U.S. stocks closed higher on Friday after a labor market report showing moderating wage growth in May indicated the Federal Reserve may skip a rate hike in two weeks, while investors welcomed a Washington deal that avoided a catastrophic debt default with the Senate passing a bill late on Thursday to lift the government’s $31.4 trillion debt ceiling avoided what would have been a catastrophic, first-ever default.
As an old TV show “Soap” used to say – confused? You will be… and this is certainly appropriate for the current complex market dynamics. The market has been rallying since October last year, hoping the Fed would pause its rate-hiking campaign and start cutting rates in the latter half of this year.
“With this broadening rally, #markets are embracing another upside surprise on the #economy,” Mohamed El-Erian said in a tweet. “Underlying this is a lower risk of recession. Indeed, and as I’ve argued before, there is no need for the economy to fall into recession unless it is hit with another Fed policy error.”
But the bullish case hinges upon the economy avoiding a recession, Employment remaining strong, and wages supporting consumption, elevated corporate profit margins supporting higher market valuations and the Fed will “pause” the tightening campaign as inflation falls.
Yet if the economy avoids a recession and employment remains strong, the Fed has no reason to cut rates. Sure, the Fed may stop hiking rates, but if the economy is functioning normally and inflation is falling, there is no reason for rate cuts.
And sustained economic growth and low unemployment will keep inflation elevated, leaves the Fed little choice but to become more aggressive in tightening monetary accommodation further.
Two other factors to also consider are first the narrow base of the current rally, the mirror image of last year when big tech was on the nose, now investors holding shares of the massive tech and growth companies leading the charge are debating whether to cash out or stay on for the ride. And second the lag effect of past rate rises, which typically take 18-24 months to work though to the real economy, and the split performance of goods and services inflation and potential impact.
A record $US8.5 billion flowed into tech stocks in the latest week, data from BofA Global Research showed, as investors piled into a rally that has seen the tech-heavy Nasdaq 100 gain 33 per cent in 2023. The benchmark S&P 500 has risen 11.5 per cent this year and stands at a 10-month-high. Big movers include shares of Nvidia, which are up about 170 per cent this year, while Apple and Microsoft, the top two US companies by market value, have both climbed nearly 40 per cent.
The S&P 500 advanced for a third week in a row, powered to the brink of a bull market by a handful of tech behemoths such as Nvidia, Alphabet and Microsoft. The Nasdaq 100 jumped 1.8 per cent, capping a sixth straight weekly gain. The tech-heavy Nasdaq index surged to a 13-month intraday high and posted its sixth-straight week of gains that marked its best winning streak since January 2020. Underneath the surface, value shares lagged growth in a seventh week of underperformance.
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