Overview: Strong second-quarter earnings offset COVID-19 Delta variant concerns as stocks were mixed across the globe last week. In the U.S., second-quarter gross domestic product (GDP) posted significantly below consensus at 6.5% annualized, as declines in inventories and construction, weighed on re-opening-driven consumption (see details in next section). Chinese stocks were down significantly, as investors faced tighter financial regulations. The MSCI China Index for the week was lower at -6.1%, dragging down emerging market stocks (MSCI EM), which were down -2.5% on the week. Interest rates have remained in the lower end of the trading range, as the Federal Reserve’s commitment to keep short rates low and keep to their asset tapering timeline appears to remain in place. The 10-year Treasury ended the week at 1.24%, significantly lower than its 1.75% yield at the end of March of this year. At its July meeting last week, the Fed left its target rate unchanged, while emphasizing the economy has continued to strengthen. This week the economic highlight will be the employment report on Friday, where the consensus is for 900,000 new jobs, following the 850,000 addition in jobs from last month. The unemployment rate is expected to fall from the current 5.9% to 5.7%.

A note on Second Quarter Gross Domestic Product (GDP): (from JP Morgan) Real GDP expanded at an annual rate of 6.5% in the second quarter. While output has now fully recovered its huge pandemic losses, 2Q GDP fell short of its 8.5% estimate due to an unexpected $166B drop in inventories. The contribution from inventories to quarterly GDP growth should be significant in the latter half of 2021 and early 2022. If the drawdown in inventories merely hits 0 in 3Q, then it would contribute ~3.5% to GDP growth next quarter. In addition to weaker inventories, more disappointment came from a 7.0% fall in nonresidential structures and a 9.8% decline in residential structures. On a more positive note, the uptick in 2Q GDP was driven by an 11.8% surge in personal consumption expenditures – a key driver of economic growth. Widespread business re-openings and vaccinations benefited both growth in services (+12.0%) and goods (+11.6%). Real domestic demand was also elevated at 7.9%.

The 2Q GDP report also included the annual revision. The BEA’s initial estimates, especially for last year’s drawdown and recovery, seemed to be quite accurate with only slight revisions to 2Q20 from -31.2% to -31.4% and 3Q20 from 33.4% to 33.8%. In the 20 years prior to the pandemic recession, real GDP averaged 2.1%. Looking ahead, growth is expected to remain strong, fueled by job gains, pent-up savings and continued fiscal support. However, stickier inflation, the Delta variant, supply chain disruption and a shortage of available workers all have the potential to slow this so-far very robust recovery.

Sources: JP Morgan Asset Management, Goldman Sachs Asset Management, Barron’s, Econoday

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