Fed Lifts Bonds as Stocks Struggle

Treasuries gained ground as recent data highlighted a gradual economic slowdown, fueling speculation that the Federal Reserve would conclude its aggressive hiking campaign. Two-year yields were on track to reach their lowest levels since August, decreasing by nine basis points to approximately 4.8%.

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Despite a robust rally pushing the S&P 500 near "overbought" levels, the index faced challenges. Investors remained attentive to major retailers as the earnings season neared its end. Walmart Inc. declined due to a cautious outlook on consumer prospects, while Macy's Inc. rose following better-than-expected profits. Cisco Systems Inc. experienced a decline after a pessimistic forecast. Oil prices extended their slide due to increasing inventories.

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Continuing applications for unemployment benefits in the U.S. reached their highest point in nearly two years, highlighting the growing difficulties faced by unemployed individuals in securing new employment. Factory production declined more than anticipated, largely due to a strike-related slowdown in activity at automakers and parts suppliers. Homebuilder sentiment dropped to its lowest level this year.

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According to Jamie Cox, managing partner for Harris Financial Group, the delays in monetary policy are catching up with the economy, affecting input costs, industrial production, and labor. The focus now shifts from inflation to preserving economic growth and avoiding a recession, with rate cuts potentially coming as early as March 2024.

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While it's premature for the Fed to declare victory on inflation and rate cuts remain distant, recent data like this could alleviate concerns about an additional rate hike, suggested Chris Larkin at E*Trade from Morgan Stanley.

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Chris Gaffney, president of world markets at EverBank, noted that the market remains susceptible to volatility and is heavily reliant on data. He anticipates ongoing back-and-forth between the markets and the Fed, leading to increased volatility through the end of the year and into the next.

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Fed Bank of Cleveland President Loretta Mester acknowledged that inflation has cooled but emphasized that it will take time to return to the central bank's 2% target. Lawrence Summers, former Treasury Secretary, attributed the faster slowdown in U.S. inflation to "transitory factors."

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Despite a murky economic outlook, investors have been cautious about stocks this year, favoring cash due to appealing returns. Goldman Sachs Group Inc. anticipates this caution to persist into 2024, with competitive alternatives like a 5% return risk-free in cash. Barclays Plc strategists, however, expressed optimism, expecting global stocks to outperform bonds in 2024, anticipating a "soft-ish" economic landing and mid- to high single-digit returns in the U.S. and Europe. They maintained their positive outlook even with elevated bond yields and what they perceive as overly optimistic earnings expectations for the S&P 500.