Key Takeaways

December on pace to open with major indexes near recent highs as soft landing hopes grow

Dollar and 10-year yields remain possible drivers for December, with Fed seen remaining on pause

OpenAI storm raged in late November and keeps chips, AI in focus as year comes to close

A lot can change in just a month, investors learned in November.

Many of the concerns haunting Wall Street as November began—including 16-year highs in Treasury yields, advancing crude oil prices, and a potential U.S. government shutdown—retreated as the days grew shorter. December begins with more optimism as stocks appear on track to break their three-month losing streak, but geopolitical and other risks won’t necessarily take a December holiday.

The month ahead brings the usual mix of critical economic data, a Federal Open Market Committee (FOMC) meeting, and a handful of earnings. It also begins with major U.S. stock indexes, other than small caps, at or near their 2023 highs following bullish October inflation readings that suggest further rate cuts could be off the table even with unemployment near historic lows.

“Hopes for a soft landing have helped risk assets,” said Collin Martin, a director of fixed income strategy at the Schwab Center for Financial Research.

Major indexes recently made their steepest gains in three years, bringing the tech-heavy Nasdaq-100® (NDX) to 22-month highs and even lifting the moribund small-cap Russell 2000® (RUT). This raises questions about how much traction remains for a so-called “Santa Claus” rally.

One metric that could determine whether Santa visits is the benchmark 10-year Treasury note (TNX) yield. It’s been at the wheel most of the year and recently fell 60 basis points from its 16-year October peak near 5%. Though past isn’t precedent, stocks remain yield-sensitive, generally taking their cues from the bond market. And bonds take their cues partly from results of government debt auctions, a market driver in November and likely to remain so in coming weeks.

A poorly received 30-year Treasury note auction in mid-November sent yields higher and stocks lower. Results from a 20-year Treasury note auction on November 20 received a better reception from investors, though the 20-year isn’t generally thought of as a popular security because it doesn’t easily fit into many portfolios.

Treasury auctions may seem like a dry topic for the holiday season, but they could remain influential in December and beyond. That’s partly because the government has so much debt to fund, keeping the supply picture heavy and potentially supporting yields.

Fed focus evolves

However, as important as they are, Treasury auctions are less likely to command the type of attention the FOMC does. There’s another Federal Reserve meeting ahead December 12–13, but the mood is arguably more festive than when investors approached these gatherings in 2022 and most of 2023.

There are already signs of a sea change in perception since investors absorbed a bullish batch of jobs and inflation data in November. Generally, Wall Street has pivoted from dreading the next rate hike to anticipating the first rate cut, and the table of economic and rate projections shared after December’s meeting will likely receive heavy scrutiny. Futures trading builds in nearly zero likelihood of a rate increase in December or January.

Stocks and Treasury yields—forward-looking by nature—spent much of November building in hopes for rate cuts next year, with the market now projecting the fed funds rate to finish 2024 at 4.38%, compared with the current target range of 5.25% to 5.5% and the Fed’s projection of 5.1%.

That said, Fed speakers have recently advised patience, and even suggested another rate increase isn’t off the table. “I think it’s important for us to be patient and recognize that we’re far from declaring victory,” Boston Fed President Susan Collins told CNBC in an interview in mid-November, referring to the Fed’s long fight against inflation.

“The Fed is in pause mode,” said Cooper Howard, a fixed income strategist at the Schwab Center for Financial Research. “The October Consumer Price Index (CPI) and Producer Price Index (PPI) reports showed signs that inflation is cooling more than expected even though it’s still elevated. The jobs market is also showing signs that it’s loosening, which likely confirms that the Fed doesn’t need to hike rates again this cycle.”

Less chance of rate hikes helped the U.S. Dollar Index ($DXY) descend in November to nearly three-month lows, another potential tailwind for equities.

“The dollar has declined on the prospects for easier Fed policy ahead,” said Kathy Jones, chief fixed income strategist at Schwab. “However, a significant move lower will require the Fed to actually signal an easing and stronger growth abroad. In the meantime, a trading range is likely to persist.”

Overseas weather turns partly cloudy

With rate hikes likely out of the picture, focus might turn toward earnings and geopolitics. Both remain front and center as December begins. Unlike the last few months, we don’t have to dread a U.S. government shutdown next month (January is the earliest it could happen). But other moving parts persist.

