Despite volatility early in the week, stocks reached new highs again last week. Investor concern centers around the delta variant as rising cases have led some economies to re-impose restrictions.

While cases are on the rise, fatalities have remained low and are unlikely to reach anywhere near levels seen last winter. Although the pace of inoculations has slowed, the most vulnerable to the virus are now the most protected.

Those aged 65 and above represent about 80% of COVID-19 fatalities, but importantly 80% of this age group is now fully vaccinated. The 50-64 age group represents the next highest fatality rate with 15% of total COVID- 19 fatalities (all other groups combined represent about 6% of fatalities) and 67% of this group is fully vaccinated. In addition, vaccines have proven effective at preventing severe illness from variants of the coronavirus. This should allow hospitalization rates and fatalities to remain lower than their pandemic heights.

Consequently, while the delta variant will likely continue to be a concern for public health officials and investors, we do not believe it will reverse the economic reopening in developed economies where vaccination rates are high.

While the S&P 500 index stands at a record high, cyclical industries that are reopening beneficiaries have lagged. Airlines (19% below 52-week high), Hotels (11% below), and Energy (12% below recent highs) have all lagged recently on increasing virus concerns. We think these industries remain well positioned as we expect economic improvement to continue. We remain encouraged by the incoming economic data and stellar start to earnings season that provides important support for stocks.

Incoming Economic Readings Remain Healthy

Last week showed the Conference Board’s Leading Economic Index (LEI) increased for the 14th consecutive month in June. Eight of its 10 components increased, led by fewer initial jobless claims and stronger manufacturing new orders. On a six-month basis, the LEI increased 5.0%, the most since January 2010 (excluding the pandemic), while the diffusion index eased to 75% from as high as 90% at the end of last year, but continues to reflect broad-based participation from LEI components. These indicators remain consistent with above-trend economic growth.

In addition, the preliminary July business surveys also remained in healthy territory. The Flash Manufacturing PMI climbed to another record high, and above the consensus estimate. It was driven by faster growth in production and new orders. Export order growth also accelerated while employment expanded at the quickest pace in three months. Even so, operating capacity remained an issue, as backlogs accumulated at the second fastest rate on record. Delivery lead times lengthened to a near record, as firms struggled to replenish their inventories amid ongoing supply-chain issues. Price pressures posted record highs, reflecting material and other input shortages, as well as stronger client demand.

The Flash Services PMI was lower than expected, continuing its normalization from the spring’s reopening surge. However, it remains very high relative to historical levels. Firms broadly ascribed the loss of growth momentum to labor shortages and difficulty restocking their inventories.

While the second quarter most likely represents a peaking in the economic growth rate, these preliminary surveys suggest the third quarter is still looking encouragingly strong. We are also seeing early indications that inflationary pressures are peaking and should recede in the coming months. This is consistent with the Federal Reserve’s transitory inflation narrative that could allow them to remain accommodative with monetary policy.

Earnings Season off to a Stellar Start

Results are now in for about 25% of the S&P 500's market capitalization and earnings are beating estimates by a substantial 18.3% (Financials 28.2%, rest of market 11.7%), with 86% of companies topping projections. Second-quarter expectations now call for revenues and earnings growth of 21.1% and 71.5%, respectively. This is a significant increase in earnings growth since the start of the season.

This is the busiest week of the second-quarter earnings season with results from 169 companies representing over 48% of the S&P 500’s market capitalization, including the largest five stocks.


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