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On Health Care, Housing & Space
The S&P 500 Health Care sector index has performed woefully so far this year, down 5%. Jackie looks at the many reasons it’s been under the weather and what may revive it next year. … Also: Toll Brothers' April quarter earnings confirmed that high-end home buyers still have the means to buy. Are other home buyers becoming less sensitive to affordability issues and more accepting of higher interest rates? Analysts are counting on it. ... And: SpaceX isn’t the only company with its head in the stars. The race to space is on as makers of satellites and other space equipment, both established companies and upstarts, compete to develop the final frontier.
On A Profits-Booster, AI For Main Street & Xi’s Weak Point
The first quarter was another record-high one for S&P 500 companies’ earnings, but accounting gains posted by two behemoths—Amazon and Alphabet—skewed the results northward. Joe has the details. … Also: Melissa foresees wider adoption of AI by small businesses, with offsetting effects on productivity and on jobs creation. She also identifies the next leg of the AI investment trade, the equipment enabling data center expansion. … And: President Xi Jinping is overly optimistic about the direction of China’s economy, says William.
Don't Freak Out About The Bond Vigilantes Just Yet
The selloff in the US Treasury bond market continued today. The 30-year yield hit a high of 5.19%, its highest level since July 2007. The 10-year yield surged to 4.69%, its highest since January 2025 (chart). Just as unsettling as these levels is how quickly yields have risen over the past few days. We think that happened in response to last week's hotter-than-expected April PPI as well as the latest batch of stronger-than-expected economic indicators. That combination cannot be described as “stagflation.” In fact, while some economists have warned that yields are in the "Danger Zone," we think they remain in the "Normal Zone," reflecting a resilient economy with a short-term inflation problem. The Fed should respond to the latter by raising the federal funds rate within the next two months. Nevertheless, we expect that the economy and corporate earnings will remain resilient. Our current assessment is that the bull market isn't at risk of being derailed by the sell-off in the bond market, which presents a very good opportunity to buy both bonds and stocks. The breakout in the 10-year yield above 4.60% suggests that the next move could be up to 4.75% (chart). If so, then a retest of the November 1, 2023 peak of 5.00% is very likely. That would mark the peak for 2026, in our opinion. The 10-year yield has been trading within the same 4.00%-5.00% range since mid-2023, similar to the years prior to the Great Financial Crisis (chart). Hence our conclusion that yields are back to normal. The recent ascent of the 10-year yield has been mostly attributable to the widening of the spread between that yield and the comparable TIPS yield (chart). This spread also briefly widened in response to the 2022 oil price spike. The 2-year Treasury yield, an excellent leading indicator of the Fed’s interest rate policy, rose more than 5bps today to 4.13%, well above the upper end of the Fed's current federal funds rate range of 3.50%-3.75% (chart). The Bond Vigilantes are threatening that if the Fed doesn't tighten credit conditions, they will do so to maintain law and order in the economy! The good news is that the sell-off in the bond market is partly attributable to the economy's ongoing resilience. That’s no surprise to us. Consider the following: (1) Employment. The latest ADP NER Pulse shows private employers added an average of 42,250 jobs per week for the four weeks ending May 2, the second consecutive week of strengthening growth and a clear recovery from the hiring slump earlier this year (chart). This implies a monthly pace of 169,000 net new jobs. Interestingly, ADP's stock price may have bottomed earlier this month (chart). (2) Consumers. The Redbook same-store retail sales index jumped 8.9% y/y for the week ending May 16, confirming the prior week's blazing 9.6% surge and well above the 2025 full-year average of 5.8% (chart). The four-week moving average rose to 8.3%, its strongest reading since October 2022. (3) CESI. The 13-week change in the 10-year bond yield continues to closely track the Citigroup Economic Surprise Index, which has been strong lately (chart). (4) Inflation. The Cleveland Fed's inflation Nowcasting tool projects that the CPI will rise 0.46% m/m and 4.18% y/y in May, marking the highest headline inflation rate since April 2023. The core CPI is projected to rise 2.82% y/y, the highest since November 2025. We expect that this year’s inflation shock will be less severe than the 2021-2022 experience. Productivity should keep a lid on unit labor costs. A wage-price spiral is less likely this time because the demand for labor doesn’t significantly exceed the supply as it did during the pandemic. Rent inflation should continue to moderate. (5) Bottom line. The economy can handle the backup in bond yields, in our opinion. It can also handle some tightening of monetary policy to placate the Bond Vigilantes. The stock market peaked at a record high last week. It might consolidate its recent gains before resuming its ascent to fresh record highs. We are still targeting the S&P 500 at 8250 by the end of this year. We will start to worry if the 10-year yield significantly breaches 5.00%.
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