The US ISM Manufacturing New Orders Index eased to 56.0 in June from 56.8 previously. The reading remained above the 50 mark that separates expansion from contraction. <\/p>\n
The latest move indicates a modest cooling in the pace of new order growth compared with the prior month. Even so, the index level points to continued expansion in manufacturing demand on the ISM measure.<\/p>\n
The slight drop in new manufacturing orders to 56 signals that economic growth is moderating. While still in expansion territory, this slowdown suggests the Federal Reserve’s sustained higher interest rates are beginning to cool demand. We see this as a reason to add a layer of caution to our strategies for the coming weeks.<\/p>\n
With the S&P 500 up nearly 12% year-to-date, we believe it is prudent to purchase protective puts on broad market indices like the SPX. The CBOE Volatility Index (VIX) is currently trading near a historical low of 14, making options-based insurance relatively inexpensive. A continued economic slowdown could push volatility back towards the 18-20 range seen earlier in the year.<\/p>\n
This manufacturing data points to potential weakness in industrial and materials sectors. We are therefore considering put options on ETFs like the XLI as a targeted hedge against a cyclical downturn. Conversely, a flight to safety could benefit defensive sectors, making call options on utilities (XLU) or consumer staples (XLP) attractive.<\/p>\n
This cooling in new orders also makes another Fed rate hike in the third quarter less likely. Futures markets are now pricing in only a 25% chance of a hike by September, down from 40% just last week. We are monitoring SOFR futures contracts to position for a potential peak in short-term interest rates.<\/p>\n\n\n\n