A Wall Street Journal report on Friday by Nick “The Fed Whisperer” Timiraos reported that, while the early November Fed meeting will still most likely result in another 0.75% increase in interest rates, it could well be the final one that showcases a hike of that magnitude and that committee members are now actively contemplating easing up in December and beyond.
Interestingly, on the same day, San Francisco Fed President Mary Daly warned of the risk of over-tightening, the first time we have heard that sentiment in a long while.
As a result, the futures market (see EXPLAINER: FINANCIAL TERM OF THE WEEK below) implied the probability of a 0.75% hike in December to be at 50%, down from 75% just a day earlier, while the chances of a “only” a 0.50% rate rise in December increased to 47%, up from 24% in the same 24-hour period, suggesting it’s basically a tossup between the two outcomes.
This was one of number of small, incremental pieces of good news for markets that we witnessed last week that saw both the S&P 500 and NASDAQ rise about 5%.
Some 72% of the S&P 500 companies reporting Q3 earnings thus far have beaten Wall Street's expectations although it's important to note that these expectations are historically low. Most bank earnings were solid, notably Goldman Sachs (GS) but, as you can see in THE WEEK’S UPCOMING CALENDAR below, this forthcoming week is the big one when it comes to earnings and we will be in a much better position to judge how things look by this time next week.
I mentioned last weekend that the smart money had UK prime minister Liz (“I’m a fighter, not a quitter”) Truss gone by Christmas but, as it turned out, she didn’t even make it to Thursday lunchtime as her domestic approval rating dipped to the annual rate of UK inflation, not very far ahead of that of Vladimir Putin and she finally threw in the towel after a whole 44 days in charge of the fifth largest economy in the world. The markets initially reacted positively to her departure and the incineration of her crazy economic lab experiment and global bond yields pulled back and the rampaging dollar stalled a bit.
However, as the specter was raised late Friday of a possible return to chaos with disgraced ex-prime minister Boris Johnson poised to make an improbable comeback, markets began to show understandable renewed nervousness.
We shouldn’t expect the S&P 500 to recoup all the losses directly brought about by this British psychodrama because there are scars from the whole episode that will take time to heal.
It’s important to enjoy the good days and the appearance of some chink of light at the end of what has been a long, dark tunnel so I’m not trying to minimize the recent rebound, as it does seem more legitimate than any we’ve seen this year. But the outlook for stocks still remains very challenged until such time as we see that inflation is definitely declining.
It still remains a broadly uncomplicated market. The global economy has a big inflation problem. Recessions are better than entrenched inflation (neither are good but the former is better than the latter) so central banks everywhere will continue to raise interest rates to cool inflation to a tolerable target (not 2%, but something probably between 3%-4%).
Those rate hikes will inevitably cause recessions, which of themselves will help fix inflation. Once that is done, these same central banks will eventually start to cut interest rates to stimulate the economy and growth will resume, albeit with a higher level of inflation than we had back in 2019.
It’s a process we must endure and there have been speed-bumps that still persist in the form of external shocks; oil price volatility, Russia/Ukraine, Chinese COVID lockdowns, economic and political havoc in the UK and now increasingly the US midterm election circus (we are less than a month away), but inflation is by far the dominant core issue and things will not meaningfully or sustainably improve until we get definitive proof that inflation is receding.
For anyone with a multi-year time horizon, remember that the Federal Reserve is going to break inflation eventually (best piece of Wall Street advice out there: don’t fight the Fed) and then they will at some point cut interest rates and re-stimulate the economy. So this absolutely will end and it will create a 2000-2002-type opportunity for longer term investors.
Do not get shaken out by fear, hyperbole or know-nothing simpletons spouting crap on TikTok. Make sure you read this week’s ARTICLE OF THE WEEK below for actual sensible advice.
OTHER NEWS
2023 updates .. The IRS last week raised 401k and IRA contribution limits by the most in 25 years and I wrote an article on what you need to know. I also updated my article “Is The Backdoor Roth IRA Contribution Right For You?” for 2023 and my “Workplace Benefits Explained” post has also been updated for next year, great if you are changing jobs or are undergoing open enrollment.
“Certain” recession in the US? .. Economists at Bloomberg maintain a quantitative model to predict recession odds that incorporates 13 macroeconomic and financial factors. The latest run of the model last week put those odds at 100% in the next 12 months. In the previous release, the model assigned a mere 65% odds to a U.S. recession in the next twelve months. The new run also assigned 73% odds, up from 30%, to a recession within eleven months.
