The calendar may have flipped, but the song remains the same.
Last week was something of a microcosm of 2022; a steady downward grind for the most part, occasionally punctuated by a sharp spike. Last year these spikes all failed to trigger a true turnaround, always eventually fizzling out and leading to subsequent further new lows. It remains to be seen if that pattern will continue or benefit from the so-called “January Effect” (see EXPLAINER: FINANCIAL TERM OF THE WEEK, below).
Many of the market’s big dogs stumbled right out of the gate in 2023’s opening few sessions.
Apple (AAPL) stock got punished early in the week following a report that the company is telling suppliers to reduce production of some components because of a decline in demand.
Microsoft (MSFT) fell hard on Wednesday as analysts downgraded the stock and cut the price target, pointing to growing weakness in the company’s Azure cloud computing and Office 365 businesses.
Tesla (TSLA) reported far fewer vehicle deliveries than anticipated and the stock price continued its apparently relentless meltdown.
Meta/Facebook (META) continues to get slammed and fined by European regulators for its perceived anti-privacy measures.
Amazon (AMZN) announced it was being forced to lay off more than 18,000 employees, a larger total than anticipated and the most in the company's history.
Walgreens/Boots (WBA) shares sank more than 6% on Thursday as the largest US pharmacy chain posted a quarterly loss after taking a $5.2 billion charge to pay for opioid-related claims and litigation.
Analysts searched in vain through the minutes of the last Fed meeting that were released on Wednesday for a sign that indicated that committee members have any plans to ease up on their inflation-busting crusade anytime soon. They found, to their disappointment, that everyone was largely consistent with Chair Jerome Powell's public hawkish rhetoric, apparently unanimous in their view that there will be no interest rate cuts this year.
On Friday we learned from the Jobs Report that the US economy gained 223k jobs last month, more than the 200k economists had anticipated after a rise of 256k in November. The unemployment rate unexpectedly fell to 3.5% compared to forecasts of an unchanged 3.7%.
This evidence of a continued tight labor market seems on the surface to undermine recent encouraging inflation indicators and it initially increased expectations for a 0.50% hike in February and a Terminal Rate (the rate in place at the time that the Fed eventually stops hiking) above 5%.
But the data also showed that the rise in wage growth, average hourly earnings, eased meaningfully last month, suggesting that inflation is slowing and the market chose to focus on this side of things, resulting in stocks roaring higher to end the week, flipping the indexes from a losing week to a winning one.
Last summer, I identified what I believe to be the three most important keys to stock prices bottoming out. As 2023 kicks off, it seems like a good time to check in and see where we stand with them all.
#1. Inflation Tops Out and Declines and We Get to Peak Fed Hawkishness**
By far the most important one and the one with the most moving parts. How we’ll know: the Core Consumer Price Index (CPI) and the Core Personal Consumption Expenditures (PCE) Price Index begin to meaningfully decline. If year-on-year CPI can get back down near 3%-5% within the first several months of 2023, that will likely lead the Fed to a position of peak hawkishness whereby the interest rate hikes stop which could help to form a sustainable bottom in stock prices.
The latest: The market is telling us, via fed fund futures trading, that it simply doesn’t believe the Fed and that it thinks that peak Fed hawkishness will occur sometime before mid-2023 and that it will be forced to pivot to actually lowering interest rates sooner rather than later. The Fed is resisting this narrative and has denied that its hawkish stance is necessarily close to an end or that interest rate cuts will happen in 2023.
We will see who is right. Headline inflation has likely topped out, but we need to see a continued decline in all the inflation metrics (especially service sector inflation) and a labor market deterioration (increased unemployment) to make the market’s case over the Fed’s.
** “Hawkishness” meaning favoring the aggressive prioritization of bringing down inflation by means of continuously raising interest rates
#2: Chinese Lockdowns Ease and Growth Recovers
How we’ll know: China COVID cases drop, the abandonment of Zero-COVID measures is maintained, its currency moves back towards 6.50 to the dollar and economic growth approaches pre-COVID levels.
The latest: There has been material progress towards achieving this key over the past several weeks, as the authorities have clearly abandoned “Zero-COVID” and are openly stepping up efforts to bolster economic growth. However, the inevitable massive spike in COVID cases is causing Chinese citizens to choose to restrict their movements and holding economic growth way below pre-COVID levels. The process is, however, ongoing and this key could well be achieved during the first half of 2023.
