Rotation — Week of May 10, 2021
Written by Steve Orr, Chief Investment Officer, and Greg Kalb, Investment Advisor
|index||wtd||ytd||1 year||3 years||5 years||index level|
|S&P 500 Index||1.26||13.24||51.10||18.76||17.76||4,232.60|
|Dow Jones Industrial Average||2.72||14.33||50.17||15.22||17.10||34,777.76|
|Russell 2000 Small Cap||0.25||15.35||81.92||14.36||16.82||2,271.63|
|MSCI Europe, Australasia & Far East||1.31||8.22||46.23||7.38||10.42||2,295.82|
|MSCI Emerging Markets||-0.48||4.29||52.79||8.46||13.75||1,340.80|
|Barclays U.S. Aggregate Bond Index||0.28||-2.34||0.56||5.31||3.21||2,336.14|
|Merrill Lynch Intermediate Municipal||0.06||0.34||6.43||4.92||3.11||318.21|
As of market close May 7, 2021. Returns in percent.
Ever dropped something on your foot but still thought it was a good day? That was Friday for us. Markets are in good shape, the economy is in recovery, but no one is hiring. The jobs report certainly dented our Mother’s Day enthusiasm. We will dig into the why in a moment but first a word from the markets.
After three weeks of sideways consolidation the major averages got back in rally mode last week. The S&P 500, Mid-Cap and Small Cap indices moved higher, dragging the Dow Industrials and Transports along. We should say that the Transports hauled everyone higher. The Dow Transports have risen 13 of the last 14 weeks, surely a 50-year record. We are checking on that. Last week the transport group climbed another 3.4%, making the year-to-date run an impressive 26.8%. Transports did not win the weekly race to the truck stop, though. The materials and energy sectors rose 5% and 7% respectively as supply shortages and higher commodity prices boosted earnings prospects.
Real estate and utilities were hot demand sectors before earnings season. Now sector rotation has set in, and those “risk off” sectors are being benched. Industrials and financials are finally rotating back into favor, following materials and energy. Recall several weeks back big tech rotated out of favor for the first time in years, as value pro-cyclical stocks took center stage. As the economy finishes its shutdown recovery and moves into expansion, expect to see more rotation between sectors as traders try to figure out who will be the long-term winners.
“Sell in May and go away” was a popular aphorism on Wall Street for generations. The logic held that during the summer most traders left Manhattan and volume dried up. As a result, stock returns in the middle of the year were not anywhere near as robust as the winter months. Market structure has changed markedly over the last 20 years and the advent of machine-based trading, monthly pension contributions and 24/7 news cycle have evened up returns. Indeed, over the last decade it could be argued that portfolios were better off not stepping out of the market. We are in probably the best six months of economic growth in our careers, the current stock Bull is less than two years old, earnings estimates are moving higher, and for the moment, taxes and interest rates are low.
That thud you heard Friday morning was the April jobs report on our feet. The BLS reported that nonfarm payrolls only grew 266,000, well below consensus of 988,000. One forecast we saw projected 2.1 million new jobs. Manufacturing, retail and warehousing all lost jobs last month. Gains were concentrated in the dining and leisure sectors, following easing of restrictions. Another bright spot was an increase of 328,000 in “civilian employment,” a catchall that includes small-business startups. Small businesses employ the bulk of the working population and are key to our recovery. Now for the number’s mystery. Since early April first time and continuing jobless claims have declined week-over-week. Average hours worked in a week tied a record high at 35 and the total number of private-sector hours worked rose 0.5%. These impressive numbers combined with falling claims should produce a job gain north of 500,000. Rising hours worked implies firms are working existing employees longer, and rising overtime figures bear that out.
And there is no lack of job openings. The JOLTs, or job openings and labor turnover survey, sits at 7.3 million openings, near its all-time high. So, what gives? The federal government gives. The additional $300 per week unemployment stimulus is enough to keep workers on the sidelines. According to the Center on Budget and Policy Priorities, the national average unemployment check is $387. Combined with the federal supplement the $687 spread over a 40-hour week comes out to $17.17 per hour. This is well above the $15 minimum wage coming online in many states.
Our own tour of eight states two weeks ago gave us plenty of anecdotal evidence. Restaurants, hardware, and big box stores clamored for workers. Several were offering signing bonuses or community college tuition. Knowing that service was open in restaurants, we went into a Chipotle in Billings. We were asked to order online as there was just enough staff to only handle to-go orders. The serving line was closed. A banker’s acquaintance runs a truck stop in Florida and cannot get applicants at $15.
The positives are that businesses are doing whatever they can and orders for everything are still coming in. The downside is that supply chains are still in turmoil, prices for commodity inputs are zooming higher and there are no people available to help. Rising commodity prices are already affecting consumers. P&G, Clorox, Church & Dwight, and Coca-Cola have announced price increases, and more are coming. There are also “stealth” changes, such as the recent Costco paper towel change from 160 sheets per roll to 140, but no change in price. The calculator says that is a 14% price increase.
Earnings season is almost over. Eighty-eight percent of the S&P 500 members have reported first quarter earnings. Eighty-six percent of those have beat their earnings per share estimate, well above the 74% five-year average. This is the highest percentage of earnings beats since 2010’s first quarter. During most earnings seasons’ analysts start their estimates a bit high and then lower them as the reports come in. This year estimates are going up (already +12%), driven by easy money from Congress and the Federal Reserve and pent-up demand. Analysts are also playing catch-up, raising estimates to double digit earnings growth for the next two quarters. This week Applied Materials, Electronic Arts, Simon Property and Duke Energy are on tap. We may also get some insight on the chicken shortage from Tyson Foods today. Shortages in order: toilet paper, microchips, cars, appliances, chlorine. What is next? We are hearing childcare and certain foods.
The jobs report was a disappointment. There were no storms, shutdowns or events that would have hampered BLS data gathering efforts the week of April 15. We are left wondering about all the “Help Wanted” signs we saw. If the stimulus theory is correct, then the September jobs report should be gangbusters. Until then, job growth may tread water.
As of Thursday, governors from Montana and South Carolina were debating whether to leave the federal stimulus program in a bid to get workers back in the action. Regardless, this will still be a strong quarter and add to future earnings gains. As a result, we remain overweight to stocks and are keeping our interest rate exposure slightly below normal.
Steve Orr is the Executive Vice President and Chief Investment Officer for Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts in Economics from The University of Texas at Austin, a Master of Business Administration in Finance from Texas State University, and a Juris Doctor in Securities from St. Mary's University School of Law. Follow him on Twitter here. Greg Kalb is an Investment Advisor at Texas Capital Bank Private Wealth Advisors. He holds a Bachelor of Arts from The University of Texas at Austin.
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