The markets continue to breathe a sigh of relief as trade war risks still appear to be contained and inflation readings came in below expectations. While large-caps and tech stocks led the way for the week as a whole, rallies from utilities and Treasuries during the latter half of it demonstrate that investors remain weary of getting too optimistic. However, the continued decline of both credit spreads and the VIX suggest that conditions have largely normalized.
We’re far from out of the woods economically speaking though. April U.S. retail sales were up a scant 0.1% month-over-month, indicating that a lot of consumers probably dialed back some of their spending in light of tariffs. March’s number, however, was revised higher, confirming that a lot of people did what they could to get ahead of tariffs before they were implemented. Consumer sentiment is still falling as the University of Michigan reading hit a three-year low. The reaction to tariffs (and the subsequent reversal to the tariff suspension) will likely continue to take some time to play out.
While the de-escalation of the global trade war has been a net positive for stocks, it hasn’t affected all stocks equally. Small-caps continue to lag here despite the obvious benefits that would come from avoiding higher import costs. At least in the short-term, this should be a bullish catalyst for small-caps, but the fact that we have yet to see this play out suggests that investors still see them as damaged goods. Small-caps do have a worse quality profile and high interest rates could be preventing a larger rally. If the Fed is able (or willing) to lower rates later this year and recession could be avoided, that might be enough to trigger a rally in the more speculative end of the U.S. equity market.
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