#3: Geopolitical Tensions Decline
How we’ll know: Oil and other commodities will drop to pre-Ukraine war levels. Update: It’s a strange one. Global commodity prices have indeed fallen (some quite hard) but these price declines have most definitely not been the result of reduced geopolitical tensions, but rather as the result of the perceived rising odds of a global recession and the accompanying demand destruction. Regarding geopolitics, fighting rages on in Ukraine with no near-term end in sight. However, there is talk of a UN organized summit in February that would be aimed at establishing at least a ceasefire, although it’s too early to get optimistic about that.
While it can be said that progress has been made on all three of these key indicators and we are in better shape than when I first started discussing them, we probably need them all to be satisfied to be able to call that the bottom may be in. We continue to play the waiting game.
OTHER NEWS
How’s that whole HODL thing working out? .. Bed, Bath and Beyond (BBBY) was a one-time favorite of the Reddit meme stock army of now mostly-former novice day traders (the majority of whom probably have lower net worths now than they did in 2019) who deluded themselves into thinking that they knew what they were doing in 2021. The company announced last week that it is preparing to file for bankruptcy and the stock promptly fell 30% on Thursday and then another 20% on Friday and is now down almost 99% from its all-time high. Yet again, gullible retail HODLers are left holding the bag and institutional Wall Street wins for the umpteenth time.
UK politics; “Look at us, we’re crazy!”, US politics; “Hold my beer,” .. The mindless shit-show in the House of Representatives last week is quite properly being disregarded by financial markets at the moment as unimportant noise, but it is a clear and ominous warning that severe political dysfunction could well inject volatility into asset markets at some point later this year. This risk is amplified by the presence of some elected members who seem prepared to just burn the whole thing down, come what may. At a minimum, another nasty debt ceiling showdown sometime in the next twelve months should surprise no-one.
UNDER THE HOOD:
While the technical evidence still points to a further decline to new lows for the market in general, there is one technical effect happening right now that may give cause for optimism.
Longer term readers may recall that, throughout 2021, while the major indexes were rising in almost a straight line upward, this report was among those which pointed out that in fact the entire universe of US stocks had topped out as early as early March of that year. The majority of stocks were in distinct, even substantial, downtrends for the rest of the year while the headline indexes kept climbing.
Why was this? Because the the weighting of the indexes was (and still is) dominated by a handful of monster-sized firms who were still doing extraordinarily well, while the stock prices of literally thousands of other companies were entering a steep decline. The effect was that the indexes only began to fall many months after the average stock had started to sink. The performance of the largest companies artificially propped up the index prices for ages, so the under-the-surface crumbling decline remained invisible to most investors.
There is an argument to be made that the exact opposite may be happening right now. The indexes are having a hard time recovering, while a decent number of stocks are starting to pick themselves up off the floor, particularly smaller stocks in certain more value-oriented parts of the market, away from large cap growth and tech. The indexes are struggling, the argument goes, precisely because those same names that propped them up in 2021 are now causing a drag because so many of them are going through such disproportionately difficult times (see earlier for examples) that there is now a positive underlying story of recovery that may be invisible to investors because of the dominance of the big guys in index construction.
Anglia Advisors clients are welcome to reach out to me to discuss market conditions further.
THIS WEEK’S UPCOMING CALENDAR ..
The holidays are over and this week will be a busy one for investors with the start of Q4 2022 earnings season. But the mammoth news will be the release of the latest inflation data.
Earning season kicks off on Friday, with results from several big banks and other notable companies including Bank of America, Citigroup, JPMorgan Chase, Wells Fargo, BlackRock, Delta Air Lines, and UnitedHealth Group.
On Thursday, we get the report on the Consumer Price Index (CPI) measure of retail inflation for December. Expectations are for no change month-on-month, implying a 6.6% year-on-year increase, which would be a decrease from November’s 7.1% annualized.
The critical Core CPI, which excludes food and energy prices, is expected to have risen 0.3% from November to December, for a one-year gain of 5.7%, down from the 6.0% annualized for November.
We’ll also get to see the University of Michigan’s Consumer Sentiment Index, which is expected to be up at least slightly from the prior month.
US INVESTOR SENTIMENT LAST WEEK (outlook for the upcoming 6 months):
↑Bullish: 20% (26% the previous week)
→Neutral: 38% (26% the previous week)
↓Bearish: 42% (48% the previous week)
Net Bull-Bear spread .. ↓Bearish by 22 (Bearish by 22 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 5th 2009, right near the end of the Great Financial Crisis. The lowest percentage of AAII bears was recorded at 6% on August 21st 1987, not long before the stock market crash of October 1987.
