Stocks had another strong week with the S&P 500 and Nasdaq Composite indexes making new all-time highs.

Key Takeaways

  • Stocks had another strong week with the S&P 500 and Nasdaq Composite indexes making new all-time highs.

Stock prices are ultimately a reflection of future profits, which are driven by economic growth. For this reason, we study the incoming economic data for confirming signals on the direction of the economy and profits. Encouragingly, the incoming economic data continues to confirm the positive signal from stocks since the late March market low (the February-March selloff itself was signaling the pandemic-induced economic contraction).

Housing remains a major bright spot for the economy. Housing is a major cyclical component of the U.S. economy. When it is performing well, there’s a high probability that the overall economy is performing well. Housing has a positive “multiplier effect” on the economy; typically there are positive spillover effects to other parts of the economy when housings improving–importantly including job creation.

Last week saw further confirmation of housings strength with pending home sales climbing 5.9% in July, its third gain in a row. Sales were up 15.5% on a year-over-year (y/y) basis, the most since April 2012. All four regions posted double-digit y/y gains. The surge reflects pent-up housing demand (that’s been created ever since 2008’s financial crisis and magnified by the pandemic lockdown) and record low mortgage rates.

State indicators also confirming economic improvement. The Philly Fed State Coincident Indexes for July increased in 37 states, decreased in 11, and were stable in two. Historically, this has been a good indicator for the direction of the overall U.S. economy–the more states that are indicating economic growth, the higher the probability that the overall economy is experiencing sustainable growth. This indicator has shown significant improvement in recent months and is consistent with a new economic expansion.

Durable goods orders consistent with economic recovery. Durable goods orders rose 11.2% in July, up for the third straight month, and more than double the consensus of 5.0%. While the increase was led by the volatile transportation sector (mostly vehicles and defense aircraft), we remain encouraged by this and other positive manufacturing indicators which are showing a strong recovery.

International readings are consistent with economic recovery. China is the second-largest economy in the world and the direction of its economy typically leads the direction of the global economy by several months. For these reasons, we follow Chinese economic developments closely. Similar to the U.S. and Europe, China’s government has provided significant stimulus to its economy–and we remain encouraged by China’s economic data.

China’s just released business surveys continue to suggest improving economic conditions while last week’s releases showed industrial profits up almost 20% year/year and rail freight activity at a new all-time high.

The positive U.S. and global economic readings suggest that a new synchronized and sustainable global expansion is underway that should ultimately support corporate profit growth in the coming years. We view these positive economic readings as confirmation of the positive signal that stocks have been sending since the March low (and announcements at the time of massive fiscal and monetary support from major countries including the U.S., Europe, China, and Japan).

We expect economic and profit growth to further support stocks in the coming quarters. We continue to favor cyclical exposure (including Technology, Industrials, Materials, and Consumer Discretionary sectors) that benefits from improving economic growth.

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