Rotation Returns as Economic Bears Refuse to Give Up
The Russell 2000 gained almost 4% Friday as the Magnificent Seven fails to recapture all its losses from last week.
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The S&P 500 and Dow Jones industrial average hit new all-time highs on Friday as investors celebrated dovish signals from Fed Chair Jerome Powell. The S&P 500 was sitting on a five-day losing streak in front of the news as worries about a September rate cut had been building. Powell surprised the market with a shift in policy that indicated less worry about inflation and more concern about slowing job growth.
The likelihood of an interest rate cut at the September meeting did increase to some degree, but it has been close to 90% for a while. What was most important to the market was the tone of Powell’s comments that hinted at a major change in how it is weighing its dual economic mandate.
The rally on Friday was powerful, but the most notable aspect of it was that the Russell 2000 small-cap index IWM was the leader with a gain of almost 4%. The Magnificent Seven MAGS was up 2.45% but was unable to recapture all the losses it suffered last week.
The bears are still grumbling about big-cap technology leadership, but what they are missing is that the rotational action is very healthy. The stocks that are leading the rotation are not as technically extended or as expensive as many of the AI leaders. Investors are looking for other places to put capital, and that is helping to drive breadth.
After a big breakout move like that which occurred on Friday, there may be some profit-taking and consolidation. The bears are still looking for a sudden collapse, but markets that move in this manner don’t simply fall apart. The strength on Friday creates dip buyers and underlying support. Investors who missed out may not want to chase strength, but they do want to buy weakness.
There are a number of catalysts coming up this week that will keep things interesting. The biggest event is Nvidia NVDA earnings on Wednesday after the close. There is a very good likelihood that NVDA will beat and raise its quarter, but to what degree is that already anticipated by investors? What will be most important about Nvidia is the level of long-term demand.
In addition to Nvidia, PCE inflation data is due on Friday. The bears keep overestimating the likelihood of inflation. The economic bears have been one of the major reasons that the market keeps running high.
The main issue I will be watching this week is rotational action. Can small caps keep exhibiting relative strength? Will Nvidia earnings shift some of the flows in the AI sector? Will the anticipatory bears continue to be wrong?
We have some mild profit-taking on Monday morning with Bitcoin IBIT taking a bit of a hit after a big move on Friday.
At the time of publication, DePorre was long IBIT.
