By Barani Krishnan
Investing.com -- The Federal Reserve is letting the stock market crash in order to bring U.S. inflation under control. If fuel and food prices continue rising, will the property market be the Fed’s next target, along with the job market?
For the majority of U.S. history – or at least as far back as reliable information goes – housing prices have increased only slightly more than the level of inflation in the economy. Only during the period between 1990 and 2006, known as the Great Moderation, did housing returns rival those of the stock market.
The stock market has consistently produced more booms and busts than the housing market, although it has also had better overall returns as well. Not now.
Wall Street fell for a seventh straight week last week, suffering its longest losing spell since the dotcom bust of the late 1990s, as fears of an economic slowdown continued to hammer investor sentiment.
The S&P 500, which tracks the top 500 U.S. stocks, closed near flat at 3,901 on Friday. Earlier in the day, it fell to 3,810, marking a loss of 20% on the year. In general market terminology, any asset down 20% from its most recent high or from any particular period like a quarter or year-end is defined as having entered a bear market. The S&P 500 finished the week down 3%, and registered a cumulative loss of 14% over the past seven weeks. Year-to-date, it is down over 18%.
The Nasdaq finished down 0.3% on Friday at 11,355. It lost 3.8% on the week and was down 27% on the year. The Dow, a broad-based blue-chip indicator, was flat at 31,261. For the week, it lost 2.9% while for the year, it was down almost 14%.
The stock market’s tumble accelerated over the past two weeks after the Fed Reserve said it will raise interest rates non-stop and even slow the U.S. economy if necessary to bring inflation down from 40-year highs.
After contracting 3.5% in 2020 from disruptions forced by the coronavirus pandemic, the U.S. economy expanded by 5.7% in 2021, growing at its fastest pace since 1982. But inflation has grown just as fast as the economy, or maybe quicker, with some price gauges showing growth of as much as 8.3% on the year.
Since this year began, U.S. growth has been on a weaker trajectory, coming in at a negative 1.4% in the first quarter as the Russia-Ukraine crisis led to runaway inflation in food and energy prices. If the economy does not return to positive territory in the second quarter, the United States will technically be in recession going by the definition that it takes just two negative quarters in a row to make up a recession.
Despite the correlation between stocks and the economy, experts have repeatedly pointed out that the stock market is NOT the economy.
That’s because the richest 1% of people own 50% of stocks and the bottom 50% own 0.7% of stocks. The day-to-day performance of major stock indices like the S&P 500, Dow Jones Industrial Average and Nasdaq Composite has little-to-no reflection on what’s happening in most Americans’ lives.
While past downturns sent the Fed rushing into the phone booth in Clark Kent-style to play superhero, don’t expect it to save the day this time around, says Bloomberg columnist John Authers. His reasoning is that a big stock market sell-off is exactly what the Fed wants to see in order to slow economic activity, and in turn, bring inflation back to normal.
The situation is a little different for the central bank though where housing and real estate are concerned. The property market has a rather important role in the U.S. economy, with roughly 65% of occupied housing units being owner-occupied. This makes homes a substantial source of household wealth and home construction a key provider of employment.
In the 2008/09 financial crisis, a crash of the housing market precipitated what later came to be known as the era of the Great Recession. Since then, the U.S. property market has rapidly recovered on the back of economic recovery as well as demand from buyers.
Even during the 2020 economic collapse from Covid, the property market only saw a brief bump lower before picking up again to the record growth we are witnessing today. While any particular sector of the economy with such resilience might be something for policy-makers to glow about, now is possibly the worst time for the U.S. housing market to be growing like this because it is also one of the bigger drivers of inflation.
Just like the housing and property market, the oil market is also exhibiting extraordinary resilience - which is really quite unprecedented, given the challenges across markets, economist Adam Button said on the Forex Live forum.
“At virtually any other time in history if you had one of the worst stretches for stocks coupled with widespread economic angst, you'd see oil underperforming,” Button wrote in a Friday post. “Instead, it's not only outperformed, but it's made gains. Oil is up 10% in the past four weeks. This is the first close above $110 since March 25.”
Button said he has been “waiting for this shoe to drop as the mood out there worsens but it's just not happening. Now there's talk about Shanghai reopening and at some point stocks need to at least bounce.”
Button said the problem with the oil rally is that it’s driven as much by speculation about forthcoming demand, as it is a case of energy prices reacting to current real demand versus short supply. “It's increasingly clear that there just isn't enough supply,” he added. “I fear how high prices could go, particularly if predictions of Russia losing 3 million barrels per day come true.”
The biggest problem though is that energy-driven inflation is having a major negative impact on Americans’ lives.
“Gasoline prices have risen every day since April 26,” said Button. “Oil spending is taking up a larger share of the wallet.”
So, is the Fed eyeing - or willing - a property market tumble next?
The Atlantic’s Derek Thompson says the housing market has, in fact, peaked. Here are his reasons:
* Sales of existing homes fell 2.4% in April to their lowest level in almost two years. It’s the third straight month they’ve declined, showing how record prices and skyrocketing mortgage rates have made potential homebuyers close their Zillow tabs in frustration.
* The home inventory shortage, a leading contributor to the demand-supply imbalance, is starting to ease in the hottest markets, such as California and Colorado.
* Google searches for “homes for sale” were down by double-digits in major cities such as LA, Boston, and SF in mid-March, according to Redfin.
