Be Ready, Powell And The Fed May Cause Some Pain

Until August 26, the stock market had spent the month muddling. Just like most Augusts, Wall Street had gone on vacation. A long Labor Day weekend was coming. Not much to worry about, except Jay Powell's remarks at the Jackson Hole confab on August 26.

In the half-hour, 1301-word speech, the Federal Reserve chairman told Wall Street, investors, and anyone else listening that killing, crushing, or otherwise grinding down US inflation was going to be the Fed's Job One from now on until the job was done

Investors took Powell at his word when he said:

"We must keep at it until the job is done."

The task is a challenge. US inflation was up 8.5% in July.

So, investors sold heavily that Friday with the Dow Jones Industrial Average plunging 1,008 points. They sold again on Monday, Tuesday, and Wednesday, the last trading day of the month.

The selling turned August's stock-market performance from a modestly positive month as of August 25 into a loser. The S&P 500 Index dropped 4.2%. The Dow finished off 4.1%, and the Nasdaq Composite slid 4.6%.

It was the fifth monthly decline of the year out of eight. The S&P 500, down 17% year to date (ytd), appears headed toward its worst year since 2008 and the third-worst year since 2000.

What Powell said and the investor reaction to his speech sets September up to be a very volatile month that could easily spill into October.

The risks of the early fall/h2

September will open with specific and very important economic reports:

• The ISM Manufacturing Index report for August today.
• The Labor Department's August jobs report on Friday.
• The monthly Consumer Price Index report on September 13.
• The September Fed meeting, where the central bank is expected to raise US interest rates for the fifth time this year. The question is if the Federal Open Market Committee will raise its key rate by three-quarters of a point or a half percentage point. The betting is another 0.75% bringing the key rate to at least 3%.

As important are the global and domestic external conditions:

• The 2022 midterm elections for control of Congress and the implications for 2024.
• The Ukraine-Russia War and its impact on global food markets and distribution.
• The related energy crisis throughout Europe, which gets most of its oil and, especially, natural gas from Russia.

History, too, is an issue: Since 1950, September has been the weakest month of the year for US stocks, according to the Stock Trader's Almanac.

Once you get past those issues, there's the longer-run question: How high will rates go and what does that mean for investors, consumers, workers, and the economy?

In his speech, Powell wouldn't say. He did concede that pushing rates significantly higher would be painful. In more practical terms, it means stress on stocks, bonds, home values, and, yes, jobs.

That's what happened to start in 1979 when then-Fed Chairman Paul Volcker started a campaign that took short-term rates up to 20%. Anyone who needed to borrow money regularly to run a business was affected. Farmers hated him, auto dealers hated him, real-estate developers hated him, and home buyers hated him.

Volcker's policy didn't moderate until the summer of 1982 when he decided inflation had been tamed, and the US economy was ready to recover.

Powell sees the United States in the same situation today. A question is whether the bull market after the S&P started to move up from its mid-June bottom. The index had plunged 23.6% between January 3 and its June 16 bottom. Then, the index rebounded 17.1% by August 16. But the optimism was misplaced.

The index, along with the Dow and the Nasdaq, had all seen their relative strength indexes—which measures market momentum—top 70, a level suggesting they had all become overbought.

The market started to pull back the next day, in part because so many traders (and their computers) were so focused on the Powell speech. In fact, since August 16, the major indexes had just two up days before the Fed boss started to talk.

And none of the 11 S&P sectors were higher after Powell spoke, and the tone of the market overall since then has been negative.

On Wednesday, Barchart.com reported there were just 20 stocks hitting new 52-week highs and 325 stocks hitting 52-week lows. Indeed, the ratio of new highs to new lows by Barchart's measure has been negative this year except for short periods.

By contrast, after the market bottom in 2020, the ratio was solidly positive for roughly 18 months.

Powell punches out the stock market/h2

Powell's speech and investors' willingness to take him at his word just made a mess of August.

Only two of the S&P 500's 11 sectors showed gains—energy and utilities. Five of the top 10 S&P stocks in August were utilities or energy companies. Tops was Constellation Energy (NASDAQ:CEG), up 23% for the month. It's an East Coast company that operates power generation and transmission services.

The weakest sectors were technology, healthcare and consumer discretionary stocks. Visibly hurt were high-flying semiconductor stocks, especially NVIDIA (NASDAQ:NVDA), off 16.9% because of weakness in sales.

Only four stocks in the Dow showed gains for August: Walt Disney (NYSE:DIS), up 5.6%; Travelers (NYSE:TRV), up 1.9%; Boeing (NYSE:BA), up 0.6%; and Walmart, up 0.4%. The biggest decliner for the month: Salesforce.com (NYSE:CRM), down 15.2.

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Disclaimer: The author does not own any of the securities mentioned in this article.

Written By: Charley Blaine