Stocks and interest rates are leveling off as signs continue to point to a weaker economy.
The Week That Was
This week’s economic news showed an economy moving into at least a mild downturn.
The August Homebuilders’ survey posted a clear decline for new homes, with a reading of 49, one point below break-even. Sales expectations for the next six months fell to 47, and traffic for prospective homebuyers fell to 32.
July retail sales were unchanged from June, because of sharp declines in sales of autos and parts. However, even after subtracting the weakness in autos, remaining sales were up at only a 5 percent annual rate.
The Federal Reserve’s July measure of industrial production was up slightly, but still down almost 1 percent over the past three months.
Weekly initial unemployment claims leveled off in the second week of August, at 250,000. This is close to the July average, up from the low of 175,000 in March.
Things to Come
On Monday, S&P Global Services will offer their advance report on August business conditions. Their July reports show U.S. businesses on the verge of turning down.
This is at odds with the ISM surveys, which pointed to a healthier upturn. S&P’s survey appears more in line with other reports showing a slowing economy.
Wednesday’s report on July U.S. durable goods orders should be helpful in assessing the economy. Although total new orders for durables have been growing, the more reliable orders ex-defense and -transportation fell in June. Another decline in July would be consistent with a developing downturn in the economy in the months ahead.
On Friday, July consumer spending and personal income and inflation data will provide the broadest picture of what’s happening. In the three months ending in June, personal incomes, wages, and consumer spending all slowed to a 6 percent to 7 percent annual rate. We expect the July data to show a further slowing to the 4 percent to 6 percent vicinity.
The inflation measures for the past three months of this release show total inflation at 7 percent and core inflation at 5 percent. Look for inflation to show a slight decline from these rates.
Money, Money, Money
Interest rates are leveling, with the yield on 10-year Treasury notes settling in the 2¾ percent to 3¼ percent range.
Upcoming inflation numbers are likely to determine the direction of interest rates. Our expectation is for more interest rate increases in the latter part of this year and into 2023.
Market Forces
Stock prices continued to rise sharply this week.
Small cap ETFs led, with gains of 4 percent to 5 percent, the S&P500 and Dow increased by 3½ percent, and the Nasdaq and QQQs rose by 1½ percent.
All major indexes are either slightly above or below key resistance levels at their 200-day moving averages. Trading volume remains low, which is counter to a healthy market.
Economic news remains weak, with little or no growth. The housing market, a reliable early
indicator of the future direction of the economy, is showing a clear downtrend.
Business news remains mixed, with more indicators pointing down. Mixed indicators are
typical of an economy in transition.
Fed data points to a more restrictive monetary policy. It is highly unusual for stocks to be rising when monetary policy turns restrictive.
Our model shows the S&P500 Index is currently 30 percent overvalued. With the economy continuing to weaken, interest rates likely to rise, and stocks in the vicinity of key resistance levels, investors should remain defensive.
Outlook
Economic Fundamentals: weak
Stock Valuation: S&P 500 overvalued by 31 percent
Monetary Policy: restrictive
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