Weekly sentiment survey participants are usually polled on Tuesdays and/or Wednesdays.
LAST WEEK BY THE NUMBERS:
Last week’s market color from finviz.com:
- Last week’s best performing US sector: Communications Services (two biggest holdings: Meta/Facebook, Google) - up 5.0% for the week
- Last week’s worst performing US sector: Utilities (two biggest holdings: NextEra Energy, Duke Energy) - down 0.9% for the week
- The S&P 500 did a little better than the NASDAQ-100
- Emerging and Foreign Developed Markets finished ahead of US Markets
- Large Cap lagged Mid and Small
- Value stocks were nicely up for the week, Growth stocks were flat at best
- The proprietary Lowry's measure for US Market Buying Power is currently at 165 and rose by 11 points last week and that of US Market Selling Pressure is now at 142 and fell by 13 points over the course of the week.
- SPY, the S&P 500 ETF, is now right at its 50-day and 90-day moving averages but still below its long term trend line. SPY ended the week 17.6% below its all-time high (01/03/2022).
- QQQ, the NASDAQ-100 ETF, remains below its 50-day and 90-day moving averages and is still well below its long term trend line. QQQ ended the week 30.6% below its all-time high (11/19/2021).
The Lowry’s Percent of Stocks Above Their 30-Day Moving Average reading rose from 40% to 43%.This important 0-100% reading measures overall positive stock participation. Higher readings indicate increasing positive market momentum, lower readings indicate increasing downside momentum. Extreme readings below 20% and above 80% could potentially point to imminent short term trend reversals.
- VIX, the commonly-accepted measure of anticipated stock market risk and volatility (often referred to as the “fear index”), implied by S&P 500 index option trading, ended the week slightly lower at 21.3. It remains below its 50-day and 90-day moving averages and also below its long term trend line.
ARTICLE OF THE WEEK: I published two pieces of content of my own last week. One was a Q4 2022 financial market review and the other was titled “I Bonds: What You Need To Know”.
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) .
The January Effect is a perceived seasonal increase in stock prices during the month of January. Analysts generally attribute this rally to an increase in buying, which follows the drop in price that typically happens in December when investors, engaging in tax-loss harvesting to offset realized capital gains, prompt a sell-off.
Another possible explanation is that investors use year-end cash bonuses to purchase investments the following month. While this market anomaly has been identified in the past, the January Effect seems to have largely disappeared as its presence became widely known.
Indeed, our own look back at the SPDR S&P 500 ETF (SPY) since its 1993 inception makes one wonder how the term ever came to be used. Of the 30 years since 1993, there have been 17 winning January months (57%) and 13 losing January months (43%), making the odds of a gain only slightly higher than the flip of a coin. Further, since the start of the 2009 market rally through January 2022, January months showed eight winners vs. six losers, again a split of 57% to 43%. Given the strong rally from 2009, one might rightly expect a more pronounced number of January winners, but this is not the case.
Traders should be aware of the tenuous nature of the January Effect and instead focus on the market conditions at the time and what they suggest for the overall short-term direction of the SPDR S&P 500 ETF.
The January Effect is a hypothesis, and like all calendar-related effects, it suggests that the markets as a whole are inefficient, as efficient markets would naturally make this effect non-existent. The January Effect seems to affect small caps more than mid-caps or large caps because they are less liquid.
Since the beginning of the 20th century, the data suggests that these asset classes have outperformed the overall market in January, especially toward the middle of the month. Investment banker Sidney Wachtel first noticed this effect in 1942.
This historical trend, however, has been less pronounced in recent years because the markets seem to have adjusted for it.
Another reason analysts consider the January Effect less important as of 2022 is that more people are using tax-sheltered retirement plans and therefore have no reason to sell at the end of the year for a tax loss.
Beyond tax-loss harvesting and repurchases, as well as investors putting cash bonuses into the market, another explanation for the January Effect has to do with investor psychology. Some investors believe that January is the best month to begin an investment program or perhaps are following through on a New Year's resolution to begin investing for the future.
Others have posited that mutual fund managers purchase stocks of top performers at the end of the year and eliminate questionable losers for the sake of appearance in their year-end reports, an activity known as "window dressing." This is unlikely, however, as the buying and selling would primarily affect large caps.
Year-end sell-offs also attract buyers interested in the lower prices, knowing that the dips are not based on company fundamentals. On a large scale, this can drive prices higher in January.
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