Weekly Market Commentary - Oct 20th, 2023

• The 10-year Treasury yield spiked to 5% before pulling back, sparking volatility as investors weigh the impact of still-hawkish Fed policy. 

• Big tech earnings next week are in focus, with results from Amazon, Alphabet, Microsoft and Meta on tap.

• Defensive sectors outperformed while growth stocks lagged as investors positioned cautiously amid higher rates.
• Oil prices dropped over 6% on demand concerns, contributing to losses in the energy sector.

Comments from the Fed signaling ongoing hikes pushed Treasury yields back near 5%, sparking broader market churn. Meanwhile, rising Israel-Gaza tensions present a new geopolitical wildcard.

Treasury Yields Hit Multi-Year Highs

The benchmark 10-year Treasury yield rose to 5% for the first time since 2007 before easing to 4.91% Friday. Rapid interest rate increases from the Fed have spurred an unprecedented third straight annual decline for long-term bonds.

While inflation expectations are stable, technical factors like increased government borrowing continue to pressure yields higher. Comments from Fed Chair Powell suggesting no imminent policy pivot indicate yields could rise further in the near term. However, we believe the bear market in bonds is likely nearing an end.

Geopolitical Tensions Resurface 

Equity markets grew cautious late in the week on reports Israel is preparing for a possible ground invasion of Gaza.The conflict raises concerns over a potential wider regional war if other Middle Eastern nations are drawn into the violence, and energy prices could surge if unrest disrupts global oil supplies – worsening inflation and growth headwinds. 

All of this combined means markets may grow more risk-averse if tensions escalate further.

Big Tech Earnings Ahead

Earnings season moves into high gear next week, with over a third of S&P 500 companies reporting. Results from market leaders Amazon, Alphabet, Microsoft, and Meta will be closely watched amid their outperformance this year. 

While tech giants have led indexes higher, any disappointments could pressure stocks, given lofty expectations. Therefore, we think lagging areas of the market, like small caps and value stocks, have favorable valuations for long-term gains.

Choppy trading produced mixed results across asset classes. Stocks saw defensive leadership as Treasury yields remained elevated.

Equities

• The Dow and Nasdaq joined the S&P 500 in posting weekly declines as choppy trading persisted.
• Defensive sectors including healthcare, utilities, and consumer staples outperformed on rate concerns.
• Growth stocks lagged value amid the backup in Treasury yields. Small caps also meaningfully underperformed large caps. 
• Ongoing divergence between the mega-cap leaders and the broader market presents opportunities in neglected areas.

Bonds 

• Shorter-term Treasury yields moderated Friday after spiking to 15-year highs earlier in the week.
• The policy-sensitive 2-year yield dipped to 4.46% after approaching 4.8% as rate hike expectations eased slightly.
• Longer-dated bonds also found modest relief, with the 30-year yield edging lower to about 4.2%.
• Credit-sensitive bonds continued to face selling pressure given economic uncertainty. Investment-grade corporate debt has declined sharply in 2022.

Commodities

• A tumble in crude oil prices weighed on commodity markets late in the week. 
• West Texas Intermediate crude dropped over 6% to near $85 per barrel on demand concerns amid strict COVID lockdowns in China.
• The energy pullback overshadowed slight gains for metals. Gold experienced volatility but ended the week effectively flat, around $1650 per ounce.

Forex

• The US dollar index pulled back from its recent surge to give back some gains against rival currencies.
• Improved risk appetite late in the week reduced haven demand for the dollar. The euro and the British pound climbed off multi-year lows.
• If geopolitical turmoil dampens risk appetite again, the strengthening dollar trend could quickly resume on safe-haven flows.

With volatility elevated across markets, tailored positioning tweaks could help smooth returns for different investor risk profiles:

For Conservative Portfolios

• The pullback in Treasury yields Friday could signal short-term oversold conditions that allow adding rate protection. Longer-term core bond holdings still play an important portfolio role.
• Lagging areas like dividend stocks could benefit from a pause in the surge in yields. Dividend growers with firm fundamentals may be poised for gains after underperforming this year.
• Diversifying into alternative assets could help smooth volatility when growth/value cycles rapidly shift on policy and economic changes.

For Growth Portfolios  

• Paring extended growth stock positions into strength could take advantage of overbought conditions. Proceeds could fund opportunities in depressed parts of the market.
• Big tech earnings present a pivotal moment for mega-cap leadership stocks next week. Upside surprises could reinvigorate upside momentum.
• With small caps at attractive relative valuations, capitalizing on renewed economic optimism could catalyze a catch-up rally.

For Opportunistic Portfolios

• If Middle East tensions escalate, energy stocks could surge on supply disruption risks. But major oil firms lag smaller producers despite higher commodity prices.
• Be ready to capitalize on market overreactions around earnings. Go against prevailing sentiment with valuations as your guide, not crowd psychology. 
• Growth cyclical names in communications, technology, and consumer discretionary trade at sizable discounts. Position for an uptrend as gloom lifts.

Ongoing volatility linked to still-hawkish Fed policy and resurfacing geopolitical turmoil presents active managers with frequent chances to exploit market overreactions. With indexes struggling for traction after a punishing 2022, we expect continued cross-currents in the near term. 

Yet for long-term investors, neglected areas of the markets with solid fundamentals appear primed for upside. As mega-cap stocks take center stage next week, any hints at a Fed pivot could rapidly improve sentiment.

Sources:

Edward Jones

Yahoo Finance

CNBC