2023
A Dozen Reasons To Remain Bullish In 2024
Executive Summary: The bears who still expect a recession base their arguments on historical precedents: At times in the past when economic indicators were flashing the signs they are today, recessions occurred. But we see good reasons not to apply past rules of thumb to the current set of circumstances. Moreover, our Roaring 2020s thesis that widespread adoption of new technologies will set off a productivity boom is unfolding. As a result, we’re bullish on the outlook for the US economy and stock market. Today, we present the bears’ talking points and our rebuttals, including 12 good reasons for optimism as we enter 2024. … Also: Dr. Ed reviews “Archie” (+ +).
Drugs, China & AI
Executive Summary: The S&P 500 sector with the brightest 2024 earnings growth outlook is none other than Health Care, with a share price index that’s a deep underperformer this year, Jackie reports. One of its component industries accounts for much of both this year’s stock price pain and next year’s projected earnings gains—pharmaceuticals. Three drug makers in particular appear bound for standout earnings next year. … Also: China’s government is not doing what it takes to overcome its formidable economic challenges. … And in today’s Disruptive Technologies segment: one tech veteran’s advice for working with AI, warts and all.
Earnings: Yesterday, Today & Tomorrow
Executive Summary: S&P 500 companies collectively outperformed industry analysts’ Q3 expectations, posting record-high revenues and earnings per share. The profit margin was the highest in four quarters, suggesting that the cost-push inflation pressures that had weighed on margins are easing. … Analysts’ consensus estimates for 2024 and 2025 suggest accelerating growth for both revenues and earnings and rising profit margins. … The earnings outlook together with our projected valuation ranges result in our price targets for the S&P 500 of 4600 by the end of this year, 5400 by the end of next, and 6000 by year-end 2025.
Global Economy Still In A Funk
Executive Summary: Recent global indicators show economic growth at a crawl, commodity prices remaining weak, and inflation moderating. Weighing on the pace of growth have been recessions in China and Europe. China’s economic malaise is secular in nature and likely to last for a while given the challenges facing that country. But we expect the ECB to ease in the spring as inflation moderates, and the Eurozone’s shallow recession to lift. US economic growth has been slowing from Q3’s rapid pace, but a comeback in productivity growth could recharge it. … We continue to advise overweighting US stocks in global equity portfolios.
Hard Luck For Hard Landers
Executive Summary: The economy has proven resilient, defying all the reasons it shouldn’t be, to which diehard hard landers still cling. We expect that it will remain resilient and that inflation will continue to fall to the Fed’s target (a.k.a. “immaculate disinflation”). In this scenario, the Fed won’t be rushing to ease and won’t ease by much. The Fed’s policy stance is perhaps better cast as “normalizing” than tightening that requires undoing. … Labor market supply and demand are coming into better balance, as the Fed would like, though November employment data attest to the labor market’s continued strength. … Also: What to make of the fact that GDI is weaker than GDP. … And: Dr. Ed reviews “Reptile” (+).
Onshoring, Acquisitions & Octopus
Executive Summary: Federal incentives promoting the onshoring of manufacturing plants have certainly hit their mark in Arizona and New York. Both states are sprouting new regional semiconductor manufacturing ecosystems, Jackie reports, dramatically boosting local economic development. … Also: Financial firms with investment banking operations report a pickup in M&A, a trend that should only accelerate when the interest-rate environment stabilizes. … And our Disruptive Technologies focus today is on Octopus Energy, a British company with an innovative business model that rewards green electricity consumption.
Over There & Over Here
Executive Summary: Europe’s economic outlook is brightening, Melissa reports, perhaps presenting investment opportunities. The ECB’s monetary tightening has corralled inflation but also trampled GDP growth; this spring may bring monetary easing that enables revived growth. … Earlier fears of inadequate energy supplies for winter now appear ill-founded. … However, challenges remain in the form of higher energy costs and discord among EU nations over fiscal rules. … Also: Joe notes that the stock market’s post-October 27 rally has taken a turn for the broader since November 13, with more sectors participating in gains and the S&P 500 Value and Equal Weight indexes way outperforming their counterparts.
A Remarkably Resilient Economy
Executive Summary: Interest rates have been ascending and the tight labor market has been a problem for companies this year and last, but the US economy has been robust regardless. Today, we look at what accounts for its unusual resilience. … Hoisting the economy has been strength in the construction industry, especially multi-family, home improvement, and nonresidential building. … Also contributing to the economy’s resilience has been US corporations’ awesome cash generating capability. … And good news for next year: Signs are mounting that the rolling recession in the goods producing sector of the economy is bottoming and should give way to a rolling recovery in 2024.
Ho! Ho! Ho!
Executive Summary: The stock market’s Santa Claus rally has been turbocharged by a rallying bond market, subsiding inflation, lower oil and gasoline prices—in turn fueling consumers’ purchasing power—diminished fear of the Fed, and China’s economic weakness, which lowers the prices Americans pay for goods imported from there. … Jamie Dimon is right to warn that geopolitical dangers are great, but we don’t ascribe to his view that inflation remains troublesome, the Fed might tighten more, and the consumer’s strength likely isn’t sustainable. We think the economic evidence suggest otherwise on each score. … More good news: The sticky services inflation rates that have concerned the Fed are coming unstuck. … Dr. Ed’s movie review: “The Holdovers” (+).
MegaCap-8, AI & Gates On Climate Change
Executive Summary: The MegaCap-8 stocks are approaching their highest collective market capitalization ever, having already hit a record high in terms of their share of the S&P 500’s capitalization. … Also: Jackie discusses Google’s AI initiatives and election-year challenges. … And: Our Disruptive Technologies segment recaps Bill Gates’ practical and innovative approach to climate-related investments as the annual COP28 climate change conference kicks off in the UAE. Three innovations seem particularly promising.
Breaking Good
Executive Summary: Many of investors’ fears in 2023 turned out to be unfounded; all they really had to fear was fear itself. Now that investor sentiment has improved as investors have cast some fears aside, will undue fearlessness be a concern for the stock market in 2024? … Also improved from a year ago has been the consensus outlook of Wall Street strategists for S&P 500 operating earnings per share; our own estimates for this year and next have been and are still higher than the consensus. … Also: Joe shares the latest net estimate revisions data, showing more estimate cutting than hiking over the past three months. But analysts still expect positive y/y growth in both revenues and earnings next year.
Xi’s New Open-Door Policy
Executive Summary: China’s economy is hurting, and the government’s recent attempt to cozy up to the US—on display in President Xi’s recent speech—reflects a dire need for more foreign direct investment. But to get it, the government may need to change its aggressive ways. … China’s consumers are feeling the economic pain firsthand, with declining net worths affecting their spending. Two major crises led China to this juncture, one related to its flailing property market and the other to its aging and shrinking population. … US consumers, on the other hand, are flush with substantial net worth, especially the Baby Boomers.
Update: Another Roaring Twenties May Still Be Ahead
Executive Summary: Our Roaring 2020s outlook for this decade centers on the idea that technological innovations such as the so-called BRAIN technologies will be widely adopted by companies, fueling productivity growth that minimizes the economy’s major problem of a tight labor market and drives widespread prosperity. The pandemic derailed a productivity boom that started gathering steam in late 2015 and is just this year getting back on track. … We think the stock market rally that began a year ago reflects the technological revolution at the core of our Roaring 2020s scenario. … Of course, there are doubters; we address each of their main points below.
Oil, Stocks & 3-D Hand Printing
Executive Summary: In the spirit of the season, Jackie reflects on two sources of US investors’ gratitude—lower fuel prices and the stock market rally. … A confluence of factors has driven down fuel prices as Americans set out on their Thanksgiving travels, including record-high US oil production and lower-than-expected demand from China. … Interest-rate-sensitive industries have outperformed in recent weeks’ stock-market rally as investors lay bets that the Fed is done tightening. The rally has bumped three S&P 500 sectors to ytd gains above 30%. … And our Disruptive Technologies focus: hand-softening technology for robots, courtesy of 3-D printing.
Thanksgiving
Executive Summary: Americans have many blessings to count this week: Real GDP is at a record high; so are real consumption per household, real wages, and household net worth. Thanks to our Founding Fathers, no other country cultivates entrepreneurial capitalism as well as America. … Also: Joe finds that the leadership of the stock market rally has shifted away from large-cap and Growth stocks since last Monday. That follows the script of stock market rallies generally: They get off the ground with the strongest leaders, then broaden out to include other capitalization sizes and investment styles.
Retailers, Semis & Quantum Computing
Executive Summary: With consumers employed and feeling flush, the holiday selling season is starting off well. The recent quarterly earnings reports of a few big retailers were mixed, with TJX reporting good customer traffic while Home Depot and Target beat expectations. … Also: The S&P 500 Semiconductor industry’s price index has nearly doubled this ytd! But while some of its member stocks have posted outsized ytd gains, others have ytd drops. Jackie explores what’s fueling the price action. … And: Quantum computing is advancing by leaps and bounds. So is AI. Combine the two, as some companies are doing, and the innovation potential is astronomical.
Transitory After All
Executive Summary: It’s no longer debatable: October’s headline and core CPI excluding shelter reveal that inflation has turned out to be a transitory rather than persistent problem. Rent-of-shelter inflation and nonhousing services inflation are coming back down to Earth more slowly but surely too, as the pandemic effects lifting them all are finally dissipating. … Treasury Secretary Yellen said that the supply of Treasuries didn’t push yields up in October, yet her actions easing supply concerns speak louder. … Also: Small business owners have plenty of job openings but not enough qualified job applicants. …. And: Joe finds just a handful of big companies account for lowered S&P 500 Q4 earnings expectations.
Relevant Matters
Executive Summary: Today, we focus our observations on earnings, valuation, and inflation. … S&P 500 companies’ collective Q3 earnings, forward earnings, and forward revenues all stand at record highs. But analysts’ earnings estimates for future quarters have been dropping. … There’s not always a neat inverse correlation between stock market valuations and bond yields. One reason: The MegaCap-8 stocks represent an outsized chunk of the S&P 500’s P/E; but with less leverage than most companies, interest rates affect them less. … Our moderating inflation outlook suggests no more federal funds rate hikes this tightening round; we examine some of the data it reflects.
Stock Investors Back In The Saddle Again
Executive Summary: The stock market has a good track record as a business-cycle indicator, even though last year’s bear market was a false alarm, as investors expected a recession that never came. Since that bear market ended, in October 2022, the stock market has been in a bull market, with its August-through-October weakness simply a correction. Now the Bond Vigilantes and their concerns have retreated, clearing the way for the S&P 500 to rise to our targets of 4600 by year-end 2023 and 5400 by year-end 2024. … Such expected stock market strength jibes with our economic outlook, which presumes that a recession isn’t likely before the end of 2024. … And: Dr. Ed reviews “NYAD” (+).
Global Growth Fears Hit Industrials & Materials
Executive Summary: Low hopes for the global economy have been weighing on the share price indexes of the S&P 500 Industrials and Materials sectors, especially this week. Today, Jackie examines some counterintuitive stock price action among select industries and companies within the two sectors. For example, automating factories should be a promising business these days, but investors have punished two players in this space, Emerson and Rockwell, for disappointing recent quarters. Conversely, the S&P 500 Steel industry’s share price index has been performing well despite analysts’ low earnings expectations, lifted by a legal win for continued US tariffs on steel imports and the end of the UAW strike.
