Stocks surged on peace hopes, and manufacturing boomed
Will the Strait of Hormuz reopen?
Nine days ago, the Dow Jones Industrial Average fell by 1,153 points. This week, it closed at above 54,000 for the first time. The possible trigger for last week's sell-off could have been the Situational Awareness Fund's margin call (when the hedge fund’s public equity portfolio was sold) and/or overall Iranian diplomacy. U.S. treasury secretary Scott Bessent said a deal to reopen the Strait of Hormuz could land within days, oil fell below $78, and stocks surged. The S&P 500 gained 1.79% Tuesday to a record 7,736, the Nasdaq jumped 2.59%, and tech stocks rallied by 1% or more for four days running, the eighteenth such streak since the early 1970s.
The mechanism is the same one that has driven every turn since March, just in reverse. Lower oil means lower inflation, which means fewer interest rate hikes, which means the multiple expands (when investors are willing to pay a higher valuation ratio). Nothing about earnings changed this week. Note what the market is buying: the strait is still closed. The deal is unsigned, Washington and Tehran still disagree over who controls inbound shipping, and this is the third peace trade of the summer. The first two were reversed.
How is U.S. manufacturing performing?
The Institute for Supply Management’s Manufacturing Purchasing Managers’ Index hit 55.6 in July, the highest in more than four years and a seventh straight month of expansion. The services index came in at 54.1, a touch light, but services is not the biggest concern, so it's fine. Business activity jumped to 59.1, and new orders accelerated to 57.2, so demand is strong. Prices paid by manufacturers rose to 70.3, the fourth time to come in above 70 in five months, with survey respondents pointing directly at the rise in oil prices that began in February. That is a difficult mix: firms have orders, but input costs keep climbing. Still, it's good news that manufacturing is doing well.
Why are investors rotating between stocks?
Under the record highs, investor positioning is driving the moves. In July, money moved out of momentum stocks (those that have recently grown quickly in value) in favour of more stable value stocks, then rushed back this week. The market is playing musical chairs. The wide spread in returns shows the importance of being diversified; you don't want to be caught without a chair. SpaceX fell 14% after beating earnings expectations, as $101 billion of stock became available for trading. Advanced Micro Devices’ stock fell by 8%, despite also beating revenue expectations, as did SanDisk’s. Results can't always save you. Market breadth thinned, as the index reached new highs, and the market paid a premium for peace in a week when the actual peace kept slipping.
What market data is due next week?
Next week brings Consumer Price Index data, the first report that will fully capture July's oil prices. Markets are currently pricing a September interest rate hike from the U.S. Federal Reserve as close to a coin flip. After a week when the stock market added a trillion dollars a day on a peace deal that has not been signed, the question is whether the price of oil will continue to cooperate, or whether this will be the third peace trade to be reversed.
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