Front and Center Is Fed Chair Powell's Jackson Hole Message

Quincy Krosby:

Hello from LPL Financial. Welcome to the Talking Point. I'm your host, Quincy Krosby. Good morning everyone. This is Quincy Krosby. It's the talking point, it's Monday morning, it's August 5, and everything is in the red. Everything is in the red. The bond yields are coming, Treasury yields are coming down. The equity futures are gaining momentum to the downside. So what's going on? What's going on is that the market believes that the Fed is behind the curve, to put it simply, that the Fed should have cut rates at the last meeting last week. But you may recall that when the Fed finished the press conference, the market was up. The market actually enjoyed what Chairman Powell had to say about the, so-called soft landing. Now, I do want to point out that in that talk that he gave, you know the statement, he has his own statement.

Quincy Krosby:

And also at the press conference, he did stress that they are focused increasingly on the maximum employment mandate, the labor market. And in fact, in speeches recently, he has invoked the maximum employment mandate many, many times. Why? Because they're worried about it. That's why. And so the Fed has got to balance the two mandates and he said, oh, well, you know, the risk right now is equal. They're normalizing. Well, the market doesn't agree with that. Now, I do want to point out in terms of economic data that we had last week, one, the initial unemployment claims ticked higher last Thursday morning, as did continuing claims, showing that people are having a harder time getting a job. The market did not appreciate that. Also, there was another piece of data that manufacturing data, this is from the ISM manufacturing report, widely followed, Institute for Supply Management, showing that manufacturing continues to be in decline.

Quincy Krosby:

And under the hood, the employment numbers for manufacturing across the country coming down, that's not something the market wanted to see. Now, let me just put here right now at 10 o'clock this morning, Monday morning, August 5, we will have the service sector ISM report, which is of course the largest part of our economy. Last month it came in below 50. Please remember 50 is the line in the sand between expansion and contraction. And last month it came in at 48.8%, showing that it had contracted slightly. Today, Monday, August 5, at 10:00 AM Eastern. It's going to be important for the market. And the reason I'm mentioning it, because I'm doing this call before 9:00 AM, we don't know where it's coming in at this point, but if it comes in even weaker, this will just be another indication that the economy is slowing at a faster pace. Of course, we are also going to focus on the employment expectations within this report.

Quincy Krosby:

And also prices paid to see if prices are climbing higher or are they coming down. It's going to be very important for the market because right now the market is looking for any sign of something positive. Now, also added to all of this are concerns over tech, mega tech, because big tech was coming in and saying, well, yes, we, you know, our budget, our capital expenditures for generative AI, yes, they've gone up, they're quite high. But what they're indicating is that the integration of the generative AI into their own systems, for example, in cloud, not happening fast enough, the market is looking for monetization of all of the expenses that they're allocating for generative AI. And so they're saying, well, you know what? There's a disconnect here. You've got to be moving faster. And they've been punishing these companies. In addition to all of that Berkshire Hathaway, which is Warren Buffett's company, selling another big tranche of their Apple holdings.

Quincy Krosby:

That is not going over well. Apple actually came in with better than expected earnings and revenues. And also in terms of their integration of their AI, I say generative AI because generative means faster, faster, faster processing for more and more data, increasing amount, increasingly higher amounts of data. So in any event, you have that. And then on top of it this morning, NVIDIA coming out and talking about one of their major chips having a flaw and that they won't be able to sell it when they thought they were going to, which just pushed their share price way down. So this is all together. Now again, the concern is that the Fed talked about September, pointed to September, as the first rate cut. The futures market is saying, well, if that's where you're going to go, you're probably going to need 50 basis points instead of 25.

Quincy Krosby:

The market increasingly thinks, you know what Fed, you messed up, you're behind the curve. Maybe you even have to come in with a rate cut in between meetings. Now they don't like to do that. The market has wanted the Fed to cut rates based on just inflation coming down, and therefore, the higher rates for longer would not be warranted. They would have to cut rates because simply inflation was not a dramatically dangerous for the economy anymore. And they could easily cut rates based on that. What the market did not want to see is that the Fed has to cut rates because the economy is slowing at a faster clip. Now, again, keep in mind, not all of the data has been bad. The first read of second quarter GDP came in at 2.8%, higher than expectations, which was just below 2%. And what you're seeing from companies, I wouldn't say that the earnings season has been stellar, but by and large it's been fairly solid.

Quincy Krosby:

Now, overall, now, I mean when we do listen to the companies, all of them actually a good portion of them have suggested that consumer spending has been cooling but not collapsing. We haven't heard collapsing. How does collapsing come into the equation? And this is the concern that if the unemployment numbers continue to trend higher consumers are going to hold back their spending even more. And considering that consumers are 68% of GDP, you don't want to see that. Now on Friday morning, this is what we saw and that intensified the sell off. Did it not? The payroll report came in and headline was lower than expectations, but still, still resilient. There were revisions downward for previous months, but overall, perhaps suggesting that the labor market is normalizing, as opposed to dramatically weakening. However, under the hood, this is what we saw. One, the hours worked cut, you don't want to see hours worked come down, come down too much because you know what it suggests, there wasn't enough work for the workers.