Captain America
Executive Summary: The US economy has remained remarkably strong in the face of the Fed’s attempts to tame inflation at the economy’s expense. So far, so good: Inflation has been moderating nicely but not bringing the economy down with it. Today, we review the major reasons for the US economy’s resilience. … In contrast, the global economy is weak as evidenced by the plunge in oil prices. Record US oil production has helped to lower oil prices from their September peak. … And: Joe looks at analysts’ estimate revisions activity in the wake of a strong Q3. Despite that strength, Q4 estimates are dropping at rates faster than usual.
What’s Next? Pickleball!
Executive Summary: Back and forth we expect the bond and stock markets to bounce for the foreseeable future as the bulls and bears in each market alternate control. We see the 10-year Treasury bond yield ending the year at 4.50% and the S&P 500 at 4600. Next year, we expect continued volleying between bulls and bears to keep the bond yield rangebound between 4.00% and 5.00% and the S&P 500 rising to 5400 by year-end. … As for the economy, we think surprisingly strong economic growth is likely next year, led by a productivity boom that continues for the remainder of the decade—our “Roaring 2020s” scenario taking hold at last.
Throwing Caution To The Wind
Executive Summary: Last week brought epic rallies in both the stock and bond markets. We think the stock market’s correction is over and that the S&P 500 is back on track to end the year at 4600. All 11 sectors gained ground last week, many enjoying their best week in nearly a year. … As for the bond market rally that carried the 10-year Treasury bond yield down to a more comfortable distance from 5.00%, the wave of buying had multiple drivers. Nevertheless, beware of the Bond Vigilantes. … Also: Recent economic news supports our Immaculate Disinflation theory.
Burritos, Stocks & Hydrogen
Executive Summary: Packaged and fast food companies keep raising their prices, but consumers at nearly all income levels aren’t blinking at paying more. That was a common theme Jackie heard in the Q3 earnings calls of McDonald’s, Chipotle, and Unilever. … Also: What a difference a date makes! The stock market’s leaders and laggards among sectors over the first seven months of the year—prior to the S&P 500’s July 31 peak—bear little resemblance to those since July 31; former laggards-turned-leaders Health Care and Energy are cases in point … And: The discovery that large stores of pure hydrogen exist in nature holds exciting potential for powering the planet without polluting it.
Other Central Bankers & The MegaCap-8, Again
Executive Summary: Treat: Today, Melissa reviews how monetary policies are being conducted outside the US. Japan’s BOJ has given itself more latitude in policy decisions, retracting a commitment to retain its long-standing ultra-easy stance and widening its target interest-rate range. … China’s PBOC and central government have been working to stimulate its economy by numerous means. … Europe’s ECB finally paused its rate-hiking recently after a 10-hike streak and trimmed its balance-sheet assets; no more rate hikes or reductions are likely for a while. … Also: Joe updates data on the MegaCap-8 stocks’ growing share of the S&P 500.
Trick Or Treat?
Executive Summary: Treat: Consumers’ soaring net worth since the pandemic has reduced their need to save, in our opinion. That might explain why consumer spending has been resilient despite hard-landers’ warnings that households were depleting their excess saving and would have to retrench by now. … Treat: Inflation is still on course to fall to the Fed’s 2.0% target. … Trick: The Treasury might spook investors again on Wednesday when it details its next round of financing needs.
Geopolitics, GDP & Inflation
Executive Summary: We recently raised our subjective odds of a US recession before year-end 2024 from 25% to 35% mostly because the geopolitical risks continue to escalate. We see two potential scenarios that could result in a recession, but they don’t warrant raising our recession odds at this time. The US economy remains resilient; we review recent areas of strength. … Also: Further escalation of war in the Middle East could bring unsettling uncertainty to the stock market against a backdrop of well known headwinds and a troubled Chinese economy. … And: We review the latest inflation news. We don’t expect the Fed to surprise markets with a rate hike this week.
Consumer Spending, China & Robots
Executive Summary: Is the consumer spending pendulum swinging back to bingeing on goods from splurging on services? Jackie sees a few nascent signs pointing to that possibility. … Also: The Chinese government has been trying to pull China’s economy up by its bootstraps with new infrastructure projects, but critics say the initiatives are too small to make much difference. Property developers remain distressed, and economic activity is likely to remain anemic. … And: In our Disruptive Technologies spotlight are humanoid robots. We look at how they’re being deployed today and what they may be used for in the future.
Earnings Here & There
Executive Summary: The global economy is still growing despite geopolitical and monetary policy headwinds, though the pace of growth is slow, which October’s global PMI data confirm. … Looking at stock market data globally, we find strong forward revenues, earnings, and profit margin data for the All Country World MSCI, mostly attributable to the US MSCI; the data for Emerging Markets MSCI aren’t as strong. … In the US, record-high weekly forward revenues and forward earnings suggest the same for Q3’s results. … Also: Joe reports that analysts’ estimate revisions reflect equal numbers of rising and falling estimates.
Global Economy Turning Up?
Executive Summary: The global economic outlook remains positive, though lackluster. The IMF forecasts 2.9% real GDP growth for the world economy next year versus a projected 3.0% this year and 3.5% in 2022, and the global economic indicators we track likewise suggest slow growth. … On the downside, global GDP growth has been less buoyed by US consumers since their mid-2021 pivot from splurging on goods to bingeing on services. Also weighing on global economic activity have been the slow growth of China’s economy, hamstrung by its property sector, and Europe’s economy, beset with poor sentiment, high inflation, and depressed lending and retail sales.
‘Dangerous Times’
Executive Summary: The Middle East crisis seems to be escalating into a regional war with US involvement, existential stakes, and global effects. We’re suspending our year-end target for the S&P 500 after it fell to its 200-day moving average on Friday in response to the geopolitical risks. We expect it to breach that level this week even if the bond yield declines. Yet geopolitical crises do tend to present long-term buying opportunities in stocks. The escalation of hostilities we expect prompts us to raise our odds of a US recession before year-end 2024 again, now to 35% from 30%. … Also: We update the bond market’s supply/demand situation, discuss the consumer-spending-employment spiral, and review the movie “Past Lives” (+).
Bank Earnings, CO2 & The Oceans
Executive Summary: Three big banks have produced Q3 earnings surprises, beating consensus expectations and allaying fears about nonperforming real estate loans, declining deposits, and the pace of consumer spending. Jackie summarizes the key takeaways from the conference calls of JPMorgan, Bank of America, and PNC Financial Services, including what proposed Basel III Endgame regulations might mean for each. … And in our Disruptive Technologies segment: The ocean may hold the key to slowing climate change. Researchers in startups and academia are finding ways to ramp up the ocean’s CO2 absorption capacity.
Rolling Recovery
Executive Summary: The rolling recession that struck goods producers and distributors in early 2021 has ended, and the goods sector is now enjoying a rolling recovery, as stronger-than-expected retail sales and industrial production data attest. Consumers are shopping with gusto and increasingly on stuff; they’re not about to retrench as some hard-landers expect. … Likewise emerging from a recession are S&P 500 companies’ earnings, which may have hit a record high in Q3 along with their revenues. … And: Joe compares how various style indexes have performed since the S&P 500’s July 31 bottom as well as reviews the aggregate S&P 500 earnings data from early reporters and checks in on the MegaCap-8.
It’s Different This Time
Executive Summary: Today, we compare the current economic and financial environment with those of three past periods—the late 1970s, early 2000s, and mid-2000s. Today’s environment resembles the other three in that easy credit conditions fueled price and/or asset inflation, which led to tightening of credit conditions. In the past periods, that set off economywide credit crunches and recessions that moderated inflation. This time is different: No economywide recession is forthcoming, yet inflation is moderating anyway. The most important difference about this period, however, is that productivity growth is unlikely to collapse but to boom throughout the rest of this decade.
All About Inflation
Executive Summary: To answer whether the latest bout of inflation in general will prove persistent or transitory, we must look deeper than the headline rate. Core rates exclude energy and food, but shelter arguably should be excluded to get the answer, as it too is still distorted by temporary pandemic-related factors. The resounding message we hear from September’s CPI data: Both headline and core CPI rates—ex shelter—were 2.0% y/y in September. That’s the Fed’s target rate (albeit for the PCED). For us, that’s confirmation enough that inflation is moderating. It’s transitory, not persistent. Then again, some will see signs of persistent inflation in the data details. … And: Dr. Ed reviews “Somewhere in Queens” (+).
Banks, Biotech & Digital Money
Executive Summary: Bank stocks have tanked this ytd, and analysts are pessimistic on earnings prospects. Valuations are so depressed that both the S&P 500 Regional Banks and S&P 500 Diversified Banks industry indexes sport forward P/Es below 10. But Jackie sees signs that Q3 earnings may not be as bad as feared, including a recent pickup in capital markets activity and adequate protections against slowly rising loan losses. … Also underperforming this year has been the S&P 500 Biotech industry. But brisk M&A activity may underpin these stocks. … And: China has rolled out a digital currency; the government has been incenting its uptake in numerous ways.
Bonds & Stocks
Executive Summary: Fitch’s downgrade of US debt on August 1 was triggering for both the bond and stock markets. Bond yields since have soared, while S&P 500 companies’ collective valuation has staggered. Today, we examine the underlying issues that have kept yields elevated and the question of whether they’ve now risen high enough to attract sufficient demand to clear supply. … And: Joe shares stats on the MegaCap-8’s valuation declines since the end of July. Notwithstanding their valuation hits, these eight stocks now represent a slightly bigger slice of the S&P 500’s market cap, at a record-high 27.4%, than they did in July.
Reassessing Recession Risk
Executive Summary: The prospects of a prolonged war in the Middle East heighten the chance of a recession in the US. That’s not our base-case outlook, but we are raising the odds we see of a recession before year-end 2024 to 30% from 25%. The other 70% represents the rolling recessions/recoveries scenario we expect to continue; it’s tough to envision a recession when consumers have the support of such a robust labor market. … But our worry list has expanded with the recent addition of a potential debt crisis and now the escalation of Middle East hostilities. Additionally, we’re monitoring the banking industry for any sign of an emergent credit crunch.
Consumers: Hotter For Longer
Executive Summary: Today, we challenge another aspect of the hard landers’ narrative: the notion that consumers will retrench, leading the broad economy into a recession. True, many consumers must resume paying the student-debt piper soon, and many have depleted their excess pandemic saving. … But bigger forces are supporting consumer spending: Consumers simply don’t halt the spending they love to do when their incomes are secure and growing, as now, with wages rising and plenty of jobs to go around. And it’s retired Baby Boomers’ time to kick back and spend their ample nest eggs. … Also: Dr. Ed reviews “The Sixth Commandment” (+ +).
Copper, Travel & AI
Executive Summary: Investors worried about US inflation might want to take a look at copper prices, which have fallen ytd. Copper faces gleaming long-term fundamentals, with global demand poised to soar as the EV and other electrification markets take off. But the commodity’s recent price action has been dulled by investors’ economic pessimism. … Also: Jackie examines what’s been grounding the stock price indexes of most travel-related industries. … And: AI’s transformative reach extends way beyond OpenAI and Bard. A look at some startups’ popular AI offerings.
The Debt Crisis Scenario
Executive Summary: Are we headed for a debt crisis? Demand for Treasury bonds has fallen in the wake of Fitch’s federal debt downgrade at a time when supply has been escalating. Rising yields in response may clear the Treasury market but also reduce both demand for and supply of the private sector’s credit. A credit crunch and recession could ensue, possibly setting off a deflationary debt default spiral. … But that worst-case scenario isn’t inevitable. The Treasury bond yield may not soar above 5.00%, as increasingly feared, given our expectations for “immaculate disinflation” (i.e., without an economy-wide recession) and slowing real GDP growth. … Also: Joe’s analysis suggests the S&P 500’s Q3 earnings may hit a record high.
