Listen to Your Cousin

Small Margin for Error: Recent economic data will make it difficult for the Fed to thread its monetary needle. Their favorite inflation series, the core Personal Consumption Expenditure Price Index, increased in October, as housing and consumer spending stayed strong. The latter is being supported by people dipping into savings, as there appears to be overspending relative to previous cycles. This dynamic can only hold if the job market is favorable. Meanwhile, regional manufacturing surveys and Fed data like the New York Fed Nowcast are trailing expectations. This could be a harbinger of broader economic weakness while prices remain sticky. If that is the case, the Fed may be backed into raising rates to ensure price stability or maintaining their rate cutting campaign to bolster job security. That conflict is not optimal for equity investors.

Investors Are Excited: Are the Markets?

If the broad stock indices are nearing a top, you never want to watch the indices themselves but turn to their advisors. For example, before China’s rise as the world’s dominant commodity consumer, U.S. stock investors used to closely watch copper futures. The commodity would yield timely information about near-term industrial and manufacturing trends. Copper’s post-election drop is more a reflection of the expectation of heavy tariffs being levied on China that will depress their economic growth and demand for copper, rather than a negative forecast about the U.S.

Thankfully, an excellent barometer for the U.S. economy and the stock market is…the bond market.

Fixed income investors constantly assess the business outlook when setting the spread between high yield bonds (carrying a rating of BB or worse, or sub-investment grade) to U.S. Treasuries. The chart below, sourced from FRED (Federal Reserve Economic Data), is the option-adjusted index of high yield bonds relative to a Treasury curve over the past year:

A lower spread reflects the fixed income market’s view of improving business conditions. We have highlighted election day to illustrate the action after the news of President Trump’s win. Non-investment-grade bonds rallied sharply, driving their yields closer to Treasury yields as the market anticipated an economic boost. This forecast decreased the expected default risk for companies carrying poor credit ratings.

However, as the S&P hit new highs last Thursday, note that the spread appears to have bottomed out. While that is not a signal to dramatically drop your stock exposure, it is a warning coming from what many consider to be the stock market’s smarter cousin.

A singular warning from one indicator must be accompanied by other reliable warnings to be considered credible. Insider activity is also rising. While it is not a distinct red flag that corporate insiders are selling their stock into a rising market, there has been solid volume, which would not normally be present if company management was hopeful that orders will rise in 2025.  Insiders cannot buy back the stock they sold before six months have elapsed, so they are only willing to sell today if they believe they can buy that stock back later at a lower price.

Statistically, December is not a great month to expect a down stock market. However, there have been notable exceptions: December 2018 comes to mind, as does December 1980, after President Reagan was elected. It is interesting that over the past year, the S&P 500 has traced out a pattern that resembles 1980 when the market was expecting a Reagan win, just as investors looked forward to a November 2024 Trump win. No triggers yet, but our advice is to watch the High Yield-Treasury spread.

What to Look for This Week

Employment Data: Key date is Friday, December 6 at 8:30 a.m. E.S.T. for November Nonfarm Payrolls. There will be a big snapback from October’s strike and hurricane distortions, but the State Unemployment data and Initial Claims point to a more muted rebound. Given that there was less than a 50% response rate to the October survey, we are bracing for a potential surprise in October’s revision in either direction. Tuesday December 3 at 10:00 a.m. E.S.T. the October Jobs Outlook and Labor Turnover Survey is released. We will be focused on the Hirings and Quits rate data rather than the more popular Openings Rate headline.

Services Prices: ISM Non-Manufacturing Prices for November are published on Wednesday, December 4 at 10:00 a.m. E.S.T. It is of interest to us because the series has been hovering just below 60 for the past year and a half, but any uptick would be important given that the headline number could show improvement.

Fed Speakers: The highlight is Fed Chair Jerome Powell’s moderated discussion on Wednesday, December 4 at 1:45 p.m. E.S.T. Monday, December 2 at 3:15 p.m. E.S.T Federal Open Market Committee (FOMC) permanent voter Governor Waller speaks about the economic outlook, and NY Fed President and permanent FOMC voter Williams hits the newswires at 4:30 p.m. E.S.T. Governor Kugler tends not to move markets as do Waller and Williams, but she is talking before them at 12;35 p.m. E.S.T. Thursday, December 6 at 11:30 a.m. E.S.T. Richmond Fed President and December FOMC voter Barkin speaks, and earlier that day at 9:15 a.m. E.S.T. conservative Fed Governor Bowman will make a presentation. Friday, December 6 at 10:30 a.m. E.S.T., Chicago President and 2025 FOMC voter Goolsbee will talk, and at 1:00 p.m. E.S.T. San Fransisco President and December FOMC voter Daly speaks, both after the employment data.