The 1% Move Report

Wealth Management — July 20, 2021

• US stocks traded higher on Tuesday as the S&P 500 rose 1.5% to close at 4,323. With the rally, the index is now up 15.1% year to date.   
• Tuesday saw an equity market turnaround with the S&P 500 recovering from Monday's losses while Treasuries saw continued volatility despite yields ending the day slightly higher. The catalyst for Tuesday's recovery was unclear but equity futures traded higher overnight and markets continued to rally throughout the session as the S&P 500 recorded its best session since March. The NASDAQ and Russell 2000 both broke five-day losing streaks, posting strong daily returns on the upswing while Industrials and Financials were the top performing S&P 500 sectors, a reversal of recent cyclical weakness. 2Q earnings season remains in focus as a busy week of earnings continues.  
• 10 of 11 S&P 500 sectors were higher on the session, with Industrials (+2.7%) and Financials (+2.4%) outperforming the broader market, while Utilities (+0.4%) and Consumer Staples (-0.1%) lagged. 
• Rates were mixed across the curve, with the 10-year Treasury yield at 1.21% as of the 4 p.m. equity market close. Gold was slightly lower on the day while WTI oil closed higher to above $67 per barrel. The US dollar moderately strengthened on the trading session, as measured by the US Dollar Index.

Following the worst session for US stocks in two months on Monday, US equities recovered sharply on Tuesday with the S&P 500 posting its strongest session since March as the index recovered from the prior day's sell-off. It was a broad-based rally with 90% of S&P 500 constituents ending the day higher and the NASDAQ and Russell 2000 (small caps) breaking five-day losing streaks. The catalyst for Tuesday's turnaround was unclear but early morning futures pointed to a strong open and the equity market strength continued into the afternoon. While the tone was distinctly risk-on in equity markets, Treasury markets told a different story with an early morning drop in yields to as low as 1.13% before recovering and ending the day slightly higher then the morning's open. Treasury yields have been the primary driver of recent equity market action and remain near the lowest levels since February. Despite Treasury yields remaining near these recent lows, cyclical sectors like Industrials and Financials were the relative outperformers on the day - perhaps suggesting oversold conditions in these sectors following outsized weakness in cyclicals in recent weeks. 2Q earnings season remains in focus and results to date have been strong, though market reaction has been lackluster with expectations for prints high. Economic data was mixed on the day with an upside surprise in housing starts, but a downside surprise in new building permits, highlighting the continued backlog in homebuilding. Turning to the back half of the week, markets will continue to monitor 2Q earnings, new global COVID-19 cases, and Thursday's Markit PMI reading for new clues on forward economic progress. 

Record stimulus and a stronger-than-expected US reopening have accelerated the shift from early to mid-cycle, lifting equity markets to new all-time highs. The continued economic momentum in global trade, manufacturing, corporate earnings, and housing have set the tone for strong US economic growth; however, this backdrop has been increasingly priced into markets. Index-level valuations peaked at more than 22x forward earnings and history suggests valuation multiples will trend lower as earnings improve, supporting our base case June 2022 target of 4,225 for the S&P 500 and our bull case of 4,450. With higher expectations and a move into mid-cycle, investors should upgrade their portfolios by dialing back extreme positioning and allocating more exposure toward high-quality cyclicals and growth at a reasonable price. With a potential long-term infrastructure bill in progress, continued Fed accommodation, and the unleashing of pent-up demand for services-related spending, the US faces a potential favorable outlook for economic growth with 7%-8% real GDP this year and inflation possibly rebounding to a 2.5%-3% range over the coming years. However, optimal navigation of this new business cycle will require care as Treasury rates appear likely to move higher toward 2% in the next year, creating a headwind for long-duration assets. With regard to stocks, our preferences for quality and valuation support warrant allocating to international stocks with less expensive valuations, and cyclicals, including financials, which should benefit from the steeper yield curve. Dollar weakness is likely to continue as policy choices are debasing and relative growth outside the US becomes more compelling as the rolling global reopening continues. In fixed income, the challenge is two-fold: Generating sufficient income, while also preserving capital, requires a diversified and active exposure, with our preference toward a mix of high yield credit, preferreds, leveraged loans, asset-backed securities, including select mortgage-backed, and dividend-paying stocks. Real assets such as gold, infrastructure, and real estate present an attractive opportunity as a portfolio ballast for income generation and as an inflation hedge.

Market data provided by Bloomberg.

Dow Jones Industrial Average (DJIA): A price-weighted average of 30 blue-chip stocks that are generally the leaders in their industry.

NASDAQ Composite Index: A broad-based capitalization-weighted index of stocks in all three NASDAQ tiers: Global Select, Global Market and Capital Market.

S&P 500 Index: The Standard & Poor's (S&P) 500 Index tracks the performance of 500 widely held, large-capitalization US stocks.

US Trade-Weighted Dollar Index: A weighted average of the foreign exchange value of the US dollar against a subset of the broad index currencies that circulate widely outside the US.