The Bond Vigilantes Are On The March
Executive Summary: What moves the bond market has changed recently and disconcertingly. The 10-year Treasury bond yield’s recent action—and nonreaction to economic news that typically moves it—suggest a shift in bond investors’ focus from what monetary policymakers may do to rising alarm about what fiscal policymakers are doing. The worry is that the escalating federal budget deficit will create more supply of bonds than demand can meet, requiring higher yields to clear the market; that worry has been the Bond Vigilantes’ entrance cue. Now the Wild Bunch seems to have taken full control of the Treasury market; we’re watching to see if the high-yield market is next. We are still counting on moderating inflation to stop the beatings in the bond market.
Some Good News & Not So
Executive Summary: Last week’s plentiful economic news netted out to support our optimistic economic outlook through next year, bringing more signs of improving productivity, surging investment in manufacturing, and manageable inventories. Last week also brought some mixed news and some outright bad news, but we still see a 75% chance of a soft-landing scenario with disinflation and a 25% chance of a hard landing. Longer term, we’re still convinced that improving productivity will set the stage for a “Roaring 2020s” decade. Nevertheless, for the here and now, we are worrying quite a bit about the Bond Vigilantes’ hostile response to profligate fiscal policy. … And: Dr. Ed reviews “A Good Person” (+ +).
Semis, Earnings & Musk’s Robot
Executive Summary: A new trend among big tech companies: DIY AI. Amazon, Google, Tesla, Meta, and Microsoft are developing AI chips in house rather than paying up for Nvidia’s products. … Also: Analysts expect much improved earnings growth for S&P 500 companies on the whole next year, but some industries with the strongest projected growth also have stock price indexes in the doghouse this year to date. Jackie points out which. … And: Inside the neural networks of Elon Musk.
Consumers, Earnings & MegaCap-8
Executive Summary: The US economy has been doing well thanks to consumers, defying the gravitational pull of aggressive Fed tightening. Driving the consumers’ record-high real spending is rising real disposable income. Rising real incomes are a function of strong employment. … Supporting the hot labor market are robust construction activity, consumer spending trends, and Baby Boomers’ lifestyles in retirement. … Also: Joe examines the rates of Q3 earnings and revenues growth that analysts expect for the S&P 500 with and without two sets of stocks that sway results significantly: the MegaCap-8 and the S&P 500 Energy sector.
Is Powell’s Path Forward Widening Or Narrowing?
Executive Summary: The Fed has paused its rate hiking for now but not without warning that resumed tightening is possible. Either way, monetary policy will be kept restrictive for longer than investors previously expected, Fed Chair Powell has said. What does that scenario imply for the economic outlook? Peaks in the federal funds rate are coincident indicators of financial crises caused by restrictive policy, which often trigger credit crunches and recessions. That’s the big risk of the Fed’s higher-for-longer rate path. … We don’t expect that scenario—we’re in the soft-landing camp—but were it to occur, the highly leveraged commercial real estate market might be the epicenter of the financial crisis.
Money & Credit: Debatable Points
Executive Summary: Some economic prognosticators still believe that a credit crunch and recession are just around the bend. Today, we question two of their main arguments: We don’t believe that falling M2 presages anemic GDP growth; contrary to conventional wisdom, there is no reliable correlation between the two. And we can’t see consumers slamming the brakes on their spending and hobbling the economy; they don’t need to with their net worth at a record high and real disposable income growing. … Also: The inverted yield curve correctly predicted the banking crisis earlier this year, but there has been no credit crunch so far; we are monitoring commercial bank lending stats closely. … And: Dr. Ed reviews “Golda (+ + +).
The Fed, The Deficit & Earnings
Executive Summary: The Fed once again alerted the financial markets that the federal funds rate will remain restrictively aloft for longer than generally expected. Managing the market’s expectations in this way rather than raising rates further might lower the risk of a credit crunch and recession. We agree with the FOMC members who collectively anticipate a soft landing. … Also: Inflation has boosted federal entitlements and interest outlays, ballooning the federal budget deficit to worrisome heights, and soon the Biden administration’s spending spree will take it further north. … And: Get ready for a better Q3 earnings season; that’s the message from the earnings estimate data that Joe tracks for S&P 500 companies.
What’s Up With Earnings?
Executive Summary: Today, we examine the flight paths of S&P 500 companies’ revenues, earnings, and profit margins through Q2’s earnings season. … Forward revenues per share rose to a record high the week before last, and analysts project revenues growth more than doubling next year to nearly 5%. … Forward earnings rose to a record high last week; it does a good job of predicting the earnings outlook during economic expansions. … The forward profit margin has edged up since bottoming in March, after dropping from last year’s record high. … All things considered, we’re sticking with our upbeat earnings forecasts and S&P 500 price targets for now.
China: Party Tricks
Executive Summary: China’s recent efforts to stimulate its economy are likely too little too late after a decade of capitalism-eroding policies under President Xi Jinping, a huge property bubble, and a rapidly aging population. August’s economic data do show green shoots of revived growth from the stimulative policy initiatives recently enacted, but not convincingly enough to reinvigorate China’s stock market or global commodity markets. The copper price in particular is highly sensitive to China’s economic situation, but its range-bound price action suggests Dr. Copper is not impressed. … Moreover, China’s forward revenues and earnings metrics have been trending downward since 2014, suggesting that China peaked back then.
Inflation: Twin Peaks Again?
Executive Summary: With oil prices spiking again, we can’t help but think of the 1970s when two peaks in oil prices fueled the Great Inflation and caused two recessions. We don’t see history repeating in this case, however. The big difference this time is the disinflationary tech-driven productivity boom we expect this decade. … But we are concerned enough about the oil price spike, the ballooning federal deficit, and other recent developments to return our subjective odds of a recession before year-end 2024 to 25% from 15%. Notably, we don’t view that as the most likely scenario but as a risk to our happier rolling recovery outlook.
Transports Flying Into Headwinds
Executive Summary: It’s a been train wreck: Investors have been bailing on the S&P 500 Transportation index in recent weeks, after sending it northward for most of the year. Jackie examines the business pressures they’ve been reacting to, including lighter loads to haul in the wake of the inventory correction at a time of increased fuel and labor costs. … Also: May the best battery developer win EV market dominance. Our Disruptive Technologies segment takes a look at where the top contenders are in this high-stakes race.
AI For All
Executive Summary: The day will come when all companies use AI just as all use the Internet today. The efficiency gains will be profound. Jackie discusses the three main skill sets that AI brings to the table and looks at ways that companies in diverse industries have found to leverage AI to their advantage. … Also: Washington lawmakers have been holding forums and hearings to explore how best to regulate AI usage, with industry execs and the Biden administration participating. … And: Technology industries that are heavily exposed to AI have helped the S&P 500 Tech sector outperform all but one other sector so far this year.
Europe Agonistes
Executive Summary: Will 2024 bring improved prospects for Europe’s economy and stock market? While analysts still project a resumption of earnings growth for Europe MSCI companies collectively next year, their 2023 earnings estimates have been falling and the Net Earnings Revisions Index turned negative in August. The outlooks for Europe’s economy and stock market hang in the balance of several uncertainties: whether the ECB can corral inflation without precipitating a recession, whether Europe’s shored up energy reserves will suffice this winter, whether Germany’s economic performance improves, and how well relying on China to meet green energy goals works out.
‘Talk To An Economist’
Executive Summary: It’s worrying investors big time, but the escalating federal budget deficit doesn’t even merit an explanation from the administration driving it out of historically normal proportions. A federal deficit that’s rising as a percentage of nominal GDP at a time when GDP is rising is highly unusual. At risk is the bond market’s ability to finance the deficit at current interest rates. … This concern could make bond yields less sensitive to inflation (and the Fed’s reaction to it) and more sensitive to bond supply and demand. For now, we’re sticking with our back-to-the-old-normal bond yield forecast, based on our moderating inflation forecast, but we are increasingly concerned about the flood of Treasuries.
Oil, China & The Ocean
Executive Summary: Oil prices have spurted skyward in recent months and recent days, as intended by the production cuts instituted by Saudi Arabia and Russia. The S&P 500 Energy sector’s share price index has spurted in sympathy, outperforming its counterparts this summer. Jackie looks at the countervailing forces affecting the global oil supply, including Saudi Arabia’s budget pressures and rising US oil production. … Also: China’s economy is not doing well despite the stimulative efforts of its government and default-avoidance efforts of its largest property developer. … And: An update on The Ocean Cleanup’s daunting mission.
From Strong To Soft Patch?
Executive Summary: Is the surprising Q3 strength in the economy sustainable? Clues in the latest data releases suggest not, and our forecast calls for a renewed soft landing. A stronger-for-longer economy wouldn’t jibe with the Fed’s higher-for-longer interest-rate stance. … But the economic outlook hinges much on what consumers do next. We don’t see them slamming on the spending brakes, as the hard-landers predict will happen when excess savings are depleted. But they might start tapping on the brakes, especially given the imminent resumption of student loan payments and tightening credit conditions.
Powell’s Ideal Economy
Executive Summary: What would it take for the Fed to abandon its hawkish stance? Three things, suggested Fed Chair Powell’s recent Jackson Hole speech: core PCED inflation dropping closer to 2% y/y, demand for labor dropping closer to the supply of it, and consumer spending cooling off a bit. All that can happen without a recession, as it has twice before in recent history, and the latest data on all three parameters suggest progress in the right direction. … Today, we review the data showing rebalancing of the labor market, slowing consumer spending, and moderating inflation. … Dr. Ed also reviews “The Crowded Room” (+).
Hooray! The Job Market Is Rebalancing
Executive Summary: The stock market has proven resilient so far this week, rallying despite the Fed chair’s hawkish speech Friday. Several tailwinds have helped: The JOLTs report on Tuesday suggested the labor market is rebalancing, upping the odds that the Fed is done tightening. Joe’s data show that analysts have been raising earnings estimates in recent weeks for all future periods they forecast and that more companies’ outlooks have improved over the past three months than was true at the data’s recent low point last year. The rolling recession in goods-related industries looks poised for a rolling recovery soon. … Also: Loan growth has been falling in the US and Europe, but the US economy remains resilient.
Consumers Spending Selectively
Executive Summary: The rolling recession hit the retail industry during the first half of this year. Demand for many retailers’ merchandise plummeted during Q2, even as consumers paid up for services like travel and dining and big-ticket items like new cars and homes. Jackie examines how the shift in consumer behavior affected the earnings of particular retailers last quarter as well as the ytd performance of particular Consumer Discretionary industries’ share price indexes. … Also: US households are in good shape right now with unemployment low. But consumer debt has been on the rise, and other factors may weigh on consumer spending soon—including the resumption of student loan payments.
Wishing Upon An R-Star
Executive Summary: The Fed has no North Star. Steering monetary policy toward the ideal outcome that would keep both inflation and unemployment low requires knowing where the “neutral” federal funds rate is, i.e., the rate that wouldn’t influence either—a.k.a. “r-star.” But r-star is a theoretical construct only, neither measurable nor constant. … Also: Joe provides an update on the MegaCap-8 stocks, which haven’t been the bullish driving force behind the S&P 500’s performance that they were for most of this year. Quite the opposite.
