Get Mike Santoli's Market Memo in your inbox first. SUBSCRIBE HERE
Wall Street emerges from the summer respite with its resolute commitment to stocks validated, for now.
The S&P 500 has done just enough to preserve its upward path, last week's brief and modest pullback approaching but never breaching the top of its May-July range, the index forgoing several excuses to retreat more fully while keeping the corrections stealthy below the surface.
The steadiness at the index level reflects full sponsorship of equities by professional investors, who appear undaunted by the ubiquitous warnings of weak post-summer seasonal patterns. Or perhaps they're simply encouraged that any such September-October accidents tend to be cleaned up later in the fourth quarter.
Measures of equity exposures and risk appetites from Goldman Sachs, State Street, National Association of Active Investment Managers and Bank of America agree that asset allocators are "stocked up" for the fall.
Leuthold Group maintains a Courage/Fear Ratio, which has climbed to around an 18-year high. It tracks a Courage portfolio (small caps, emerging markets, commodities and cyclical S&P 500 sectors) against a Fear basket (U.S. dollar, gold, S&P low-volatility stocks and 10-year Treasurys).
Barclays equity strategist Venu Krishna noted last week that individual investors' aggression has calmed somewhat: "Retail participation has softened in recent weeks, suggesting the latest wave of FOMO has been driven primarily by institutional investors rather than individual traders."
It tracks with the pros' discipline of chasing earnings growth, which has been the single strongest bullish input, even if the risk that big companies are "over-earning" due to AI-capex pulling profits forward is quite real. A Cboe S&P 500 Volatility Index (VIX) below 15 – appropriately if not sustainably low – also instructs some big-money quant models to keep the risk tachometer pinned in the red.
It's true, too, that a couple of paramount worries have failed to crystallize. Concern over wobbly U.S. macro conditions that would render any Federal Reserve rate hike a mistake was eased by a firm run of data last week culminating in a strong payroll report.
And the growing, rational unease with the pace and sustainability of the AI-investment supercycle found little tangible support throughout earnings season, with the "spenders" upping capex projections and the "vendors" raising guidance, all the way through Dell and Broadcom last week.
Higher yields not all bad?
Of course, both these dynamics – solid economic growth and unceasing AI capex intentions – are feeding what remains a key anxiety and preoccupation of investors: Rising bond yields.
The march higher in 10-year Treasury yields toward 4.8% is still probably best viewed as a "normalization shock," in which rates find their way back to their pre-global-financial-crisis range and revert to their pre-2000 relationship with equities (rising yields correlating negatively to stock prices).
As noted here last week, the absolute yield levels are fully compatible with sturdy equity markets. But because we got to 4.7% 10-year Treasury yields this time from below 1% six years ago, it's experienced differently than the similar level was 25 years ago, which was reached on the way down from 8% in 1994.
Today's 4.7% yields mean that most debt issued in recent years trades below its issue price and has made investors wary of fixed-income - at exactly the moment when bonds are again providing a decent cushion through yield income.
Jim Reid, Deutsche Bank head of global macro and thematic research, concedes, "It's getting harder to get outright negative returns in government bonds over the medium-term. So, while the news flow will likely continue to be negative, at least bonds are being bonds again."
Bonds were also bonds in the 1990s, the last time yields and equities mostly moved counter to one another over short time frames.
Far from undermining the case for a 60/40 stock/bond sort of portfolio today, the 60/40 Vanguard Balanced Index Fund from March 1990 to March 2000 (the tech-bubble peak) posted a total return of 14.8% annualized. That was more than 69% of the annualized return delivered over that span by the S&P 500 alone.
Over the past ten years, when bond prices were generally seen countering any weakness in stocks, the Vanguard Balanced fund has imposed a higher opportunity cost, capturing just 61% of S&P returns – mostly because starting yields were far lower than they are today.
