Equity markets pause, but remain near record highs
November 15, 2021
Equity markets took a breather following a five-week winning streak that saw 11 record closes for the S&P 500® Index and brought markets to overbought conditions. The bullish narrative focuses on lack of alternatives to equities, strong earnings with resilient margins, resilient consumer spending and retail fund flows. Bears point to persistent inflation pressure, elevated valuations, continued COVID concerns and a choppy economic recovery. Conditions over the past month have allowed a rebound in growth versus value, and strong small cap outperformance relative to large caps.
Interest rates bounced modestly following last week’s hot reading on inflation, but Treasury yields remain deeply negative on a real basis (adjusted for inflation), causing investors to allocate to other risk assets, such as equities and crypto. The dollar index shot to the highest level since last July on a shift in expectations for Fed rate policy. The Fed Futures curve embeds an 83% chance of two-or-more hikes next year, up from 60% a month ago. Debate continues around the Fed chair nomination, with Chair Powell a 70% chance of renomination per Predictit. Time is running out if Biden plans to make a switch, as President Trump nominated Powell on 11/4 in 2017.
Equity markets took a well-needed breather, though the path of least resistance remains higher given investor sentiment, momentum and seasonality.
Democrats in the House aim to pass the near $2 trillion “Build Back Better” bill, targeting climate initiatives, healthcare, and education. Moderate Democrats, who earlier held the bill up, have committed to vote in favor this week assuming the CBO score is in line with the administration’s projections. The bill will face additional hurdles in the Senate, where swing-voter Manchin has expressed concern over elements of the bill and the impact on inflation. President Biden conceded last week that the $1.9 trillion Covid stimulus deal passed earlier in the year contributed to inflation being at a 30-year high. Biden will hold a signing ceremony Monday for the $1 trillion infrastructure bill.
A reading on consumer price inflation (CPI) of 6.2% was the highest since 1990, with 4.6% core CPI at the highest level since 1982, driving debate over the transitory versus permanent nature of inflation. Treasury Secretary Yellen blames the pandemic for inflation, and notes that ending COVID is the key to bringing inflation down. Recent data show that the decline in cases may be coming to an end, with a rebound in New England, the Midwest and Southwest. Cases are rising in Europe, which has a greater rate of vaccination that the United States. This is driving concerns over the path towards economic normalization, with mobility data still well below pre-pandemic levels.
President Trump is meeting with Chinese President Xi in their first virtual summit, with discussions likely to focus on climate, trade, and Taiwan. Expectations are low that any issues will be resolved in this meeting, but U.S. officials aim to put “guardrails” on the relationship so that things do not get worse. Xi enters discussions after securing a third term as Communist Party head last week, though China’s economy is decelerating, and high yield spreads are the highest in a decade due to property sector issues.
What to Watch
A light week of economic data awaits, but the data could offer a glimpse of consumer activity, with retail sales and industrial production on Tuesday, housing starts on Wednesday, and the index of leading indicators on Thursday.
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