@theMarket: Technology Powers Markets Higher

Momentum traders can't get enough of all things AI. The entire technology sector is on fire. Other areas of the market are struggling. Concentration risk is rising, but that's nothing new, and most traders are optimistic.

 

That doesn't mean all is well. On the geopolitical front, the U.S. and Iran are still not playing nice. This week, missiles were exchanged. The present arrangement is almost comical. The definition of ceasefire is a "temporary halt to active fighting between opposing forces in an armed conflict." That is not what is happening, but the Trump White House and evidently the majority in Congress insist that this fictional ceasefire is in place.

 

Amidst these tensions, some well-placed cabinet members, such as Treasury Secretary Scott Bessent, are claiming that a 60-day ceasefire is in the works. But he hedged his bets, claiming the president must agree to it, and it may not hold in any case. Supposedly, it's an agreement to allow Iranian oil to ship in exchange for the opening of the Straits. Iran's non-existent navy would also remove the mines they planted.

 

But what about the nuclear issue? Oh, that both sides agree to negotiate over the next 60 days and come to a solution. Of course, Iran has already said that it is not up for discussion, but what the heck, the administration gets more time and hopefully a little lower oil prices in exchange for Iran's ability to profit from its oil sales.

 

Building on last week's discussion, remember I explained that we were approaching a critical line in the sand in the next few weeks on global oil supplies. A 60-day ceasefire kicks the can down the road for two more months. In any case, oil prices have subsided, trading around $88.37 a barrel on Friday, which is an improvement of sorts. It is enough to relieve investors' fears that we are on the brink of oil Armageddon.

 

With that reprieve in oil markets, investors can turn their attention to other things, like the knock-your-socks-off results of first-quarter earnings. Analysts entered the season predicting an average earnings growth rate of 13 percent. That was more than respectable, but that is not what happened. Instead, companies' earnings results doubled that estimate, chalking up 28.4 percent overall.

 

I had to look back to the second quarter of 2021 to find a comparable period where earnings were as good. More than 84 percent of companies beat Wall Street's earnings projections — and not by a little. The usual quarterly beat rate is about 7 percent. This time, the average beat was by 18 percent!

 

Some analysts are questioning whether, in some cases, these earnings were inflated by the AI boom. Meta, Alphabet, and Amazon were the largest contributors to the S&P 500's surging earnings growth. All three reported unusually large contributions from outside their core business. Their private equity investments in Anthropic, for example, threw off billions in profit for the quarter.

 

While sales were higher than expected, 9.7 percent gains versus 8.2 percent forecasted, it was profit margins that astounded the equity market. They came in at 14.8 percent. This has never happened before and was the highest in history. Given these results, is it any wonder that analysts are now projecting 18 percent earnings growth for the S&P 500 for the full year?

 

Meanwhile, the Fed's preferred inflation gauge, the PCE for April, came in at 3.8 percent, almost double the Fed's 2 percent inflation target. First-quarter GDP was also revised downward to 1.6 percent due to weaker investment and lower consumer spending. You can forget about an interest rate cut this year, in my opinion.

 

Looking at market movement in May, all the worries about how long it would take companies to begin showing profits from AI spending have fallen by the wayside. Tech was up 13.25 percent, led by semiconductors. Beyond tech, consumer discretionary gained 5 percent, and everything else gained by less than that, with materials and energy. Financials and utilities are down.

 

As I wrote last week, inflation remains a problem for the economy. As a result, investors are seeking stocks and sectors where price appreciation keeps pace with, or even beats, inflation. Obviously, tech was where investors flocked to in this kind of environment.

 

The euphoria over the upcoming IPOs of three mega tech companies — SpaceX, OpenAI, and Anthropic — is feeding market participants' animal spirits and helping drive stocks higher. That said, markets remain overbought and are due for a pullback. Exactly when that happens is anyone's guess. My guess is that sometime after the SpaceX offering in two weeks, we might see some profit-taking.