The Chairman’s Speech
Executive Summary: Today, we examine Fed Chair Jerome Powell’s Jackson Hole speech on Friday. The tone was more hawkish than we expected, with Powell saying that the Fed wouldn’t hesitate to raise interest rates further if needed to bring inflation back down to the Fed’s 2.0% target but failing to say what it would take for the Fed to lower interest rates given that inflation has been moderating. … We also examine 12 sets of economic data that Powell monitors, sharing what he said their recent readings indicate and our observations on each. … And Dr. Ed reviews “Painkiller” (+).
FTC, Tech & Fusion
Executive Summary: The Federal Trade Commission has been taking aim at tech giants, with investigations targeting Amazon, Meta, and Microsoft. It’s also out to prevent big tech companies generally from using AI to gain unfair advantages and from buying their way into market dominance by acquiring smaller companies. Jackie examines where FTC Chair Lina Khan is leading the agency. … And in our Disruptive Technologies segment, a look at scientists’ nascent efforts to harness the power of fusion to generate energy in the hopes that it can someday replace the burning of fossil fuels.
Dueling Composite Indicators
Executive Summary: The Conference Board’s trio of economic indicators flashed conflicting messages in their recently reported July readings. The leading indicator says a recession is overdue. The coincident indicator keeps scaling new heights. The lagging indicator has been peaking, as it does after recessions are almost over! Today, we explore explanations in the specific components that each index measures. … Also: The CPI services inflation rate significantly lags the CPI goods inflation rate. Services’ inclusion of rent is much of the reason. … And: Q2 earnings reporting season is nearly over. Joe analyzes the near-final data on Q2 earnings growth and the encouraging estimate revisions trend.
Bond Yields Returning To Normal
Executive Summary: My bond market outlook over the past 40 years was misrepresented in a Bloomberg story on Friday. To set the record straight, I was bullish on bonds from 1983-2021, not regularly predicting a return of the Bond Vigilantes as reported. … But they are back now, driving up the 10-year Treasury bond yield on concerns about the mounting federal deficit. The Bond Vigilantes still care about inflation (which is moderating), but they also care more about supply and demand than in the past, with the federal government straining both (via fiscal spending and QT). … What’s next? We think the Treasury bond yield is returning to normal around 4.50%-4.75% as the economy returns to its Old Normal.
No Hard Feelings
Executive Summary: Is the strength of the economy a double-edged sword that means higher-for-longer inflation, further monetary tightening, and a recession? Or will the tightening that’s already occurred fell the economy still? Or is the mounting federal budget deficit the economy’s Achilles’ Heel? While we remain in the light-side camp, we do share the deficit concerns of dark-side prognosticators: Profligate government spending combined with falling revenues as a percent of GDP points to nowhere good. The bond market is concerned too. Fed Chairman Powell will have a chance to calm the bond market at Jackson Hole on Friday. Much depends on whether he does. … And: Dr. Ed reviews “Breaking” (+ +).
China, Consumers & Alzheimer’s Breakthroughs
Executive Summary: China’s property development companies are going bankrupt left and right, with real estate prices tanking and monthly residential property sales their slowest in a decade. What China needs is a US-style restructuring of its real estate market. Jackie surveys the past week’s wreckage. … Also: Consumers these days! They know what they want: Amazon products, Teslas, newly built homes, and travel. Related stocks did the heavy lifting to hoist the S&P 500 Consumer Discretionary stock price index 32% ytd. … And: Can Baby Boomers forget about getting Alzheimer’s? Maybe someday if some of the many ongoing R&D efforts targeting its eradication succeed.
Hard Landing In China, No Landing In US
Executive Summary: China’s economic pain has been the US’s economic gain, as it has lowered the prices Americans pay for goods from China, pulling US inflation lower. Today, we examine how China got into its economic morass and what policymakers there hope to do about it. … Also: With the US economy flying high and US retail sales in July up from June levels, might American consumers return China’s favor? It may be too soon to bet on a resumption of US consumers’ halted goods buying binge. … And: Joe pulls back the curtain on S&P 500 sector reclassification changes for an apples-to-apples look at technology companies’ changing market-cap representation in the index.
The 1970s All Over Again?
Executive Summary: The current alignment of economic forces—resulting in a growing economy with low unemployment, falling inflation, and stimulative fiscal policy balancing out restrictive monetary policy—seems too good to be sustainable. Is stagflation what comes next? … We doubt it. We don’t see inflation turning back up and economic growth slowing down as the decade progresses. We continue to place greater odds on “The Roaring 2020s” scenario (65% odds), a reboot of productivity driven growth à la the 1920s, than we do on “The Great Inflation 2.0” scenario (35%), a replay of the 1970s/early 1980s stagflation story.
Disinversion
Executive Summary: Is the federal budget deficit getting too big for the bond market to fund without yields moving higher? That seems to be a growing concern in both the bond and stock markets. In the past, bond yields were determined mostly by the Fed’s response to inflation, which is moderating; supply and demand didn’t matter much, but they may now. Today, we examine why this period of deficit widening is different than past ones. … We also examine two scenarios that could unwind the inversion of the yield curve—one bullish, one bearish—and recap data supporting both. … And: Dr. Ed reviews “The Man Who Saved the Game” (+ + +).
Semis, Ag & FinTech
Executive Summary: The semiconductor industry appears to be entering a heyday, with sales rising on m/m and q/q bases, though not yet y/y. Analysts’ estimates have been rising, managements have been upbeat, and investors have bid up the S&P 500 Semiconductor industry’s share price index by 79% ytd. Everyone’s enthused about the potential impact of the AI revolution on chip demand. … At the other end of the spectrum, meat processors such as Tyson Foods are down on their luck, Jackie reports. … And: Traditional banks are getting a run for their money from forays into fintech by Apple, Walmart, and other heavyweights.
Mostly About Consumers
Executive Summary: Moody’s downgrade of several banks’ credit ratings has some investment implications: It’s bearish for Financials stocks, but only over the short term, as it will hasten M&A activity. It will facilitate the US Treasury’s ability to fund the budget deficit without increasing Treasury bond auction interest rates, supporting our belief that last year’s peak in the 10-year Treasury yield won’t be breached this year. And it drives home the point that credit conditions are tight enough, which should help deter the Fed from further tightening. … Also: A look at consumers’ credit-card usage, rent inflation, and the spending habits of an important demographic—never married singles.
Worry List Update
Executive Summary: Most investors and analysts are newly optimistic about the economic outlook and corporate earnings prospects. Like them, we see low odds of a hard landing anytime soon. That’s notwithstanding the yield curve’s ongoing recession signal. … But six worries, should they become more worrisome, could change our sanguine stance. We’re watching closely for fallout from the US commercial real estate crisis; a reinvigorated wage-price spiral; the off chance that consumers retrench; the soaring federal deficit, which could cause Bond Vigilantes to get more vigilant; and the possibility that Fed Chair Powell might take a page from predecessor Volcker’s playbook.
Guess What?
Executive Summary: This is ironic: Just when the most widely anticipated recession of all times is no longer widely anticipated, July’s employment report suggests that the Index of Coincident Economic Indicators is weakening. … With the consensus now elbow-to-elbow with us in the no-recession camp, our contrarian instincts are on full alert. The alternative scenarios of two prominent financial market prognosticators may give investors pause and keep the stock market treading water through September. … Also: Friday’s employment report does support a scenario of gradually moderating inflation, notwithstanding some observers’ views to the contrary. … And: Dr. Ed reviews “The Beanie Bubble” (+ + +).
Oil, Cat & Flying Cars
Executive Summary: With US economic growth so strong and OPEC so disciplined, oil inventories are rapidly depleting. The surpluses that have tethered global oil prices over the past year will disappear next year as consumption overtakes production, forecasts the EIA. Jackie examines the reasons and the recent performance of the S&P 500 Energy sector and its component industries. … Also: The US economy’s vitality was evident in Caterpillar’s remarkable Q2, a testament to the strength of demand for building new homes, mining minerals, and constructing factories. … And in our Disruptive Technologies segment: Will cars ever fly?
Global Smorgasbord
Executive Summary: While the economies of China and the Eurozone countries have been lethargic, with a contracting M-PMI in China and declining industrial sentiment in the EU, the US economy has been anything but. The Atlanta Fed’s GDPNow model shows Q3 GDP growth tracking at 3.9%. We’re increasingly confident about our no-landing/rolling-recovery outlook over the next 18 months, to which we ascribe 85% subjective odds. … Also: S&P 500 forward earnings continues to recover. … And Joe reports reassuring takeaways from recently released July data on analysts’ estimate revisions for earnings and revenues.
Mostly All About Inflation
Executive Summary: Rates of inflation are a function of the business cycle as well as the monetary cycle, and there tends to be symmetry to their ascents and descents, especially for goods inflation. … The latest bout of high inflation was triggered by demand shocks resulting from the pandemic, which led to supply shocks, aggravated by the Ukraine war. … Since last summer, however, inflation in the US has been on a disinflationary trend. Deflation in China’s PPI suggests that the US could experience immaculate disinflation, i.e. lower inflation without a recession.
The Godot Recession
Executive Summary: We’re raising the subjective odds we assign to the no-landing economic scenario through year-end 2024 (by 10% to 85%) and lowering our odds of a hard landing (by 10% to 15%). But we’re keeping close tabs on hard-landers’ latest arguments. Today, we summarize the main ones and give our rebuttals. … The biggest issue dividing the two camps is the outlook for consumer spending, representing over two-thirds of nominal GDP. If consumers don’t pull back on spending once their pandemic-related savings run out, an economy-wide recession would be a stretch. We say they won’t retrench, having other sources of purchasing power. … And: Dr. Ed reviews “Barbie” (+).
Industrials, Tech & Identifying Humans
Executive Summary: US government incentives offered to entice manufacturers to set up shop in the USA have hit their mark: Manufacturers in huge numbers, domestic and foreign, have been revamping their supply chains to relocate their production facilities to the US. It’s not always easy, as Jackie explains. But the boost to US economic activity is quantifiable and growing. … Also: AI is here, but all the ways it may disrupt markets are still unknown; will it dislodge the leaders in search and office software, Alphabet and Microsoft? … And: The dilemma of how to tell whether online content was human- or AI-generated has a solution, says one father of AI, involving eyeballs, orbs, and Worldcoin.
Over There & Over Here
Executive Summary: We keep tabs on how well the world economy is faring by monitoring our Global Growth Barometer as well as the “flash” S&P Global PMIs for the major developed economies. “Soft landing” best describes what the global economy has been undergoing, while “no landing” characterizes the slowly growing US economy. … China’s economy has struggled under the weight of several problems; we doubt the leadership can fix them as promised. … In the US, the latest consumer confidence survey shows that the labor market remains strong.
Workers Of The World: Strike!
Executive Summary: What’s on our worry list? Yesterday, we covered urban office real estate, which adds credit availability concerns to our worry list. Today, we look at the labor market, specifically the unrest fomented by the effects of the pandemic and inflation. … Labor unions have grown in might, their members are striking, and employers are being forced to meet their demands. … So we are adding a renewed wage-price spiral to our worry list, which could happen if a rebound in wage inflation leads to resurgent consumer price inflation.
