Guy Foster, Chief Strategist, discusses the two points of pressure for investors: the strength of the U.S. economy and uncertainty over the outlook for semiconductor sales. Plus, Janet Mui, Head of Market Analysis, analyses fresh U.S. jobs data.
Last week was a back-to-school week for markets, and generally, risk assets slipped slightly. There was a little panic over the summer as consumer activity weakened.
Some even speculated that the Federal Reserve (the “Fed”) would impose an emergency interest rate cut ahead of its next scheduled meeting.
Did a break on the beach settle the nerves or incubate the anxiety of your average investor? Last week provided some answers.
Nvidia under the spotlight
A couple of weeks ago, we discussed how investors were underwhelmed by Nvidia’s extraordinarily strong earnings. Last week, they had to contend with the U.S. Department of Justice (DOJ) sending subpoenas to Nvidia and other companies, as it seeks evidence the chipmaker violated antitrust laws.
It was known that the DOJ had been investigating the dominant provider of artificial intelligence (AI) processors, but this was an unexpected escalation, which caused volatility globally across several stocks operating within the chip-making ecosystem.
While the outcome of the investigation is obviously a concern for investors, the volatility likely reflects their anxiety about the broader issues surrounding the AI
processor boom. Although these companies are making enormous sales at the moment, it’s uncertain how long the current surge in sales will last, and to what level
they’ll revert when the cycle slows.
U.S. consumer woes
The second major anxiety for investors relates to the strength of the U.S. economy. We’ve talked in recent weeks about how the consumer sector has been holding up, with retailers in particular citing a change in behaviour, whereby consumers buy less or trade down to cheaper brands.
Last week, Goldman Sachs held its Global Retailing Conference, and the message remained broadly the same. The discount store chain Dollar Tree painted a peculiarly graphic picture of its average customer – a low-income family also holding a second job, where those additional hours seem to have gone away or be on the wane.
So, consumer-facing companies have reported some weakness, which seemed at odds with some of the economic data.
Last week, we saw a bit more evidence these companies’ experience is broadly shared. The Fed produces a report called the Beige Book. It’s similar to the Bank of England’s Agents’ report – a summary of anecdotal interviews with key business contacts, which contrasts with the statistical data investors spend time trying to interpret. This showed economic activity growing slightly in just three (out of eight) districts. It told of employers generally maintaining employment but cutting labour costs by reducing extra hours or not replacing job leavers. The tone was downbeat but not alarming, and there was a large regional variation.
We also learnt the number of job openings declined (again). It remains high, but less abnormally so. Last week’s purchasing managers indices showed the U.S. manufacturing sector was contracting.
Friday saw the final and most anticipated piece of the puzzle, the U.S. employment (nonfarm payroll) report. Like much other data last week, headline jobs growth was weak. It also included negative revisions to previously reported data, which perhaps helps explain why companies seemed to report weakening activity levels before they were evident in the economic statistics.
Putting these data together, the case seems compelling for a double (half percentage point) interest rate cut when the Fed meets in a week’s time. As it stands, the market’s only expecting a single cut because Fed speakers have not yet prepared investors for anything more drastic. Some fear a more drastic cut could unsettle the markets, but the Fed has asserted for months that policy is very restrictive.
As such we’ve discussed how the Fed needed inflation data to turn before it could justify a cut. Now the data finally supports its assertion, it seems entirely plausible it should want to reduce that degree of restrictiveness significantly.
Not all bad news
The data doesn’t mean there’s reason to panic. This perhaps explains the market’s initial response to these figures, which was an increase in futures, suggesting investors think this bad news could be treated as good news.
Sadly, the positive sentiment didn’t last, and the U.S. equity market ended the week well down. This decline was led by economically sensitive consumer stocks, but technology also underperformed as the market digested Broadcom’s results, which didn’t see revenue guidance upgraded.
Soft-landing hopes remain intact because although jobs growth was weaker than expected, when coupled with decent earnings growth, it underpins that growth still
looks good for the current quarter. And even though the manufacturing sector purchasing managers index (PMI) may be experiencing a recession of sorts, the much
more significant services sector PMI was pretty strong.
That wasn’t just a U.S. phenomenon. In Europe, the Eurozone and UK both saw robust expansion in services sector activity. There were weaknesses though, with
Germany remaining a weak spot within Europe.
The European Central Bank may cut rates again this week, particularly as it had some good news on the inflation front; the measure of compensation per employee, which it uses as a gold standard measure of wage inflation, slowed further in the second quarter.
In the UK, the economic news continued to be strong as the economy rides on the waves of tax cuts and wage increases. Therefore, the Bank of England can probably afford to leave rates unchanged when it meets next week.