Markets in Focus

Timely analysis of market moves and sectors of opportunity

April 24, 2023: Anomalies abound. Tread carefully.

Over the past three weeks, the market has pretty much gone nowhere, unable to decipher conflicting economic data and quarterly earnings reports. And the path into the near future doesn’t look any less murky.

“I believe the main theme for the overall market is to remain cautious,” said Matt Orton, CFA, Chief Market Strategist at Raymond James Investment Management. “There are too many disconnects in the markets at this point. There continues to be mixed signals around recession risk, what’s happening with inflation, plus the stark contrast in how the stock and bond markets are pricing in the likelihood of a soft versus hard landing and whether the U.S. Federal Reserve is likely to pivot on interest rates. I don’t want to be moving into the market when you have this many disconnects that ultimately need to normalize.”

Economic data in the United States has started to deteriorate, with jobless claims and continuing claims continuing to tick higher and the housing market still trying to find a bottom. Yet at the same time, regional manufacturing reports from the Institute for Supply Management (ISM) reversed from depressed levels and flash S&P Global Flash Composite Purchasing Managers’ Indexes across advanced economies suggest that activity got off to a strong start in the second quarter, even amid the banking sector turmoil. Despite the lack of conclusive recessionary data, investor sentiment sits near record lows and allocations to bonds are the highest since March 2009, all while the S&P 500 Index is up 8.20% year to date and the Nasdaq Composite Index is up 19.15%. Earnings season also has led to increased dispersion in both company results and investor reaction, which has helped to depress equity volatility. Despite one-day moves from names having reported moving more than 4% on average, heavy dispersion has meant that single-name volatility has not translated to index-level volatility. In fact, low realized volatility has dragged the Chicago Board Options Exchange Volatility Index, or VIX, to a one-year low.

It would take a rapid and severe deterioration in economic data to see the current pricing of rate cuts play out. I’m very skeptical that will occur.

“These are only a handful of anomalies in the market right now, and I’m concerned that any normalization won’t end well,” Orton said. “As a result, I continue to recommend maintaining a defensive bias, leaning into quality and low beta, and not chasing the market higher.”

While it’s encouraging that recent data points to the economy continuing to dodge recession at least for now, all of the stronger than expected data reinforce Orton’s view that most central banks will need to hike rates further to stamp out sticky wage pressures and bring core inflation back to target. The flash S&P Global PMI reports from Friday point to growth in gross domestic product and employment, but also imply further inflationary pressure. Earnings from a multinational consumer goods company were very strong and point to a resilient consumer, but the results also support a sticky inflation narrative. The firm boosted its sales outlook, citing higher prices and a slight increase in demand for some items. A major credit card company pointed to strong spending from its well-heeled customer base, particularly on travel and leisure. This resiliency shouldn’t go unnoticed, and Orton said he still believes there is a big risk in the mispricing of rate cuts in the back half of this year. The Fed has been consistent in its messaging around the path of rate hikes and that rates will remain higher for longer. Orton said he fully expects to see a 25-basis point (bp) hike at the Fed’s May meeting next week and then a pause — not a pivot! — to fully assess the impact of the most rapid rate increases in more than 40 years.

“It would take a rapid and severe deterioration in economic data to see the current pricing of rate cuts play out, and I’m very skeptical that will occur,” he said. “As a result, I believe rates are too low, and higher-duration equities are at the greatest risk to a correction, particularly as earnings still haven’t bottomed.”

Orton said he remains cautious because we’ve seen how quickly the market will snap when it eventually comes around to the reality of the Fed. He also said he is starting to see more economic cracks starting to form. Nothing looks pernicious right now, but he said it’s certainly worth being on alert with the market priced for perfection.

So how should investors position their portfolios going forward? Orton said he advocates for maintaining a core defensive bias, leaning into quality, low beta, and not chasing the market higher. Quality means companies that are profitable, generate free cash flow, and have stable earnings growth. He continues to like large-cap healthcare, particularly health maintenance organizations and pharmaceuticals. Earnings thus far have been strong with healthcare leading positive earnings surprises among S&P 500 companies that have reported so far. Aerospace and defense also are likely to benefit from increased defense spending globally in the wake of heightened geopolitical tensions. Already, a wave of new aircraft orders is poised to benefit many companies downstream. Earnings growth thus far has come in strong at 15% year over year and Orton said he expects the remainder of earnings season to be upbeat. It’s encouraging that small-cap underperformance to large seems to have bottomed, but he said he believes it’s too early to put money to work there, even though small-cap valuations remain attractive and the fundamental story for outperformance remains intact.

