Equities added to their recent gains, following their historic rally two weeks ago. U.S. markets led, with the S&P 500 up 3.1% (SPX). Emerging equities lagged, up 1.5% (MXEF), and International Developed returned only 0.8% (MXEA) last week primarily due to weakness in Europe.
Large-cap tech, growth still lead In the U.S., the small-cap and value rotation we flagged two weeks ago proved to be just what we expected — short-covering, not the start of a new theme. Large caps outperformed by almost 450 basis points (bps) last week, as large-cap tech and growth dominance continued. The NASDAQ outperformed the S&P 500 by roughly 300 bps last week and growth beat value by about 400 bp. As banks began reporting earnings last week, financials were the worst performing sector due to higher loan loss reserves.
Realized volatility falls again Despite the defensive price action, volatility keeps falling. Our preferred gauge, 2-week realized volatility, fell another 20% last week, a positive sign reflecting improved market function from the extremes we saw in March.
Fixed income less enthusiastic Bond yields fell last week and credit spreads widened in a sign that the fixed income market may not share equity investors’ optimism. The 10-year and 30-year yields each fell 8 bps. Once again, the Fed announced a lower amount of U.S. Treasury purchases as market function continues to improve. Credit spreads widened last week, rebounding a bit from the Fed-induced optimism two weeks ago. Investment-grade (IG) spreads ended +5 and High-yield (HY) +55, but remain well off their wides. Over the past month, IG spreads have fallen 55 bps while HY have come in 195.
Oil prices plummet on supply capacity woes Despite OPEC+ reaching a historic deal to cut oil production, reports from the IEA and OPEC last week indicating the weakest demand in 25-plus years caused WTI to fall nearly 20%. Then, between last week’s close and Monday’s open, the market fell another 35%, likely on tomorrow’s expiration of the front month contract. As of midday Monday (Apr 20), the spread between the front month and the June contract exceeded $20 USD [Figure 1]. So when the contract expires Tuesday, expect to see a near-equivalent move to the upside. While the record contango is largely a technical market issue, near-term supply issues remain a big concern. Worries about storage capacity will continue to put pressure on prices until either production is cut further or demand increases. The market will be closely watching inventory data released on Wednesday by the Department of Energy, as well as the Consumer Sentiment Index on Friday for any impact on inflation expectations and consumer confidence. Pressure on the U.S. Dollar (USD) has cooled over the past few weeks, but the outlook remains uncertain. Swap lines from the Fed have provided some relief, but a resumption of trade in the global economy is the real catalyst to drive the greenback lower.
What’s moving markets? Coronavirus-related news – Two major coronavirus developments drove price action last week. President Trump’s plan to reopen states gave investors a framework for thinking about a restart, while positive reports on a potential treatment stoked optimism around a V-shaped, rather than U-shaped (or worse) recovery. Europe remains the region to watch for what reopening might look like in the U.S. On that count, things are mixed. Germany is reopening slowly, starting Monday, while harder-hit Spain and Italy have extended their lockdowns into May. This pattern of rolling reopening will likely be mirrored here in the U.S. at the state level. China GDP and manufacturing data – On the growth front, China reported its first quarterly contraction of GDP since record-keeping began in 1992. While retail sales, a proxy for the consumer, fared worse than expected in China, industrial production and exports fared better than expected. This may be due to backlogs, where orders placed before demand fell were able to be filled as the lockdown ended. Given what’s happened in China, and knowing that the U.S. is a more service-driven economy, we could be in for a significant contraction here in the U.S. The consumer sentiment and retail data coming out now may be a sign of things to come. Retail sales and consumer sentiment – Following the sharpest ever one-week decline in the University of Michigan’s Consumer Sentiment Index, retail sales last week saw its biggest decline on record in the U.S. [Figure 2]. Interestingly, though retail sales are worse now than they were in 2008, consumer sentiment while contracting sharply, is still well above levels seen in the Great Financial Crisis. This is likely due to the fact that the health of the consumer this time around was stronger heading into the downturn, which could also point to a faster recovery this time around. In other retail news, the Paycheck Protection Program (PPP) has already burned through its $349 billion allocation. While good for impacted workers and small businesses, more support is clearly needed. Treasury Secretary Mnuchin is negotiating a deal with Democrats now to provide additional relief to small businesses, including more funding for PPP. We could see an announcement on it as soon as this week. What to watch now? Big week ahead Earnings – Outside of the usual coronavirus news, expect more earnings this week. While this week is bigger than the last, the week of April 27th will be the really big one, bringing almost 50% of the S&P 500 by market cap. Jobless claims – In the past four weeks, 22 million people have filed jobless claims — that’s a whopping 10.7% of the working age population in the U.S. Look for jobless claims this Thursday to come down a bit from last week — Bloomberg’s expectation is 4.5 million. Flash PMI reports – Korea export data coming Tuesday should give us a good look at a post-peak-infection economy. Korea data may or may not validate the stronger Chinese trade data from last week. Thursday brings advanced PMIs for the developed world and a look at the April impact in the U.S., Europe, and Japan. PMIs in the developed world will be helpful to evaluate versus China as well. As time goes on and more bad numbers potentially come in, the tradeoff to a lockdown becomes something tangible. And regardless of where you stand on reopening, it can help to be able to point to data to make your case. For the first time, we’re starting to get meaningful data for the U.S. To download a copy of this commentary and the chart of the week click the button below.
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