Things can surely get uglier for bonds from here, on a trading basis. We're ten days from the next Fed meeting with market-implied odds of hike-vs.-hold uncomfortably close to 50-50, with this week's inflation data somewhat miscast as a likely swing factor. Oil prices are again jumpy, Japan might be selling Treasuries to defend the yen and, at least psychologically, global fiscal imbalances encroach.
But when one starts with more yield, it can buffer against sudden, unexpected moves, in case the waters turn a bit rougher than professional investors' fully invested stance assumes.
Market Temperature Gauge
This indicator from John Kolovos of Macro Risk Advisors uses several data points to reflect both what investors are saying and what they are doing.
Around the Street
-Despite striking the heart of America's financial capital, the market impacts of the Sept. 11, 2001, terrorist attacks were far subordinate to the human, geopolitical and cultural toll. But they were significant all the same.
The longest closure of the New York Stock Exchange since the Great Depression was followed by a reflex 11% drop in the S&P 500 the week of Sept. 17, striking a market that had already been down 28% over the prior 18 months from the Tech Bubble peak.
After that first, wrenching week of trading, I wrote the Barron's cover story for the issue dated Sept. 24, 2001, which asserted "It's Time to Buy Stocks Now." The piece was well-timed, a matter both of luck and basic contrarian impulses. The S&P from there went on to jump 24% over the next ten weeks, in one of the most ferocious bear-market rallies on record.
With the clarity of hindsight, I'd argue that this rebound probably prolonged the 2000-2003 bear market somewhat, forestalling the full reckoning of technology over-investment, reduced earnings power and accounting scandals that would ravage stocks through late 2002, where they bottomed 18% below the Sept, 21, 2001, post-attacks low.
-For common-sense dispatches from the frontier of ETF proliferation and smart portfolio construction, check out the X account and research pieces of Morningstar Research's Jeffrey Ptak.
His observations have a spoilsport quality that I appreciate, suspicious of over-engineered fund structures and too-good-to-be-true promises.
Here Ptak quantifies the cumulative losses experienced by investors in the Defiance Daily Target 2x Long OKLO ETF (the average dollar invested down 98.5% annualized).
Credit to him, too, for flagging a newly registered Defiance ETF built to capture private startups' value through a baroque derivatives-of-derivatives mechanism: "The Adviser intends to allocate approximately 80% of the Fund's portfolio to the Pre-IPO Leaders Sleeve primarily through swap agreements referencing perpetual futures contracts."
Market on Close
As noted above, there has been no quit in the AI-capex blitz, at least from the companies involved. What's evolving in hard-to-predict ways is the way this AI trade is being expressed.
Since June 30, Nvidia has outpaced the broad semiconductor group by 35 percentage points after it had lagged pathetically for the prior 11 months. Software has recovered 70% of the "Saaspocalypse" sell-off that ran from October to April.
With Nvidia's acquisition of AI-model distribution/development platform Hugging Face last week and with Meta Platforms finding traction with its latest open-source AI release, the winds have shifted for a moment in favor of AI consumption plays over AI construction proxies.
Sure, memory stocks are showing early signs of cracking above their multi-month downtrend. And perhaps the AI-levered industrials dependent on several years' worth of order backlogs are starting to look washed out.
But the real reason the key indexes have stayed so close to record highs is the revival in the shares of several of the largest tech platforms.
The iShares Nasdaq Top 30 Stocks ETF captures this well, better than the more limited Magnificent 7 cluster.
'QTOP' encompasses Mag7 plus most relevant semis and other big non-tech AI-using corporate giants. It peaked on a relative basis in the May-June runup to the SpaceX IPO, retrenched dramatically with the momentum collapse and has made headway through earnings season.
It remains almost 5% below the peak reached three months ago. If it can't start printing new highs relatively soon, the locomotive of this AI bull market could turn out to be leaking steam.
SUBSCRIBE TO MIKE SANTOLI'S MARKET MEMO HERE
>> Home