The repercussions of the cautious Fed linger.
The Fed’s caution on even a December cut has restrained market enthusiasm. Not only are now higher than they were before the September cut, but the forecast for a string of cuts before Jerome Powell is replaced has softened materially. A December cut is now below 60%, down from over 90% last week. A further cut in January was 55%, now 20%.
This has hit small caps hard, more vulnerable to financing costs, now down 2.4% in a week. It even hit the even-weighted , down 2.1% in a week compared to a flat market-weighted S&P. With P/E’s high, the discount rate valuation elements that are derived from the US Treasury’s “risk-free” rate are more influential than usual. Financing costs don’t affect big tech with their massive free cash flow, but lower rates will support their high valuations.
Also impacting market valuation is the impact that higher Fed Funds will have on expected funds flow. With trillions in money market funds, falling Fed funds immediately translate into lower yields in money market funds and is expected to lead to a material flow out of money market funds into stocks and bonds, supporting the historically high valuations. A delay in cuts is obviously not helpful here.
This leaves the performance of the also historically high weight of Mega Tech even more important. Thankfully, we got a shot in the arm from last night, where AWS (Amazon Web Services), the primary profit center of Amazon, came in much stronger than forecast, along with solid overall beats top and bottom. The shares are up 11% today (+12.7% YTD) and helped lift the Magnificent 7 +1.3% today. also reported beats top and bottom, but didn’t have any unexpected good news. The shares are flat today, but had just hit a new all-time high this week (+8% YTD). We’ve now had 6 of the Magnificent 7 report, with not reporting until November 19th.
Interest rates are modestly lower today. The is down 1 bp to 4.09%, the is down 2bps to 3.59%. Not where we expected to be after the Fed cut. The higher rates have raised the above 99.5.
On the commodity front, is modestly higher at $4,025/oz, silver is flat, as is copper. is also flat as is natural gas. Crypto has bounced back from yesterday’s pullback. is at $110.5K.
As October comes to a close, we find that even though the indexes are all up materially, +2.6%, S&P +2.6%, +5.3%, +1.8%, it has been very concentrated. The even-weighted S&P is down 0.9% for the month. The Magnificent 7 is up 5.2% and semiconductors are up a whopping 12.6% in a big way on the strength of $5 trillion NVIDIA. Of the 11 major sectors, only 4 are in the green: Tech +6.6%, healthcare +3.7% utilities +2.9% and industrials +0.3%. The losers are down -2% to -3%, reflecting the heavy weight of tech.
The AI theme continuing strongly is crucial. If it weakens, it will take strength across multiple sectors to offset. Major rate cuts in interest rates could accomplish that. For now, the trend remains positive, AI is still marching forward, and in the medium-term, lower rates are in the cards, if only by Jerome Powell getting replaced next spring.