Treasury yields cool, and stocks rebound.

It was a week of rebound as major indices rose sharply from the recent three months of selling amid multiple doses of positive news that give greater odds that the rate hiking cycle is perhaps over.

Earnings season has been pretty mixed.

So far, earnings have not been an all-clear sign, although there are signs that profit deceleration is probably over, and companies may resume earnings growth. This is what we need to see to expand the S&P 500’s forward earnings multiple.

Although most financial forecasts were less rosy than what we would love to have, which would harm stocks, we have seen the market primarily driven by macroeconomics instead of comapnies fundamental performance for most of 2023 thus far.

We do not see such a trend shifting, and if that holds, the soft, lousy economic data is good news for the equity market.

Major hurdles cleared for the equity market.

In our prior write-up, we discussed several factors for a more positive environment. A key factor is the Treasury issuance, which is expected to be lower than expected. What’s more important is that most of the issuance will be on the short end of the Treasury, given the long end, such as a 10-year Treasury bond, a breathing space.

Moreover, a recent FOMC meeting saw Uncle Powell echoing similar thoughts among other Fed officials that while the inflation fight is still on the card, there is a balancing of risks on the horizon given tighter financial conditions coupled with growing signs that the economy is cooling and the two wars that are on-going between Ukraine/Russia and Israel/Hamas.

And we had employment data portraying sharper evidence of a weakening base. The addition of 150,000 nonfarm jobs in October reflects a deeper slowdown in hiring from a robust September.

Despite signs of a slowing economy and a chilling labour market, there are still no impending signs of a deep recession. This brings us to a goldilocks situation: a weaker economy that could promote a chilling inflation narrative. In contrast, the economy expands at a steady-state pilot mode.

What’s ahead for the market?

The next FOMC meeting will be on December 13. Between now and then, we will have two more employment reports and two inflation reports. Given the market being largely macroeconomic driven, that should be in the back of our mind.

So, while we sigh relief, it will not be the last tone of victory for the labour market if we want Fed officials to stay pat at the current interest rate level. Nonetheless, with the bond yield retreating massively for the week, it provides a fertile base for positive stock valuation.

From the valuation standpoint

We have always spoken about forward earnings for 12 months, and that will continue to be Pika World’s focus.

When we start the week, we stand roughly 17x the 12-month forward earnings for the S&P 500. If we remove the big tech, or what is commonly known as the Magnificent 7, the multiple drops to 15, which is relatively reasonable.

This hints that if the rally continues to gain in breath, which we have seen, given regional banks stocks participating in the rally too, it is reasonable for us to have legs for it.

More macroeconomic data will be rolling into the end of 2023 and 1Q2024; as significant headwinds dissipate, it could still be a constructive year ahead.