Why This Bear Market Is Not Even Close to Being Done…
For much of the last decade, the Fed was desperate to invigorate a stagnant labor market, especially from a wage perspective. To this end, it added trillions in liquidity to...
For much of the last decade, the Fed was desperate to invigorate a stagnant labor market, especially from a wage perspective. To this end, it added trillions in liquidity to the global economy which had secondary effects of bubbles in all sorts of assets. Yet, the Fed was mostly unsuccessful in this goal of a strong and tight labor market until a couple of years ago. Now, the Fed has the opposite problem. It's desperate to cool an overheated economy, and the locus of this is the labor market. Yet, its aggressive interventions have largely been unsuccessful in terms of curbing wage inflation or even job growth as evidenced by the latest reading which showed unemployment claims falling to a new cycle low. In today's commentary, I want to focus more on this dynamic and discuss its implications for our portfolio. Then, we'll do our usual roundup of pertinent market topics. Read on below to find out more….
(Please enjoy this updated version of my weekly commentary originally published September 29th, 2022 in the POWR Stocks Under $10 newsletter).
Over the last week, the S&P 500 is down by 3.1% (SPY). It’s telling that this feels like a ‘moral victory’ of sorts for the bulls given the even steeper losses of the last 2 weeks. We even had a couple of nice 2%+ bounce attempts.
But of course, these rolled over to fall to lower lows. More important is that we have now broken below the June lows, although there is some hope that the lows were undercut before finishing higher in Tuesday’s and today’s sessions.
On Wednesday, stocks were up more than 2% with big bounces in some of the most oversold parts of the market. However, all of these gains were given back in today’s session.
The major factor in the decline was jobless claims which fell to a new low. Remarkably, the labor market continues to strengthen despite a plethora of challenges and increasing signs of economic weakness in various sectors and around the world.
Obviously, this is great news for the economy and the country.
But, why is it so bearish for the stock market?
Well, this is one of those times that we have an economy vs market type situation.
Good economic news is bad for markets as is bad economic news for obvious reasons. The reason is the Fed’s ultra-hawkish stance. Good news means more tightening.
Bad news means that earnings are likely to decline, but it’s unlikely to lead to lower rates (until inflation meaningfully bends lower).
In fact, this is the exact opposite dynamic that we had in the months following March 2020 when the Fed had an extremely dovish stance. This was another the economy isn’t the market and the market isn’t the economy type situation.
Bad economic news caused stocks to rally as it meant that the Fed would ease more and/or for longer. Good economic news was good because, it meant that earnings would increase, but wouldn’t lead to tighter monetary policy or higher rates.
For the stock market (SPY), the major implication is that… the bear market is not close to being done.
The Fed (and stock market) are caught between a rock and a hard place with no easy options. Slaying the inflation beast seems unlikely without more economic pain.
The headwind of higher rates is quite potent. The best-case scenario for stocks is that we have another quarter of economic data and earnings that beat relative to expectations.
This would likely lead to a range-bound market with some nice rallies like what we had in July, but it’s a far cry from a bull market.
To get a new bull market, we need the Fed to back off and an inflection point in economic data especially in terms of housing and industrials. Both are unlikely at the moment.
In terms of the portfolio, we will do our best to navigate the current situation. Upside is capped and limited, so we need to use bounces and rallies to take profits and lighten up. Downside is steep and significant. Overall, risk management is paramount.
Let’s think about it this way: Going back to a sports analogy, let’s say a football team is driving down the field for a game-winning touchdown.
Well, they’re going to throw or hand it off to their best players and use their best plays. It’s not the time to go for a hail mary or a flea-flicker. (Of course, there are exceptions.)
The same applies to us. This is not a time to take big swings. It’s a time for grinding, for studying, for capital preservation, and leveling up our investing IQ and process for the next bull market.
Now let’s do a review of some important market topics…
UK bonds: Something extraordinary happened this week as the Bank of England initiated a 2-week QE program in the midst of rate hikes.
The impetus was the collapse in the pound and gilts due to incoming PM Truss’ extremely generous budget which is certainly going to lead to bigger deficits, just as rates are rising.
In essence, the central bank is fighting inflation, while fiscal authorities are fanning the flames.
What I’m thinking about – is this an anomaly or a preview of what’s to come for other European countries in a similar situation with soaring electricity prices and sky-high inflation.
Growth stocks: Growth stocks can’t meaningfully rally until inflation turns lower. This is a fact because higher rates are anathema to the asset class. Higher rates mean that long-term cashflows are less attractive.
Further, many investors might choose to get a guaranteed 4% return for 2 years in Treasuries amid this market environment vs something like 10% in growth stocks that comes with an insane amount of risk and volatility.
Oil: One silver lining for bulls has been the decline in oil and gasoline prices. Imagine the current moment but with gas prices above $6 per gallon.
What I’m unsure about is how much of the weakness is due to SPR sales? Or, is it that oil had a blowoff top amid the Russia-Ukraine news which set up a classic ‘sell the news’ inflection point?
Or could it just be that the energy markets are reacting to an oncoming recession?
I think the answers to these questions are quite important, and it’s something I want to keep digging into in future commentaries. However for the time being, I see energy as more of a trading vehicle rather than for investing.
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All the Best!
Chief Growth Strategist, StockNews
Editor, POWR Stocks Under $10 Newsletter
SPY shares closed at $357.18 on Friday, down $-5.61 (-1.55%). Year-to-date, SPY has declined -23.93%, versus a % rise in the benchmark S&P 500 index during the same period.
About the Author: Jaimini Desai
Jaimini Desai has been a financial writer and reporter for nearly a decade. His goal is to help readers identify risks and opportunities in the markets. He is the Chief Growth Strategist for StockNews.com and the editor of the POWR Growth and POWR Stocks Under $10 newsletters. Learn more about Jaimini’s background, along with links to his most recent articles.
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