Weekly market wrap

A Picture Is Worth a Thousand Points

Key Takeaways

• Market swings have increased in recent weeks, as anxiety of a slowing economy and persistent inflation is sparking pullbacks. But a broader view shows that despite sell-offs, stocks have delivered very strong gains and sit near record highs. 
• The latest read on inflation was released last week, with a less-than-receptive initial response from the market, as the month-over-month increase in core CPI showed that the last mile of the inflation fight will not be completely smooth. Despite the challenges month-to-month, the broader path for inflation remains on a downtrend, with core CPI now back to levels last seen in early 2021. 
• Markets were forced to lower hopes for a bigger rate cut from the Fed at its September meeting, but we think the bigger picture for monetary policy is a bright one, with the Fed likely to start an extended phase of rate cuts at its meeting this coming week.

The iPhone 16 was unveiled last week, offering another reminder that, if we're being honest (and paying attention to the daily habits of Gen Z-ers), these days it's more about a camera that can make phone calls than a phone that can take pictures. As such, the highlighted upgrades include improved picture quality and better zoom. No, this is not a review or endorsement of the iPhone, but instead a pertinent parallel for investors: a clear picture and a wide lens are incredibly important. That is particularly useful when looking at recent market moves, as current trends are, to us, better viewed in landscape mode.

Investors focused in on inflation data last week, with markets continuing to filter the balance of consumer price trends and economic readings through the lens of what it means for Fed interest-rate moves ahead. Recent developments have produced flashes of market volatility lately, but this isn't necessarily the full image. Let's zoom in on a few key items that were in the frame last week, and then zoom out for a better view of the bigger picture for the markets.

The Stock Market

The tight shot:

On August 5, the Dow fell 1,034 points. It then rose 1,062 points over the next six days. Almost another 2,000 points were added over the ensuing few weeks, followed by a drop of 1,000 points from August 29 to September 6. Then on Wednesday of last week, the Dow had an intraday swing of 910 points (rising by that amount in a matter of a few hours).¹

Did you follow all of that? The point is that a narrow look at recent market moves may feel a bit nauseating. For context, this winding path was prompted by a batch of data that spurred a retake on the outlook for factors that have been rather reliable and steady characters in the investment landscape over the last year and a half – a tight labor market and mega-cap tech stock leadership. Specifically, the early-August sell-off was sparked by a jobs report showing a slowdown in hiring growth that spurred a chorus of recession calls. The late-August decline was a similar reaction to a weak monthly manufacturing report. And last Wednesday's half-day slump was the response to the consumer price index (CPI) report that showed a stall in the pace of falling inflation.

Stocks have seen more volatility recently.

Adding some color to recent market swings: Comparing the most recent pullbacks.

Zooming out:

Markets have displayed a bit more anxiousness of late, but that shouldn't be interpreted as a sign the bull market has run out of gas. In fact, it's been encouraging (and appropriate, in our view) to see that episodes of rising recession fears have not had much follow-through.

We think the buying into the dips over the last two months is a warranted response, as we believe calls for an impending recession are overdone. That said, the combination of growth scares (in response to periodic underwhelming data points) and a focus on policy uncertainties amid the approaching election will spur additional bouts of indigestion ahead. Importantly, however, any such pullbacks should be viewed through a wider aperture. Markets have logged strong gains over the last two years and currently sit within shouting distance of all-time highs. This backdrop should not be lost on investors as they evaluate progress and portfolios.

Widening the lens reveals that stocks have delivered strong gains over the last few years.

A broad view helps put even the most challenging declines in perspective.

Inflation

The tight shot:

The latest read on inflation was released last week, with a less-than-receptive initial response from the market, as the month-over-month increase in core CPI showed that the last mile of the inflation fight will not be completely smooth. On an annual basis, core inflation held steady at 3.2%.¹ On one hand, this is half of where we were at the peak, but on the other hand, this was flat with the previous reading and still above the Fed's broader target of 2%.

Details matter here, though. Nearly all of the lack of progress in this most recent inflation reading is attributable to shelter (rents, homes) prices, which rose by a higher-than-expected 0.5% versus the prior month.¹ The remainder of the CPI report was actually encouraging, with prices declining for categories like used vehicles, personal and medical care, recreation and home furnishings.

All told, the zoom in on the most recent inflation trends skews largely to the good news (progress) column, but not completely. Shelter prices remain the fly in the ointment, and while other incoming data signal to us that rent prices should moderate further as we advance, the reality is that a meaningful moderation in home-price appreciation will be a challenge in the near term given the lack of housing supply for sale (as homeowners are reluctant to list houses and give up their 3% mortgages).

We think the lack of accelerated moderation in core inflation in this report all but eliminates the probability of the Fed cutting by an outsized 50 basis points (0.50%) at its upcoming meeting. While futures markets moved in recent weeks to price in a rising expectation for a larger rate cut, we never subscribed to this view, as we don't think the labor market or economic backdrop warrant a more extreme policy response. We suspect the initial weak reaction in the financial markets to this inflation report were a function of markets shaving off hopes for a bigger rate cut.

Progress on consumer prices was a bit stubborn last month.

Shelter prices were largely to blame, with inflation elsewhere showing more progress.

Zooming out:

The view through a wider lens reveals a more favorable inflation trend. The job is not done, but inflation has moderated significantly from its peak in 2022. Thus, this has allowed the Fed to pivot toward dialing back on the restrictive monetary-policy settings it put in place in 2022 and maintained through 2023 and 2024.

The bigger picture is that, with the broader trend of moderating inflation poised to continue, we think the Fed will now initiate a rate-cutting cycle that will commence with a 25-basis-point (0.25%) cut on September 18. This is not new news, as markets have widely anticipated this pivot (though markets didn't necessarily nail the timing, as consensus expectations coming into 2024 were for the first rate cut as early as March), an expectation that has been a key driver of stock market gains over the last 18 months.

But again, this is where a broader perspective is important. Although near-term inflation readings may require calibration to upcoming Fed decisions (read as: rate cuts won't be preordained), we think the important takeaway is that easing monetary-policy cycles (rate cuts) are broadly favorable for markets. This is particularly the case when the Fed is cutting rates without an accompanying recession. The Fed often cuts rates to arrest an economic downturn. However, in the instances where monetary policy is being eased back toward a neutral setting (as opposed to stimulus) without a recession emerging, as was the case in 1966, 1984, 1995 and 1998, the table below shows that markets have performed well following the first rate cut.

We think the path of moderating inflation will continue, but likely not without hiccups along the way.

A picture of inflation peaks through history shows we've been here before.

Rate cuts without recessions have been favorable for the stock market.

Craig Fehr, CFA
Investment Strategist

^{Source: 1. FactSet}

Weekly market stats

^{Source: FactSet, 9/13/2024. Bonds represented by the iShares Core U.S. Aggregate Bond ETF. Past performance does not guarantee future results. *Morningstar Direct 9/15/2024.}

The week ahead

Important economic releases this week include the FOMC meeting and retail sales data.

Review last week's weekly market update.