Quincy Krosby:

So they cut the number of hours. That was not what we wanted to see. Also, in terms of wages, wages have come down. Now, one part of this story is you don't want wages skyrocketing because that means people have more money, they could then pay for higher prices and that then feeds inflation. But wages came down a bit too much. That's not, again, what you want to see. Also, in addition to that, the unemployment rate went from 4.1% to 4.3%. You heard Chairman Powell at the Federal Reserve meeting saying, well, 4.1% is what we expect. And it's good. It's resilient. It's solid. Even 4.3% is in that category. However, however, I want to point something out here. It's the rate at which it is jumping higher. That's what bothers the market because the market's view is history dictates that it could keep clicking higher.

Quincy Krosby:

That once it starts going higher and higher, that's what happens. The other side of the equation is this. There are economists who are saying, hey, not so fast. Seasonality took hold. You know, that we had bad weather, we had bad weather in Texas, people couldn't work, they couldn't file for unemployment. That's one thing. Also, there's another notion that as more and more folks come into the labor market looking for jobs and they can't get jobs, then that number climbs higher. And that many believe that's what did it. So why is that so bad? The fact is, the market has to piece together the totality of the information. And when we see that and we see initial unemployment claims ticking higher, again, not dramatically. So the trajectory, however, is higher. Same thing with continuing claims. Trajectory is folks having a more difficult times. So all of this together, and you notice Chairman Powell mentioned the word totality of the evidence, totality, this is his latest view of things.

Quincy Krosby:

We don't want one data point, we want the totality of data points. Well, he's seeing it. The Treasury market has been coming down. We don't want to see the yields just dropping and dropping because we know what that suggests, and telegraphs a scare, an economic scare. And that is what we're seeing. And the market is saying to the Fed, you messed up. You needed to cut rates at that meeting. You can't wait until September 18. That's just too long a time. Also here, there was some chatter, and I'm saying chatter, rumors, that there were those at the Fed meeting who thought it would be appropriate to cut rates at the meeting. Obviously, they were not in the majority because that is not what happened. And it's just rumors that that was what transpired. In any event, the market now is in essence demanding, demanding, hey, Fed, come on.

Quincy Krosby:

Now the Fed is not going to jump. They want to see more data. But if for example, today the ISM services comes down and it's weaker than 48.8% and the employment picture looks negative, again, no hiring coming up, no expectations for more hiring. Maybe they do come up with something. I think that also what they could do, because this is the week that they go out speaking, they could do what we call verbal interventions. Talk and talk and talk, go out there and jawbone the market and say, we understand what's going on. We're ready to act if necessary and try to get the market to accept that. But nonetheless, the market is accept what, right now, the economy needs lower rates. Well, the Fed's other view is, well guess what? Treasury market is giving them lower rates. Just take a look at the 10-year.

Quincy Krosby:

That's what's so interesting about this, the Treasury market doing the job for the Fed, but within a negative, negative environment. So it's a debate I'm sure at the Fed, that before anyone goes out and speaks, they are going to come up with something that is, that they understand what the market is telling them and yet they're going to have to come out with a concerted message. This week we're going to pay very close attention, obviously, on Thursday morning to initial claims. And we're also going to pay very close attention to continuing claims. We're going to have a report on consumer credit. This is, you know, obviously important. We want to hear what, whether the state of consumers, are they delinquent, are they not delinquent, are the late payments? And so we know that delinquencies are up, we know that late payments are up and we know that consumers are actually holding back their consumer spending on credit cards.

Quincy Krosby:

And we heard from airlines, airlines that had actually told us how strong their performance was suddenly coming out and telling us that, by the way, we're not seeing economy class tickets moving as much as we wanted, but we have to discount those. So this is all part of that picture. This is part of the totality of the information. This week, we're also going to hear from Caterpillar. I want to pay attention to what Caterpillar has to say because it is very much an integral part of the infrastructure story, and I think it's going to be extremely important. We also want to hear more if we can, about Warren Buffet's, what their sales of the Berkshire Hathaway portfolio, where they've been selling a very large tranche. And this is not the first batch that they've sold of Apple, because this also put pressure on the market because you look at Berkshire Hathaway and Warren Buffet as making a judgment, having a judgment, about the economy and the market, and why are they selling off more at this point.

Quincy Krosby:

So all of that came into the headlines. The U.S. dollar, by the way, the dollar has been watching all of this. And let me point out that last week, the U.S. dollar vis-a-vis its counterparts, right? Its counterparts and that would be the Euro, that would be the Japanese yen, that would be the Canadian dollar, that will be the British pound sterling. That would be the Swiss franc, by the way, has come down the lowest level against those currencies in 2024. So the dollar weakening to the point that it is the lowest level against the basket of currencies we trade against in 2024. And remember, the U.S. dollar was strong. I mean, many thought it was just too strong. Well, now it is weakening. So again, the market has to pay very close attention. Is there any catalyst right now that could come in and push this market out of the red and into the green?