Rolling Recession Rolling Over Commercial Real Estate
Executive Summary: The urban office real estate niche of the commercial real estate market is increasingly distressed owing to the work-from-home trend escalated by Covid. But the problem is contained to the office districts of big cities, and we expect the fallout to be contained too: Sellers of distressed properties will take losses but find buyers, exposed banks will further increase loan loss provisions, increased M&A activity among small banks may result; but the problem won’t domino into a crisis of the banking system or the economy at large. … We detail why with our analysis of data from the Fed. … Also: Dr. Ed reviews “Oppenheimer” (+ + +).
Defense, China &Quantum Computers
Executive Summary: In these geopolitically tense times, countries need to build more formidable military arsenals to deter aggressors—which for defense contractors means surging demand. Meeting it may be a challenge, admitted Lockheed Martin on its Q2 earnings call, voicing the need for a stronger supply chain; investors were swift to punish the stock. Jackie provides context with earnings and valuation data for the S&P 500 Aerospace & Defense industry. … Also: China’s real estate crisis continues to deepen. News of the most recent property developers to default has sunk China’s junk bond prices. … And: The race for quantum computing supremacy among Google, Amazon, and IBM.
(Hot) Global Soft Landing
Executive Summary: Globally, economic growth has been on a downtrend since mid-2022 according to our Global Growth Barometer. Recent drags include the hot summer, Americans’ weaker demand for imports as they spend more on travel and other services, and headwinds in Europe and China unique to them. … Since we don’t expect the US to enter a recession anytime soon, we expect the bull market in stocks to continue. Our new S&P 500 targets for year-end 2024 and 2025 suggest the bull market has legs. … And: Joe explains the importance of the MegaCap-8’s expected earnings turnaround. With these eight stocks representing 27% of the S&P 500’s market cap, their outperformance could power the entire market higher.
Dismissing The Dismal Definition Of Economics
Executive Summary: The conventional wisdom is that economics is the study of how best to allocate scarce resources—a dismal proposition. I disagree: Economics is all about using technology to create and spread abundance—a much more uplifting definition. The dismal framing taught in universities seems to have produced economists biased toward pessimism. Perhaps that’s why most—after ample evidence that the economy is thriving—are just starting to accept that a recession is not about to happen. … Today, we examine the consensus views of economic forecasters, including within the Fed, and supply context to their outlooks in the form of what inflation has been doing, especially wage inflation.
Transitory Inflation Sets Stage For Immaculate Disinflation
Executive Summary: Big banks’ top managements sounded relatively sanguine about the economy as they reported solid Q2 results, though JP Morgan CEO Jamie Dimon hasn’t totally abandoned the recession storyline that spooked investors a year ago. … There are two versions of the bearish economic script now, one seeing recession at the hands of savings-drained consumers and other seeing recession at the hands of the inflation-fighting Fed. We counter these narratives with data on consumers and liquidity and by making our case for “immaculate disinflation,” the notion that disinflation doesn’t require a recession.
Travel, Banks & AI
Executive Summary: Americans are traveling like never before, with record numbers flying to do so. Post-pandemic “revenge travel” has sent the valuations of travel-related stocks skyward too. Jackie takes a timely look at what could go wrong. … Also: Banks’ soon-to-be-released 2Q earnings will show investors whether large banks have continued to fare way better than small ones—shedding light on whether the valuations of the latter have been overly punished. The S&P 500 Regional Banks index has dramatically underperformed the S&P 500 Diversified Banks index ytd. … And: In our Disruptive Technologies segment, a look at how AI is being deployed to speed and improve drug development.
Sunny Or Cloudy Earnings Season?
Executive Summary: We see reasons for optimism that upcoming inflation releases and Q2 earnings news will please stock investors. We expect to learn that inflation continues to moderate in response to monetary policy that’s restrictive enough. And we expect Q2 earnings to be less bad than analysts are predicting. That’s because analysts’ estimates usually are too pessimistic at the start of reporting seasons and because the macroeconomic backdrop likely provided good revenue and earnings support. We look at some of the macro influences on specific industries. … And: Joe examines analysts’ ever-changing earnings growth expectations through various lenses—by index, sector, and in the context of historical trends.
Stay Home Or Go Global?
Executive Summary: Global stock markets have climbed a wall of worry impressively this year despite all the global headwinds—including lackluster GDP growth, high inflation, and the tightening of many central banks’ monetary policies—as well as regional headwinds in Europe and China. The markets’ resilience may reflect investors’ relief that worst-case scenarios didn’t pan out. … Japan’s stock market is a case in point. It’s been soaring despite investors’ uncertainty over the BOJ’s next move. Will this holdout among central banks at long last lift its ultra-easy monetary policy and adjust its yield curve control program accordingly?
Fully Employed
Executive Summary: June’s newly released employment report gives us clues about June’s not-yet-released CEI, and the CEI closely tracks GDP. So from the employment report, we extrapolate that June’s CEI will likely confirm that real GDP grew around 2.0% y/y during Q2, close to the Atlanta Fed’s current prediction (2.1%). A recession is still possible if the Fed keeps tightening, but we see just a 25% chance of a hard landing. … Also: A look at our resilient labor market. Wage inflation continues to moderate, but wages adjusted for inflation have resumed their growth trend—suggesting revived productivity growth. … And: Dr. Ed reviews “The Diplomat” (+ +).
Getting Harder To Be A Contrarian
Executive Summary: Since last summer, when conventional wisdom held that a recession was coming, we argued that one was already going on, rolling through the economy in stages instead of walloping it all at once. Now that the consensus view is moving toward no recession coming after all, and relieved investors have driven the stock market higher, our contrarian instincts are on high alert. The no-show recession could still show up, and we are on the lookout. … Today we revisit the main reasons that some respected observers still expect a recession, and we weigh in on each. The upshot: We’re not changing our (recently raised) subjective odds of a soft landing, at 75%, for now.
Rolling Recovery
Executive Summary: Instead of the economywide recession that was widely expected to result from the Fed’s monetary tightening, recessionary weakness rolled through different areas of the economy at different times. Now that rolling recession is turning into a rolling recovery. Accordingly, we’re raising our Q2 real GDP forecast from 1.0% to 2.0%, followed by 2.0% in Q3 and Q4. We now see a 75% chance of a soft landing (up from 70%)—subject to change depending on what the Fed does, which depends on what inflation does. … We expect inflation to continue to moderate, with a headline PCED rate closer 3.0% by year-end, down from 4.6% in May. … And: Dr. Ed reviews “Ghosts of Beirut” (+ + +).
Brokers, Earnings & Green Steel
Executive Summary: Is capital markets activity finally picking up? In Jefferies Financial’s recent earnings call, Jackie found reasons to suspect so, including a 16% q/q surge in advisory and underwriting business. Moreover, the IPO market appears to be reviving, and analysts see good earnings growth next year for the S&P 500 Investment Banking & Brokerage industry. … Also: A look at which S&P 500 sectors and industries analysts expect to grow earnings the most and least this year and next. Notably, the Consumer Discretionary and Communication Services sectors top the list for both years. … And: Companies stepping up to the challenge and opportunities of producing green steel.
More AI & More Lithium
Executive Summary: AI is sparking a new industrial revolution that’s bound to transform business processes in every industry. But capitalizing on the promise may mean upgrading legacy IT systems in multiple corporate areas—launching a new technology capital spending cycle. Jackie looks at how companies in various industries are planning to leverage AI to their advantage. … Also: A more efficient way to extract the lithium that electric vehicles’ batteries use is under development. If direct lithium extraction proves viable, it could do for lithium production what fracking did for oil production. That could mean cheaper EVs, EVs with expanded driving range, or both.
Europe, What A Drag!
Executive Summary: The Eurozone’s economic outlook has darkened, and we’re not nearly as bullish on European equities as one year ago. … The ECB’s interest rate hikes so far have triggered a technical recession, which is bound to worsen because the region’s stubbornly high inflation implies no end to the tightening in sight. … Other red flags: Analysts have been cutting consensus earnings estimates; high interest rates have depressed demand for business loans to 2008 levels; Europe’s energy resilience could be challenged this winter; and the GDP of Europe’s biggest economy, Germany, is projected to contract this year. … Risks associated with China trade present yet another headwind for the European economy.
Baby Boomers Retiring On $75 Trillion In Net Worth
Executive Summary: There’s a $75 trillion-wide hole in the theory that consumers’ running out of pandemic savings will sink the economy; that’s the size of Baby Boomers’ collective nest egg. What these seniors don’t pass on to their heirs, they’ll be spending in their Golden Years. … More Boomers than not have retirement savings, reveals data on retirement account ownership by generation cohort, and many face mandatory distributions soon. … Also: The CEI and LEI are conflicted on the question of whether a recession is around the bend or not. We believe not, and investors are coming around to that view too.
Transports & Batteries
Executive Summary: As consumers continue to celebrate their freedom from Covid with vacations and other experiences, spending less on tangible things, not only retailers have felt the sting—and not only last year. Transport companies continue to report less freight to haul, as FedEx’s recent earnings report illustrated. Jackie examines the S&P 500 Transportation industry’s demand problem. On the bright side, fuel costs have fallen, and analysts are optimistic about improved results next year. … And: When the solid-state batteries for EVs now being developed become commercialized, the much greater driving range they offer may be just the shove the EV market needs to take off.
Inflation Here & There
Executive Summary: High rates of US inflation are one of the pandemic’s many shockwaves. As these continue to recede, so should inflation—and without further Fed tightening. Goods inflation already has plummeted from 14.2% y/y at its peak to 0.6% in May. High rent inflation is buoying the headline CPI rate, but it should normalize as pandemic effects fade. … In Europe, elevated inflation rates are dropping as well, even though the war in Ukraine grinds on. … In China, inflation isn’t the problem; post-lockdown economic weakness is. The ailing property market doesn’t help. The PBOC is easing in response.
Hop, Skip & A Jump?
Executive Summary: The ranks of stock market bears are thinning as investors increasingly concede that no recession is on the horizon. Inflation will continue to drop, with positive—not negative—effects on earnings, we contend, because profit margins have been hurt—not helped—by high inflation. Lower inflation should boost margins and earnings. … The ranks of stock market bulls are growing, their case strengthened by broadening stock market leadership and more bullish sentiment. … Also: We don’t buy the argument that recession will descend once consumers spend their pandemic windfalls, for several reasons. … And: The latest economic releases support our rolling-recession-with-disinflation outlook. … Finally, Dr. Ed reviews “FDR” (+ + +).
Hawkish Pause, Rotation & Tech
Executive Summary: The FOMC voted not to tighten further for now, as we had expected, and raised its real GDP projection for this year to 1.0%—suggesting a soft landing. … June has seen a dramatic rotation in stock market leadership: Tech has underperformed the S&P 500 this month to date after outperforming since October; the mtd performance winners are Consumer Discretionary and Materials, previous underperformers. Jackie unpacks why. … Also: A look at what’s been driving up valuations in various Tech sector industries. … And: Will genetically altering food to make it more delicious have unforeseen consequences?
All About Earnings & Inflation
Executive Summary: Like the economy, earnings have been landing softly; revenues haven’t landed at all. The S&P 500’s Q1 results imply earnings weakness totally due to margin contraction as businesses battled fast rising costs. … Analysts see y/y earnings gains resuming in Q3 and Q4, for full-year earnings growth of 0.4% followed by 11.4% next year. … We see a U-shaped earnings recovery and are tweaking our estimates for S&P 500 revenues, earnings, margins, and the price index. Our year-end targets for the S&P 500 are 4600 this year and 5200 next. … Inflation continues to moderate nicely, which should stay the Fed’s hand.
Long & Variable Lags?