“I don’t like that large-cap financial stocks versus small-cap financials continue to diverge,” he said. “Bigger has been doing much better across the sector, and we need to see this trend reverse, or at least bottom.”

Rates are too low, and higher-duration equities are at the greatest risk to a correction, particularly as earnings still haven’t bottomed.

Globally, selectivity will be important but there are certainly opportunities across both developed international markets as well as emerging markets, Orton said. China’s reopening has been swifter than many had expected, supporting not only domestic growth, but growth in countries strongly tied to it. Accordingly, data outside of the United States — from Europe to Australia — continues to remain supported, which Orton said he believes will further drive a reallocation of capital flow from the United States toward the rest of the world. He said he most prefers leaning into Asia-ex China, though he is encouraged by the recent basing in Chinese equities. However, he said he doesn’t favor concentrating in the mega caps in China and it’s unclear whether the fundamentals have improved enough to warrant a new upswing. In international developed, he said he believes healthcare and industrials look attractive as well as luxury goods companies within consumer discretionary.

Busy week of earnings with mega caps in focus

This week brings a flood of earnings reports from about 35% of the companies in the S&P 500, including some of the mega caps that have strongly contributed to the gains for the market this year. Orton said any weakness, especially in guidance, presents a risk to the market and could be the catalyst that breaks the growth rally. That said, earnings season is off to a relatively solid start. The blended earnings decline for the S&P 500 stands at -6.2% (versus the -6.7% consensus estimate as of March 31) with 76% of companies reporting a positive earnings per share surprise and 63% reporting a positive revenue surprise. Profit margins continue to decline and need to be watched closely, especially since expectations in future quarters are elevated relatively to where the market stands today. The blended net profit margin for the S&P 500 for the first quarter of 2023 is 11.2%, below last quarter’s 11.3% and below the five-year average of 11.4%. Analysts expect net profit margins for the second, third, and fourth quarters to jump back to 11.6%, 11.9%, and 11.8%, respectively, which Orton said he sees as a risk going forward.

Let’s talk about the debt ceiling

Debt ceiling uncertainty is starting to make its way into market prices. Tax revenues look light thus far, which pulls forward the debate and the necessary resolution from Congress. The yield spread between one-month and three-month Treasuries has jumped to about 170 bps with investors willing to pay considerably more for the one-month bill to avoid this drama. Spreads on credit default swaps on U.S. government debt also have exceeded the wide levels seen in 2011. If history is any guide, the debt ceiling will be resolved, without an actual U.S. default, but Orton said that doesn’t mean that political and financial drama won’t play out in the interim. And with markets priced for perfection, he said we’re likely to see some risk-off price action as uncertainty sets in.

Yield spread 1-month U.S. Treasuries minus 3-month U.S. Treasuries
Yield spread 1-month U.S. Treasuries minus 3-month U.S. Treasuries

Source: Bloomberg, as of 4/21/23

What to watch

The key data catalyst in the United States this week will be the first-quarter Employment Cost Index (ECI) on Friday, given the Fed’s focus on a tight labor market being a key driver of services inflation going forward. With risk premiums at very low levels, Orton said he believes that the markets will react more to a high print than a low print, especially given recent softness in the average hourly earnings (AHE) component of recent payrolls reports. He also said he expects the ECI to show wage gains still running well above the 3% annual rate that has historically been consistent with meeting the Fed’s 2% inflation target. The Fed also is in a blackout until Chairman Jerome Powell’s press conference on May 3, with the most recent speakers pointing to a shared sentiment that we’re near the end of the hiking cycle but with a strong bias toward one more 25-bp hike. While economic data will be important, earnings this week will likely be the main driver of the market with all investors focused on results and guidance from the mega caps scheduled to report.


