Weekly Review & Outlook: July 1, 2024

May Personal Consumption Expenditures (PCE) followed the earlier May Consumer Price Index (CPI) observations of cooler consumer inflation in the month. Bank stress tests results were released with all 31 banks passing. Broader equity markets finished the quarter higher led by an increase in tech stocks from their April lows. Treasuries and bank stocks were mostly unchanged from the start of the quarter.

BEA released the May PCE Price Index (June 28) showing the headline price level unchanged from April. The core PCE increased 0.1% for the month which was the first month below 0.2% since November. My chart of the 6-month annualized trend from both core PCE and core CPI shows the core PCE rate flat from April. I expect the 6-month annualized trend to fall as we lap the elevated 1Q2024 consumer inflation increases.

In my opinion, the Fed policy rate of 5.25 to 5.50% is already in error and too restrictive. I agree with the current Fed futures market that it is likely that we see the initial -1/4 point cut in the policy rate at the Fed’s September meeting.

The annual Federal Reserve Stress Test Results (June 26) showed all 31 banks passing. The market impact of the test results is relatively minimal. There was some minor reaction to specific granular data such as estimated loss from credit cards at a particular bank. To me what was noteworthy was the reinforcement that in a severe stress event such as a hard recession, bank Consumer and Commercial & Industrial loan portfolios are expected to hold higher loss rates than Commercial Real Estate. This is consistent with my general belief that outside of the Office segment, the impacts of recession risks to banks should be focused more on uncollateralized loans.

The second quarter ended with banks and Treasuries nearly unchanged point-to-point over the period. We saw bank stocks fall, rally, fall and rally a second time with slightly greater volatility among the larger market cap regional index than the broader Nasdaq BANK index. This bank stock pattern was similar to the first quarter except the return for the regional banks was significantly lower down approximately -10%.

Treasuries also were mostly unchanged from the start of the quarter after a June rally in longer term maturities. While yields 1-year and shorter were mostly flat, longer duration yields increased about 1/8 point from the end of March. Since the start of the year, 2-year and longer yields are higher by about ½ point. The Treasury curve remains severely inverted. 2-year/10-year yields inverted in July 2022 with 3-month/10-year inversion following in November 2022. The Fed was slow to act during this time frame broadcasting their wrongly held belief that inflation was transitory. Today the Fed should be more confident to lower the target rate thus helping to return to a healthier, positively sloped curve.