Blame It On The Feds: Market Struggling As Congress Unable To Pass Key Bill

As Washington struggles to push ahead with a business-friendly agenda, there’s a note of caution for stocks heading into the mid-year point.

The market crumbled Tuesday after Senate leaders announced a delay in the healthcare bill vote until after July 4. Though it’s unclear whether the bill’s passage would have a major impact on stock prices beyond the healthcare sector, the failure seemed emblematic of a Congress that’s struggling to pass legislation. Pre-market trading pointed to a possible mixed open Wednesday.

It’s a halo effect: Failure to pass a health bill could indicate trouble ahead when it comes to economic stimulus from a possible infrastructure package, as well as tax reform. These are initiatives many investors had hoped a Republican Congress, working with a Republican White House, could accomplish this year. 

Yesterday was the worst day in six weeks for the stock market, but might have looked even worse had it not been for a tailwind that lifted financials, one of the key sectors in the S&P 500 (SPX). Comforting words from Fed Chair Janet Yellen (see below) and a rise in benchmark 10-year Treasury yields seemed to give financials a boost Tuesday, but that was the only sector to score positive progress on the day. The Dow Jones Industrial Average ($DJI) has now closed lower in five of the last six sessions.

Bond yields continued to rise early Wednesday, climbing to 2.22% for the 10-year Treasury bond, likely due in part to hawkish comments yesterday from European Central Bank President Mario Draghi (see below). Bond yields might also be having a delayed reaction to the Fed’s recent rate hike.

The info tech sector remained under pressure in pre-market trading Wednesday, still reeling from the European Union’s fine on Alphabet Inc GOOG GOOGL, announced early Tuesday. Shares of GOOG tumbled, and that seemed to put a shadow on the rest of the tech market as well.

As the stock market fell, VIX snapped back: rising more than 10% to above 11 by end of the day Tuesday before sliding to a bit below 11 by early Wednesday.

The weakness in stocks Tuesday came despite a better-than-expected reading on June consumer confidence, which came in at 118.9, up from the prior month's revised reading of 117.6 and above expectations for around 116.7, according to Briefing.com consensus. Today is rather light from an economic data standpoint, but keep an eye on pending home sales, which sometimes can give a sense of consumer confidence. Tomorrow brings the government’s final estimate for Q1 gross domestic product (GDP), and Wall Street analysts project no change from the last estimate of 1.2%, according to Briefing.com.

Oil prices ran into pressure early Wednesday ahead of the Energy Information Administration’s weekly report on U.S. stockpiles. Oil has risen four straight days, leading some to wonder if the long slide might be coming to an end. Keep an eye on the $44 mark, which once represented technical resistance but now constitutes an important support area. Oil was recently flirting with that level.

FIGURE 1: TECH TOPPLING. The information technology sector, tracked through Tuesday on the thinkorswim® platform from TD Ameritrade, continues to stumble as the first half of the year closes. It’s still the best-performing sector year to date, but the last month has been a struggle, as this chart shows. Meanwhile, financial stocks (purple line) have recovered quite a bit from weakness in the spring. Data source: Standard & Poor's. For illustrative purposes only. Past performance does not guarantee future results.

Financial Check-Up

The financial sector has perked up over the last month, rising more than 2%, or slightly more than the SPX. Year-to-date, however, financials still trail the SPX by a good margin. There’s been some hopeful news lately, including positive results from stress tests, the Fed’s latest rate increase, and the Italian government bailing out two of the country’s banks. The positive feelings got more reinforcement Tuesday from European Central Bank (ECB) President Mario Draghi, who said the threat of deflation has passed, according to media reports. That led to speculation that the ECB might soon pull back on its bond-buying program, unwinding its long-running monetary easing policy. The real test for the financial sector, however, comes next month when the biggest U.S. banks report earnings.

Yellen Gives Banks Clean Bill of Health

Fed Chair Janet Yellen had some comforting words for investors Tuesday, saying banks are healthier than a year ago. "I think the public can see the capital positions of the major banks are very much stronger this year," Yellen said, according to CNBC. "All of the firms passed the quantitative parts of the stress tests.”

Yellen also said chances of a financial crisis like the one in 2008 are unlikely “in our lifetime,” and added, “After the financial crisis, those who see the damage in that type of thinking have played a major role in ensuring that we have a more appropriate system of supervision and regulation, hopefully for a good long time.”

Historically Speaking

It’s pretty common for analysts and stock market commentary columns (including this one), to cite historical comparisons. However, according to a recent Wall Street Journal article, such comparisons might be less valid now than they used to be because the stock market itself has changed so much. Notably, there are only about half as many publicly traded stocks now as there were in 1997, meaning that the market as a whole might behave differently than it did in the past. However, most of the stocks no longer on the market were in the small-stock category, and the article didn’t explain how having fewer small stocks might affect the big names in the S&P 500, which, of course, is the same size as it’s always been.