Executive Summary: The economy has responded to monetary tightening quickly, our research finds, not with “long and variable lags” as monetarism theorizes. Today’s economy and financial systems are exceptionally resilient. … Among some of the reasons: A deluge of post-pandemic fiscal spending has dulled the impacts of tightening. Certain typically interest-rate sensitive industries have been atypically resistant to tightening because of pandemic effects specific to them. Tighter credit conditions after the banking crisis have not triggered a widespread credit crunch. Consumers’ excess savings are dropping fast, but the economic effects are offset by retiring Baby Boomers’ massive net worth. AI and other tech advances have kindled the animal spirits of economic actors.
Inflation & The Fed
Executive Summary: Investors are on the edge of their seats: Will the FOMC raise the federal funds rate (FFR) when it meets this week or pass this time? Key will be how fast inflation is falling, and the Consumer Price Index for May will be released as they deliberate. We say monetary policy is restrictive enough already, as the higher effective FFR implies a tighter environment than the straight FFR suggests. … Also: We recap what consumer inflation measures have been doing for goods and for services since peaking last year. The latter has proven more stubbornly persistent than the former. … And: Dr. Ed reviews “BlackBerry” (+ + +).
The AI Future & Health Care
Executive Summary: Don’t fear AI, just China’s AI aspirations. Out with the CPU, in with the GPU. AI is bound to transform every business process, bar none. Three well respected tech visionaries have been describing our AI-enhanced future with optimistic messages that they insist are not hyperbole. … And: Don’t overlook the lagging S&P 500 Health Care sector’s potential for a rebound given exciting developments in its biotech and pharma industries. Jackie recaps some of the highlights.
View From The Pits
Executive Summary: Commodities markets have been on a wild ride in recent years, buffeted by pandemic impacts specific to each. The present time finds oil prices weakened by a global supply/demand imbalance, raw industrials prices depressed by China’s weak recovery and US recession fears, lumber prices down owing to soft single-family home construction, and both natural gas and most agricultural prices far from their peaks. … The ripple effects of this commodities scenario include downward inflation pressure and upward dollar pressure. … Also: Joe shares his takeaways from S&P 500 Q1 earnings now that most companies have reported and most analysts have tweaked their forecasts.
Slippery Slopes
Executive Summary: Oil prices are slipping notwithstanding Saudi Arabia’s production cuts, which aren’t as effective at halting such slides as they used to be. Too much global oil production capacity in the world relative to too little demand is the problem. … If oil prices are on a slippery slope, so is inflation; indeed, the latest inflation indicators suggest it is continuing to moderate. … As for the latest economic indicators, the NM-PMI and LEI are misleading. Their weakness doesn’t point to a broad-based recession. The forecast still looks like a rolling recession to us.
MAMU & MAMA
Executive Summary: Is all the AI euphoria leading the stock market into another “MAMU”—“Mother of All Meltups”? If so, our 4600 target for the S&P 500 by year-end might prove conservative, not controversial. This bull market began differently than most, with higher P/Es at the outset, and this MAMU’s timing would be different, early in the bull market versus late. … Lifting the economy has been “MAMA”—“Make America Manufacture Again.” Manufacturing capacity—flat since 2011—is about to expand given all the factory building implied by the 150% two-year surge in nonresidential construction of factories. Also: The job market refuses to land, but wage inflation is coasting lower. … Dr. Ed reviews “After Waco” (+ + +).
Tech, AI & Irises
Executive Summary: The stock price indexes of the S&P 500 Information Technology sector and its top-performing industry ytd, Semiconductors, have left their peers in the dust. Not only has the transformative potential of AI whetted investors’ appetite for tech; so have semiconductor companies’ rosier earnings outlooks now that they’re out from under their inventory glut. Does this tech rally have legs? We think so over the longer term, since earnings prospects are bound to rise as AI spending and the semiconductor cycle head north. … Also: Irises have caught our eye, specifically their potential for “authenticating humanity.” OpenAI CEO Sam Altman envisions that potential changing the world.
Another Hated Bull Market
Executive Summary: The S&P 500 has been in a bull market since October. So how come there are so many bears refusing to believe that? Today, we recount the reasons that they write off the stock market’s legitimately broad-based advance since fall as just a rally within a bear market. We also correct a few of their misperceptions and outline the bulls’ stronger case. … And for a trader’s perspective on this divisive market, a few words from Joe Feshbach.
Shock Absorbers
Executive Summary: Why is economic growth seemingly defying gravity, or at least the gravitational pull of the Fed’s tightening measures over the past year and change? It’s not that the rules of business-cycle physics are defunct. Rather, the pandemic has added new forces to the equation, with distortive effects. Eight unusual forces are acting as shock absorbers to keep the economy from sinking into the widely expected recession. Today, we examine each, including the amount of liquidity in the economy, the uncommonly strong labor market, productivity-enhancing technological advancements ushering in the “Roaring 2020s,” and well-heeled Baby Boomers consuming like there’s no tomorrow.
Covid Again? Upbeat NERI.
Executive Summary: China bracing for another Covid wave but will rely on vaccines rather than lockdowns. … Latest earnings was better than expected, but S&P 500 earnings was still down 3.0% y/y, which is better than the -7.0% consensus expectation. Q2 should be down again modestly before comps turn positive again. … Joe reviews the latest NERI readings, which seem to be turning more optimistic.
Around The World
Executive Summary: Global economic growth has been lackluster this spring, neither a boom nor a bust. Rebounding global trade and the easing of supply-chain disruptions should moderate global inflationary pressures without a global recession. The Fed and the ECB are committed to raising rates to restrictive levels and keeping them there to bring inflation down. The Fed’s rate is probably where it should be, while the ECB may have a couple more rate hikes to go. The BOJ’s ultra-easy policy continues. The PBOC is massively stimulating, suggesting all is not well in China. Today, we survey the major indicators of global economic growth for insight into how vulnerable the global economy is at this juncture.
Looking Forward To Better Earnings
Executive Summary: Our analysis of forward earnings—a good indicator for actual earnings over the next four quarters—suggests an April bottom. That jibes with our mid-cycle-slowdown thesis. … Many who expect a recession instead have been misled by the LEI’s recession signaling. The LEI overrepresents the weak goods side of the economy and underrepresents the strong services side that’s been keeping the economy afloat. … We think the forward profit margin, like forward earnings, has bottomed; margins have been improving for all but three S&P 500 sectors. … And: Still no credit crunch from the banking crisis. … Also: An update on bond market indicators.
Leading The Wrong Way?
Executive Summary: So where’s this recession signaled by the LEI and widely expected to come anytime now? Why haven’t high inflation and monetary tightening ground economic activity to a halt yet? Because a recession isn’t coming anytime soon. We never bought that it was inevitable anyway. We’re raising our subjective odds of a soft landing, instead of a recessionary hard one, to 70% from 60%. The burden of proof is now on the pessimists. … So what’s been keeping the economy from a textbook recession? Unusual forces are in play, acting as economic shock absorbers. … Also: Our Roaring 2020s boom-times thesis remains intact. … And: Dr. Ed reviews “Air” (+ +).
Retail, Earnings & Fintech
Executive Summary: Three major retailers recently reported Q1 results that provide a glimpse into consumers’ shifting spending trends. Notably, consumers seem to be putting off discretionary purchases. … Also: Perusing YRI’s forward earnings growth charts for S&P 500 industries is an eye-opening exercise: For four unrelated industries, analysts have set extremely high sights. Jackie explores. … And our Disruptive Technologies focus: Walmart’s self-reinvention as a financial services provider to the masses.
Earnings & The Economy
Executive Summary: While the stock market’s technical measures of breadth have been disappointing, two fundamental measures have been staging impressive V-shaped rebounds typical of early bull markets: the breadth of analysts’ consensus expectations for S&P 500 companies’ revenues and operating earnings. … Their message is confirmed by recent strength in S&P 500 forward revenues, earnings, and profit margins. … Joe provides a deeper look into what forward profit margins have been doing in recent weeks on S&P 500 sector and industry levels. … All these developments jibe with our soft-landing economic forecast. … So do the latest economic indicator releases.
Economic & Financial Stress & Stability
Executive Summary: Two different recent surveys taking the pulse of businesses—one measuring sentiment among small business owners nationwide and the other manufacturing activity in New York State—showed depressed readings. The problem isn’t demand but the ability to supply given the tight labor market. … Two recent Federal Reserve reports—measuring the household debt and credit of US consumers and the financial stability of the economy generally—showed that neither the consumer nor the banking sector nor the financial system generally is especially stressed.
Disintermediation, Disinflation & Dystopia
Executive Summary: The Fed sought to allay fears of bank runs when it provided backstop funds to banks. Consider the fears allayed—so far, at least. The disintermediation threat hasn’t descended; it hasn’t wrought a credit crunch, a recession, or widespread economic destruction. Now if fears aren’t stoked by further talk of bank runs, maybe, just maybe, the threat will go away. … Also: The high-inflation saga‘s loose ends all seem to be resolving now in a Hollywood-style happy ending. … And: The latest episode of the debt ceiling drama playing out in Washington is ably narrated by Capital Alpha’s Jim Lucier. … Lastly: Dr. Ed reviews “Beef” (+ + ).
Travel, Homes & Hydrogen
Executive Summary: Maskless and Covid-free, Americans have been venturing further abroad this year, a trend that has saddled companies with domestic-travel-related businesses with tough y/y comparisons. Airbnb and Wynn are prime examples. … Also: Jackie examines the curious divergence between the share price performances this year of two housing-related S&P 500 industries, Homebuilding and Home Improvement Retail, which usually perform in lockstep. … And: Our Disruptive Technologies focus this week is on utilities’ use of hydrogen to produce electricity.
Inflation During & After The Pandemic
Executive Summary: The inflation problem of recent years has proven to be transitory for consumer goods but persistent for consumer services. Even so, overall inflation has been moderating this year. In our soft-landing economic scenario (60% odds), we see the PCED rate falling into the 3.0%-4.0% range over the remainder of 2023 and below 3.0% in 2024 and 2025. Consumers’ inflation expectations aren’t so sanguine. In advance of this week’s inflation reports, we review recent developments on the inflation front. … Also: Wage inflation has been moderating too, but it’s still higher than Fed Chair Powell would like to see.
Jobs Driving The Economy
Executive Summary: It’s tough to believe that a recession is imminent with the Coincident Economic Indicators index as strong as ever. The CEI’s payroll employment component hit a record high in April, suggesting that the other three (yet-to-be-reported) components did too. Admittedly, the Leading Economic Indicators hasn’t been strong; its weakness purportedly indicates a coming downturn in the CEI and real GDP. But look at its ten components: Services are noticeably absent. So the LEI is not as trusty a recession bellwether as the CEI, in our view. … Also: Joe Feshbach’s insights on the stock market from a trader’s perspective.
Pandemic Of Pessimism
Executive Summary: The stock market has been climbing since mid-October even though pessimism has prevailed among economists and stock market strategists. Today, we examine this “pandemic of pessimism”—how widespread it is, our perspective on the bearish case, what the Fed’s staff thinks is ahead for the US economy, and a few of the voices of doom. … We counter that the stock market’s trend is driven mostly by the earnings trend; we doubt QT will send either southward. Earnings growth may be weak in our rolling recession forecast, but growth it will be nonetheless. The labor market’s remarkable resilience reflects the economy’s resilience.
