The stock market took on a very different character in July than it had during the second quarter. While the Dow Jones and S&P 500 indices appeared relatively calm, dramatic movements unfolded under the surface. Many large technology companies, particularly those most exposed to artificial intelligence, sold off sharply. The tech-heavy Nasdaq declined more than 10% from its peak during the month. Meanwhile, the rest of the market picked up the slack. The equally-weighted version of the S&P 500 – in which each company carries the same weight, regardless of size – made new highs. Many long-time laggards such as Energy, Financials, and defensive sectors rallied during the month. It is said that rotation is the lifeblood of a bull market. Periodic changes in sector leadership keep participation broad and prevent lasting excesses in any one area of the market. While it can feel unsettling in real time, our indicators suggest that the recent rotation is a healthy one for the durability of the market’s advance.
As for AI and Technology stocks, we see the selloff as a mid-cycle pause, not the beginning of the end. The global labor shortage driving the need for greater productivity and AI investment is a multi-year tailwind. And earnings reports so far this quarter have largely confirmed that the fundamentals for the industry are still intact. Additionally, there has been forced selling in the sector. South Korea’s stock market - which is dominated by AI-centric companies – declined 40% during the month causing millions of leveraged investors to liquidate their accounts. In the last week of July a US-based leveraged AI-focused hedge fund was forced to liquidate its holdings amid the declines as well. Such forced selling has historically occurred near important lows. Once the indiscriminate selling is over, positive long-term fundamentals can reassert themselves and drive these stocks higher.
Federal Reserve policy has been in the spotlight this month as well. Kevin Warsh’s communication style differs from what markets had grown accustomed to under Jerome Powell. That transition alone produces uncertainty and investor skittishness; we have written that the market has often declined soon after a new Fed chairman is appointed due to this dynamic. Current market pricing implies a 2 out of 3 probability for an interest rate increase in September, with the potential for one more rate increase before the end of the year. We don’t have particular insight into what Warsh will decide, but we point out that shifts in these expectations, which have changed dramatically from the start of the year, can continue to create volatility for stocks.
Fortunately, the fundamental backdrop for both the economy and corporate America remains exceptionally strong. Weekly jobless claims continue to rival their all-time low levels from the late 1960s when the population was 60% smaller. Just over half of the S&P 500 companies have reported earnings this quarter, and 88% of them have exceeded analysts' expectations according to Factset. Data from Evercore suggests that this quarter’s corporate earnings growth will land at 36.1% above the same period last year. That is an astonishing figure by historical standards. Despite day-to-day news and market swings, the underlying businesses that drive the market continue to perform extremely well.
This is being provided solely for informational and illustrative purposes, is not an offer to sell or a solicitation of an offer to buy any securities. The factual information given herein is taken from sources that we believe to be reliable but is not guaranteed as to accuracy or completeness. Opinions expressed are subject to change without notice and do not take into account the particular investment objectives, financial situation or needs of individual investors. Employees of Janney Montgomery Scott LLC or its affiliates may, at times, release written or oral commentary, technical analysis or trading strategies that differ from the opinions expressed here.
