U.S. Stocks Slip From All-Time Highs Amid Hawkish Fed Remarks

  • NY Fed’s Dudley says getting closer to time for tightening
  • July housing starts, industrial production beat forecasts

U.S. stocks slipped from all-time highs as hawkish comments from a Federal Reserve official took some momentum out of a six-week rally, amid concerns that growth may not be sturdy enough yet to bear higher interest rates.

New York Fed President William Dudley said today the central bank could potentially raise interest rates as soon as next month, warning investors that they are underestimating the likelihood of increases in borrowing costs. Equities trimmed an early slide as Praxair Inc. surged the most in five years on merger talks with Germany’s Linde AG, and Morgan Stanley rose to a seven-month high after activist Jeff Ubben’s ValueAct Capital Management disclosed a 2 percent stake.

The S&P 500 Index fell 0.4 percent to 2,182.55 at 10:44 a.m. in New York, after its 10th record close since July 11. The Dow Jones Industrial Average declined 44.89 points, or 0.2 percent, to 18,591.16. The Nasdaq Composite Index lost 0.4 percent. The CBOE Volatility Index headed toward its biggest gain in two weeks, rising 4.5 percent to 12.34 after hovering near two-year lows.

“Dudley wants to keep expectations grounded,” said Yousef Abbasi, a global market strategist at JonesTrading Institutional Services LLC. “You have seen some stronger employment data, but other pieces of data are showing a struggle still -- retail sales, inflation reads have been among recent disappointments. It’s just reality, rates might move higher by December if jobs data continues to come in better.”

Steepening valuations aren’t going unnoticed either amid stocks’ recent push higher. The S&P 500’s price relative to future earnings has climbed to 18.6, the highest since 2002, as equities were boosted by better-than-projected corporate results, an improving labor market and optimism central banks will stay supportive of growth.

As the earnings season winds down, investors will look to results this week from companies including Wal-Mart Stores Inc. and Target Corp. for signs of the health of corporate America and the U.S. consumer. Home Depot Inc. today posted results in line with estimates. About 78 percent of S&P 500 members that have reported beat profit predictions and 56 percent topped sales projections. Analysts’ estimates for second-quarter net income have improved to a 2.5 percent decline, from a 5.8 percent drop a month ago.

With investors scrutinizing economic data to determine the prospects for growth, a report today showed home construction unexpectedly accelerated in July to the fastest pace in five months. A separate gauge showed the cost of living was little changed last month, a sign inflation remains subdued, and industrial production rose more than forecast by economists surveyed by Bloomberg.

“Looking at these numbers it looks like the Fed is able to keep rates where they are, but anytime we hit highs day after day you do see some profit-taking, and you may have a modestly down day,” Larry Peruzzi, managing director of international equities at Mischler Financial Group Inc. in Boston, said by phone. “The indication from the jobs picture is that things are slowly improving but no overheating. The Fed is waiting to raise rates so any indication of whether that’s coming sooner or later is becoming key.”

While measures on the labor market have continued to indicate a steady improvement, bolstering confidence in the economy, other data have been mixed, spurring speculation the Fed remains in no hurry to raise rates. The Citigroup Economic Surprise Index has slipped to a five-week low after reaching its highest in almost 23 months on July 26.

Traders’ bets on the timing of a rate increase moved closer following New York Fed Dudley’s remarks, with December now the first month showing at least even odds of higher borrowing costs, from May earlier today.

“There is some talk of profit taking among large investors,” said Frances Hudson, an Edinburgh-based strategist at Standard Life Investments. Her firm manages about 253 billion pounds ($327 billion). “The market seems to have priced in an end to a year of weak earnings. If correct, and there are no shocks from either commodities or macro data, then nothing is barring further progress. However, we would need further positive news from earnings, dividends, buybacks or M&A to maintain momentum.”

Before it's here, it's on the Bloomberg Terminal.