Semis, Onshoring Boom & Hydrogen
Executive Summary: The semiconductor industry is breaking out into the light at the end of its tunnel. Its stocks are up, its CEOs are optimistic, and worldwide semiconductor sales are starting to improve. AMD’s CEO sees big opportunity in the rapid pace of AI adoption. … Also: Jackie highlights some of the many new ventures manufacturers are planning to capitalize on trillions of dollars in government incentives. Their projects may be enough to stave off a recession. … And our Disruptive Technologies segment looks at the government-incentivized green hydrogen opportunity.
Capital Spending, Automation & Earnings
Executive Summary: While surveys of business managers’ capital spending plans suggest more spending caution, that could partly reflect all the recession talk recently. Actual capital spending shows no sign of recession; it hit a record high last quarter. … Also: Factory managers are flocking to technological solutions to their many challenges, reports Jackie; Rockwell updates the story. … And: Joe reviews what Q1 results reported to date collectively say about how companies fared last quarter and how results jibe with analysts’ expectations. Notably, analysts haven’t been slashing estimates after hearing managements’ conference calls, as they’ve done in recent quarters.
Global Economy Here & There
Executive Summary: We’re not among the vocal doom-saying economic prognosticators. We say there’s a 60% chance that the economy will land softly this year and pick up speed next year, fueled by productivity gains. … Also: We update our rolling recession watch, zeroing in on two loan-dependent industries likely to be rolled over next: autos and commercial real estate construction. … And: Melissa examines why inflation is stickier in Europe than in the US and discusses other economic headwinds facing the Eurozone. These headwinds and the Europe MSCI’s current valuation make us less bullish on European stocks than we were last June.
China, Energy & CO2
Executive Summary: China’s President Xi has been pursuing an ambitious agenda for the nation, brazenly at that. Jackie reports on measures China has taken to step into the limelight on the world stage, beef up its military might, tighten its grip over multinationals operating there, and get its currency into global circulation. … Also: Energy markets are sending mixed signals, clouding the forecast. For the oil industry, tumbling earnings and revenues consensus expectations may be off the mark if optimistic oil price forecasts pan out. … And in our Disruptive Technologies segment: Expect to see more companies capturing their carbon—and attractive tax credits.
Tech, Staples & Robotaxis
Executive Summary: Before long, every large corporation will be following in PricewaterhouseCoopers’ footsteps and trying to leverage AI to their advantage. Microsoft is well positioned to benefit via its OpenAI investment and Azure cloud computing service. … Consumer Staples companies have turned investors’ heads with stellar March-quarter results, buoyed by pricing power. But their unit sales growth might be vulnerable to price-sensitive consumers’ disloyalty. … And in our Disruptive Technology segment, Jackie explores the Achilles’ heel of autonomous vehicles: situations they haven’t been programmed for.
Fiscal Dystopia
Executive Summary: If Congress doesn’t increase the federal debt ceiling soon, the government will no longer be able to pay its bills. Jim Lucier of Capital Alpha Partners reports on the progress of the Limit, Save and Grow Act, which may well pass the House this week. … The government has been in such pickles before, and the debt limit usually got raised before the 11th hour and a couple of times at the 12th hour. Of course, the recent consequences of the government’s unprecedented fiscal excesses have been massive federal deficits and inflation boosted by helicopter money. But doomsday as predicted by the doomsters has yet to arrive. We examine why. … Also: Joe looks at the profit margins that analysts expect for S&P 500 sectors and industries.
The Economy Is Beige
Executive Summary: The stock market’s resilience since October 12 in the face of Fed rate hiking reflects the economy’s resilience. Measures of breadth for industry analysts’ estimates of S&P 500 revenues and earnings have been improving since early this year, and their optimism is supported by surveys of corporate purchasing managers. … The Fed’s latest Beige Book confirms that the banking crisis hasn’t knocked the economy off its rolling-recession path. … Also: We’ve known that QT and the banking crisis exert tightening forces equivalent to some amount of federal funds rate hiking. Now the SF Fed has quantified it, finding that the “effective” federal funds rate is currently over 6%.
Yalies Yelling
Executive Summary: Banks were tightening lending standards before the banking crisis, and the crisis has escalated that. We don’t think a credit crunch will ensue, though we’re monitoring the situation closely. But we agree with Treasury Secretary Yellen that banks’ tightening of credit conditions effectively can substitute for further Fed tightening. … To monitor the crisis, we keep tabs on the Fed’s assets and liabilities, commercial banks’ assets and liabilities, and particularly the amount of loans being made by both. … Also: Dr. Ed reviews “A Spy Among Friends” (+ + +).
Health Care, Financials & Hydrogen
Executive Summary: Two of the S&P 500’s 11 sectors have staged impressive comebacks in recent weeks, Financials and Health Care. Jackie tells their laggards-to-leaders stories. … Also: Large banks’ sharp y/y increases in net interest income are making up for weaker areas of their business, enabling happy Q1 earnings surprises for some. NII gains likely peaked in Q4, but a reopening of the capital markets could help the industry as 2023 progresses. … And in our Disruptive Technologies segment: EVs have been heralded as the cars of the future, but it might be hydrogen powered cars that go the distance.
Construction, MegaCap-8 & Financials
Executive Summary: Even as the rolling recession rolls through segments of the real estate market, areas of the construction industry have never been stronger. Residential construction isn’t one of them, but nonresidential and public construction each hit new record highs in February. Construction industry employment did the same in March. … Also: If industry analysts’ forecasts are on the mark, the eight MegaCap-8 companies that exert outsized influence over the S&P 500’s performance can look forward to a rebound of their collective y/y earnings comparisons starting in Q2-2023. … And: The S&P 500 Financials sector’s growth prospects improved overnight when the Transaction & Payment Processors industry was added. Joe takes a look.
Pandemic Pandemonium
Executive Summary: The pandemic effectively accelerated the latest business cycle. Government interventions including lockdowns, rent moratoriums, stimulus payments, and ultra-easy monetary policy altered the behavior of economic actors including businesses, workers, consumers, landlords, tenants, home buyers, and home sellers. The result was a business cycle on warp speed. … Pandemic-altered consumer behavior escalated inflation, first for goods and then for services. … That disproves the theory that inflation is simply a monetary phenomenon, fully within the Fed’s power to control.
The Sky Isn’t Falling
Executive Summary: JPMorgan CEO Jamie Dimon’s ambiguous warnings about the economy broadly and banks specifically, voiced intermittently since last summer, have probably led many an investor astray. JPM stock has soared 34% since October, and the S&P 500 has leapt 7% in the month or so since SVB imploded, with every sector participating. … One thing Dimon said is on the mark: The economy isn’t headed for a credit crunch. That’s substantiated by US banks’ balance-sheet data, which we monitor. … Another alarmist creating disconcerting background noise is Fed Governor Christopher Waller. He’s not bothered by the economy or the banking crisis but by inflation, which he says requires further tightening. We strongly disagree.
Materials, Earnings & Bricks
Executive Summary: Banking-crisis-stoked recession fears knocked the S&P 500 Materials sector off its top-performing perch; now with those fears allayed, it’s been rebounding. Jackie examines the earnings prospects of two Materials industries, steel and copper, and the economic prospects of their biggest consumer, China. … Also: While analysts have lowered their earnings sights for S&P 500 companies collectively in recent weeks, forward earnings have risen for more S&P 500 industries than have fallen. The outlooks for travel and commodities related industries have improved the most. … And: A promising new energy storage solution comes from improbably low-tech sources that have been right under our feet: bricks and stones.
Bulls vs Bears
Executive Summary: We’re still stock market bulls, believing that the bear market ended in October. But now that the Fed’s tightening has touched off a financial crisis, we’d defect to the bear camp IF the Fed were to keep on tightening. … While industry analysts have been lowering their earnings sights this year, that’s almost moot to stock investors, who are more focused now on next year’s better growth prospects. … Also: The current concerns of small business owners are anything but small, including inflation, labor shortages, and a possible credit crunch. … And: The MegaCap-8’s upcoming Q1 earnings reports could set the tone for the S&P 500’s performance.
The Big Lebowski
Executive Summary: The Fed’s rate hiking may have busted something in the credit system. Specifically, the disintermediation that tightening has caused may require small banks to cut costs so deeply that merging is their only recourse. … Given this, how can the Fed fail to conclude that the federal funds rate is restrictive enough now? Pausing the tightening for a while should land the economy softly, with moderating inflation. But continued tightening would cause a hard landing and possibly even deflation. … And: You wouldn’t know there’s any landing debate going on looking just at the labor market; payroll employment is at a record high.
It Still Looks & Walks Like A Duck
Executive Summary: The tug-of-war between the hard-landers and the soft-landers continues. The twists and turns of recent economic-outlook-impacting events have been taking investors for a ride, but our stance remains steadfastly fixed on one outcome: a soft landing of the broad economy with mini recessions continuing to roll through various sectors. … Friday’s labor market report supports our soft-landing thesis. … While hard-landers think the banking crisis will trigger a credit crunch, causing a recession, we doubt it—believing that scenario will be avoided by the actions taken by the Fed and FDIC. … And: Dr. Ed reviews “Tetris” (+ + +).
Oil Markets & AI In HR
Executive Summary: Oil futures leapt this week after OPEC+ announced it would cut oil production. Jackie examines possible reasons for the organization’s decision and likely ramifications for Saudi Arabia, the US, and US oil producers. … Also: Judging by the 8% surge in the S&P 500 Oil & Gas Exploration & Production price index over the past week, investors expect the production cuts will mean much better 2023 earnings prospects than the declines that analysts had been expecting. … And: What can’t bots do? Our Disruptive Technologies segment focuses on the use of AI to interview job candidates.
All About Earnings
Executive Summary: Today, we analyze the analysts, specifically industry analysts’ recent earnings and revenue estimate revision behavior. Their collective earnings estimate shaving doesn’t suggest recession jitters, in our view, even though flattish y/y revenues expectations may indicate concern about unit sales. Forward earnings remains consistent with a soft landing. … And: Analysts typically do lower their quarterly estimates as a quarter progresses, often setting the stage for a positive earnings surprise. Joe highlights the takeaways from data on earnings estimate revisions that occur in the runup to reporting seasons, including what the data say about Q1-2023.
Crosscurrents
Executive Summary: All 11 sectors of the S&P 500 are up since October 12, which we believe was the bear market’s bottom and the start of a new bull market in stocks. Leading the charge has been the MegaCap-8 stocks, which collectively now make up nearly a quarter of the S&P 500’s capitalization and nearly half of the S&P 500 Growth index’s. … With all the focus on a prospective credit crunch, gone relatively unnoticed are two market-buoying positives: Corporate cash flow hit a record high at year-end 2022, and the global economy has been proving rather resilient.
Banking Crises, Then & Now
Executive Summary: The S&L crisis of 1990 caused a mild, short-lived recession impacting earnings but not triggering a bear market in stocks. Conversely, we had a bear market last year but no recession (yet?). Similarly, though, the commercial real estate market was hit hard during 1990’s banking crisis and stands now in the eye of the SVB storm, since small banks—the most vulnerable—make most CRE loans. … Also: Do you wonder why consumer spending has been so resilient lately? That huge demographic cohort that disrupts the status quo at every life stage is at it again. … And: For stock traders, Joe Feshbach’s take on the market. … Finally: Dr. Ed reviews “Godfather of Harlem” (+ + +).