* Redfin agents also reported that they were getting fewer calls from potential buyers in major cities, and agents in California said the number of showings and offers had dropped off.
But the bottom line is this: The “housing market downturn” is unlikely to be like the meltdown of 2008, which was fueled by cheap credit, lax regulation, and rotten subprime mortgages. The realty boom of the past two years has occurred in a very tightly-regulated market and is really a case of demand outpacing available supply.
Similarly, the job market, with the monthly non-farm payrolls data having one of its biggest correlations with the oil market.
Fed Chair Jerome Powell said in the first quarter that the job market had strengthened “to an unhealthy level” and noted that there were about 1.8 jobs available for every unemployed person. If the ratio of openings to the unemployed evened out to something closer to 1 to 1, he said, “You would have less upward pressure on wages.”
For now, average hourly wages are rising at about a 5.5% annual pace, the sharpest pace in four decades. Economists estimate that if the gains slowed to 3% or 4%, it would reduce inflation by roughly 2 percentage points.
Like the housing market, labor market growth may have peaked.
U.S. jobless claims rose for a third week in a row last week, to their highest since March, suggesting that the months-long drop in the data may have reversed.
Oil: Weekly Settlements & WTI Technical Outlook
Oil prices rose for both Friday and the week, but gains were capped by the ability of bears in the market to offset some of the optimism brought by the bulls, despite fuel at U.S. pumps itself hitting record highs.
Two days of impressive gains that took the U.S. crude’s West Texas Intermediate grade to an eight-week high and briefly above its U.K. rival Brent for the first time since 2020 were offset by two days of equally surprising setbacks, capping weekly gains for both crude benchmarks.
At Friday's settlement, London-traded Brent for July delivery was up 87 cents, or 0.8%, to $112.91 a barrel. The global crude benchmark was up 1% on the week, hitting a seven-week high of $115.69 on Tuesday.
New York-traded West Texas Intermediate for July delivery was at $110.35 a barrel, up 46 cents, or 0.4% on the day.
Investing.com data showed the prior Friday's July WTI settlement at $110.49, giving the U.S. crude benchmark a nominal loss on the week, despite it scaling an 8-week high of $115.56 on Tuesday.
As WTI continues its firm momentum continuously supported by weekly middle Bollinger Band as well as 100 Day SMA, the week saw more bullish action retesting 115.50 before closing the week at 113.23, up $8 from the weekly low of 105.13 which indicates readiness to test 116.60 and 119.40.
“If bullish momentum gains enough buying support, WTI can extend its upside to $123.70,” said Sunil Kumar Dixit, chief technical strategist at skcharting.com.
“The upside is critically dependent on prices holding above the $108.50 level,” he added. “Breaching this support will push WTI down to $105, which is an invalidation point for the current uptrend.”
Gold: Weekly Market Activity & Technical Outlook
Gold prices rose 2% on the week to give longs in the game their first weekly win in five.
While they may have secured a break from their gloom which began in mid-April, bulls in bullion still appeared to be on a knife's edge given the dollar’s potential to reprise 20-year highs, analysts cautioned.
Typical with its contrasting fashion to gold, the Dollar Index, which pits the greenback against six other major currencies, posted its first weekly decline in six. At Friday’s level of 103.23, the index wasn’t too far from the week-ago peak of 105.06, which marked a high since 2000.
Another bugbear for gold are U.S. bond yields.
The yield on the benchmark U.S. 10-year Treasury note has moved down to 2.79% from May peaks of 3.2% on expectations that forthcoming Fed rate hikes in June and July will be capped at a half-percentage point each round, instead of the initially-speculated three-quarter point. Yet, with rate expectations often moving on a dime, yields could jump too.
“The second half of the week has been kind to gold as the trepidation in financial markets has shifted slightly from the pace of monetary tightening to recession risks,” said Craig Erlam, analyst at online trading platform OANDA. “So rather than higher yields and a stronger dollar weighing on the yellow metal, we've seen investors pouring into safe havens which have lowered yields slightly and lifted gold.”
Front-month gold futures for June on Comex settled at $1,845.10 per ounce, up $3.90, or 0.2%, on the day. Week-to-date though, June gold was up almost $34 or 1.9%.
It was a tumultuous week for futures of the yellow metal which plunged on Monday to $1,875, its lowest level since the Jan. 28 bottom of $1,779.70.
Erlam said it was tough to make a call on whether gold could extend its current rebound based on expectations that upcoming Fed hikes had been baked into the cake.
“Whether that will be sustained in this hiking environment will be interesting and ultimately depend on just how real and significant the economic fears are,” he said. “At the end of the day, rate hikes should lower demand but so should a recession. If the latter continues to be viewed as a likely outcome of the former, gold could see its fortunes improve further.”
Dixit said gold is likely to test in the week ahead the $1867 mark, which is the 38.2% Fibonacci level of swing high to $1998 and the low of $1,787.
“Gold needs to stay firm above $1858 for continuation of upside momentum as weakness below the level will cause corrections to $1,836-$1,825-$1,800 and the weakness can extend again to the $1,780-$1760 levels,” said Dixit, whose calls on gold are based on the spot price of bullion.
Adding to gold’s momentum was its oversold weekly stochastic reading of 20/19, the chartist said. “This calls for rebound,” he added. “However, the momentum will largely depend on the 10-year Treasury note’s yields remaining under 2.80% and dropping to between 2.60% and 2.40%.”
Disclaimer: Barani Krishnan does not hold positions in the commodities and securities he writes about.