June 23, 2021
Good morning,
It feels like the market tumult from last week’s Fed meeting has largely past. The S&P 500 Index sits this morning almost exactly where it sat last Wednesday morning before the Fed’s announcement. However, below the seemingly placid surface of the broad market indexes, there is war going on between sub-indexes in sectors, market caps and styles.
The Fed’s announcement last week that it is ready to talk about raising interest rates changed the probabilities of when rates might rise in the future. That led to a dramatic flattening shift in the yield curve (a direct reflection of those probabilities) and pulled forward the sector, market cap and style changes that typically accompany the rising rate environment of an economic cycle.
For example, small cap relative to large cap performance peaked in Q1 and suffered a strong correction leading into May. Small caps have been battling back since then but suffered mightily this past week after the Fed announcement. The best window of the economic cycle for small caps has been expected to close later this year or early next but this past week’s breakdown may suggest that shift from small to large has been brought forward by a more hawkish Fed. The same casualties of war have been seen in cyclical value sectors – Financials, Energy, Materials and Industrials – as well.
With rates still pegged near zero, the likelihood of a massive exodus from stocks remains low barring another unthinkable health crisis or worse. But that doesn’t mean we can sit still given the changes going on inside global equity markets.
Be well,
Mike