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Friday's Market Minute: The Bullish Narrative Is Yield-Driven

The market’s enthusiasm about the receding yield curve has produced a meaningful bear market rally as institutional investors accumulate equities. The market is acting as if macroeconomic factors are currently conducive to another expansionary monetary policy cycle, yet Fed officials keep insisting they are going to raise interest rates until inflation falls.

Economic soft landings don’t exist, so monetary restriction will at best bring down the historically high job vacancies while only raising unemployment to a small degree. This is obvious, as many large corporations recently declared a slowdown in hiring and outright job reductions. U.S. jobless claims hit a six-month high this week, signaling the labor market may already be cooling. Despite decelerating job growth, industry economists expect the unemployment rate to hold steady at 3.6% when July’s unemployment report is released today. 

Past cycles show that bear market rallies of 10% or greater are surprisingly common, but if the structural issues driving the bear market are not solved, these rallies have ultimately failed. Commodity prices have fallen, and economic data is softening. Therefore, the market is moving on the hopes of inflation moderating and a possible Fed pivot sooner rather than later.

The market is encouraged by weakening economic data, thinking the Fed will bail it out with rate cuts and more QE. But the economic data does not support a dovish Fed pivot even though the economy may be in a technical recession. From a corporate profitability standpoint, we saw various high-profile earnings misses in recent weeks. However, most companies are still reporting earnings growth well above their 2019 trajectories, which suggests the current rally may still have room to run.

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