The Federal Reserve’s unexpected, dovish pivot on monetary policy stole the show in the past week, cementing strong gains for the stock market — but analysts said doubts over the outlook remain.
“We’re as happy as anyone that U.S. stocks have rebounded, but we’re not mistaking the Fed’s easier stance for a sign the clouds have cleared,” wrote Nicholas Colas, co-founder of DataTrek Research, in a Thursday note.
In a statement, the Fed, which raised interest rates four times in 2018, signaled Wednesday that it’s on hold until further notice. In a separate statement, it also signaled it might slow the pace of the rundown of its balance sheet for technical reasons.
See: ‘Patient’ Fed adopts wait-and-see stance as Powell says case for higher rates ‘weakens’
Even as investors dived in to equities after the Fed’s meeting this week, a simultaneous bond-market rally appeared to offer up a more pessimistic assessment. The 10-year Treasury yield TMUBMUSD10Y, +0.00% finished below 2.70% on Wednesday, the first time in three weeks, plunging an additional 6 basis points on Thursday. Yields rebounded Friday, with the 10-year ending at 2.68%, but off 6 basis points for the week. Meanwhile, the S&P 500 SPX, +0.09% and the Dow Jones Industrial Average DJIA, +0.26% posted weekly gains of 1.6% and 1.3%, respectively.
The knee-jerk slump in long-term Treasury yields suggested bond investors think the crosscurrents confronting the U.S. economy may be more formidable than stock-market bulls think.
Read: In Fed aftermath, ‘we’re all data-dependent’ now, say stock-market investors
Those stock-market bulls argue that the Fed’s decision to stand aside for now sets the stage for a reflationary bull market that will lift equities and other assets perceived as risky, albeit with those same reflationary forces setting the stage for an eventual resumption of rate increases. Skeptics, however, contend the Fed’s decision to pause heralds a coming slowdown that could put an end to the long-running economic expansion and the bull market in stocks.
“Fixed-income was caught off-guard by how dovish the Fed was. There were recession discussions built into the price reaction,” Marvin Loh, macro strategist at State Street Global Markets, said in a phone interview.
While a more dovish Fed would be expected to pull down yields at the short end as investors back out expectations for rate increases, long-term yields are also driven by investor expectations for the economy and inflation.
“The longer global data run cold, the more U.S. fixed-income portfolios will have to worry that Fed patience is not enough to support U.S. growth in the face of a downturn elsewhere,” said Jim Vogel, an interest-rate strategist at FTN Financial
On the other hand, if U.S. economic data proves more robust than expected, the pessimistic view of the U.S.’s growth prospects as indicated by the bond-market’s post-Fed reaction will come under question.
Take, for example, Friday’s market reaction when a strong jobs report and a higher-than-expected reading for the ISM’s manufacturing index pushed the 10-year note yield up, trimming the weekly slide.
The Institute for Supply Management’s manufacturing index rebounded to 56.6% in January, from 54.3% in the previous month. Also, the U.S. economy added 304,000 jobs in January, well above the 172,000 forecast from economists polled by MarketWatch.
The past week also saw investors wade through a deluge of corporate earnings reports. Through Friday, 46% of S&P 500 companies had reported results for the fourth quarter, with 70% reporting earnings that topped Wall Street estimates — less than the five-year average, according to FactSet. In aggregate, companies have reported earnings 3.5% above estimates, which also lags the five-year average, while the percentage of companies reporting actual revenues above estimates (62%) is above average.
Read: Reporting on revenue recognition changes is still causing confusion — even for analysts
Earnings season continues next week, with 103 S&P 500 companies slated to report, according to FactSet. Among the highlights, Google parent Alphabet Inc. GOOG, -0.50% and Gilead Sciences GILD, +0.06% will report Monday, followed by Walt Disney Co. DIS, -0.20% Eli Lilly & CO. LLY, +0.86% Philip Morris International Inc. PM, -1.29% later in the week.
The economic calendar is relatively light, with the release of some data potentially delayed due to the aftereffects of the government shutdown. Among nongovernment data, the Institute for Supply Management’s January reading on service-sector activity is due on Tuesday.
Read: MarketWatch Economic Calendar
President Donald Trump is scheduled to deliver his State of the Union address to Congress on Tuesday evening.
A number of Fed officials are due to make public appearances in the week ahead, including Fed Chairman Jerome Powell on Wednesday night. Vice Chairman Richard Clarida is scheduled to speak on Thursday morning.
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