The Week Behind 

In the first full week of earnings season, the major indices put together a strong performance. While the US Dollar and Treasury Yields also ended higher, both retreated from their highs in the latter half of the week, allowing equities to turn green on “better-than-feared” earnings. For now, it appears stock prices are reacting more to the micro (earnings) than the macro (FED). All the major indices – DOW, S&P, and NASDAQ – added ~5%. 

Highlights

• The US2YR and US10YR reached new highs of ~4.6% and ~4.3% before retreating to ~4.5% and ~4.2%, respectively, to end the week. The move down was spurred by a report the FED will raise by 75bps in November and then debate on the size of future rate hikes.
• Broadly speak, stocks continue to perform inversely to treasury yields and the US Dollar.  

The “Fed Whisperer”

On Thursday, Nick Timiraos of the WSJ, released a piece titled, “Fed Set to Raise Rates by 0.75 Point and Debate Size of Future Hikes”. Nick has an excellent track record reporting on the Federal Reserve, including calling the 75bp hike in June when the expectation was 50. When it comes to the FED, Nick’s reporting may as well be “tomorrow’s headlines today”. This headline suggests that the FED may only hike 50bps, instead of 75bps, in December.

With a little thought, this should not be a massive surprise. Currently, FED Funds is 3 – 3.25%. The target is 4.5 – 5%. Mathematically, the FED cannot continue to hike at 75bps in perpetuity. Holding the target equal, even before this report was written, the last 75bps hike would either have been in November or December. 

While I would not consider a 50bp hike in December a “pivot”, as such still brings FED Funds within the FED’s projections, I suspect a smaller increase would be interpreted as the “peak” of this tightening cycle: “peak FED”, implying the worst of the FED is in the rear view, which is bullish. Alongside decent earnings and congressional gridlock, which is a bullish possibility at November midterms, stocks could find themselves being pushed by three meaningful tailwinds into December, a seasonally strong month. The tea leaves I’m reading suggest an “end-of-year, Santa-Claus” rally is in the cards.

The Week Ahead

Of course, the only way that can happen is if the market stays afloat in the meantime. That job is the responsibility of earnings. Thus far, albeit on lowered estimates, earnings have been “better-than-feared”. This week, a more concrete determination will be made as the biggest contributors to earnings in the major indices and most portfolios report: mega-cap technology. GOOG and MSFT release Tuesday; META on Wednesday; AAPL and AMZN on Thursday. While a number of other well-known, bellwether companies also report, they are likely to be overshadowed. 

Coming into earnings, stocks were priced for misses, even against lowered estimates. Markets have proven resilient this month because earnings have come in better-than-feared. At the same time, contrary to FED messaging, a sense is growing that this tightening cycle is closer to its conclusion than origin. To evolve from resilience to rally, the mega-cap companies need to keep the “better-than-feared” streak alive. 

The “Short” Term and The “Long” Term

During the past couple weeks, we’ve witnessed a fair amount of “analyst capitulation”: an analyst changes, or capitulates, on their longstanding market stances. Most notably, Morgan Stanley’s Mike Wilson, one of the most bearish – and, thereby, most correct – analysts this year recently made a tactically bullish call from now until year-end. However, once that period is up, he reiterates his overall bearish view for 1H23. The interview is worth a listen.

In the “short term”, between now and end-year, Wilson thinks earnings will continue to come in “better-than-feared” as early earnings reports show FED tightening has yet to fully affect company earnings. He recognizes the powerful demand for stocks at the S&P500’s 200-week moving average and the strong seasonality associated with November and December, which could coincide with gridlock in Congress and the notion of “peak FED”. However, once this period is over, in the “long term”, he expects FED-policy to catch up with earnings by 1H23, resulting in earnings misses that will ultimately bring stocks lower to his downside targets. In summary, Wilson remains a “long term” bear, but has become a “short term” bull in the face of a backdrop unlikely to foster his “long term” target.