Capital markets remain in risk-off mode, with equity markets back to June lows, and bond yields at the highest level since the financial crisis. The S&P 500® Index saw its sixth weekly loss in seven, breaking to the year’s lowest level. The seasonally weak month of September ended with a loss of more than 8%, the third month this year with a loss of that magnitude (April and June). For context, between 2009 and 2020, there were a total of just three months with 8% losses. Through three quarters, the S&P 500 has declined by 24% (the fourth worst through three quarters since 1928), while the Bloomberg U.S. Aggregate Bond Index has lost 14%, resulting in a loss for a 60/40 investor of 20%, by far the weakest return on record.
Dramatic directional moves in equities, rates, and currencies have investors concerned over the health of the capital markets and the potential for a global hard landing. We are increasingly seeing echoes of previous financial crises in the way investors are acting, notably the period in the late 1990s. The strength of the dollar is reminiscent of previous periods of global stress and could force intervention. Global central banks have engaged in coordinated tightening, with the Fed tightening policy at the fastest pace in 40 years while unwinding the balance sheet. This has pushed the dollar index to its strongest year since 1985 to the best level in 20 years. Worries about the liquidity and capital position of Credit Suisse echo the stress of the financial crisis.
The Fed’s tone began to shift incrementally dovish last Thursday and accelerated over the weekend, as growth concerns and stress in the market began to outweigh inflation worries. The Fed increased its year-end rate to 4.4% in May, down from roughly 4.7% a week ago, and there are 4 more speeches to watch this week.
San Francisco Fed Reserve President Daly noted that overtightening “could end in an unnecessary and painful downturn,” while Vice Chair Brainard said they need to pay attention to financial-stability considerations and how cross-border spillovers might interact with financial vulnerabilities. Chicago President Evans said he was nervous that the Fed has not had time to adequately evaluate the impacts of the recent hikes.
Economic data does not reflect the near-universal bearishness of executives and investors. The Atlanta Fed’s GDPNow model rebounded on Friday, now expecting 2.4% growth in the third quarter due to resilient consumer spending and private investment. The Citigroup Economic Surprise Index is at the best level since May, as data points are beating economists’ forecasts. This week’s data focuses on the health of the job market, highlighted by Friday’s payroll report, which will reflect the current state of the economy.
The end of the third quarter marks the beginning of earnings season, with increasing concern over the direction of revisions. Cautious commentary from Tesla, Nike, Micron, Meta (Facebook), Rent-A-Center, and CarMax has investors on edge. The third quarter is currently forecast at 3% (the slowest growth since 3Q20), down from the 10% predicted at the beginning of the quarter. Revenues are projected at 9% versus 10% in July, suggesting that much of the negative revision has come from margin compression and the dollar. Growth is currently expected to accelerate to 5% in the fourth quarter and 8% next year, though negative revisions will likely moderate these estimates.
What to Watch
Economic data will be in focus this week, with manufacturing PMI data on Monday, durable goods and JOLTS job openings on Tuesday, services and composite PMI on Wednesday, and the monthly payroll report and consumer credit on Friday.
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