Post-FOMC & (half of) Big Tech earnings: What now?
Higher for longer is here to stay
Two important takeaways from yesterday’s FOMC meeting. The 25bps rate hike came entirely as expected, but Powell delivered a few key pieces of information that reversed markets almost immediately, closing slightly negative for the day:
(1) “Fed staff is no longer forecasting a recession”
(2) “the Fed won’t be cutting rates this year”
(3) “Inflation is expected to be at 2% target by 2025”
In other words: higher for longer is here to stay!
What does that mean?
In very simple terms: since core inflation is projected (by the Fed) to stay above 2% for the entire next year, and since the Fed no longer expects a recession, interest rates will stay high. Theoretically, this would be bad for equities, hence the immediate negative reaction.
But then, the pricing in started (plus earnings came in great, more on that below), and the markets now expect rates to stay at 5.25-5.5% until the end of the year (i.e. no more hikes), and the first cuts have been priced in for May 2024. A long way from expectations back in April this year that rates will start to go down by July.
The “Don’t fight the Fed” adage won. Again.
A little background on why this matters for investors.
Throughout this year markets have been expecting rate cuts from the Fed, either as a reaction to the the most anticipated recession ever, or - in the more bullish case - in the event of an even more eagerly anticipated soft landing scenario. Lower rates are seen as a catalyst for equity markets, so expectations of rate cuts have been welcomed by the bulls driving the markets.
To remind you, a soft landing scenario implies that inflation was to end up lower without triggering a recession, so the Fed was free to cut rates and we would have a proper re-ignition of the bull market. Inflation has indeed been going down strongly, but core inflation has been stickier and remains at over 4.5% (despite also being on a steady downward trajectory this year).
What we had throughout 2023 was a series of ‘flight to quality’ rallies (driven to a large extent by AI, targeted for the biggest tech firms) in addition to numerous short squeezes that pushed markets up (short sellers closing their shorts initiated in 2022). It was highly unexpected in January this year that we would see 30%+ on the NASDAQ and 20% on SPX year-to-date. And yet, we are on the verge of breaking all time highs.
As stated, the narrative driving this push was the anticipation of the “soft landing” scenario. Yesterday, the Fed has put a dent in that scenario. Personally, I expected no such indication until at least Jackson Hole by the end August. My longer-term macro overview has been betting on higher for longer for the entire year - and only anticipating a rate cut in case of a recession.
Our earnings predictions 🎯
Nevertheless, the day after the markets rallied. Why? Earnings. Specifically GOOGL (on Tue) and META (on Wed). Remember what I mentioned in the Tuesday post:
“Then, just after FOMC, which will move markets on its own, we get META earnings, which proved many times to be a catalyst for a rally or sell-off.
A negative close for the day on Wednesday, after Powell’s speech, could reverse by Thursday if META spectacularly beats earnings.”
Exactly what happened. Despite the gloomy macro overview, Big Tech earnings are once again driving market rallies.
I concluded the post with the following:
“If earnings of GOOGL and MSFT disappoint, then FOMC could add to the sell-off. If they beat estimates, and markets gap-up on Wednesday, it’s hard to see the FOMC reverse this, unless they turn really hawkish. And then there’s META - we still give an earnings beat a higher probability”
We were prepared for each scenario, but just like I said two weeks ago, META was the one stock we gave the highest probability of beating earnings expectations. It did beat, spectacularly and across the board, despite the high bar. NVDA was the second, MSFT the third. Interestingly, MSFT also beat earnings expectations, but because of slowing growth of its cloud business, it slipped almost 4% on Wednesday. However, given its great outlook, it is still a strong buy and hold type of stock. A similar thing happened to TSLA last week; an earnings beat overall, but investors worrying over Cybertruck and robotaxi deliveries, plus a decline in operating margins due to price cuts.
Therefore, the earnings reports of Big Tech thus far have been well within our expectations. The short squeeze continues. Even the macro narrative from the Fed did not put a dent into the tech-driven rally. Yet. Much in line with our predictions.
In conclusion:
Strategic (long term) macro positioning - still looking for a bearish catalyst for the next big leg down (moving it forward to Jackson Hole now, by the end of August - the setting seems ideal, we shall see).
Tactical (short term) positioning - ride the rallies. Squeeze the shorts.
Macro perspective: updating probabilities
Little has changed here. The Fed is on a clear higher for longer trajectory. If there is no recession this year, there will be no cuts, not until core inflation is back to 2%.
So the macro view stays the same, higher for longer. The probability of a recession is now much lower than before, although this does not imply that a bearish leg on the stock market is off the table. Quite the contrary. Yesterday’s brief post-FOMC reaction was indicative of the market expecting a catalyst for a down move. It was interrupted by good META earnings, but coming into September, investors are expected to be much more cautious. Yes, the rally continues - enjoy the wins, but hedging is as important as ever.
If you liked this, or if you disagree, feel free to drop a comment:
Just a reminder that these types of texts won’t remain free forever.
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