On Jul 31, after its two-day FOMC meeting, Fed decided to reduce benchmark lending rate by 25 basis points to the range of 2-2.25%, in line with market expectations. Notably, this was the first rate cut by the central bank since Dec 16, 2008, when the economy fell in the great recession.
Despite this, Wall Street plunged as the three major stock indexes –- the Dow, S&P 500 and Nasdaq Composite –- fell 1.2%, 1.1% and 1.2%, respectively. While both the Dow and the S&P 500 witnessed the largest single-day decline since May 31, the Nasdaq Composite saw the biggest daily decline since late June.
Although market participants were expecting a quarter percentage point of cut, they were taken aback by Fed Chair Jerome Powell’s comment that this rate cut is “in the nature of a mid-cycle adjustment to policy” and to “insure against downside risks” but no signal that this the start of a lengthy rate cut cycle. This is a clear indication that further rate cut in this year is not guaranteed, while investors were looking for one or two more.
Rate Cut Expectations May Become Counter Productive
The sole purpose of any central bank to reduce interest rate is uplift business investment thereby generating growth in the economy. Low interest rate will reduce the cost of funds to both corporates and individuals. Consequently, corporates and individuals will borrow more to invest in businesses or in stock markets, which will likely result in higher growth.
However, if the central bank gives signals that more rate cuts are coming in the next two-four months, then should corporates borrow more today? Rather they will wait for rate to be lowered again in order to avail funds at a cheaper rate. Continuation of this cycle will put the economy nowhere and ultimately the Fed may need to resort to zero or negative interest rate, meaning taxation on bank deposits.
Moreover, the Fed has decided to end its $3.6 trillion balance sheet downsizing program effective Aug 1. The program was initially decided to be terminated at the end of September. This bond portfolio reduction program of the central bank, which started in October 2017, has so far drained $618 billion from the economy.
Recessionary Fear Overblown
The Fed cited three reasons, lingering trade conflict with China and the imposition of tariffs and counter tariffs, a slowing global manufacturing sector, and muted inflation in the United States, as the primary reasons for the rate cut. Notably, Fed’s favorite gauge of inflation –- the core PCE Price Index –- rose 1.6% in June, below its target rate of 2%.
A rate cut is generally associated with an impending recession. However, the U.S. economy is still holding ground despite going through the historically largest expansion spanning 11 years.
The second-quarter 2019 GDP of 2.1% was better than the consensus estimate of 1.8%. Personal consumption expenditure jumped 4.3%, the highest since the fourth quarter of 2017, after growing a mere 1.1% in the previous quarter. For July 2019, the Conference Board's measure of consumer confidence index skyrocketed at 135.7, approaching the 18-year high of 137.9 recorded in October 2018.
A robust labor market, which added 172,000 jobs per month on average in the first half of 2019, a record-low unemployment rate of 3.7%, and gradual increase in wage rate are likely to sustain U.S. consumer expenditure, thereby eliminating the chance of a recession any time soon. Moreover, core durable goods order –- a key metric to track business investment plan –- jumped 1.9% in June, marking the highest monthly gain in core factory orders since February 2018.
Fed Maintains Steady Monetary Stance in 2019
The Fed has corrected itself since the beginning of 2019 and adopted a dovish monetary stance after aggressively following hawkish policies in 2018, which were largely blamed for a market rout along with trade-related concerns.
Year to date, Wall street is continuing its dream run with the Dow, S&P 500 and Nasdaq Composite up 15.2%, 18.9% and 23.2%, respectively. This impressive performance is primarily owing to the central bank’s stable and accommodative monetary stance despite severe concerns about reaching a trade deal with China.
In June, Powell reiterated Fed’s commitment to act as appropriate to sustain U.S. economic expansion. In Jul 31, in his lecture on FOMC decision, the Fed Chair once gain reiterated his earlier commitment. Powell said, “It’s not the beginning of a long series of rate cuts,” while adding, “I didn’t say it’s just one” move. Once again, an indication of more cuts is not ruled out if the central bank thinks it is genuinely needed.
Our Top Picks
At this stage, it will be prudent to invest in stocks with strong growth potential along with a favorable Zacks Rank. We have narrowed down our search to five such stocks. Each of these stocks carries a Zack Rank #1 (Strong Buy) and Growth Style Score A. You can see the complete list of today’s Zacks #1 Rank stocks here.
All five stocks surged in the past three months despite volatility and still have upside left.
The chart below shows price performance of our five picks in the past three months.
Repligen Corp. RGEN develops, manufactures and sells products used to enhance the interconnected phases of the biological drug manufacturing process in North America, Europe, APAC and internationally.
The company has expected earnings growth of 31.5% for the current year. The Zacks Consensus Estimate for the current year has improved by 2.1% over the last 30 days. The stock has jumped 43.4% in the past three months.
Chegg Inc. CHGG operates a direct-to-student learning platform that supports students on their journey from high school to college and into their career with tools designed to help them pass their test, pass their class, and save money on required materials.
The company has expected earnings growth of 25.5% for the current year. The Zacks Consensus Estimate for the current year has improved by 6.2% over the last 30 days. The stock has surged 29.3% in the past three months.
The Boston Beer Co. Inc. SAM produces and sells alcohol beverages primarily in the United States. The company's flagship beer is Samuel Adams Boston Lager. It offers various beers, hard ciders, and hard seltzers under the Samuel Adams, Twisted Tea, Angry Orchard Hard Cider, and Truly Hard Seltzer brand names.
The company has expected earnings growth of 19.5% for the current year. The Zacks Consensus Estimate for the current year has improved by 4% over the last 30 days. The stock has surged 28.8% in the past three months.
Teledyne Technologies Inc. TDY provides instrumentation, digital imaging, aerospace and defense electronics, and engineered systems in the United States, the United Kingdom, Denmark, Canada, France and the Netherlands.
The company has expected earnings growth of 10% for the current year. The Zacks Consensus Estimate for the current year has improved by 3.2% over the last 30 days. The stock has soared 18.7% in the past three months.
Delta Air Lines Inc. DAL provides scheduled air transportation for passengers and cargo in the United States and internationally. The company operates through two segments, Airline and Refinery. It also provides aircraft maintenance, repair, and overhaul services, and vacation packages to third-party consumers, as well as aircraft charters, and management and programs.
The company has expected earnings growth of 24.6% for the current year. The Zacks Consensus Estimate for the current year has improved by 5.5% over the last 30 days. The stock has climbed 6.8% in the past three months.
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