Key Points
- Long-term Treasury yields are falling steeply in anticipation of more Fed rate cuts as the economy slows.
- The S&P 500 is retracing to test short-term support at 6500.
- Financial market liquidity remains strong, supporting stocks.
- The dollar is weakening, and gold and silver soared to new highs.
10-year Treasury yields fell to 4.046% testing the long-term band of support between 4.0% and 4.1%.
Expectations of steeper Fed rate cuts grow as more evidence emerges of a slowing economy. The Cass Freight Index is in a strong downtrend, and a fall below 1.0 would signal a recession. A useful barometer of economic activity, the index measures the number and cost of freight shipments across North America based on data from hundreds of large shippers.
The current turmoil over tariffs — after the US Appeals court overruled Donald Trump’s “reciprocal” tariffs and his earlier “fentanyl” tariffs against China, Canada, and Mexico — will likely cause a sharp contraction in capital investment due to the uncertainty, almost guaranteeing a recession. Trump has lodged an appeal with the Supreme Court, but a decision is unlikely before next year. Unless he can get a stay on the lower court’s ruling, Treasury will be forced to fund the billions of dollars in tariffs collected.
While some believe that overturning the tariffs would cause a blowout in the fiscal deficit, we believe that the promise of a boost in revenue from tariffs was more spin than substance. There are no free lunches in economics; when something looks too good to be true, it usually is. Most of the cost of tariffs is currently borne by US corporations, but will likely be pushed onto consumers through price increases over the next year.
Where corporations do not pass on tariffs to customers, their profits and corporate tax paid to the Treasury will decline. Falling profits also hurt stock prices, reducing capital gains taxes. US consumers and corporations will directly or indirectly pay for the tariffs, and the impact on net Treasury receipts will likely be marginal.
Our biggest concern is not the loss of tax revenues, but the economic impact of policy uncertainty.
Stocks
The S&P 500 is retracing to test its latest support level at 6500, but rising Trend Index troughs indicate buying pressure, and respect of support will likely signal a further advance.
The equal-weighted S&P 500 ($IQX), more representative of large caps than the headline index, tests similar support at 7600. Rising Trend Index troughs again indicate buying support and likely continuation of the uptrend.
Financial Markets
High-yield bond spreads are declining, indicating the return of loose financial conditions supporting high stock prices.
Bitcoin (BTC) respected support at 110K, further indicating easing financial conditions — a bullish sign for stocks.
Dollar & Gold
The dollar is weakening in line with the outlook for interest rates. A US Dollar index breach of the long-term band of support between 96.5 and 97 would strengthen our long-term target of 90.
Gold closed at a new high of $3,645 per ounce, while rising Trend Index troughs signal buying pressure. Expect a retracement to test support between $3,500 and $3,600, but respect will likely confirm an advance to $4,000 by the end of the year, as the dollar weakens.
Silver is testing resistance at $41.50 per ounce. Again, we expect a retracement followed by a further advance, with a target of $44.
Energy
Brent crude held steady at close to $66 per barrel after the OPEC+ meeting on the weekend decided on a smaller-than-expected initial increase in production of 137,000 barrels per day, in a phased unwinding of the 1.66 million barrels per day post-COVID production cut.
Conclusion
Cyclical pressures are driving long-term yields lower, with a slowing economy likely to cause steeper-than-expected Fed rate cuts. Added uncertainty over tariffs increases the risk of a recession.
Loose financial conditions, boosted by falling Treasury yields, support stock prices, but a slowing economy would be bearish for earnings.
The dollar is weakening in response to the expected fall in interest rates, and a US Dollar Index breach of support between 96.5 and 97 would strengthen our long-term target of 90.
We expect gold and silver to rise as the dollar weakens, with respective targets of $4,000 and $44 per ounce by the end of the year.
Acknowledgments
Colin Twiggs is a former investment banker with almost 40 years of experience in financial markets. He co-founded Incredible Charts and writes the popular Trading Diary and Patient Investor newsletters.
Using a top-down approach, Colin identifies key macro trends in the global economy before evaluating selected opportunities using a combination of fundamental and technical analysis.
Focusing on interest rates and financial market liquidity as primary drivers of the economic cycle, he warned of the 2008/2009 and 2020 bear markets well ahead of actual events.
He founded PVT Capital (AFSL No. 546090) in May 2023, which offers investment strategy and advice to wholesale clients.
