Dow erases 300-point gain as S&P 500 struggles to extend ‘soft-landing’ rally

What drove markets

The first full week of trading for the new year began on a positive note but saw gains erased or muted by late afternoon. A tumble by drug companies Amgen Inc.  Johnson & Johnson and Merck & Co.  weighed on the Dow. Healthcare was the biggest decliner among the S&P 500’s 11 sectors, with the Health Care Select Sector SPDR exchange-traded fund falling 1.7%.

Stocks came off early highs after San Francisco Fed President Mary Daly on said she expects the central bank to boost interest rates above 5% to get inflation down. “I think something above 5 is absolutely, in my judgment, going to be likely,” Daly said during a streamed interview with The Wall Street Journal.

Atlanta Fed President Raphael Bostic on Monday reiterated his expectation for rates to rise above 5%, according to news reports.

Stocks were lifted initially as traders looked to extend a big surge on Friday, when jobs and services data raised hopes the Federal Reserve can soon stop raising interest rates and the U.S. economy can avoid a hard landing.

The nonfarm payrolls report showed a healthy pace of job creation and an unemployment rate of just 3.5%. But it also showed a slowing in wage growth, potentially easing pressure on service sector inflation, an area of price pressure that the Fed is keenly eyeing as it tightens monetary policy.

Indeed, an ISM survey of service sector activity illustrated how the Fed’s rate rises — 4.25 percentage points of hikes since March — already seem to be negatively impacting the economy.

Investors were thus emboldened by hopes the Fed could soon stop increasing borrowing costs and that any economic downturn will not be so severe that it badly impacts company earnings.

Last week’s economic data provided U.S. equity investors with evidence of damage to both manufacturing and services, signs of cooling inflation and wage pressures, and indications that the labor backdrop remains solid despite some erosion, said Lori Calvasina, head of U.S. equity strategy at RBC Capital Markets, in a Monday note.

“All of that gets us closer to the end of the hiking cycle and supports the ‘modest, if any, recession’ narrative, and we view Friday’s gains in the major U.S. indices as a well deserved sigh of relief,” she wrote.

But last week’s choppy price patterns could prove to be the norm, analysts said.

“In addition to the probability of interest rates remaining high and a possible economic slowdown, any bullishness triggered by slowing inflation may be offset by stocks still-high valuations and overly optimistic earnings expectations,” said Chris Larkin, managing director for trading at E-Trade from Morgan Stanley.

“It could be a recipe for choppy near-term and long-term trading as traders prepare this week for their first look at earnings and inflation data of 2023,” Larkin said.

The market could face a big test when the U.S. consumer-price index is released on Thursday, followed the next day by the fourth quarter corporate earnings season kicking into gear, with JPMorgan Chase Bank of America and Citigroup presenting their results.

The New York Fed on Monday said its December Survey of Consumer Expectations showed consumers see inflation running at a 5% rate a year from now. That’s down from 5.2% in the prior month, and is at the lowest level since July 2021.

A pullback by Treasury yields, extending last week’s decline, helped underpin the tech-heavy Nasdaq. Last year’s sharp rise in yields, which move opposite to Treasury prices, crushed large-cap shares of tech and tech-related companies whose lofty valuations were based on cash flows far into the future. Higher Treasury yields mean those far-in-the-future flows are more heavily discounted.

Helping support sentiment on Monday was a positive showing for Asian equities, with Hong Kong’s Hang Seng up 1.9%, as investors cheered China’s reopening as it relaxed COVID-19 restrictions.

Companies in focus

• Goldman Sachs Group Inc.  is set to begin a large round of staff layoffs this week, cutting as many as 3,200 jobs, according to a report on Monday from Bloomberg. Shares rose 1.4%.
• Shares of Lululemon Athletica Inc.  tumbled 9.3% after the yoga-wear company revised its fourth-quarter guidance on Monday by raising its revenue guidance, tweaking its per-share earnings guidance to a tighter range and lowering margin guidance.
• Tesla Inc.  shares were up 5.9%, continuing a move that saw the stock reverse an intraday loss Friday of about 8% to close up 2.5%. The initial dip came after Tesla said it has slashed prices in China for the second time in three months, in an apparent effort to boost sales of its electric vehicles hours after announcing disappointing December deliveries in China.
• American depositary receipts of Chinese e-commerce giant Alibaba Group Holding Ltd.  jumped 3.2% after co-founder Jack Ma gave up control of Chinese financial-technology company Ant Group. Alibaba owns a roughly 33% stake in Ant Group. 
• Popular meme stock Bed Bath & Beyond Inc.  soared 23.7% on no discernible catalyst. Last week the troubled home goods retailer’s stock plunged after the company’s warning that it may need to declare bankruptcy. In a business update on Thursday the sometime meme stock darling said it has “substantial doubt” about its “ability to continue as a going concern.”