With investors focused on the coming Federal Reserve policy announcement on Wednesday, U.S. equities were relatively quiet Monday, partially recovering from early weakness to close with modest losses.
In the end, the Dow Jones Industrial Average lost 0.1%, the S&P 500 whiffed down 0.2%, the Nasdaq Composite dropped 0.2% and the Russell 2000 ended 0.8% lower. Treasury bonds were slightly weaker, the dollar was a loser, gold gained 0.7% and oil lost 2.5%.
Defensive consumer staples stocks led the way with a 0.7% gain while energy stocks were the laggards, down 1.1%. Xerox Corp (NYSE:XRX) lost 13.3% after reporting a per-share earnings miss and issuing weak guidance for the second quarter.
Chinese stocks weakened overnight on indications Beijing could be easing off of the policy stimulus on evidence of a stabilization in economic growth. The People’s Bank of China asked banks to limit lending to only 70% of their initial target in April in what looks like an effort to combat a credit/real estate bubble.
Separately, Shanghai regulators have halted business between commercial banks and some real estate agencies for a month to try to cool a red-hot local property market.
All eyes are on the upcoming Federal Reserve policy announcement on April 27. The stakes are high — as they often are with Fed decisions — as chairman Janet Yellen faces pressure from all sides. If stocks are to surge higher from here, it will depend on Yellen giving the market what it wants: No rate hikes for the foreseeable future. At least, based on futures market pricing, not until this autumn.
One gets the feeling that the next move in stocks will be a 10% move in either direction depending on the Fed’s decision and whether a June rate hike will be teased. Clearly, the market response to the December rate hike, the first since 2006, didn’t go as planned with the Dow losing more than 13% in the weeks that followed.
Since then, the Fed has aggressively walked back its rate hike expectations for the year: From four 0.25% hikes in December to just two now, closer to the futures market forecast for a “one and done” rate hike late this year.
If the Fed is going to stick to its two-rate-hike forecast, April will need to open the door to action in June given ongoing tightening in the labor market and a firming of core inflation. Energy prices have been a big drag on inflation, but have recently stabilized. If prices hold near current levels above the $40-a-barrel threshold, energy prices will become a net contributor to higher inflation in less than four months.
Unfortunately, stocks don’t seem ready to tolerate another increase in interest rates. Fundamental and technical headwinds remain.
Moreover, according to Michael Hartnett at Bank of America Merrill Lynch, historically a “hike-pause-hike” cycle has resulted in poor stock market returns. There have been five occasions of this since 1926. And large-cap stocks were down an average of 1.2% six months later and up just 3.1% 12 months later.
As a result, I continue to recommend investors stay defensive, raise cash and consider select short-side opportunities such as the May $107 Apple Inc. (NASDAQ:AAPL) puts that are up nearly 20% for Edge Pro subscribers.
Anthony Mirhaydari is founder of the Edge and Edge Pro investment advisory newsletters. A two-week and four-week free trial offer has been extended to InvestorPlace readers.
