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Market Extra: Delta variant is creating cascade of reasons to question U.S. recovery in the second half

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Investors are struggling to stay upbeat as the spreading delta variant of coronavirus triggers a cascade of reasons to doubt expectations for a robust U.S. economic recovery in the second half.

U.S. stocks slumped for a third day Thursday morning, before recovering some ground in a rally that was led by technology stocks and left economic-sensitive companies behind. The market moves — which also saw commodities get hammered, the U.S. dollar rise, and bond yields fall — came a day after Goldman Sachs Group Inc.
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-1.54%

economists cut their outlook for third-quarter U.S. growth to 5.5% from 9%, previously.

Goldman Sachs, typically regarded as one of Wall Street’s most bullish firms, said the delta variant is having a somewhat larger impact on growth and inflation than it expected, and consumer spending and production are likely to take hits. The firm’s view is reinforcing a growing realization among investors that a widely anticipated return to normalcy is still a long way off. More firms are likely to reduce forecasts, while supply-chain bottlenecks are continuing to create price pressures, and the Federal Reserve’s probable pull back on stimulus may feed into an economic slowdown this year.

“When you combine everything, it’s hard to be upbeat and have risk appetite in mind,” Edward Moya, senior market analyst for the Americas at Oanda Corp., said via phone. “There’s still tremendous froth in the market, and we will probably see valuations take a hit as the global economic recovery struggles. The market is unclear how the rest of year is going to unfold, and there are too many question marks to be optimistic about the third and fourth quarters.”

Thursday’s risk-off moves came even after data released by the Conference Board suggested the likelihood of strong growth for the second half and the FOMC’s July minutes, released yesterday, didn’t offer much in the way of new information about the tapering asset purchases. In fact, the minutes were seen in some circles as dovish, considering widespread expectations for a tapering announcement in September. Instead, the minutes left a September announcement in doubt, even though most officials backed a start to the process this year.

Read: Dow, S&P 500 book worst declines in a month after Fed minutes show taper plans later this year

Many investors regard the Fed’s tapering process as the removal of monetary stimulus. And the notion of a central bank that would be tapering into a U.S. economic slowdown in the second half got credence when Goldman Sachs released its note late Wednesday. In it, economists Jan Hatzius, Alec Phillips, and others wrote that the variant and other disruptions are “likely to further raise prices of supply-constrained durable goods through year-end.”

A global shortage of semiconductors is leaving the world’s three largest auto makers — Toyota Motor Corp.,
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-4.42%

Volkswagen AG
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-4.03%

and Ford MotorCo.
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-2.96%

— with the risk of further production cuts. Meanwhile, COVID-19 is causing another shipping bottleneck in China — driving container rates through the roof.

Read: Covid Delta Variant Is Hitting Supply Chains. 5 Stocks Feeling the Impact.

The hit taken to the third quarter “should be largely offset by stronger growth in Q4,” along with the first half of next year, according to Goldman Sachs, which boosted its fourth-quarter forecast to 6.5% from 5.5%, and its 2022 outlook to 4.5% for the year versus 4.4%.

Within the U.S. interest rates market, “rising delta worries are part of the story to recent U.S. Treasury strength,” said David Gagnon, a San Diego-based managing director and head of Treasurys trading for Academy Securities. “Until we get a catalyst to push rates higher, the huge liquidity from global central banks is forcing investors to buy US Treasuries more because they `have to’ rather than they `want to.’ ” 

Overseas, trouble in Afghanistan is creating geopolitical anxiety also, while China’s crackdown on the country’s technology players is giving way to fears of an economic slowdown in the world’s second-largest economy.

“There are a ton of headwinds getting placed in front of an economy that was bouncing back,” said Tony Farren, the Stamford, Connecticut-based managing director of Mischler Financial Group. “It wasn’t long ago that we thought COVID was behind us.”

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