Yesterday was a big day for the market. The market darling Nvidia reported blow-out financial results. Nvidia once again impressed investors, on both short-term faster-than-expected acceleration in revenues/margins and long-term astronomical prospects offered by AI. On the other hand, the Federal Reserve published the minutes of its latest meeting. The market digested both and concluded that FED might keep interest rates higher for longer.
There were voices from multiple policymakers questioning whether the policy is currently restrictive enough to get inflation to target and there was a willingness among various officials to tighten policy more if needed. Goldman Sachs CEO David Solomon aired the opinion that they don’t expect a rate cut from the FED this year.
The view at Morgan Stanley is slightly different. MS considers that there are sufficient signs of a slowing US economy which will keep the FED on track to cut interest rates this year. Recent data released has shown a softening labor market:
- The April nonfarm payroll rose by 175,000 which is the smallest increase in six months and below market expectations of 240,000.
- The unemployment rate rose to 3.9% versus analysts’ estimate of 3.8%.
- U.S. job openings fell in March to 8.49 million, the lowest level in three years, while the so-called quits rate fell to 2.1%, the lowest since 2020.
Surprisingly, there is a high complacency among investors. The VIX volatility index, also known as the fear gauge is at round 12, which is at a five-month low and well
below its long-term average of 19.6.
Investment ramifications
For now, the majority of private and institutional investors appear positioned only for a soft landing, in which inflation cools and the economy slows without a recession.
However, given the statement of GS and the opinions aired by some FED members, the odds of a soft landing are low while the chances have increased for both of two opposing scenarios: either a hard landing, with the economy going into recession, or no landing, with the economy continuing to grow. With markets maintaining that “bad news is good news” in the current uncertain environment, investors are advised to find a balance between growth and security.
Active stock picking across multiple sectors is key. We would consider companies with high-quality cash flows and achievable earnings targets. Such opportunities can be found in under-valued sectors such as Energy and Real Estate which have underperformed the average market recently. Investors seeking a more niche investment opportunity may consider master-limited partnerships (MLPs) and commodities and in particular cooper which is one of the key metals required to achieve the energy transition. Investors with a more risk-averse approach could consider adding investment-grade credit and a form of “insurance” via options on the VIX.