Week Ahead: Volatility To Escalate On Data, Fedspeak Ahead Of Payrolls Release

 | Jun 27, 2021 08:02AM ET

  • Stocks advanced, rotating on changing perceptions, which can flip again
  • Friday's Nonfarm Payrolls release could determine next market direction

    • Volatility plunged last week, though that may not be the case in the upcoming week as markets await Friday's key, June Nonfarm Payrolls report. As well, investors increased demand for value stocks while dumping Treasuries, thereby boosting yields.

    h2 Reflation Trade Redux?/h2

    After recently losing momentum, equities tied to the recovery are back in fashion. A week ago we made the case that growth shares have dominated markets this year, despite the continuous chatter about the Reflation Trade. In last weekend's post, we demonstrated over every time frame during 2021 that there has been no cyclical rotation—proving that it ended in 2020.

    However, the Fed moving ahead its timeline for interest rate hikes sent the market into a frenzy. Volatility accelerated, and now that the dust has settled, we find the balance between growth and value has shifted.

    The newest market narrative is saying the Reflation Trade was dominant this year. To be fair, it’s difficult to make one calculation and accordingly reach firm conclusions, considering the various value sectors and numerous drivers they have. Growth has indeed outperformed value up to this point, but cyclical stocks have begun to rotate again.

    On Friday, Financials added 1.2% of value. Lenders by definition would benefit from higher interest rates. Bolstering the case for a pivot back to the Reflation Trade, Technology stocks were the ones in the red, slipping 0.1%. Communication Services shares were little changed, up 0.1%.

    For the week, the Tech and Communication Services sectors rose 2.2% and 3.3% respectively. That's half of the acceleration seen by of Financial and Energy shares which advance, +4.8% and 5.6% respectively on a weekly basis.

    Of course, the Energy sector is influenced by a variety of catalysts, such as anticipated summer travel after lockdowns, the path to green energy and negotiations with Iran. Still, overall, Energy’s fate is generally tied to economic activity, which is only amplified after an economic shutdown.

    Materials stocks were also playing according to their own tune last week, after having shot up to new records. Traders cashed out of the sector, pushing prices lower by 5.2% in the past month. Still, that should not be taken as an indication that the Reflation Trade is losing steam—on a YTD basis, Materials shares still outperformed Tech stocks.

    Continuing the comparison of sector performance this year: on a three-month timeframe, value and growth were about equal, with Financials gaining 9.1%, Energy climbing 12.5%, while Technology added 12.25% and Communication Services put on another 10.3%. On this time horizon there's a kind of symmetry on the market balance between growth and value, about halfway into 2021, which finally brings us to the year-to-date view—which is where we see the sharpest reversal in fortunes since just last year.

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    While returns on Technology stocks on a YTD basis were +11.7%, all the classic value sectors bested that figure: Materials rose 13.5%, Industrials added 15.6%, Financials rallied by 25.25% and, finally, Energy shares racked up a whopping 46%. Even considering Communication’s Services’ 19.5% YTD gain, that's still lower than Financials and less than half of Energy’s returns.

    After such a dramatic change in just a week, it's worth asking, what's the cause? Bloomberg provides the market narrative answer:

    “At least for now, there’s a perception that officials won’t rush to boost interest rates despite mounting inflation pressures.”

    Maybe. But the thing about such statements is, market chatter keeps shifting. So much so that investors have come up with opposite explanations for the same phenomena, even when nothing actually changed.

    As best as we can tell, it’s a combination of markets moving as a herd, as traders convince each other of the latest narrative. Hopefully underneath all that noise is the core, smart money, which most of the time knows what it's doing. We’re just trying to identify that amid all the fallout.

    Along with last week’s jump in stocks, investors sold off Treasuries, driving yields, including for the 10-year benchmark note, higher. But, we’re not impressed.