. Economic forecasts set forth may not develop as predicted.
Bonds are subject to market and interest rate risk if sold prior to maturity. Bond and bond mutual fund values and yields will decline as interest rates rise, and bonds are subject to availability and change in price.
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Investing in foreign and emerging market securities involves special additional risks. These risks include but are not limited to currency risk, geopolitical risk, and risk associated with varying accounting standards. Investing in emerging markets may accentuate these risks.
Investment advice offered through Private Advisor Group, a registered investment advisor and separate entity from The Legacy Foundation.
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