What is next for markets?

Now that the Fed has come and gone, what is next for markets?

Now that the dust has settled on the FOMC meeting, the market is continuing to remain bullish on US interest rate cuts for the coming months. The market is still fully priced for a September rate cut, there is a 72% chance of an October rate cut, a 97% chance of a rate cut in December and a 77% chance of a rate cut in January. By the end of January, the US interest rate is expected to be 4.42%.

The Federal Reserve almost gave the green light to a September rate cut, however, in the longer term, the FOMC still remains data dependent. The FOMC statement from Wednesday said that future interest rate decisions would depend on labour market data, inflation pressures and inflation expectations along with financial and international developments.

The Fed switches its focus to the labour market

There are signs that the FOMC are focusing more on the labour market rather than inflation. In its statement, the FOMC said that ‘The economic outlook is uncertain, and the Committee remains attentive to risks on both sides of its dual mandate.’ Previously the statement included the line ‘The Committee remains highly attentive to inflation risks.’ The shift towards favouring the labour market data is a sign that the 0.4% increase in the unemployment rate so far this year is making an impact on the FOMC.

Treasury market and dollar react to FOMC

The stock market reaction to the FOMC meeting was not clear cut due to the large rally in the tech sector, which had nothing to do with the Fed. Instead, it is clearer cut to see the impact of the Fed decision on the Treasury market and the dollar. The 2-year Treasury yield, which is sensitive to interest rate expectations, fell sharply after the Fed meeting and was lower by 13 basis points in a sign that the FOMC meeting added confidence to the market’s call that rates will be cut at all meetings through to January 2025. The 10-year yield fell by a similar amount.

The dollar was lower on a broad basis on Wednesday, however, its clawing back losses on Thursday. The dollar has been one of the weaker performers in the G10 FX space this week, however, the pound has been the weakest performer. If the BOE do not hike interest rates later today than that could see a spike higher in the pound, and the USD may come under further downward pressure.

Meta results fuel AI trade, for now

Market sentiment was dominated by US tech results on Wednesday. Meta’s results were better than expected. Growth surged, with revenues coming in at $39.07bn, vs. $38.33bn expected. Added to this, net income was $13.46bn, better than the $12.81bn expected. This surge in growth was fueled by a 22% increase YoY in advertising revenue. Reality labs, one of Meta’s biggest AI investments, saw revenues grow by 28% YoY. The company upgraded their capex figures, and they also gave strong forward guidance, with Q3 revenues expected to be in the range of $38.5bn to $41bn. Meta’s share price has surged on these earnings, and the share price is higher by 7% in the pre-market. This suggests that investors are willing to overlook increased capital expenditure, as long as revenue growth remains strong. Thus, Meta has bought the AI theme some time.

Tech rally: not all stocks are created equal

It is worth noting that AI-related stocks are not all moving together. The hardware makers are the main beneficiaries. Nvidia’s stock surged 12% on Wednesday due to a double whammy of good news for the main AI chip marker: news that the US could ease restrictions on semiconductor exports and secondly, news that Microsoft’s capex was increasing, which would directly impact Nvidia’s revenue base since Microsoft is a huge customer of Nvidia’s. While Meta is developing its own chips, it will also likely buy chips from Nvidia and other semiconductor companies in the coming months and years. Thus, increasing capex spend by the Magnificent 7 is also good news for Nvidia and other chip makers like AMD.

AI investments take time to pay off

In contrast, the companies that are trying to embed AI within their products and sell these AI-products to consumers are doing less well than Nvidia. Nvidia’s share price is higher by 137% YTD, while Microsoft’s share price is higher by 11% YTD and Meta’s share price is up by 35% YTD. Microsoft is the notable laggard, suggesting that the market is unimpressed by how quickly Microsoft can transform AI capex spend into revenue growth.

Barclays: strong growth and cost reduction is rewarded

We have already flagged our expectations for today’s BOE meeting, and we will be following it live later today. Ahead of the BOE meeting, the focus for UK stocks has been on earnings reports. Barclays and Shell were the main companies to report this morning. Barclays reported revenue that was in line with expectations, rising £6.3bn, pretax income beat estimates at £1.9bn vs. expectations of £1.7bn last quarter. The bank boosted its share buyback program by £750mn, and it said that it was on track to cut costs by £1bn this year. Revenue was driven by investment banking, equity trading and advisory income, fees rose by a whopping 44% in Q2 compared to a year ago.Net interest income expectations for this year were also revised higher to £11bn from £10.7bn. However, fixed income trading was a weak spot over the quarter. The bank continues to see growth potential in the UK’s consumer bank. Overall, these are solid results, as we have said before, a healthy banking system is a positive sign for an economy, and Barclays is a good reflection on the state of the UK and the global economy. The share price is higher by 1%.

Shell sees big boost from oil production

Shell also posted results that beat estimates. Revenue was higher than expected for the last quarter at $6.29bn, boosted by a strong crude oil market, which cancelled out weakness in gas trading. The company boosted its cash generation and reduced net debt. The company also announced a new $3.5bn share buyback. Shell’s share price was higher by 1.5% on Thursday morning.  

Overall, these results from the UK show that the dinosaurs aren’t dead yet, even if tech stocks and AI darlings are roaring back to life.