Skip to main content Skip to Login Skip to Find An Advisor Skip to footer

Last week’s market gains will be tested by inflation, Q2 earnings season

ANTHONY SAGLIMBENE – GLOBAL MARKET STRATEGIST, AMERIPRISE FINANCIAL
WEEKLY MARKETS COMMENTARY — July 11, 2022

 

Stocks climbed higher in the shortened July 4th week and strung together their longest consecutive daily winning streak of the year. The S&P 500 Index rose +1.9% last week, the Dow Jones Industrials Average gained +0.8%, and the NASDAQ Composite popped +4.6%. And while a five consecutive day winning streak for the S&P 500 is hardly something to brag about, it’s good enough to mark the best run for the Index all year. However, the week was generally quiet, with investors waiting on inflation reports and the start of the second quarter earnings season. The June Federal Open Market Committee (FOMC) meeting minutes and nonfarm payrolls report were last week’s highlights for investors. Although both offer a lagging look at policy and the economy, their significance to market dynamics and the direction of stock prices are often influential.

FOMC minutes showed inflation remains the top concern for the Fed. After the Federal Reserve’s FOMC hiked its fed funds rate by 75 basis points last month (the largest hike since 1994), minutes showed the committee remained concerned that inflation had yet to show signs of abating. Notably, minutes showed that inflation risks are skewed to the upside, and that longer-run inflation expectations are beginning to drift above its 2% target. As a result, the FOMC felt elevated inflation could become entrenched if the public felt the Fed did not adjust its stance and move more aggressively last month.

On the employment front, June nonfarm payrolls rose by +372,000 and were much stronger than the FactSet consensus estimate of +275,000. The unemployment rate held steady at 3.6% for the fourth consecutive month and remained just a tick light of its pre-pandemic low of 3.5%. In our view, the overall job market remains strong, but labor conditions are softening under the surface. Job gains for the prior two months were revised lower by 74,000, with June job growth softening in manufacturing and construction. Nevertheless, private services employment continued to run at a healthy clip, adding +333,000 jobs last month. Hourly earnings rose +5.1% y/y in June, down for the third consecutive month and off the March high of +5.6%. Bottom line: The job market remains tight, employment trends are cooling in manufacturing/construction, and wage pressures are slowly moderating. Based on last week’s jobs data, we believe it’s very challenging to make the case the U.S. economy is in or on the edge of falling into recession.

In other items of note, the U.S. dollar and Gold finished essentially flat last week, while West Texas Intermediate (WTI) crude settled higher by +2.0%. Overseas, Boris Johnson resigned as UK Prime Minister, but as of now, he will stay at his post until the Conservative Party can hold leadership elections later this summer. And in a tragic, senseless bout of violence, Shinzo Abe, Japan’s longest-serving former Prime Minister, was assassinated. Although Abe stepped down as Japan’s Prime Minister two years ago, he remained a formative presence as the head of the Liberal Democratic Party. The former Prime Minster served two terms in office (2006-2007) and (2012-2020).  

Investors should remain prepared for heightened inflation and employment developments

This week, the focus shifts from employment to inflation and corporate earnings. On Wednesday, investors will receive another peek at how inflation trends developed in the U.S. last month after the headline Consumer Price Index surprised higher to +8.6% year-over-year in May. The May move higher in consumer prices was a notable market development, as it poured cold water on the idea that inflation had peaked in March and helped trigger the Federal Reserve’s move to raise its fed funds target rate more aggressively at the June FOMC meeting. 

FactSet estimates call for the headline Consumer Price Index to rise to +8.8% year-over-year in June, greater than May’s high-water mark. However, June CPI (ex-food and energy) is expected to cool to +5.8% y/y from the +6.0% pace seen in the prior month. The June headline inflation print won't capture the steep drop in energy prices as of late, as gas prices rose roughly +11% from May levels. However, gas prices have fallen more meaningfully in July, which, if lasting, could help ease inflation pressures for this month’s print — which the Bureau of Labor Statistics will release on August 10th. 

Outside of gas, food, new/used car prices, rents and airfares are all expected to remain elevated for June. In our view, without a meaningful shift lower in consumer prices, the Federal Reserve remains on track for a 75 basis point rate hike at the end of the month. With that said, if headline and core inflation can show meaningful evidence of moderation through the summer months, we believe there is a decent chance the Federal Reserve could slow the pace of rate hikes by the end of the year. And if that deceleration in rate hikes is fortunate enough to come accompanied by slowing but still solid job growth, then we suspect stock prices could see tailwinds as the year comes to a close. Yet, given it’s still July, and admittedly, such a scenario is the best case outcome, investors should remain prepared for inflation and employment developments that look messy.

Kicking off this week: One of the more influential earnings seasons since the depths of the pandemic

Shifting to the earnings front, PepsiCo will kickoff the Q2 earnings season in earnest on Tuesday, with Delta following up on Wednesday and the major money center banks like JPMorgan, Morgan Stanely, Citigroup, and Wells Fargo reporting on Thursday and Friday. Q2’22 S&P 500 earnings per share (EPS) is expected to grow by +4.1% year-over-year on sales growth of +10.1%. If achieved, the upcoming earnings season would mark the slowest pace of EPS growth for S&P 500 companies since Q4’20. 

