Investors, Beware Summer Complacency

My wife Carole accuses me of being a workaholic, so whenever August arrives, she pushes me out the door to spend family time on the beach. But, to her annoyance, I always bring my laptop.

This vacation season, I intend to watch the markets with extra vigilance.

Go ahead, take some time off, but don’t get complacent in your chaise lounge. During this pandemic-afflicted summer, the dog days of August could bite investors. Below, I’ll explain the risks and how to trade now.

The last week of July was crammed with data for investors to digest, with a flurry of earnings reports, key economic data, and a Federal Reserve policy meeting. The Fed stood pat but reminded investors that monetary stimulus won’t last forever.

U.S. indices ended the week lower, as reports about the deadly COVID Delta variant haunted the markets. But stocks are still significantly higher, year to date:

Chinese stocks swooned last week, amid a regulatory crackdown. That said, Beijing has made conciliatory pronouncements designed to assuage investor anxiety. Asian stocks are recovering.

In pre-market futures contracts Monday, all three major U.S. stock indices were poised to open sharply higher. Lifting investor moods is progress on President Biden’s infrastructure bill.

Senators were back on Capitol Hill Sunday as a bipartisan group of lawmakers wrapped-up work on a $1.2 trillion infrastructure bill, which political observers say is likely to pass this week. That’s a powerful tailwind for equities.

Reading the tea leaves…

Last week provided major clues as to the future direction of the economy and stock market. Shortages and supply chain bottlenecks are impeding the recovery, but the economy continues to grow and consumer spending remains strong.

Read This Story: Retail Sector: Confidence Is Everything

Supply problems should soon get ironed out. Corporate earnings are growing at a rapid pace, justifying valuations and overall bullish sentiment.

Meanwhile, the Federal Reserve indicated that it won’t change its accommodative stance over the near term but hinted that tapering will eventually come. The good news is, the Fed has vowed to keep rates at historically low rates until 2023.

Quarterly earnings reports from several mega-cap technology stalwarts were strong but included a few caveats and their share prices generally declined. Facebook (NSDQ: FB), Amazon (NSDQ: AMZN), Apple (NSDQ: AAPL), Alphabet (NSDQ: GOOGL), and Microsoft (NSDQ: MSFT), which combined comprise 22.5% of the S&P 500, on average doubled their earnings compared to last year.

As of market close July 30, 59% of S&P 500 companies have reported actual results for the second quarter of 2021. Among these companies, 88% have reported actual earnings above estimates, which is above the five-year average of 75%, according to data from research firm FactSet (see chart).

If 88% is the final percentage for the quarter, it will mark the highest percentage of S&P 500 companies reporting a positive earnings surprise since FactSet began tracking this metric in 2008. Companies are reporting earnings that are 17.2% above estimates, which surpasses the five-year average of 7.8%.

As of this writing on Monday, the blended earnings growth rate for the second quarter is 85.1%, compared to an earnings growth rate of 74.1% last week and an earnings growth rate of 63.1% at the end of the second quarter (June 30). “Blended” combines actual results for companies that have reported and estimated results for companies that have yet to report.

Driving the dramatic improvement in S&P 500 earnings last week were positive surprises on the upside reported by companies in several sectors, led by information technology.

Read This Story: Newton’s Law and Stock Market Momentum

Keep in mind, the exceptional earnings growth rate for Q2 2021 is partly a result of the low baseline from last year, when the pandemic was wreaking its worst damage.

The summer surge of COVID Delta is particularly worrisome and if left unchecked, could tank the stock market rally. However, rising infection rates have a reverse correlation with vaccination rates. Certain “hot spots” of the country (e.g., Florida) are suffering because many people there refuse to get vaccinated, but that could change as vaccination campaigns take on new urgency.

According to data from the Centers for Disease Control, the past three weeks have seen a dramatic increase in average national daily vaccinations (26%), and increases of more than double in some states with the lowest vaccination rates.

Stocks over the near term will continue to sharply rise and fall, depending on pandemic-related headlines. But the Delta variant is unlikely to stymie the continuing social and economic recovery. Companies are genuinely thriving, and the economy is not only healthier but also larger than last year.

The market rotation from growth to value that we witnessed during the first half of the year has somewhat reversed course, with investors returning to growth names as the economy picks up the pace. That may soon change again in value’s favor, as the economy reaches “peak growth” this year.

Regardless, brace yourself for a long, hot summer, rife with volatility.

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John Persinos is the editorial director of Investing Daily. Send your questions or comments to mailbag@investingdaily.com. To subscribe to his video channel, follow this link.