Weekly market focus
Markets take hawkish view of Fed policy despite omicron
Markets await the return of Congress in early January
Earnings surge will start to fade in Q4
Stock market appears willing to take omicron in stride
2-year T-note auctionWeekly market focus — The markets this week will focus on (1) the pandemic situation as the omicron variant spreads quickly, (2) further analysis of how quickly the Fed might raise interest rates in 2022, (3) this week’s light economic calendar, and (4) any news about whether Democrats will be able to rebuild the Build Back Better bill after Senator Manchin’s rejection.
Markets take hawkish view of Fed policy despite omicron — The markets are taking a hawkish view of Fed policy as the incoming scientific data reduces the concern about the omicron variant. The Dec 2022 federal funds futures contract last Thursday (on a yield basis) rose to a 1-3/4 year high of 0.76%, reflecting expectations for an overall +68 bp rate hike during 2022 from the current effective federal funds rate of 0.08%. However, that is still 14 bp less hawkish than the Fed’s dot-plot that is forecasting a rise in funds rate to 0.90% by the end of 2022.
The Fed, at its recent Dec 14-15 FOMC meeting, made a decisive statement about its inflation resolve by doubling the pace of its QE tapering, thus ensuring that it could start raising interest rate as soon as the March 2022 FOMC meeting. The Fed in 2022 currently anticipates one rate hike per quarter in Q2 through Q4.
However, the Fed might not have to raise interest rates that quickly in 2022. The omicron surge will take a toll on the U.S. economy in early 2022. In addition, Senate Manchin’s blow-up of the BBB bill means that, as of now, there will be no extra fiscal stimulus in 2022 to prop up the economy.
Markets await the return of Congress in early January — Congress will remain on holiday recess this week. The Senate will return to Washington on January 3, while the House is scheduled to return on January 10.
The main item of business for Senate Democrats is to see if there is a way forward on the $1.75 trillion Build Back Better bill after Senator Manchin rejected the bill. It remains to be seen whether Senate Democrats can come up with some smaller bill that can get Mr. Manchin’s vote and the vote of every other Democratic Senator. That process is expected to take a matter of weeks or even months.
The other main agenda item for Congress is to pass an omnibus spending bill to fund the government for the remainder of the fiscal year. Congress has only until February 18 to pass an omnibus spending bill because the current continuing resolution expires on that date.
The debt ceiling is off the market’s plate for at least the next year since Congress in December gave final approval to a debt ceiling increase that will last until early 2023.
Earnings surge will start to fade in Q4 — Q4 earnings season is right around the corner, with several major Wall Street banks scheduled to release earnings during the week of Jan 10-14. There are no earnings reports this week from the S&P 500 companies.
The consensus is that earnings growth for the S&P 500 companies will decelerate to +22.3% y/y in Q4 from +42.6% in Q3, according to Refinitiv. Earnings growth is then expected to decelerate further to +7.5% y/y in Q1, +5.1% in Q2, and +7.4% in Q3. On a calendar year basis, SPX earnings growth is expected to decelerate to +8.4% in 2022 from +49.7% in 2021.
Stock market appears willing to take omicron in stride — The S&P 500 index last Thursday closed at a record high, suggesting that the U.S. stock market is willing to overlook the coming omicron deluge, at least for now.
The stock market is encouraged by the fact that the Biden administration is relying on testing rather than shutdowns to address the pandemic surge. The stock market is also encouraged by the incoming data indicating that current vaccines are at least partially effective against omicron and that omicron infections are less severe than the original Covid versions.
However, the markets may get more worried about omicron as the number of infections surge and as hospitals are swamped, thus putting pressure on local officials to impose restrictions.
The 7-day average of new U.S. Covid infections on Saturday soared to a new 11-month high of 188,827, exceeding the previous delta peak of 171,850 seen in September. The 7-day average infection rate as of Saturday soared by +49% w/w and is up by +120% since December 1.
The Covid infection rate is rising so rapidly that it may take out the record high of 251,085 posted in January 2021. The infection rate would need to rise by only another 33% to take out that high.
Meanwhile, the U.S. vaccination rate continues to rise, which will provide at least some protection against the omicron variant. Bloomberg reports that 61.7% of the total U.S. population has now been fully vaccinated, and 19.4% have received a booster shot. In the past week, the U.S. has administered a daily average of 1.26 million doses.
2-year T-note auction — The Treasury today will sell $56 billion of 2-year T-notes, kicking off this week’s $193 billion T-note package. The benchmark 2-year T-note yield last Thursday closed at 0.69%, just 3 bp below the 1-3/4 year high of 0.72% posted a few weeks ago on Dec 10. The 12-auction averages for the 2-year are: 2.36 bid cover ratio, $107 million in non-competitive bids, 3.3 bp tail to the median yield, 11.5 bp tail to the low yield, 46% taken at the high yield, and 52.3% taken by indirect bidders (vs the 63.0% median for all recent Treasury coupon auctions).