Other Wall Street forecasters have also increased their projected odds of a recession in recent months, though few have described it with the certainty implied by the Bloomberg model.
Ready for some really, really big numbers? .. New numbers from the Treasury last week showed the federal budget shortfall was chopped in half in the last fiscal year (which ended last month), falling to $1.38 trillion (that’s $1,380,000,000,000).
Federal spending was $6.3 trillion, down more than 8% from the previous year. That drop largely reflects the end of COVID-related government programs. Meanwhile, government revenues rose by $850 billion, to $4.9 trillion. That was due, in part, to higher individual income taxes on the back of a strong labor market and wage gains for workers.
The road ahead looks more troubling, however. For one, the economy is cooling down, and many economists expect the unemployment rate to rise in the year ahead. So while the labor market caught a tailwind in the last fiscal year, headwinds may appear in 2023.
But possibly most damaging of all is that interest rates are rising, putting upward pressure on the cost of federal interest payments. Earlier this year, the Congressional Budget Office estimated that interest costs alone could top $1 trillion by 2032 — or 3.3% of GDP, more than double its share this year and rates have only moved up even faster since then.
UNDER THE HOOD:
There has finally been a noticeable reduction in the intensity of selling activity and downside momentum in the short term, but change is slow in the outlook of the ongoing primary downtrend, which still needs to be greatly respected.
Clustered days of very heavy buying and very heavy selling are more likely to reflect simply high volatility than a klaxon announcing the end of the bear market. Much more evidence is required to issue anything close to a technical all-clear signal.
It is important to recognize that it is the weight of the evidence, not just a one or two factors, that is paramount. Nonetheless, there are some technical bright spots such as the recent outperformance of smaller and mid-size stocks, which were the most beaten down and are therefore expected to turn first in the case of a market bottom. Also outperforming last week were less defensive sectors like Technology, Energy and Consumer Cyclical.
We do need to remember that it’s a post-COVID world that is still trying to get back into normal rhythms and some of these indicators that worked so well in the past could have different and less predictable timelines than they used to.
Anglia Advisors clients are welcome to reach out to me to discuss market conditions further.
THIS WEEK’S UPCOMING CALENDAR ..
Stocks will face the heart of the Q3 reporting season this week with more than 150 Big Tech firms and other corporate giants set to deliver results. These include Apple, Microsoft, Alphabet/Google, Meta/Facebook, Amazon, Coca-Cola, Exxon-Mobil, Intel, McDonalds, Chevron, Ford, Boeing, UPS, Visa, Discover, General Electric, General Motors, T-Mobile, Mastercard, Comcast, Merck, Kraft Heinz, Southwest Airlines, 3M, Chipotle, Haliburton, Texas Instruments and NextEra Energy.
Economists will be watching for the first of three official estimates of Q3 Gross Domestic Product (GDP) out next week. Forecasts call for a seasonally adjusted annual growth rate of 1.7%, following declines in Q1 and Q2 2022 of 1.6% and 0.6% respectively.
Other data highlights next week will include the Manufacturing and Services Purchasing Managers’ Indexes for October and Personal Income and Consumption data for September.
US INVESTOR SENTIMENT LAST WEEK (outlook for the upcoming 6 months):
↑Bullish: 23% (up from 20% the previous week)
→Neutral: 21% (down from 24% the previous week)
↓Bearish: 56% (unchanged from 56% the previous week)
Net Bull/Bear spread .. ↓Bearish by 33 (Bearish by 36 the previous week)
Source: American Association of Individual Investors (AAII).
For context: Long term averages: Bullish: 38% — Neutral: 32% — Bearish: 30% — Net Bull-Bear spread: Bullish by 8
The highest recorded percentage of AAII bearish sentiment was 70% and occurred on March 5, 2009 near the end of the financial crisis bear market. The lowest percentage of AAII bears was 6% on August 21, 1987 not long before the stock market crash of October 1987).
Weekly sentiment survey participants are usually polled on Tuesdays or Wednesdays.