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The Purchasing Managers’ Index (PMI) measures the prevailing direction of economic trends in the manufacturing sector. It is created by the Institute for Supply Management (ISM) and consists of an index summarizing whether market conditions as reported in a monthly survey of supply chain managers are expanding, staying the same, or contracting.

The Services ISM® Report on Business® is produced by the Institute for Supply Management (ISM) and is based on data compiled from purchasing and supply executives in a wide variety of industries nationwide. Survey responses reflect the change, if any, in the current month compared to the previous month in supplier deliveries along with seasonally adjusted business activity, new orders, and employment.

S&P Global Purchasing Managers’ IndexTM (PMI) surveys provide monthly indicators that track economic trends in more than 40 countries and regions, including the Eurozone. S&P Global Flash Composite PMIs are produced by S&P Global. The flash estimate is based on around 85% of total PMI survey responses each month and is designed to provide an accurate advance indication of the final PMI data for a particular country or region.

Dispersion refers to the range of outcomes in different areas of a financial market or to the potential outcomes of investments based on historical volatility or returns.

The Chicago Board Options Exchange (CBOE) Volatility Index, or VIX, is a real-time market index that represents the market’s expectation of 30-day forward-looking volatility. Derived from the price inputs of the S&P 500 index options, it provides a measure of market risk and investors’ sentiments.

Defensive stocks provide consistent dividends and stable earnings regardless of whether the overall stock market is rising or falling. Companies with shares considered to be defensive tend to have a constant demand for their products or services and thus their operations are more stable during different phases of the business cycle.

Beta is a measure of the volatility or systemic risk of a security or portfolio compared with the market as a whole.

Basis points (bps) are measurements used in discussions of interest rates and other percentages in finance. One basis point is equal to 1/100th of 1%, or 0.01%.

Equity duration is the cash-flow weighted average time at which investors can expect to receive the cash flows from their investment in a company’s stock. Long-duration stocks include fast-growing technology companies, including those that may not pay any dividends in their early years, while short-duration stocks tend to be more mature companies with higher ratios to dividend to price.

An earnings surprise is when a company’s reported earnings either exceed or come in below the expectations of analysts who cover the stock.

Growth investing is a stock-buying strategy that focuses on companies expected to grow at an above-average rate compared to their industry or the market.

Value investing is an investment strategy that involves picking stocks that appear to be trading for less than their intrinsic or book value.

Blended earnings combine actual results for companies that have reported earnings and estimated results for companies that have yet to report.

A consensus estimate is a forecast of a public company’s projected earnings, the results of a particular industry, sector, geography, asset class, or other category, or the expected findings of a macroeconomic report based on the combined estimates of analysts and other market observers that track the stock or data in question.

Earnings per share (EPS) is calculated as a company’s profit divided by the outstanding shares of its common stock. The resulting number serves as an indicator of a company’s profitability.

A blended net profit margin combines actual net profit margins from companies that have reported earnings and estimated margins for companies that have yet to report.

A net profit margin, often shortened to net margin, measures how much net income or profit a company generates as a percentage of revenue. It can be expressed as a percentage or a decimal.

A yield spread, typically expressed in basis points or percentage points, is a measure of the difference between the yields of separate debt instruments with differing varying maturities, credit ratings, issuer, or risk level. The spread is calculated by subtracting the yield of one instrument from the other.

A credit default swap is a financial derivative or contract that allows an investor to “swap” or offset a credit risk with one owned by another investor. Credit default swaps act like insurance policies in the financial world, offering a buyer protection in case a borrower defaults on credits such as corporate bonds, mortgage-backed securities, municipal bonds, or emerging market bonds.

The Employment Cost Index measures the change in the cost of labor, free from the influence of employment shifts among occupations and industries, for three- and 12-month periods. The U.S. Bureau of Labor Statistics collects data for the index from thousands of private and government employers nationwide.

The S&P 500 Index measures change in stock market conditions based on the average performance of 500 widely held common stocks. It is a market-weighted index calculated on a total return basis with dividend reinvested. The S&P 500 represents approximately 75% of the investable U.S. equity market.

The Nasdaq Composite Index is the market capitalization-weighted index of over 2,500 common equities listed on the Nasdaq stock exchange.


RJIM23-0228 Exp. 8/24/2023