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On Technology, Semiconductors & Fusion
Yes, there’s some froth in this bull market. A few companies have ditched their traditional businesses to jump into AI-related areas. And the market’s performance has certainly narrowed. But the S&P 500 Information Technology sector’s earnings forecast for both this year and next should provide the support this market needs to continue moving higher. … Jackie also looks at the S&P 500 Semiconductors industry, one of the strongest within the Technology sector. Charts of the industry’s amazingly strong earnings and wide margins illustrate why shares have rallied so sharply. … Finally, with the world facing an oil shock, we take a look at some of the recent advancements in fusion energy. Could fusion reactors come online in the next five or so years to solve many of our energy problems?
From Cuts to Hikes: The Fed's Shifting Calculus
The April FOMC statement contained an easing bias, signaling that the Fed remained likely to cut the federal funds rate (FFR) over the rest of the year. That bias is becoming increasingly difficult to defend. Three voting members on the FOMC (Hammack, Kashkari, and Logan) already dissented against retaining it at the April meeting of the monetary policy committee. Boston Fed President Susan Collins has since added her voice to those calling for its removal. The consensus on Wall Street has coalesced around June 16-17 as the next FOMC meeting at which the easing bias will be dropped. The question is whether the easing bias will be replaced with a tightening bias. The US Treasury market is pushing for that outcome. The 2-year Treasury yield is currently trading above the effective federal funds rate (chart). When 2-year yields trade significantly above the policy rate, the market is signaling that the current FFR is too low to curb inflation and may have to be hiked–and certainly not cut. A simple removal of the easing bias may not be enough. After five consecutive years of above-target inflation, the Fed may need to signal a willingness to hike (chart). The data support such a pivot. Consider the following: (1) PPI Inflation Was Hotter Than Expected. April's PPI report delivered a significant upside shock. The PPI final demand rose 1.4% m/m and 6.0% y/y, the fastest annual pace since December 2022 and well above the consensus forecasts of 0.5% m/m and 4.8% y/y. The core PPI (excluding energy and food) rose 1.0% m/m and 5.2% y/y, the highest reading in more than three years, against consensus expectations of 0.3% m/m and 4.3% y/y (chart). The surge was broad-based across both goods and services (chart). Service costs rose 1.2% m/m, the largest increase in four years (chart). Energy prices soared 7.8% m/m. Transportation and warehousing costs rose 5.1% m/m (chart). The spike in transportation and warehousing costs was driven by an 8.1% surge in truck freight costs, the largest increase since 2009 (chart). Inflation is reaccelerating in a broad-based fashion according to April's PPI report. The Fed's easing bias is history and may need to be replaced with a tightening bias if incoming data confirm that the economy is in good shape, as we expect. (2) Labor Market Looking Better and Better. While upside risks to inflation have increased meaningfully, downside risks to the labor market have moderated. The latest ADP NER Pulse, a weekly survey of employment, shows private industry employers adding an average of 33,000 jobs per week in the four weeks ending April 25, a slight uptick from the prior moving average and consistent with a monthly pace of around 132,000, close to April's ADP print of 109,000 (chart). Bloomberg Economics' Labor Market Surprise Index is at its highest level in two years, suggesting stabilization at the very least and possibly an improvement in labor demand. (3) April Retail Sales Likely to Surprise to the Upside. Tomorrow's April retail sales release carries a consensus estimate of a 0.5% m/m rise, a slowdown from the 1.7% m/m jump in March, which was heavily distorted by a 15.5% spike in gas station sales. We expect the report to surprise to the upside. The Redbook same-store retail sales index rose 9.6% y/y in the week ending May 9 and has averaged a robust 7.3% y/y through April, well above the 2025 full-year average of 5.8% (chart). A strong retail sales print would push the FOMC committee in an even more hawkish direction. A better-than-expected retail sales report would boost the Citigroup Economic Surprise Index, which remains highly correlated with the 13-week change in the 10-year Treasury bond yield (chart). (4) No cuts, but hikes are becoming more likely. Where does this leave the Fed? A rate cut in 2026 is essentially off the table. Reaccelerating inflation, five consecutive years above the 2% target, the inflationary impact of the AI build-out phase, and a stabilizing/improving labor market all make the bar insurmountable. Notwithstanding all of the above, we remain in the none-and-done camp for the rest of the year. Disinflationary forces are still at work: productivity growth is containing unit labor costs, inflationary tariff effects are fading, wage inflation is moderating, and market rents are pointing to further shelter disinflation. Additionally, long-term inflation expectations remain anchored, and the risk of a wage-price spiral remains low. Nevertheless, the probability of a hike is rising. Market measures of inflationary expectations are moving higher (chart). Additionally, labor demand is showing signs of improvement, which could accelerate wage growth, and the combination of economic resilience and another energy supply shock is a scenario in which the Fed could plausibly be forced to tighten. The bond market is pricing in exactly this risk. (chart). The 10-year Treasury yield is likely to move up to 4.60% in coming days.
On Booming Earnings, European Politics & Dangerous AI
The stock market’s meltup has been led by an earnings boom. Joe goes through the numbers and finds that the boom is widespread. … European politics are moving to the right as voters express their discontent about unchecked immigration. William explains that the right is likely to push for tax cuts without also reducing spending, resulting in bigger government deficits. That’s one reason why bond yields are rising in Europe. … Melissa examines the potential dark side of AI.
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