Most notably, relations between China and the United States appear slightly less frosty after the two countries’ leaders met in San Francisco recently. Though the meeting didn’t include any trade breakthroughs, investors might want to watch in December and beyond for any signs of warmth leading to trade opportunities for U.S. semiconductor, agricultural, technology, and aviation firms.

On the other hand, the Middle East continued to trouble markets amid worries it could spread to oil-sensitive regions. Crude oil prices cooled with the weather in November, sinking 20% from highs above $90 per barrel in October to as low as $72 for WTI futures by mid-month. Still, any fresh sparks from that region have a chance of putting energy right back into the discussion on Wall Street. OPEC’s surprise decision in late November to push back its meeting hit crude prices again last week and raised questions about how long current OPEC production cuts can last.

Earnings page flips to Q4 and beyond

Q3 earnings season is essentially over, becoming the first in a year where S&P 500 companies grew their earnings per share (EPS) annually. That doesn’t mean all is well, however, because expectations for Q4 earnings (the quarter we’re in now), have lost some of their previous pop.

Negative Q4 guidance from S&P 500 firms is above the five-and-10-year averages, research firm FactSet notes, and analysts project Q4 EPS growth of just 2.9%. That’s followed by expectations for much stronger EPS growth of 11% in 2024. The recent forward price-to-earnings (P/E) of 18.6 for the S&P 500® index (SPX) is up from lows near 17 last month and on the high side historically, meaning some of the forecast double-digit 2024 earnings growth may already be priced into the market.

Earnings reports are generally sparse in December and this year is no exception. Just about every major company has already reported, leaving only a few names of note likely to report during holiday season. One could be Nike (NKE). Semiconductor maker Micron (MU) is another.

Micron has confirmed December 20 as its reporting date, and it could be a good opportunity for investors to get the latest word on how tensions between Beijing and Washington might be affecting Micron’s business. Back in September, Micron referred in its press release to a “weakened near-term supply-demand environment” and said it was taking steps to reduce its supply growth.

Speaking of chip companies, chaos erupted across the sector in late November when OpenAI chief Sam Altman was suddenly fired, quickly offered a senior AI research position at Microsoft (MSFT), and then given back his old job days later by a reconstituted OpenAI board. Immediately after Altman’s move back, most observers concluded that MSFT—which already owns 49% of OpenAI—emerged with a big opportunity to bolster its position in AI.

However, as fresh news emerges on this front, potential disruption at both companies could allow Alphabet (GOOGL) and Amazon (AMZN) to gain ground. Stay tuned.

Can inflation, jobs data make it 2 for 2?

Major December data highlights include the monthly Job Openings and Labor Turnover survey (JOLTS) and the November Nonfarm Payrolls report. Both arrive the week of December 4, even though the jobs report usually gets delivered the first Friday of the month. This time it’s Friday, December 8.

The September JOLTS report in early November showed continued resilience, but notably, the “quit rate” didn’t change much from August. That suggests people aren’t leaving their jobs as much to chase higher salaries elsewhere, possibly a sign that wage growth is in check and not as big a factor for inflation. The quits number for October will likely get a close look when JOLTS comes out on Tuesday, December 5.

October’s Nonfarm Payrolls data turned out to be one of the more influential readings of the last month, showing relatively light job gains of 150,000 and downward revisions to prior months. Unemployment ticked up slightly, though it remains low. The jobs report, along with those inflation reports later in November, helped ease concerns about the economy being too hot after a series of strong data points in October. However, the October growth number might have been artificially deflated by the now-settled auto workers’ strike, so be on the lookout for any bounce either in the headline reading or revisions to last month.

While the jobs report usually takes pole position in terms of data, there’s a tough contender in second place after October CPI turned in a cool performance. In a nifty feat of timing, November CPI is due Tuesday, December 12, the day the FOMC begins its two-day December meeting. October’s report saw unchanged headline CPI and a 0.2% rise in core CPI that strips out volatile food and energy. Both were below consensus expectations.

Barring other major developments, it’ll likely be a warmer Yuletide on Wall Street if CPI stays mild, allowing the Fed to keep its powder dry and perhaps driving hopes for a belated gift of lower rates at some point in 2024.

Happy trading,

Alex

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