As some market bears are shouting “Dow 40K and go away,” it should be noted that the current bull run for stocks is anything but a Magnificent-Seven-led rally. Far from it. There are three primary catalysts for why the market is trading at current levels and why it has the potential to further its gains right into the second-quarter reporting season.
First, core inflation finally showed some signs of a cooling trend developing. The change month-over-month in Consumer Price Index (CPI) was a genuine relief following two months of hotter-than-forecast consumer inflation. For April, core CPI was up 3.6%, down from 3.8% in March and also in-line with market expectations. The disinflation in April is still only a small step toward the Fed’s 2% inflation target, which will leave the Fed firmly trenched in a wait-and-see mode, as voiced by several Fed officials last week. And yet, it was a bullish catalyst for market sentiment.
Second, bond yields are falling despite the Fed holding the Fed Funds Rate unchanged at 5.25-5.50%. The bond mavens are sensing that, regardless of the higher-for-longer Fedspeak being touted on the speaking circuit, there are early signs of the consumer showing more discretion based on the soft April retail sales data (0.0% versus 0.4% estimate) and the very low reading for the University of Michigan Consumer Sentiment Survey for May (67.4 versus 76.5 estimate).
Per the Briefing.com analysis, “The key takeaway is that the downturn in sentiment was driven by decreases across age, income and education groups, and revolved around worries pertaining to inflation, unemployment and interest rates.”
The yield on the 2-year Treasury has fallen from 5.04% at the end of April to 4.82% as of Friday, May 17, and the 10-year Treasury yield has slid from 4.74% to 4.42% over the same period. The direction of the bond market almost always leads the direction of monetary policy. Even as shelter, food and energy prices remain elevated, the previous Non-Farm Payrolls report for April (175,000 versus 250,000 consensus) set the current bond rally in motion that has been a bullish game changer for stocks.
Third, the market rally is showing improving breadth as evidenced by the consistently strong advance/decline line, where the most recent trading sessions are showing three-to-one and four-to-one gainers over losers. This is quite possibly the most vital component of the current rally as it demonstrates the market is enjoying widespread sector participation and not just the kind of narrow leadership that represented the first half of 2023, when the Magnificent Seven led a market where most sectors lagged.
The recent development of well-defined market breadth is a strong technical underpinning for the bull trend to remain in place over the intermediate term, say into Q2 reporting season, that would run through the month of July. That is about as far out as one can forecast at this time, given the nature of how quickly the data and sentiment can change.
For the present time, investor confidence has rebounded with Bank of America’s global fund manager survey showing that bullish sentiment among money managers is now at its highest point in more than two-and-a-half years, as 82% of investors expect the U.S. Federal Reserve to start cutting rates in the second half of 2024 and 78% expect two, three or more rate cuts in the next 12 months.
The Atlanta Fed GDPNow estimate for the second quarter has come down from 4.2% a week ago to 3.6% as of May 16. This probably reflects some implied slowing of future consumer spending and coming off the boil of what has been several quarters of robust consumer spending that has contributed to persistently higher inflation, thanks to a strong labor market driving demand. That perception is changing, and with it the notion of a soft landing taking hold of market sentiment, which has both professional and retail investors feeling better about their prospects for further stock market gains.
