Stocks sold off last week on higher-than-expected inflation readings.
However, we continue to see many signs of a strong economic recovery and view near-term inflationary pressures as transitory. Economic growth and corporate profits are also surging and we view them as the primary drivers of future stock market performance. We continue to see the benefits of the successful vaccine rollout and fiscal stimulus, particularly the recent $1.9 trillion American Rescue Plan. Financials, Industrials, Energy, and Materials remain well positioned as major beneficiaries of this reflationary, strong economic growth.
Economic Readings Remain Very Strong
The NFIB Small Business Optimism Index rose for the third consecutive time in April to a five-month high. Seven of the 10 NFIB components
rose, led by a solid gain in the current earnings trend, reflecting the improvement in current demand as the economy reopens and government stimulus boosts spending. Inventory remains a concern with demand outstripping supply amid ongoing supply chain
issues. A record 44% of firms reported job openings, while a majority also think it’s a good time to expand with spending plans ramping up.
Corroborating improving business sentiment, the OECD U.S. Composite Leading Indicator rose to the highest level since September 2018, and above its long-term trend—consistent with an improving economic outlook.
Retail sales were flat in April, but on a year/year trend basis, retail sales surged an off-the-chart 28.9%, while discretionary retail sales were up an even bigger 37.2%. While this partly reflects a base effect from the collapse in sales during the lockdown last spring, it also shows strong consumer demand, which remains the underpinning of the current recovery.
Despite the April jobs report coming in weaker than expected, the vast majority of labor market indicators continue to point to strong demand for labor—indicative of a strengthening economy. The JOLTS report showed the number of job openings jumped 7.9% to a record 8.1 million. Most industries posted increases, led by food services and accommodation, state and local governments, and arts, entertainment, and recreation. The number of unemployed per job opening fell to 1.2, the lowest level in over a year, and a sign of tightening labor market conditions.
In addition, initial claims for unemployment insurance dropped 34,000 last week to 473,000, the lowest level since the start of the pandemic. The four-week trend also fell to its lowest level since March 2020, indicating fewer layoffs and a gradual improvement in labor market conditions.
High Inflation Readings Seen As Transitory
While the directional change in consumer prices in April was broadly expected, the magnitude of the increase was well above expectations. A confluence of goods shortages and bottlenecks related to COVID supply chain issues and a demand surge from the reopening of the economy drove the Consumer Price Index (CPI) to the biggest gain since June 2009, and well above expectations. We expect the outsized increase in consumer commodity and used vehicle prices to be temporary and to reverse as supply chain issues get resolved. In addition, alternative measures of inflation suggest that underlying pressures are still subdued.
Profits Are Stellar
More than 90% of S&P 500 firms have now reported first-quarter earnings and the results show earnings-per-share rose by 46% year/year, the fastest pace since the first quarter of 2010. Expectations were for earnings to grow 20% at the start of the season, but realized growth was outstanding at 46% with Consumer Discretionary (+187%) and Financials (+135%) posting the strongest results. We continue to see upward revisions to 2021 and 2022 full-year earnings estimates.
Market Leadership is Encouraging
We are also impressed by the market leadership coming from Financials, Industrials, Energy, and Materials, with all of them beneficiaries of reflationary economic growth. We continue to view these sectors favorably.
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