In our view, this could be one of the more influential earnings seasons since the depths of the pandemic. Surging commodity prices, a U.S. dollar on the rise, slowing growth, and record-high inflation colored the macro backdrop in the second quarter. Strong demand and the ability to protect profit margins were key dynamics several U.S. companies pointed to in Q1, which helped S&P 500 companies to surpass first quarter estimates by a meaningful amount. And while that development didn’t really help stock prices over the previous earnings season, we would argue stock declines may have been worse in the second quarter if not for companies' continued ability to hurdle above analyst profit estimates. But as recession odds in the U.S. and abroad have grown and cooling demand is now a top-of-mind concern for investors, what companies have to say about their business outlooks over the coming weeks should take on an added degree of significance.

That corporate focus begins with Financials this week. The S&P 500 Financial Index was lower by 17.5% in Q2 and underperformed the S&P 500 during the quarter by 1.4%. The risk of the Federal Reserve tightening monetary policy too aggressively and sending the U.S. economy into a recession outweighed the benefits banks will likely see in Q2 results from higher net interest income (NII) due to more aggressive Fed rate hikes. Previews of bank earnings suggest net interest income, continued loan growth, strong margins, and solid trading volume should be tailwinds for the group. However, weak investment banking trends, markdowns on debt/equity investments, and compressed fee income (notably from lower mortgage activity) could all weigh on Financial profits in Q2. 

Broadly speaking, Financial results are likely to show credit quality, and consumer trends remained stable to solid in Q2, which for investors, could be the more significant macro takeaway from second quarter results. In addition, companies within the Financial sector are some of the first to report results each earnings season. Profit results and outlooks can act as an early barometer to gauge the temperature of how the rest of the season may go. Notably, what Financial companies have to say about the current state of the economy, their outlooks, and the color provided in their unique perspectives on consumer trends is likely to play a critical role in helping influence how the market continues to discount recession probabilities.

Small business sentiment is a focus for investors this week

Other items to watch this week: June NFIB Small Business Index, June Producer Price Index, and the June retail sales report. Here, watch how small business sentiment is adapting to growing recession odds, whether producer prices continued to decline in June, and if consumers continued to shift away from goods spending toward services spending.
 

The views expressed are as of the date given, may change as market or other conditions change, and may differ from views expressed by other Ameriprise Financial associates or affiliates. Actual investments or investment decisions made by Ameriprise Financial and its affiliates, whether for its own account or on behalf of clients, will not necessarily reflect the views expressed. This information is not intended to provide investment advice and does not account for individual investor circumstances.

Some of the opinions, conclusions and forward-looking statements are based on an analysis of information compiled from third-party sources.  This information has been obtained from sources believed to be reliable, but accuracy and completeness cannot be guaranteed by Ameriprise Financial. It is given for informational purposes only and is not a solicitation to buy or sell the securities mentioned. The information is not intended to be used as the sole basis for investment decisions, nor should it be construed as advice designed to meet the specific needs of an individual investor.

Stock investments involve risk, including loss of principal. High-quality stocks may be appropriate for some investment strategies. Ensure that your investment objectives, time horizon and risk tolerance are aligned with investing in stocks, as they can lose value.

There are risks associated with fixed-income investments, including credit risk, interest rate risk, and prepayment and extension risk. In general, bond prices rise when interest rates fall and vice versa. This effect is usually more pronounced for longer term securities.

Alternative investments cover a broad range of strategies and structures designed to be low or non-correlated to traditional equity and fixed-income markets with a long-term expectation of illiquidity. Alternative investments involve substantial risks and may be more volatile than traditional investments, making them more appropriate for investors with an above-average tolerance for risk.

The fund’s investments may not keep pace with inflation, which may result in losses.

A rise in interest rates may result in a price decline of fixed-income instruments held by the fund, negatively impacting its performance and NAV. Falling rates may result in the fund investing in lower yielding debt instruments, lowering the fund’s income and yield. These risks may be heightened for longer maturity and duration securities.

Diversification, asset allocation and dollar cost averaging do not assure a profit or protect against loss.

Past performance is not a guarantee of future results.

An index is a statistical composite that is not managed. It is not possible to invest directly in an index.

The Standard & Poor’s 500 Index (S&P 500® Index), an unmanaged index of common stocks, is frequently used as a general measure of market performance. The index reflects reinvestment of all distributions and changes in market prices but excludes brokerage commissions or other fees.  It is not possible to invest directly in an index.

The S&P 500 Financials Index is an index containing companies included in the S&P 500 that are classified as members of the financials sector.

The NASDAQ composite index measures all NASDAQ domestic and international based common type stocks listed on the Nasdaq Stock Market.

The Dow Jones Industrial Average (DJIA) is an index containing stocks of 30 Large-Cap corporations in the United States. The index is owned and maintained by Dow Jones & Company.

The Consumer Price Index (CPI) is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services. Indexes are available for the U.S. and various geographic areas.

The Producer Price Index is a measure that examines the weighted average change in selling prices over time that are received by domestic producers or wholesalers for their output. Changes in PPI are used to predict possible changes associated with the cost of living.

The Small Business Optimism Index, managed by the National Federation of Independent Business (NFIB), measures business owners’ expectations regarding business conditions over the next six months.

Definitions of individual indices and sectors mentioned in this article are available on our website at ameriprise.com/legal/disclosures in the Additional Ameriprise research disclosures section.

Third party companies mentioned are not affiliated with Ameriprise Financial, Inc.

Investment products are not insured by the FDIC, NCUA or any federal agency, are not deposits or obligations of, or guaranteed by any financial institution, and involve investment risks including possible loss of principal and fluctuation in value.

Ameriprise Financial Services, LLC. Member FINRA and SIPC.