Weekly Recap

It was a very volatile week for the stock market. Expectations for Fed policy played a key role, but underlying it all is uncertainty about the economic outlook.

On Tuesday, after the Monday holiday, the S&P dropped 20 points. The optimism from the prior week quickly faded after Wal-Mart said that May same-store sales would be up only 2.3%. That temporarily undermined the fragile confidence that emerged late in the prior week that the economy was on a solid footing. Later that day, consumer confidence was reported to have dropped in May. Although the decline was less than economists had forecast, it underscored anxiety about the economy.

Wednesday the S&P rebounded 10 points. The market was up in the morning simply on a bounce from the prior day's plunge. The market held the gains even after the afternoon release of the FOMC minutes of the May 10 meeting. Those minutes indicated that the Fed policy committee members were uncertain about what the course of monetary policy was likely to be, but also showed a heightened concern about inflationary pressures and inflation expectations. The minutes had bearish implications for the stock market, but the market showed good resilience.

Thursday was another strong up day, with the S&P gaining 15 points. The driving factor was surprisingly good May same-store sales from retail chains. The earlier Wal-Mart release had led to expectations that other chains would also show soft demand. However, most stores posted good numbers. That suggests that consumer spending growth is holding up well.

Friday, the economic numbers turned economic views around again. May payrolls were reported up only 75,000. A gain of 170,000 had been expected. This modest gain followed a similarly disappointing 126,000 increase for April. At first, the stock market interpreted the data as bullish, in that it increases the probability that the Fed won't raise interest rates at the next policy meeting on June 29. As the day progressed, however, the negative implications from the standpoint of slower economic growth took hold and the S&P managed only a 2 point gain that day.

The collection of mixed economic releases this past week leaves the market highly uncertain about the economic outlook. Lowered expectations for economic growth (and thus earnings growth) were a key factor in the market's decline in May. Now, the market is sensitive to every economic release. There is significant underlying concern that the Fed may have raised rates too far and that the economy is going to hit a wall.

Expectations for Fed policy have changed a bit. After the employment data on Friday, the fed funds futures now price in only a 48% probability of a rate hike on June 29. That is down from about 70% prior to the data release. That is good news, but not much if it is due to weak economic conditions.

Other issues were in play this week as well. The situation with Iran was a focus, and was a factor as oil rose to $72 a barrel this week from $71 a barrel last week. In the good news department, the yield on the 10-year note dropped sharply after the employment release. It closed the week at 4.99%, down from 5.05% last week and 5.12% two weeks ago.

The market will continue to be highly sensitive to economic data. Weak economic data will trouble the market. The PPI data on June 13 and CPI data on June 14 could be very important. If the core rates are high, the Fed will be subject to additional pressure to raise rates. That would be the worst of all worlds for the stock market if economic trends are weakening.

The market ended the week with gains, but the outlook is highly uncertain. Economic forecasts are being lowered in the wake of the May employment data. The developing weakness may not be sufficient to restrain inflation for months. The risk of another Fed rate hike persists.

Until the market gets a clearer indication as to when the Fed will stop raising rates, and is confident that the economic outlook is not deteriorating significantly, the volatility will continue.

-- Briefing.com