Steady GDP Report Could Alter Bets on Several Rate Cuts

Friday’s report on second-quarter economic activity could challenge investor projections for several rate cuts this year, a potential hurdle for the market rally.

While the figures showing that strong consumer spending offset a decline in business investment likely won’t spell bad news for stocks, analysts say a shift in rate forecasts could challenge a host of assets from emerging markets to precious metals that have surged lately. The Federal Reserve recently hinted it is ready to lower interest rates by a quarter-percentage point next week, while indicating the potential for additional reductions.

Federal-funds futures now show traders pricing in a roughly 89% chance of at least one more rate cut this year after next week and about 53% odds of at least two more. Both those figures inched slightly lower Friday following the gross-domestic product report.

“Those are very much overblown,” said Aaron Anderson, senior vice president of research at Fisher Investments. “The market has overreacted a little bit to some of the temporarily weak economic data and has expected too much in terms of cuts.”

The market reaction to Friday’s data was muted, with the S&P 500 edging higher and the Dow Jones Industrial Average opening little changed. The dollar and Treasury yields were also steady after the data showed the economy grew at a 2.1% annual rate in the second quarter, slightly ahead of the 2% clip expected by economists surveyed by The Wall Street Journal.

The 2.1% pace marks a slowdown from 3.1% in the first quarter but still a healthy enough clip to support corporate profits, analysts say, particularly if the Fed lowers borrowing costs moving forward.

Rate expectations reflected in fed-funds futures barely budged following Friday’s report, a sign that the first quarterly decline in business investment since early 2016 has some investors still expecting economic activity to soften. Analysts have said weaker business spending is one of the main consequences of ongoing trade uncertainty as talks between the U.S. and China continue.

Nonresidential fixed investment, which reflects spending on software, research and development, equipment and structures, fell at a 0.6% rate last quarter. That compares with a 4.4% rise in the first quarter.

Mixed manufacturing data have also fueled caution among some investors, though figures measuring consumer spending—which accounts for the large majority of economic growth—remain stable. Friday’s figures showed consumer spending rose at an annualized rate of 4.3% in the second quarter, the strongest growth rate since late in 2017.

“We’re seeing a range of conflicting data points and economic indicators,” said CSX Corp. Chief Executive Jim Foote on the railroad operator’s earnings call last week. The company cited economic uncertainty in cutting its revenue outlook for the year.

Investors will now look ahead to figures on July manufacturing activity and hiring, scheduled for next week along with the Fed meeting.

The reaction to Friday’s GDP report could also be muddled because it will overlap with investor responses to earnings from a number of bellwether companies, including

Amazon.com
Inc.

and Google parent

Alphabet
Inc.,

which reported results after the market closed Thursday.

Although Amazon shares fell after the e-commerce company missed quarterly earnings targets, Alphabet,

Starbucks
Corp.

and

Twitter
Inc.

each rose about 5% or more following release of their latest figures.

Results so far this earnings season have generally been better than feared, another factor that along with recovering economic data is keeping some investors optimistic even if rate-cut expectations moderate.

“A more stable economic environment is more positive for stocks than some temporary disappointment about rate cuts might be,” said Mr. Anderson of Fisher Investments.

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How have recent economic data points impacted your expectations for interest rates?Join the conversation below.

Write to Amrith Ramkumar at amrith.ramkumar@wsj.com

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