War Boosts The Defense And Energy Sectors

By Michael Lebowitz and Lance Roberts | October 10, 2023

On the heels of this past weekend’s attack on Israel, Israel declared its first war since 1973. There are many unknowns at this point, but the outbreak of hostilities appears to be much more serious than prior skirmishes. From an investor’s point of view, it’s too early to make trades and alter our portfolios based on assumptions about what might happen. We should start considering the implications of a broader war, possibly including Iran and other Middle Eastern countries.

The market’s initial reaction was weakness in stocks and strength in bonds, gold, and oil. The heat map below, courtesy of FINVIZ, was the market’s initial trading on Monday morning. As it shows, the market’s gut reaction was to buy defense contractors as they would benefit from weapons sales to Israel. Further, because this potential war could involve Iran, the energy stocks are surging. An Israeli strike on oil fields or the Straight of Hormuz will severely crimp global supply. We offer caution as no one knows how this war will play out. If the problems worsen, the heat map below may provide a map for what stocks and sectors over and underperform.

, War Boosts The Defense And Energy Sectors

What To Watch Today


, War Boosts The Defense And Energy Sectors


, War Boosts The Defense And Energy Sectors

Market Trading Update

Yesterday, the market traded off the news of the attack on Israel. As noted, that attack sent oil and defense sectors higher. However, while the rest of the market traded off slightly early in the day, there was buying underneath the surface as investors assessed that the impact, at least for now, would likely be limited. By the end of the day, the market rallied back into positive territory, triggering our MACD “buy signal.” Furthermore, bonds rallied on the rotation to safety as the deep oversold condition in bonds attracted buyers.

, War Boosts The Defense And Energy Sectors

This morning, we are starting earnings season with PepsiCo (PEP) reporting and several Fed speakers this afternoon who will likely reiterate the “higher for long narrative,” noting Friday’s headline employment number. Depending on the narratives, such could lead to some volatile trading later in the day. However, after this week, earnings season will kick off in earnest, and investor focus will shift there. Such should provide some near-term support for stocks. Continue to manage risk for now.

, War Boosts The Defense And Energy Sectors

The Recent Surge In Rates May Be Reducing Fed Hawkishness

Dallas Fed President Lorie Logan, one of the more hawkish FOMC members, appears to be gently changing her tune. She notes that the recent run-up in long-term interest rates has further tightened financial conditions. To wit:

Financial conditions have tightened notably in recent months. But the reasons for the tightening matter. If long-term interest rates remain elevated because of higher term premiums, there may be less need to raise the Fed Funds rate. However, to the extent that strength in the economy is behind the increase in long-term interest rates, the FOMC may need to do more. So, I will be carefully evaluating both economic and financial developments to assess the extent of additional policy firming that may be appropriate to deliver on the FOMC’s mandate.

As she alludes, might higher long-term interest rates be enough to weaken economic growth and slow inflation further? Therefore, the Fed may not have to hike rates again. The graph below shows the market has assigned a roughly 40% chance of another rate hike at the November or December meeting. It hasn’t materially changed despite higher interest rates.

, War Boosts The Defense And Energy Sectors

A Lesson In Strong Labor Reports

The headlines below followed last Friday’s BLS labor report.

  • Jobs report shock: American economy added a stunning 336,000 jobs in September – CNN
  • US Job Growth Sizzles In September – Reuters
  • Near Perfect Jobs Report – Investors Business Daily (IBD)
  • Strong U.S. Job Growth Shows Economy Is Defying Challenges -New York Times
  • Economy Adds 336k Jobs In September, In A Stunning Gain – Washington Post
  • US Economy Adds 336k Jobs In September, Blowing Past Expectations – Fox Business

On October 5, 2007, the BLS reported the economy added 110k jobs in September, marking the 49th consecutive month of job growth. The headlines were equally bullish as the ones above. Talk of a soft economic landing was prevalent. Per the WSJ:

Friday’s stock grain were fueled by an unexpectedly strong employment report, suggesting that the economy has enough strength to avoid recession.

The reason to make this comparison is to stress that the labor market is often the last economic indicator to signal a recession. The market rallied on October 5, 2007, as a soft landing was broadly projected as the likely economic outcome. The following Monday marked the market peak for that five-year bullish trend. The highs of October 8, 2007, would not be matched for another four years.

Last Friday’s market reaction was favorable to the employment news, but beneath the headline data, the employment report is beginning to show some weakness. We are not warning of a 2008-like financial crisis, but we offer caution that basing economic forecasts on employment data is fraught with risk. Further, soft landings are extremely rare, so be careful when the consensus is for a soft landing.

, War Boosts The Defense And Energy Sectors

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