Stocks sold off in early August as bond yields climbed. The S&P 500 index was down 5% from the end of July through August 18th as the 10-year U.S. Treasury yield reached its highest level since 2007, exceeding 4.3%. The S&P 500 clawed back some of its August losses in the latter half of the month, to end down 1.8%, as the 10-year yield pulled back to below 4.1%.
U.S. economic data continued to come in strong, albeit aided by widening federal budget deficits, which has a stimulative effect on the economy. Consumer spending has continued to grow at a healthy 2%+ clip on an inflation-adjusted basis. Federal spending has shifted from direct payments to households during the pandemic to corporate incentives and contracts for infrastructure, defense, and manufacturing. Perhaps nowhere is this shift more apparent than in construction spending data. U.S. construction spending has continued to climb despite higher interest rates and a sluggish housing market. While residential construction spending was -5.4% y/y in July (latest available), non-residential construction was up 16.5% y/y. Construction spending in manufacturing was up a whopping 71% y/y. Reshoring trends are very real. Infrastructure-related* spending rose 9.3% y/y.
So how does this impact stocks? Retailers were strong outperformers during the 2020-2021 period of very high fiscal transfers to households (i.e., stimulus checks, extra unemployment benefits). As stimulus has shifted away from households/consumers and towards directly benefiting certain corporate sectors, like manufacturing, stocks have moved accordingly. The S&P Retail Select Industry Index has underperformed the S&P Industrials Select Sector Index by 16% in the last year and by an even wider margin in the last two years. While it is difficult to predict the whims of policies in Washington, especially as the election season begins to heat up, it is important to be mindful of how spending/incentives can impact certain sectors and stocks going forward.
*Infrastructure-related includes the following U.S. Census Bureau categories: Transportation, Communication, Power, Highway and Street, Sewage and Waste Disposal, and Water Supply.
-Jared J. Ruxer, CFA, MS