Why stocks have started to move beyond the bad news

ANTHONY SAGLIMBENE, CHIEF MARKET STRATEGIST - AMERIPRISE FINANCIAL

June 19, 2023

For those that follow the markets and economy closely, it can sometimes be a challenge to filter through all the constantly evolving dynamics that move stock prices on a day-to-day basis. The market is a noisy collection of participants with unique and diverse views and sources of information, all competing for investors’ attention (i.e., investment dollars). Incoming economic data, earnings reports, monetary/fiscal policy developments, the rate environment, company/industry headlines, geopolitical events, changing sentiment, etc., all collide, sometimes simultaneously, to influence stock prices. 

When stock momentum is one-sided for an extended period, it’s often difficult to spot when the underlying current has started to shift. 

As the Ameriprise chart shows, inflection points become a little clearer when the S&P 500’s Index daily price movement is removed, and the focus is placed exclusively on the “trend” over shorter and longer-term periods of time. 

Signs of a shift in stock momentum began in late 2022:

• Early December - The S&P 500’s 50-day moving average (a shorter-term trend indicator) started to climb higher after some investors took advantage of the lows set in October last year. Since that point, the 50-day moving average has been on a steady upward trend. 
• Early February - The S&P 500’s 100-day moving average (an intermediate-term trend indicator) started to rise, carried in part by the momentum that started in early December. 
• End of March - The S&P 500’s 200-day moving average (a longer-term trend indicator) stopped moving lower in the thick of the regional banking stress after its uninterrupted slide starting in May 2022.

Since then, the S&P 500’s 200-day moving average has stabilized and started to turn higher. In our view, this is a healthy reminder that while stock prices jump around day-to-day, time and an upward-moving market (since the October lows) have helped both short and longer-term trends across the S&P 500 turn more favorable today. 

The markets have remained resilient despite big uncertainties

The extreme pessimism that weighed on stock prices through most of last year appears to have run its course, although stocks may face some volatility in the second half of the year, S&P 500 leadership is narrow, and ongoing macroeconomic risks remain. 

Helping to support that assessment is our overall view that the market has grown more comfortable with some of the big uncertainties facing the economy and, to some extent, discounted most of them as mild irritants to growth. 

• The S&P 500 is higher by roughly +3.0% since the White House and Republican leaders reached a debt ceiling agreement in principle on May 27th. 
• Since Silicon Valley Bank’s failure on March 10th, the Index is higher by over +12.0%. 
• Going all the way back to when Federal Reserve Chair Jerome Powell and company began lifting their fed funds rate for the first time more than a year ago (March 16th, 2022, to be exact), the S&P 500 is higher by over +1.0% on a total return basis. 

The bottom line: The S&P 500 is higher over a period when economic growth was trending lower, and profit growth was in a recession. Over that period, inflation hit a record high and remained elevated throughout. The Federal Reserve lifted its target rate by over 500 basis points to help tame inflation, and still, the S&P 500 is higher during that span. Of course, the direction/performance of the Index over that period was anything but higher, and depending on the point in time, one is measuring. But notably, when you extend the lens out from the narrower moments and you take a step back, one begins to appreciate how resilient this market has been, even considering all its issues/uncertainties.

There are good reasons for optimism in the stock market

After nearly eighteen months of pessimism, stock volatility, rising interest rates, high inflation, and slowing economic trends, holding a negative view of the future has become easy — even comfortable. Human nature is to instinctively avoid pain. 

Currently, inflation is ebbing lower, interest rates are stabilizing, the Federal Reserve is nearing the end of its rate hiking cycle, economic conditions remain resilient, and corporate profit growth (while negative) is holding better than most assumed. We believe stocks are beginning to respond favorably to this environment. 

• A strong jobs market (e.g., the U.S. economy created a surprisingly robust +339,000 jobs in May) keeps consumers spending, which may limit the pressure on corporate profits over the coming quarters. And if the job market remains firm, then a quarter or two of slightly negative GDP growth may not have as damaging an effect on consumers and businesses. 
• If the Fed remains on the sidelines through the rest of the year and possibly cuts rates sometime in early 2024, that could give risk assets some breathing room and allow stock leadership to broaden to more cyclical areas over time. 
• With roughly $5.0 trillion currently sitting in money market funds based on Investment Company Institute data, we believe plenty of dry powder is on the sidelines to help turn narrow stock leadership into a broader cyclical rally over time. We would even go as far as saying a mild downturn in the U.S. economy that is more evident to observers and avoids worst-case fears may see stocks actually rally, as investors could finally put recession fears in the rearview mirror and look ahead to better days. Granted, this is the golden scenario for the market and economy and quite optimistic, given the number of outstanding items that remain headwinds. But from our point of view, it’s a scenario that stocks, to some degree, are beginning to discount.

Of course, helping to balance some of the optimism above includes the following: 

• Inflation remains elevated.
• Earnings growth is expected to remain under pressure in Q2.
• Current interest rate levels offer real competition to stocks.

The bottom line: For stocks to keep moving higher, investors will likely not only have to feel better about the macro environment in the future, but they will have to believe they will be compensated above risk-free rates for the risk of owning stocks. In our view, a higher-for-longer rate environment could limit stock gains over the near and intermediate term than would otherwise be seen if interest rates were lower.