Whatever the ultimate diagnosis for the current state of the market, symptoms include “mild discomfort with intermittent fever and chills.” Indeed, in the broadest observable respects, the overall situation is healthy. The S&P 500 hit its 25th record high this year. The index has now gone 328 trading days without a 2% daily decline, the third-longest streak this century. And on the surface, there is a calm serenity that suggests the system is in a comfortable equilibrium and the market has achieved a kind of homeostasis. In four of the last five days last week, the S&P 500 moved less than 0.2%. The fifth day, Wednesday, caused most of this week’s 1.3% gain. The CBOE Volatility Index closed near the 12 level that defines a recent bottom not seen since the carefree moments before the corona crisis. .VIX 5Y Mountain CBOE Volatility Index, 5 Year This display of calm calm is, of course, not as uniformly stable as the above shows. This is where the heat and chill roughly cancel each other out, sometimes uncomfortably. Nvidia, GameStop Fever The overheated excitement over Nvidia, which I described at length here last week, is hard to escape or ignore. The $3 trillion market cap company is trading at historic daily dollar volumes, accounting for more than a third of the S&P 500’s gains in 2024. NVDA 1Y Mountain Nvidia, 1 Year On Thursday, Nvidia’s common stock trading volume was about $80 billion, well over 10 times that of comparably sized Apple and Microsoft. Perhaps this was peak heat, a record day for a 10-for-1 stock split that goes into effect on Monday? That’s more speculation than analytical assessment. And what to make of the sweaty efforts of the GameStop hordes that flooded the volatile retailer’s shares between $25 and $47 on Thursday and Friday? It rose on the promise that investor Keith Gill had broken his silence, then fell hard on the lack of any new or compelling theories on the stock. For now, the resurgence of GameStop fever seems less extreme. The rise has been more fleeting, the short selling has not been as significant, and the company itself is planning an additional 75 million shares in total after selling 45 million a few weeks ago, sweeping the market with newly issued shares that will total 40% dilution. Mountain of GME YTD, GameStop, YTD Without question, overall trading volume in marginal stocks below $1 has surged in recent weeks, and retail options trading continues to break records. But it has not become widespread or indiscriminate, and while overall investor inflows into the stock are increasing, they are still not keeping up with the amounts flowing into money market vehicles. Slowing down? A chilly mood hung over some of the cyclical markets, at least for much of last week. That’s because the continued decline in Treasury yields (the 10-year Treasury fell from 4.6% in mid-May to 4.28% last Thursday) has failed to extend gains or energize small caps, banks and consumer cyclicals. This reflects an increased sensitivity to signs that the economy is slowing more than investors and the Fed want or intend. While not putting too much weight on such “growth fear” impulses, a series of unexpected downsides in manufacturing indexes and home prices, as well as an imprecise downside reversal in oil and other commodities, have been positive and deflationary for bonds but not positive for stocks in general. Friday’s employment report combined a very strong May payroll figure of 272,000 jobs with a soft household survey that saw the unemployment rate rise to 4% from 3.9%. The outlook is strong enough to force the last bank economist who was expecting a July rate cut to retract that view, but not enough to dispel concerns that the labor market is heading for a worsening beyond rebalancing. The turmoil is showing up in a still-fragmented market, with major benchmarks hitting new highs and more stocks falling than rising. The S&P 500 is up nearly 2% from its closing peak at the end of the first quarter, which may have been the moment of maximum confidence that the economy would have a smooth soft landing. But the equal-weighted version is 3.4% off its March 28 peak. Bespoke Investment Group noted last week that the index hit a recent high and turned its 10-day total of gainers and losers negative. That’s the kind of thing that sounds a bit ominous, and arguably, a more comprehensive rise tends to be a better sign of forward-looking health than a narrow one. But in the past 17 times the index has hit a similarly narrow 52-week high, future returns several months into the future were slightly above average. Is the market too top-heavy? Currently, the three stocks make up 20% of the S&P 500’s market capitalization, making a mockery of the notion of diversification and dashing most active investors’ hopes of beating the bogey. Longtime financial researcher, professor, and investor Michael Mauboussin, now with Morgan Stanley Investment Management, has published an in-depth historical study of stock market concentration, reaching some interesting conclusions. One is that there have been similarly top-heavy markets in the past, but that didn’t necessarily mean they performed poorly afterwards. Note the early 1960s in this graph (data through the end of 2023). Other observations include that concentration tends to increase in bull markets and follows superior earnings growth. Mauboussin even finds evidence that in times when markets were less top-heavy, they may have been under-concentrated, or over-diversified, given the subsequent fundamental and stock price outperformance of later megacaps. Still, while there’s no one way for markets to behave “right,” a situation in which other groups pick up the slack probably best fits the current bull scenario: continued deflation, where the Fed could purposefully cut interest rates as the economy held strong and AI enthusiasm continued to fuel animal spirits. Citi strategist Scott Kronert captured the weekend’s backlash this way: “Overall, the S&P 500 continues to be exposed to structural growth opportunities from generative AI to compensate for mixed macroeconomic conditions. Meanwhile, flows have waned, and Levkovich noted, [Panic-Euphoria] The index remains in a state of euphoria, with consensus earnings flat while implied growth expectations are rising. The near-term outlook indicates some digestible risks, but our continuing constructive fundamental outlook remains unchanged. Either way, next week will see some important tiles on the market’s wheel of fortune turn. Apple’s developer event will see the company’s AI strategy detailed, and the stock is right at the top of its one-year range, having peaked twice before. Another CPI report will show whether the “inflation anchor” or “normalization” camp prevails. And the Fed meeting will see the release of its latest aggregate forecast for monetary policy as the central bank approaches a year of keeping interest rates on hold at estimated cycle highs. This is an acceptable stagnation for the market as long as the U.S. economy performs better than expected, corporate earnings recover, and promises of eventual rate cuts remain relevant for now, if not imminent.
