Market Commentary

The Week In Review 

Flash Manufacturing/Services PMI | The latest figures came in at 51.7 for manufacturing and 55.1 for services, indicating expansion in both sectors.
Initial Jobless Claims | Initial claims edged lower to 238,000, signaling a resilient labor market.
Housing Starts | Housing starts declined to an annualized rate of 1.28 million, reflecting some weakness in the housing sector.

The Week Ahead 

June 25 | U.S. Consumer Confidence
June 27 | U.S. Durable Goods
June 28 | U.S. PCE; Japan Unemployment Data
June 30 | China NBS Manufacturing PMI

We will be closely monitoring U.S. PCE inflation data for May to see if there is a slowing of services inflation after some upside surprises earlier in the year. Tech stocks have shown strong gains, largely fueled by market focus on AI and a preference for quality amidst high macroeconomic and market uncertainty. The sector is up 30% this year, nearly four times higher than the rest of the S&P 500.

Thought(s) of the Week 

2024 began with broad expectations of a weaker U.S. dollar due to stretched valuations. However, nearly halfway through the year, the dollar index (DXY) has gained approximately 4.4% year-to-date. This shift raises questions about whether the consensus has changed.

The case for a weaker dollar in 2024 was based on deteriorating fiscal and trade deficits and a narrowing interest rate differential with other major economies. However, resilient growth and slower progress on inflation in the U.S. have pushed back rate cut expectations. Meanwhile, other major central banks have embarked on monetary policy easing ahead of the Fed. As a result, the greenback has gained broadly across all the currencies in the dollar index.

The euro, with the highest weight in the index, has seen a relatively modest 3.4% decline, contributing significantly to the dollar’s ascent. The European Central Bank (ECB) is expected to cut rates faster and further than the Fed. Political uncertainty, such as calls for snap elections in France, has also led investors to flock to the dollar for its continued safe-haven appeal.

Notably, the Japanese yen has had an outsized contribution to the dollar’s rise this year, depreciating more than 13% and nearing 34-year lows. This is due to the Bank of Japan's delay in normalizing its monetary policy. Conversely, the British pound has largely held its ground due to strong economic data, helped by favorable base effects.

In summary, while long-term fundamentals still indicate that the dollar is richly valued, near-term higher rates could continue to support a stronger dollar.

Tech Rally Rolls On 

The tech sector continues to lead stock gains, driven by the artificial intelligence (AI) theme. This trend is seen not as a flaw but as a feature of the current market landscape. Consequently, U.S. tech stocks remain overweight in many investment strategies.

Market Backdrop 

The S&P 500 notched a fresh all-time high last week, led by tech stocks. U.S. 10-year Treasury yields held steady near 4.25% during the holiday-shortened week. European stocks saw declines following the results of the European Union elections and the announcement of a snap election in France.

Broader Market Insights 

The strength in U.S. tech stocks has overshadowed gains that are broadening out to other sectors, which are up about 8% so far this year. Eight of the eleven S&P 500 sectors saw higher margins in Q1 versus the same period last year, supported by nominal GDP growth that remains above the pre-pandemic average due to higher inflation.

Guided by mega forces, investors see sectoral opportunities as risk appetite broadens. Institutions may favor healthcare due to recovering earnings, drug innovation and aging populations. The industrial sector is also appealing as it supports AI infrastructure and the low-carbon transition with supply chain reconfigurations bringing production closer to home.

Potential Risks 

The tech sector's dominance could falter if AI-related spending does not yield the expected boost to earnings or margins. Regulatory changes limiting AI adoption could also impact tech's potential. In a less likely scenario, other sectors could surpass tech if economic growth accelerates and inflation falls enough to prompt the Federal Reserve to cut interest rates more than expected.

Conclusion 

The concentration in U.S. tech stocks is a key feature of the AI theme. It may be advantageous remain overweight on U.S. stocks on a six- to twelve-month tactical horizon and continue to prefer the AI theme. Additionally, investors see strong prospects in the industrials and healthcare sectors as market gains broaden.