LAST WEEK BY THE NUMBERS:
Last week’s market color from finviz.com:
- Last week’s best performing US sector: Technology (two biggest holdings: Apple, Microsoft) - up 9.1%
- Last week’s worst performing US sector: Consumer Defensive (two biggest holdings: Proctor and Gamble, Pepsico) - up 2.1%
- The NASDAQ-100 outperformed the S&P 500
- US Markets did much better than International Developed Markets and Emerging Markets
- Large Cap stocks beat out Mid and Small
- Growth meaningfully outperformed Value
- The proprietary Lowry's measure for US Market Buying Power is currently at 142 and rose by by 11 points last week and that of US Market Selling Pressure is now at 177 and fell by 12 points over the course of the week.
- SPY, the S&P 500 ETF, remains below its 50-day and 90-day moving averages and also below its long term trend line. The 14-day Relative Strength Index (RSI) reading is 51**. SPY ended the week 21.7% below its all-time high (01/03/2022).
- QQQ, the NASDAQ-100 ETF, remains below its 50-day and 90-day moving averages and also below its long term trend line. The 14-day Relative Strength Index (RSI) reading is 49**. QQQ ended the week 31.8% below its all-time high (11/19/2021).
** RSI readings range from 0-100. Readings below 30 tend to indicate an over-sold condition, possibly primed for a technical rebound and above 70 are often considered over-bought, possibly primed for a technical decline.
- VIX, the commonly-accepted measure of anticipated upcoming stock market risk and volatility implied by S&P 500 index option trading (often referred to as the“fear index”) ended the week lower at 29.7. It remains above its 50-day and 90-day moving averages and is also above its long term trend line.
ARTICLE OF THE WEEK: “The riskier stocks feel, the less risky they get over time .. What I do know is that when the S&P 500 is down more than 25%, you buy it, no questions asked.” Michael Batnick on being smart right now.
EXPLAINER: FINANCIAL TERM OF THE WEEK:
A weekly feature using information found on Investopedia to try to help explain Wall Street gobbledygook (may be edited at times for clarity) .
A futures market is an auction market in which participants buy and sell commodity and futures contracts for delivery on a specified future date. Futures are exchange-traded derivatives contracts that lock in future delivery of a commodity or security at a price set today.
Examples of futures markets are the New York Mercantile Exchange (NYMEX), the Chicago Mercantile Exchange (CME), the Chicago Board of Trade (CBoT), the CBOE Options Exchange (CBOE), and the Minneapolis Grain Exchange.
Originally, such trading was carried on through open outcry and the use of hand signals in trading pits, located in financial hubs such as New York, Chicago, and London. Throughout the 21st century, like most other markets, futures exchanges have become mostly electronic.
In order to understand fully what a futures market is, it’s important to understand the basics of futures contracts, the assets traded in these markets.
Futures contracts are made in an attempt by producers and suppliers of commodities to avoid market volatility. These producers and suppliers negotiate contracts with an investor who agrees to take on both the risk and reward of a volatile market.
Futures markets or futures exchanges are where these financial products are bought and sold for delivery at some agreed-upon date in the future with a price fixed at the time of the deal. Futures markets are for more than simply agricultural contracts, and now involve the buying, selling and hedging of financial products and future values of interest rates.
Futures contracts can be made or "created" as long as open interest is increased, unlike other securities that are issued. The size of futures markets (which usually increase when the stock market outlook is uncertain) is larger than that of commodity markets and is a key part of the financial system.
Large futures markets run their own clearinghouses, where they can both make revenue from the trading itself and from the processing of trades after the fact. Some of the biggest futures markets that operate their own clearinghouses include the Chicago Mercantile Exchange, the ICE, and Eurex. Other markets like Cboe have outside clearinghouses (Options Clearing Corporation) settle trades.
Almost all futures markets are registered with the Commodity Futures Trading Commission (CFTC), the main U.S. body in charge of regulation of futures markets. Exchanges are usually regulated by the nation’s regulatory body in the country in which they are based.
For instance, if a coffee farm sells green coffee beans at $4 per pound to a roaster, and the roaster sells that roasted pound at $10 per pound and both are making a profit at that price, they’ll want to keep those costs at a fixed rate. The investor agrees that if the price for coffee goes below a set rate, the investor agrees to pay the difference to the coffee farmer.
If the price of coffee goes higher than a certain price, the investor gets to keep profits. For the roaster, if the price of green coffee goes above an agreed rate, the investor pays the difference and the roaster gets the coffee at a predictable rate. If the price of green coffee is lower than an agreed-upon rate, the roaster pays the same price and the investor gets the profit.
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