Quincy Krosby:

Maybe the ISM services because the ISM reports, manufacturing and services, have historically a direct correlation, positive correlation, with the S&P 500. Also, one of the things we're going to pay attention to are the banks. How are the banks doing? We know that the banking sector, financials, have pulled back last week. We'll keep our eye on that because take a look at the small caps. They have a preponderance of small banks in those indices that follow the small caps. And when the bank sector was doing well, it really helped propel them higher. So we'll keep an eye on that, paying attention. I also want to mention the VIX here because the volatility index folks had been at 12, 13, no one even talked about it, you know, I mean, it was like, oh, that's so yesterday. And then it moved up to 16 and that was, whoa, it's climbing higher.

Quincy Krosby:

Well, it hit 40 and I don't know where it is right now as I do this call, but it has been climbing higher. The market is in a midst as well of seasonality and negative seasonality. There are those who say, well, you know, historically in an election year, August isn't that bad. But you know what, this is a strange election season to begin with, is it not? But August tends to be volatile negative seasonality for August and even September. But the fact of the matter is it tends to be particularly difficult, by the way, for technology names. Mm-Hmm, <affirmative>, just take a look at, you know, the charts, you'll see that. So this is August, you know, hyper-alert for every data release, anything from the Fed, where are the Fed speakers? When are they coming out to tell us what their thinking is and so on.

Quincy Krosby:

So as it is, when you have these kinds of sell-offs, I want to point out that typically there will be a bounce, something will allow it to bounce, perhaps just the sell off itself, perhaps an announcement from one of the companies. So we have, again, CSX, which is the railroad. By the way, there was an upgrade for CSX. We want to pay attention to what that is going to be. And believe it or not, early this morning, that was one that was actually in the green. So I'm watching that. I'm watching Caterpillar. Lockheed Martin, the defense names, defense names were expected to claim higher. Lockheed Martin had strong earnings and that has been upgraded. And so have a number of other of the defense names. There is an eye on the Middle East, and that certainly is adding to worries. The worries are that this war in the Middle East now looks like it's between Israel and actually Iran itself, and I'm not going to go into the details here, but I'm going to keep my eye on oil prices because they have really, West Texas Intermediate crude, they hasn't jumped dramatically at this stage.

Quincy Krosby:

But the fact is oil will jump dramatically if it looks as if the diplomacy, the lobbying, the meetings that are being held all over, all over the world to try to get a resolution in place. If that doesn't work, we should see oil prices climb higher, not lower. Okay, so that's it. That's it. So again, in terms of the earnings, I'm going to listen to Caterpillar, I'm going to listen to CSX. I want to hear, you know, overall, what are the companies telling us as we look ahead? It's going to be an important week for that. But you know, sometimes when markets have a selling spree, we all know selling begets selling. What happens is margin calls come in, you know, all of that starts coming in and taking that momentum downward. Similarly, I want to point out when buying hits, buying begets buying as well. So again, the market is going to go into oversold territory and is at this point, you know, it has, it hasn't opened yet.

Quincy Krosby:

I'm still before 9:30. It will be oversold and typically there is a bounce. But what we're looking for is where are we headed? Keep your eye please on the semiconductors because again, they are a picture of global demand. So the indexes for semiconductors, we want to see where they are headed. And similarly, let's look at the Dow transports. Very important as we know and we know why. So again, have a good week. Try. We'll get through this. We always get through it. The market is just trying to adjust to the possibility that the Fed is behind the curve. And notice I stress possibility. Thank you all so much.

Speaker 2:

This material was prepared by LPL Financial. It's for general information only and is not intended to provide specific advice or recommendations for any individual. There is no assurance that the views of strategies discussed are suitable for all investors or will yield positive outcomes. Investing involves risks including possible loss of principle. Any economic forecast set forth in the podcast may not develop as predicted and are subject to change. References to markets, asset classes and sectors are generally regarding the corresponding market index. All indexes are unmanaged and cannot be invested into directly. Index performance is not indicative of the performance of any investment and do not reflect fees, expenses, or sales charges. All performance reference is historical and is no guarantee of future results. All information referenced in the podcast is believed to be from reliable sources. However, we make no representation as to its completeness or accuracy.

Speaker 2:

Securities and advisory services offered through LPL Financial, a registered investment advisor and broker dealer member RA and SIPC ensure its products are offered through LPL or its licensed affiliates. To the extent you are receiving investment advice from a separately registered independent investment advisor, that is not an LPL affiliate. Please know LPL makes no representation with respect to such entity. If your financial professional is located at a bank or credit union, please note that the bank or credit union is not registered as a broker dealer or investment advisor. Registered representatives of LPL may also be employees of the bank or credit union. These products and services are being offered through LPL or its affiliates, which is separate entities from and not affiliates of the bank or credit union. Securities and insurance offered through LPL or its affiliates are not insured by the FDIC or N-C-U-I-A or any other government agency, not bank or credit union, guaranteed not bank or credit union deposits or obligations and may lose value.