@theMarket: Israel attack on Iran triggers market decline

Stretched, overbought, extended - use whatever word you want, but the market needed a pullback, and Israel provided one.  The markets, displaying remarkable resilience, climbed a wall of worry only to find geopolitical risk at the top.

 

On Thursday night, Israel's bombing of Iranian nuclear facilities precipitated the heftiest decline in weeks. Be assured not everything declined. Oil soared 8 percent. Safe haven bids spiked higher. Gold closed in on record highs, and the dollar rebounded from multi-year lows. 

 

Throughout the week, the markets were beset by negatives, with that wall of worry stretching higher and higher. The markets simply shrugged off the negatives while inching higher. Riots in LA couldn't phase the markets. Stocks, despite two days of tension over the outcome of the China-U.S. talks in London, remained firm. Fears around a mid-week U.S. 10- and 30-year bond auctions were taken in stride by investors. Not even the results of the latest inflation data could deter investors from buying stocks

 

And while that wall of worry stretched higher and higher, most of those bricks turned out to have a somewhat happy ending. The protests are still ongoing and have spread to various cities, but demonstrations over the administration's immigration policies have been peaceful for the most part. The China talks ended with both parties announcing a 'framework' for further discussions. That was better than both sides storming out of the talks, but progress toward a real trade agreement remained elusive.

 

This week's Consumer Price and Producer Price Indexes showed no real evidence of tariffs having affected the data. The numbers came in line with my predictions for CPI; month over month, excluding food and energy, rose a measly 0.1 percent.  On an annual basis, CPI rose 2.4 percent, even lower than my 2.5 percent projection for May. The Producer Price Index had a similar result.

 

The last ten-year and thirty-year U.S. Treasury bond auctions went badly, and markets sold off as a result. I suspect that Secretary Scott Bessent did not want a repeat of that circumstance and took steps to ensure a better auction this time. It's called "financial repression," a term used to describe the heavy-handed intervention of the government. Behind the scenes, I am sure the government prodded banks and bond dealers to bid for bonds even when they may not have wanted to. It happens far more often than you might expect. 

 

On the tariff front, the TACO (Trump Always Chickens Out) effect suggests that the reciprocal tariffs scheduled to take effect in a few weeks will be postponed again. Secretary Bessent has already said as much in his testimony before the House Ways and Means Committee this week.

 

The Federal Open Market Committee will meet next Tuesday and Wednesday. I do not expect the members to change their wait-and-see policy despite the president's almost weekly social media posts urging  Chairman Powell to do more. His latest outburst was a social media post demanding the Fed to cut interest rates by 1 percent.

 

I may have to lower my short-term target on the markets depending on the duration and severity of the present turmoil between Israel and Iran. Usually, geopolitical events like this roil the markets for a day or three before returning to normal. However, the Israelis say they are planning a two-week operation to destroy Iran's nuclear capability. If so, that could mean a widening of the conflict and create more volatility in the financial markets.

 

I expected the S&P 500 to hit 6,100 to 6,150 over the next two weeks before a downturn into July. That two-week timetable has just been upended. Technically, markets could still rise, but the probability of the last leg of this move upward has now been substantially lower.  As I wrote last week, "It is a tricky bugger to forecast," and Isreal just made it more so.

 

Bill Schmick is the founding partner of Onota Partners, Inc., in the Berkshires. His forecasts and opinions are purely his own and do not necessarily represent the views of Onota Partners Inc. (OPI). None of his commentary is or should be considered investment advice. Direct your inquiries to Bill at 1-413-347-2401 or email him at bill@schmicksretiredinvestor.com.