Fed Funds, Sector Currency Exposure, Big Non-Energy Winners

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Fed Funds, Sector Currency Exposure, Big Non-Energy Winners

Four “Data” topics today:

Topic #1: Ahead of tomorrow’s Beige Book report, a brief update on what Fed Funds Futures are predicting for US monetary policy at upcoming FOMC meetings:

  • The probability of a 50 basis point hike at the May 4th meeting stands at 93 percent. The remaining odds (7 pct) are for just 25 basis points.
  • The recent chatter about the FOMC moving by 75 basis points is, however, starting to have an impact on the Fed Funds contract for the June 15th meeting. Odds of a 75 basis point bump are up to 41 percent, a fresh high. Odds for a 50 bp hike stand at 55 percent.
  • By the end of 2022, Futures are now putting the highest probability of Fed Funds at either 2.50 – 2.75 percent (39 pct odds) or 2.75 – 3.00 percent (37 pct odds). The latter, higher outcome is gaining steam; the odds a week ago were only 19 percent.

Takeaway: the market continues to reassess its expectations for future Fed policy, lifting the odds of more aggressive action to new highs on an almost daily basis. Look at 2-year Treasury yields today, and you’ll see the same thing. These broke out to fresh highs, at 2.60 percent. Can US equities stage a sustainable rally until other markets (Futures, bonds) fully reflect the most likely path of monetary policy? Our view is “no”. The good news is that we seem to be getting closer by the day.

Topic #2: How many non-Energy S&P 500 stocks are up more than 30 percent year-to-date? The answer is eight. Yes – just 8 big winners YTD outside of Energy, which has 16 names up over 30 percent. Here they are:

  • Mosaic (MOS, Fertilizer): +98 percent YTD
  • Constellation Energy (CEG, Clean Energy Utility): +58 pct YTD
  • CF Industries (CF, Fertilizer): +51 pct YTD
  • Nucor (NUE, Steel): +51 pct YTD
  • Archer Daniels (ADM, Food Processing): +42 pct YTD
  • Newmont (NEM, gold mining): +34 pct YTD
  • Nielsen Holdings (NLSN, Media Analytics, Takeover Bid): +32 pct YTD
  • Mckesson (MCK, Health Care IT): +31 pct YTD

Takeaway (1): Value stocks can be big winners, even with low valuations. Several names here trade for less than 10x forward earnings (MOS: 7x, CF: 6x, NUE: 8x). The most expensive name is Constellation, at 30x. The rest range in between those extremes (ADM: 18x, NEM: 26x, MCK: 14x). Nielsen, the one takeout on this list, trades for 26x.

Takeaway (2): the largest non-Energy winners in the S&P 500 year to date are tiny parts of the index, not leadership names that can make a difference to index performance. Newmont is the largest stock by market cap, and its weighting is just 0.18 percent of the S&P. Archer Daniels is the second largest, but still with only a 0.14 pct weight. Not even owning the even-weight S&P (the RSP ETF) gets you much more exposure since every stock has a 0.2 pct weight.

Takeaway (3): for readers with a momentum bent to their trading or investing styles, this list is a good place to start looking for fresh ideas. They are working, many are still cheap, and it is easy to see how their stories fit into the current market narrative.

Topic #3: We’ve been discussing the remarkable strength of the US dollar a lot recently, but what effect might this trend have on corporate profits? This chart, courtesy of FactSet (link below), shows the percentage of non-US revenues by S&P 500 sector. As a whole, the companies in the index derive 41 percent of their revenues from outside the US. While there are certainly differences in profitability by country, we assume that on average international revenues carry the same operating margins as those from domestic markets.

Takeaway: while the percent of non-dollar revenues is not the only factor in S&P sector YTD performance, the wide span shown by the chart is still instructive. Utilities, a top performer this year, has essentially no currency translation risk. Technology, a laggard, has the greatest currency exposure of any S&P group. Consumer Staples has about average currency risk, but benefits from stable demand. For clients interested in defensive large cap sectors, we continue to like Health Care, Staples and Utilities (in that order).

Topic #4: US office occupancy trends stumbled last week, likely due to spring vacation season on the East and West coasts. The data here is courtesy of Kastle Systems, a nationwide provider of office security hardware and software (link below).

We look at this data every week for 2 reasons. First, higher levels of office occupancy should help urban employment. This has lagged the general US labor market recovery and return to office trends should help marginal employment. Second, employees’ ability to negotiate hybrid or entirely remote work is a measure of their relative power over employers. We know US wages have been growing quickly because employees can negotiate better pay. Office occupancy trends are another real-time measure of the employer-employee dynamic.

Takeaway: that spring vacations can cause a reduction in US office occupancy tells us that there’s not much marginal return to office activity at present. Prepandemic US occupancy was +95 percent; we’re still less than halfway back to those levels more than 2 years after shutdowns. This tells us that employees still have considerable power over employers in terms of where they work and, presumably, a still-strong position to ask for pay increases. A week ago, we were a bit more optimistic that the worker-employer balance was finally starting to find an equilibrium, but this week’s data clearly shows employees remain solidly in the driver’s seat.

Sources:

FactSet International Revenues (p 26): https://advantage.factset.com/hubfs/Website/Resources%20Section/Research%20Desk/Earnings%20Insight/EarningsInsight_041422A.pdf

Kastle Systems Back to Work Barometer: https://www.kastle.com/safety-wellness/getting-america-back-to-work/

CME Fed Watch: https://www.cmegroup.com/trading/interest-rates/countdown-to-fomc.html