Below are the economic and market highlights for the week:
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Growth Concerns Lead to Sell-Off and Market Shift
Stocks declined in a late February sell-off. Defensive sectors, value stocks, and equal-weight strategies performed better, while growth stocks and tech’s “Magnificent 7” trailed. Riskier equities, such as small-cap stocks and high-beta stocks, underperformed, while gold rose to new highs. Oil prices fell 3% on slowing growth concerns while the U.S. dollar weakened.
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International Markets Outperform
Despite punitive tariff talk from the U.S., both developed and emerging markets notched gains of over 3%. Europe rose by 4%, and China surged nearly 15%. U.S. stocks, after starting the year on a strong note, trailed into the close of February trading. Meanwhile, both the Dow Jones Industrial Average and the S&P 500 fell more than 1.00% for the month. February’s performance reflects a shift from previously strong-performing sectors like U.S. growth stocks into more defensive stocks and international markets.
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Treasury Yields Decline Amid Growth Worries
Bond bulls stormed back into action in February, driving Treasury bonds to their second consecutive monthly gain. The move is surprising since it comes on the heels of the Fed signaling a more cautious approach to lowering interest rates and as inflationary pressures have persisted. Friday’s Core PCE report, the Fed’s preferred inflation measure, rose 0.30% in January, and was up 2.60% annually. That remains above the Fed’s 2.00% target level. Bond bulls’ enthusiasm however didn’t seem dented by the latest inflation report, with traders pushing the 10-year U.S. Treasury yield to 4.21% – its lowest level since December. Bond bulls remain confident that slower growth amid tariff uncertainty will drive risk-off behavior and send investors to seek the safety of government treasuries.
Stocks Lose Momentum to Close February Trading Lower
Investor enthusiasm over economic growth and strong corporate profits faded as traders closed out February. A slew of weak economic reports – ranging from slower consumer spending, a weakening jobs market, and persistent inflation – left major indices in the red for the month. Sentiment has been pummeled over the last two weeks as uncertainty over the Trump administration’s trade policy and its drive to slash government jobs and overall spending has weighed on investor psyche. While investors spent much of January and early February embracing tariffs simply as a negotiating tactic for better trade terms, the on-again and off-again nature of Trump’s messaging, along with newly announced reciprocal tariffs from several other nations, finally wore thin with investors. Of concern is that higher tariffs are likely to lead to higher prices, which will only weaken consumer spending further. The consumer – the economy’s largest engine – pulled back sharply in February amid signs of a cooling jobs market, particularly in the federal government sector. The rapid retrenchment in sentiment had been set up in part by overly optimistic growth projections and investors simply wanting to cash in profits. The S&P 500 is presently trading at 22 times forward earnings, a level not seen since the dot-com bubble or since late 2020, when interest rates were near zero. While mega-cap stocks and AI hype have been large contributors to the market’s high valuation, the market as a whole is expensive compared to its historical averages. Meanwhile, analysts have been lowering their 2025 EPS estimates recently, quietly erasing the fact that they may have gotten caught up in the AI/”New Economy” hype. In choosing to take risk off the table, investors turned to the safety of bonds, particularly Treasuries, despite the Fed’s more cautious tone and inflation remaining stubborn. The tailwinds for the market have diminished significantly over the past quarter. Markets can no longer bank on lower rates from the Fed, while the consumer has turned pessimistic, the jobs picture has begun moderating (if not weakening), government spending is being slashed, and the impact of tariffs has yet to be felt. To make matters more difficult, markets were priced for perfection. It is not that many of these factors were not anticipated. It is just that markets don’t move linearly and investors are just getting their first taste of data reflecting the long lag effect from three years of increasingly restrictive policy. With all this, it is worth noting that investor sentiment has now soured to levels not seen since late 2022 and spring 2023, a period which also coincided with concerns over slowing growth (not to mention a mini-bank crisis surrounding Silicon Valley Bank – remember SVB?). Today, only 19.6% of individual investors are bullish on the market’s short term prospects, while a full 60.6% are bearish according to data collected by the American Association of Individual Investors. This degree of bearishness has only been observed in three other periods over the last decade, and in each of those cases, the market grew by double digits over the following twelve months. That is not an attempt to slap lipstick on a pig and to imply the sky is now the limit for this market, but the current mood represents a 2x+ standard deviation to norms, which gives us a margin of comfort as contrarians.
The Week Ahead
Nonfarm Payrolls, Services PMI, Manufacturing PMI