Investors Seek Safety Amid AI Sell-Off, Oil Surge

Every morning before the opening bell, the Schwab Market Update sets the stage for the day ahead, covering key market movers, economic developments, and emerging themes. Each edition includes "Three things to watch" while Thursdays feature a weekly section, "Crypto currents." This recap revisits select items for those who may have missed them, helping traders head into the weekend better informed.

This week's stock sell-off reminds investors that crude oil remains a direction setter on Wall Street even amid the parade of earnings. More attacks on oil vessels and increasing tensions between Iran and the U.S. had investors worried even as The Wall Street Journal reported that exports of oil from the Middle East now exceed levels seen before the war. Exporters have found alternate routes to bypass the Strait of Hormuz, but crude product prices remain high, especially for diesel. High shipping costs remain a burden within the industry, and likely are getting passed along to consumers. Several companies, including United Airlines (UAL) and Philip Morris (PM), said in their earnings reports that rising energy costs are a burden. United cut the high end of its earnings guidance. U.S. weekly crude stockpiles, which traditionally rise toward the end of the year, fell by more than three million barrels, the U.S. Energy Information Administration said Wednesday. Strong results from Union Pacific (UNP), Norfolk Southern (NSC), and Valero Energy (VLO) showed railroads and the energy industry are benefitting from surging crude prices, with cargo transitioning from trucks to rail.

Many investors reflexively blamed last week's hot inflation reports on surging energy prices, but that isn't the whole story. Both core goods and core services prices accelerated in September, suggesting that the summer slowdown was temporary. Services inflation remained particularly concerning. The Supercore Consumer Price Index —or core services excluding housing—rose 0.42% monthly and 3.13% year over year, indicating that underlying services inflation may have a floor closer to 3% than the Federal Reserve's 2% target. Producer prices reinforced concerns that price pressure goes beyond energy markets. The breadth of the gains, including the largest historical increase in final-demand goods prices, is expected to push the Personal Consumption Expenditures (PCE) price index to the highest level in months. Another data point that's more complex below the surface was last week's September retail sales report. While nominal sales rose 0.8% monthly, rising gas station costs drove most of that.

As oil rose this week, Treasury yields largely retreated, raising questions about the relationship between the two. Until recently, rising oil and rising yields went hand in hand, in part because of strong U.S. economic growth. The yield decline, which began last week, could reflect defensive trading where investors seek perceived safety in fixed income as they fret about the long-term impact of inflation on U.S. growth. Tuesday's icy housing data—including worse-than-expected September housing starts and pending home sales—also contributed to yield weakness. So did softness in technology stocks and an ongoing rotation out of the AI trade. There weren't any major Treasury auctions this week to hint at demand. However, last week's August Treasury International Capital data showed a net inflow of funds from foreign investors into U.S. assets, including Treasuries, a positive sign. "We believe inflation will eventually cool toward the Fed’s 2% target, but the longer it remains elevated, the more likely yields are to remain elevated as well," said Cooper Howard, director of fixed income research and strategy at the Schwab Center for Financial Research (SCFR).

Meetings of the Bank of Japan (BoJ) and European Central Bank (ECB) next week, along with next Wednesday's Federal Reserve rate decision, could help set direction for Treasury yields. Recent unrest in France—where the country's debt to gross domestic product (GDP) ratio is above 100%—is in focus as the ECB gathers. "With elections not for another six months, France's bond market could remain a source of volatility," said Michelle Gibley, director of international equity research and strategy at SCFR. Debt concerns extend across the European Union amid heavy government borrowing, Reuters reported, with European banks particularly exposed. However, banks are better prepared now than they were 15 years ago, the last time Europe suffered a debt crisis. The ECB has raised rates twice this year to fight inflation, compared to the Fed's one hike, and the International Monetary Fund said last week it expects another ECB hike this year. Higher rates overseas can sometimes hurt U.S. Treasuries, causing yields to climb.

Thursday was one of just five days since 1996 where advancing S&P 500 stocks outnumbered decliners by more than 100, but the index fell more than 1%. The last time was January 27, 2025, and before that 1997. Bond strength lifted non-tech shares. "We seem to be getting closer to peak bond stress, which can give equities room to breathe and work on closing the breadth gap that has opened over the past several months," said Kevin Gordon, head of macro research and strategy at SCFR. The S&P 500 Equal Weight Index (SPXEW) rose 0.8% Thursday even as the S&P 500 Index fell 1.2%. The equal-weight index weighs all components equally rather than by market capitalization, meaning less exposure to mega-caps and more to rate-sensitive names. In sum, 337 of 500 S&P 500 components climbed even with the index lower. The PHLX Semiconductor Index (SOX) plunged 6.7% and is down roughly 15% this month. AI stocks flinched on worries about Meta Platform's (META) spending and as Nvidia's (NVDA) Jensen Huang told CNBC demand for neoclouds—specialized, high-performance cloud computing providers—is firm, but capital is scarce.