BackMarket rebound draws wary eye from some investors
Much of what has risen is precisely what led the market lower in the first half of the year
PremiumStocks reached another milestone in their comeback last week, with the Nasdaq Composite rising more than 20% from its mid-June low to end its longest bear market since 2008.
The rally has stirred a familiar debate: Will the rebound continue?
Some investors are starting to believe the worst of this year’s rout might be behind them. Data last week showed gauges of both consumer and producer prices falling in July, offering some hope that inflation might be at or close to a peak.
The labor market also remains robust. Employers added more than half a million jobs in July, while the unemployment rate ticked down to close to a half-century low—hardly things investors would expect to see if the economy were in or on the brink of a recession.
On the flip side, the Federal Reserve isn’t done raising interest rates, leaving richly valued parts of the market vulnerable.
Much of what has surged the past several weeks is precisely what led the market lower during its punishing selloff in the first half of the year. Meme stocks such as AMC Entertainment Holdings Inc. and Bed Bath & Beyond Inc. have climbed 107% and 111%, respectively, since markets bottomed for the year on June 16. Shares of cryptocurrency-related companies such as Coinbase Global Inc. and triple-leveraged exchange-traded funds tracking the technology-heavy Nasdaq Composite Index have also soared.
The S&P 500 is up 17% over the same period but remains down 10% for the year.
With inflation remaining near multiyear highs, some investors worry parts of the market are in for another punishing selloff, especially if the Fed has to raise interest rates for longer than expected. When interest rates were at historic lows, investors got big returns from piling into shares of richly valued, often unprofitable companies. The fact that bond yields were so low made even the riskiest stocks—as well as other investments, like cryptocurrencies—look like an attractive proposition for many investors. Rising rates reverse that dynamic.
“I can’t argue that this pace [of market gains] is going to continue," said Nancy Tengler, chief investment officer of Laffer Tengler Investments. “Whether we are in recession now or are going to be in one in the third or fourth quarter, you know economic growth is going to slow."
That means it is prudent to be even more selective about what types of companies the firm is putting money into, she said.
One factor that has clouded investors’ outlook is debate over how far into the future the Fed will have to keep raising interest rates.
Since the Fed’s July policy meeting, some investors have bet the central bank will pivot from raising interest rates to lowering them next year to boost economic activity again. That has helped spark a rebound in not just stock but also bond prices. The 10-year U.S. Treasury yield, which falls as bond prices rise, fell to 2.848% Friday, down from its mid-June peak of 3.482%.
Skeptics, however, warn that it might be too early to assume that the Fed will change tacks in 2023. July’s CPI and PPI readings were good news for the markets. And they certainly gave wind to the idea that the Fed will raise interest rates by half a point at its September meeting, instead of three-quarters of a point as initially expected.
But just one or two lower inflation readings won’t suffice in convincing the Fed that inflation is dissipating, said Nicholas Colas, co-founder of DataTrek Research.
Some factors driving inflation higher have also yet to ease. Last week’s CPI report showed grocery prices rose 13.1% in July from a year ago, the fastest pace since 1979. Housing prices also increased.
Given the way the Fed typically likes to see multiple consecutive economic readings before changing tack on policy, markets might be running ahead of themselves, Mr. Colas said.
Many investors are skeptical the recent rebound in more speculative investments will shake out differently this time.
“When something goes down 80% and then comes back up 20%, it still doesn’t get you much," said Rick Lear, chief investment officer of Lear Investment Management. “It’s just bouncing off its lows.
Rather than arguing semantics—whether the S&P 500 is about to break out into a bull market or is stuck in a bear market rally, or whether the economy is in a recession now or will be later—Mr. Lear says he is choosing to focus on picking companies that can weather a tough economic environment.
He is also steering clear of many of the stocks that have surged the most during the market’s comeback, wary of the possibility of being burned by stocks that appear to be trading mostly off momentum, instead of their earnings.
“This could be a real reset of the bull market," Mr. Lear said. “But we don’t know. And it really doesn’t matter to us."
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