Major stock indexes slipped on Tuesday as investors analyzed the latest moves in corporate earnings and Treasury yields. Continued strength in bond yields has weighed on sentiment recently, while a fairly solid start to third-quarter earnings season has provided some support.
The S&P 500 index fell 0.2% on the day, while the tech-heavy Nasdaq Composite dropped 0.4%. The Dow Jones Industrial Average also edged 0.2% lower.
The pullback in stocks comes after a bounce to begin October, with the S&P 500 still clinging to a 0.5% gain over the past week. However, trading ranges have tightened up recently. According to Bespoke Investment Group, the S&P 500’s intraday high has been confined to a band of less than 0.2% over the last five sessions.
Surging Bond Yields Sparking Equity Caution
A key focus for investors is the continued surge in Treasury yields, which has ramped up downward pressure on stock valuations. The 10-year Treasury yield topped 4.8% on Tuesday, hitting its highest level since October 6.
Analysts pointed to strong retail sales data as driving the latest upward push. The report showed consumer spending has remained surprisingly resilient despite high inflation and rapidly rising interest rates. This could give the Federal Reserve confidence to stick to its aggressive policy tightening campaign.
“It’s more the bond market driving the stock market at this point,” said Chris Zaccarelli, chief investment officer at Independent Advisor Alliance. “You’re seeing the trend that we’ve seen for the last two months reassert itself.”
As yields climb, bonds become more attractive relative to risky equities, especially pricier technology and growth stocks. The S&P 500 has seen a strong historical correlation between plunging Treasury prices and equity selloffs.
Earnings Reports Paint Mixed Picture
While higher yields have darkened the mood, a solid start to third-quarter earnings season has offered some reassuring signs for investors. Several major banks posted better-than-expected profits last week, including Bank of America and Goldman Sachs.
Johnson & Johnson also beat on both lines and raised its full-year forecast as pharmaceutical and medical device sales jumped. Meanwhile, Lockheed Martin topped earnings estimates but held its 2022 outlook steady despite the quarterly beat.
However, reports have not all been encouraging. Netflix lost subscribers again last quarter and expects further contraction ahead. The streaming giant blamed increased competition and password sharing crackdowns for the weak results.
Overall, analysts forecast S&P 500 earnings will come in roughly flat for the third quarter after declining the previous two quarters. But several firms including UBS predict profit growth will turn positive at around 3–4%, marking an end to the earnings recession.
China Tensions Hit Chipmakers
Technology stocks faced particular pressure on Tuesday after the U.S. announced plans to tighten restrictions on exporting advanced artificial intelligence chips to China. Nvidia plunged over 7% on the news, while AMD and Marvell dropped around 4% each.
The Commerce Department said the new rules aim to close loopholes that emerged since the initial limits on AI chip exports last year. The move underscores deteriorating relations between the superpowers and growing concerns over technology and security.
Geopolitical tensions have remained heightened recently amid Russia’s ongoing war in Ukraine and rising U.S.-China frictions over Taiwan. Strategists argue such issues have periodically rattled markets this year, but are unlikely to derail the economy or corporate earnings unless they trigger major oil or commodity supply shocks.
Defensive Sectors Outperform
With uncertainty sparking more volatility, investors have rotated into traditionally defensive sectors that hold up better during times of market turbulence.
Utilities and healthcare were among the top performing S&P 500 groups on Tuesday, while rate-sensitive real estate stocks also outperformed. Consumer staples stocks like Coca-Cola and Proctor & Gamble that sell recession-resistant goods also fared relatively well.
The energy sector continued its standout run amid oil prices holding above $85 per barrel and elevated natural gas costs due to the war in Ukraine. Chevron hit a record high after topping earnings estimates, while ExxonMobil rallied after unveiling a $50 billion share buyback program.
Meanwhile, discount retailers Dollar Tree and Dollar General gained ground following solid quarterly results and upbeat guidance. While consumers are seeing some impact from inflation, spending has so far proved surprisingly durable.
Hawkish Fed Remains Center Stage
Despite the recent rally, markets have fully priced in another 75 basis point rate hike at the November Federal Reserve meeting. The key focus now is how high the Fed will need to raise rates in total and how long officials will keep policy restrictive to tame inflation.
Fed Chair Jerome Powell may provide fresh insight into the central bank’s thinking during a speech on Thursday. For now, policymakers seem intent on avoiding a repeat of the 1970s inflation spiral even if it means sparking a recession.
Some Fed officials have argued rates may need to rise well above 4.5% from the current 3–3.25% target range to sufficiently curb price pressures. However, markets remain split on whether the Fed will need to reverse course and cut rates before 2024 due to economic weakness.
Cautious Outlook Going Forward
After a brutal first half of the year, stocks rallied over the summer as inflation cooled from 40-year highs. But tightening financial conditions, recession risks and geopolitical tensions mean markets will likely remain volatile through year-end.
UBS maintains a cautious view until yields stabilize at more comfortable levels, stock valuations become more attractive relative to bonds, and geopolitical issues potentially ease. JPMorgan also recommends staying underweight equities for now and adding gold exposure as a portfolio hedge.
Key indicators investors will keep monitoring closely include inflation data, consumer resilience, corporate earnings trends and Fed policy signals. While recent economic data has proved better than feared, the trajectory of rates, prices and growth promises to keep uncertainty elevated.
Focus on Long-Term Goals
For long-term investors, experts emphasize tuning out daily market gyrations and sticking to your financial plan. Maintaining proper diversification, rebalancing regularly and holding quality stocks through ups and downs can help buffer volatility.
Amid the uncertainty, reviewing your risk tolerance and time horizon is crucial. Younger investors with decades-long investment horizons often have leeway to ride out periodic downturns. But those nearing retirement may prefer more conservative positioning.
Working with a financial advisor can provide objectivity when markets turn rocky. Their guidance can help prevent emotional investing choices and keep your investment strategy on track no matter how stocks swing in the short run.
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