Financials, Semis & The Fountain Of Youth
Executive Summary: Financial companies have had it rough lately, but those involved in the capital markets should benefit from easy y/y comparisons this year. Jackie recaps takeaways from Jeffries’ fiscal Q1 earnings, as the early reporter may be a bellwether for the industry, as well as industrywide data and analysts’ expectations for the S&P 500 Investment Banking & Brokerage industry. … Also: The semiconductor industry downturn may finally be ending, says Micron Technology’s CEO. But semiconductor investors are already focused on 2024’s better growth prospects. … And in our disruptive technologies spotlight: a breakthrough in anti-aging science.
Churning Earnings
Executive Summary: The SVB debacle has depressed the S&P 500 Financials sector’s market-cap share further below its earnings share. And the S&P 500 Bank Composite hasn’t ever been this cheap relative to the S&P 500 (i.e., since the mid-1980s start of the data). We liked the Financials sector before SVB imploded and like it even more since, as the fallout we expect doesn’t include systemic contagion and does include more M&A activity. … Also: While analysts have been cutting their 2023 earnings estimates for S&P 500 companies, the index’s forward earnings increasingly reflects the higher 2024 estimates and has stopped falling. … Also: Joe discusses some impacts of Standard & Poor’s sector and industry reclassifications.
‘Yes, There Will Be Growth in the Spring!’
Executive Summary: Stock market bears have long expected a recession, but now the prospective credit crunch that could cause one seems more plausible after the SVB crisis. … We expect that the Fed and FDIC will contain the crisis. But we do see regional banks paying higher deposit rates now to prevent disintermediation. That’s likely to hurt their profitability and prompt more cost-saving M&A activity among them. … Also: The latest batch of economic indicators supports a soft-landing scenario.
‘Is It Safe?’
Executive Summary: The recent banking crisis has heightened fears of a recession. But still the S&P 500 is up ytd—buoyed greatly by the MegaCap-8 stocks. … The SVB debacle hasn’t changed our economic outlook, which pegs the odds of a recession at a relatively high 40%, as we’re not convinced it will lead to a credit crunch that triggers a recession. … We’ll know if the banking system isn’t as resilient as we think if we see deterioration in the Fed’s weekly H.8 data, showing the assets and liabilities of commercial banks. … So far, we think that the SVB crisis will be contained thanks to the Fed’s emergency liquidity facility. … Dr. Ed reviews “Boston Strangler” (+).
Communication Services & AI
Executive Summary: The S&P 500’s Communication Services sector has outperformed all ten of its counterparts so far this year, up 18% ytd. Jackie examines the constituent industries and companies that have been driving the sector’s strong showing, with a particular focus on Meta, up 68% ytd. … Also: Companies in diverse industries are harnessing the power of AI in manifold ways to help people work faster, smarter, and even more deceptively (beware of AI fakes!). This week’s disruptive technologies segment highlights some of the players in the AI space and the innovative products they’re turning out.
Looking Ahead To Earnings Season
Executive Summary: Industry analysts and company managements have an optimism bias that blinds them to encroaching recessions. So when a recession looms, forward earnings’ reliability as an indicator of actual earnings to come falters. … While analysts have been cutting their 2023 and 2024 earnings estimates for S&P 500 companies since last summer, their expectations for next year are still higher than for this year. As long as that remains the case, forward earnings, which have been declining since last summer, soon should stop falling and start moving higher unless a recession happens. … And: S&P 500 earnings growth ex Energy sector could turn positive in Q2 as Energy de-energizes.
Giving Credit Where Credit Is Due
Executive Summary: The spread between the 10-year Treasury bond yield and the federal funds rate inverted in November; such inversions are predictive of credit crunches and recessions. They also tend to predict financial crises that halt Fed tightening. It’s too early to credit the yield-curve inversion for calling a recession, but it was spot on in presaging a crisis like SVB. … Small banks seem vulnerable now to depositor flight, which could prompt a credit crunch impacting small businesses. … But we don’t think a credit crunch would hurt consumer spending and homebuying as much as lower interest rates will boost them. … Our message to the FOMC: Give it a rest.
Other People’s Money
Executive Summary: Will SVB be the financial domino that sets off an economy-wide credit crunch that leads to a recession? Maybe not given the Fed’s intervention; but if so, we don’t see another Great Financial Crisis. … Why have banking crises been a recurring cause of US recessions anyway? The crux of the problem is that bankers tend to take excessive risks because it’s not their own money on the line and the government has their backs. … Also, we take close looks at: how Fed tightening has eroded the value of banks’ bond portfolios, the SVB blame game, and SVB’s economic ripple effects. … And: Dr. Ed reviews “Living” (+).
Banks, Tech & Batteries
Executive Summary: SVB wasn’t last week’s only bank run: Two crypto-friendly banks that served as the major gateways to the crypto world also succumbed to depositors deciding to take their money and run. Jackie performs brief autopsies and looks at their impact on the crypto markets and the banks positioned to take their place. … Also: Counterintuitively at this time of economic uncertainty, the Technology sector has been outperforming the broader index since its February 2 peak. … And our Disruptive Technologies focus today is on the quest to build a better EV battery.
The Oscars
Executive Summary: Within days of the run on SVB, the Fed has donned its “lender of last resort” cape—guaranteeing all bank deposits by all depositors (!), creating a new emergency bank lending facility, and launching a review of what went wrong at SVB. As a result, we don’t see sufficient SVB ripple effects to alter our outlooks for the economy or financial markets. … Also: Inflation has proven both more transitory (consumer goods inflation) and more persistent (consumer services) than expected, but both types have moderated lately. … And: Joe examines the S&P 500 Growth index’s comeback relative to Value after more than a year as the underdog.
The Lender Of Last Resort
Executive Summary: While the Fed and FDIC have acted swiftly to contain the SVB debacle, could it still balloon into a financial crisis like previous ones that triggered a credit crunch and recession? It could if it set off a wave of disintermediation at banks broadly, but we doubt that will happen; we think the regulators’ actions will work. … So the incident doesn’t change our outlooks for the economy, stock market, or bond market. But it does revive the “Fed Put.” That’s because the Fed’s actions to stabilize the banking system also stabilize financial markets.
Run For The (Sand) Hill
Executive Summary: Tightening monetary cycles often end abruptly when “something breaks” and a financial crisis is triggered. If the Silicon Valley Bank run is that something, it could mean tightening ends sooner and bond yields have peaked. We can’t say for sure that’s the case but can say the debacle should keep the tech sector mired in its rolling recession for longer. While the SVB crisis doesn’t change our economic and stock market outlooks for now, it adds uncertainty until resolved in a way that minimizes systemic shock. … Also: A theory for why labor market demand so persistently exceeds supply points a finger at the Baby Boomers. … Dr. Ed reviews “Till” (+ + +).
China, Defense & AI Videos
Executive Summary: China’s economy has recovered after the country lifted its zero-Covid lockdowns. But that news has been eclipsed by the rising geopolitical tensions between the US and China. Jackie examines the escalating tensions. … Also: A look at projected defense spending in the US and China and how the S&P 500 Aerospace and Defense industry’s stock price index has been faring after a super-strong 2022. … Finally, our Disruptive Technologies segment focuses on how AI is transforming the production of movies and video games.
Profit Margin Recession?
Executive Summary: Today, we examine S&P 500 companies’ revenues, earnings, and profit margins as reported for Q4-2022 and as estimated by industry analysts for 2023. Notably, Q4 revenues grew impressively to a record high, but inflation accounted for much of that. Operating earnings per share fell y/y, and just two S&P 500 sectors saw y/y earnings growth. Profit margins were squeezed by rising labor costs at a time of negative productivity growth. … While Q4 is behind us, its influence isn’t: It has caused analysts to chop earnings expectations for all four quarters of this year. Current 2024 estimates may prove too low if they reflect a recession that never arrives.
Selected Sectors Short Studies
Executive Summary: Our base-case economic outlook is upbeat. Stock investors likewise seem optimistic about the economy given which S&P 500 sectors have led the index’s advance since October. We recommend overweighting five S&P 500 sectors this year: Energy, Financials, Industrials, Information Technology, and Materials. … Also: We zero in on the themes and data supporting two of these recommendations, Information Technology, which stands to benefit from companies spending on productivity-enhancing technologies in this tight labor market, and Industrials, which should benefit from strong spending on infrastructure construction, manufacturing capacity, and industrial machinery in a growing economy.
The ‘Roaring 2020s’ Revisited
Executive Summary: Productivity was poor last year—declining more than it has since 1974—and growth in unit labor costs was high. But the final quarter of 2022 saw significant improvements in both, and we think the worst is over for both. If productivity continues to improve as companies increasingly solve their labor challenges with technological innovations, that should lead to lower inflation, higher real wages, and better profit margins. That’s the thesis of our “Roaring 2020s” outlook. … Also: The economy has been experiencing a rolling recession that started last year. Today, we examine rolling recessions, past and present. … And: Dr. Ed reviews “The Whale” (+ + +).
Consumer Discretionary, Utilities & AI Fake Voice
Executive Summary: Retailers are wary about the effects of high inflation and rising interest rates on consumers’ discretionary spending. But Target this year stands to benefit from easier y/y comparisons and shoppers looking for alternatives to its rapidly shrinking competitor Bed, Bath & Beyond. Jackie examines. … Also: Will demand for electricity outstrip available supply over coming years with retiring fossil-fuel-powered electricity generation replaced by less reliable green alternatives? That’s what one transmission organization projects. . … And: With voice-cloning software readily available, its potential nefarious (as well as silly) uses may spark new opportunities in identity authentication.
On Valuation & Central Banks
Executive Summary: Today, we look at valuations for various investment style indexes. Notably, the S&P 400 MidCaps and S&P 600 SmallCaps—a.k.a. SMidCaps—haven’t been this cheap versus the S&P 500 LargeCaps since 2000. Growth and Value indexes underwent major shifts when the MegaCap-8 stocks were redistributed among them in December. Global markets have been outperforming the US MSCI. They’re collectively still cheap relative to the US. But we wouldn’t stray too far from home for long … And: The underlying structural issues keeping inflation aloft will be solved by market forces, not with monetary policy. … Also: The ECB has been tightening, but perhaps not enough yet.
The Inflation & Valuation Questions
Executive Summary: Are stock valuations too high for our inflationary times? Admittedly, last year’s bear market didn’t maul valuations as severely as most do. But inflation has been moderating in a host of areas, which we expect to continue. And if the economy sticks to the rolling-recession script, as we think it will, stocks aren’t overvalued but fairly valued, in our opinion. … Also: For more perspective on the valuation question, we look at various valuation models’ current readings in their historical context, including a valuation model that takes inflation into account.
March Madness?
Executive Summary: The stock market beat a hasty retreat in February, spooked by reports of January’s economic strength and the Fed’s dreaded possible reaction. So today we look at what March’s releases of economic data for February might bring. They could be bad news for the markets, but we actually expect the best—viewing January’s strength as anomalous and expecting February’s data to confirm our soft-landing outlook. Accordingly, we still think a new bull market was born last October; it’s just not bursting out of the gate as most bulls do. The market may remain volatile pending more clarity on what the Fed will do. … Also: Dr. Ed’s bearish review of “Cocaine Bear” (-).
On Earnings & Fuel Efficiency
Executive Summary: For the S&P 500 index and many of its sectors, forward revenues are at record highs but forward earnings are below their record highs of last year. The disparity indicates a profit-margin squeeze, with several labor-cost-related sources; those stemming from pandemic aftereffects should abate in time. … And: The fuel efficiency of automobiles has been climbing—with more miles traveled on fewer tanks of gasoline. Increasing use of electric vehicles may be driving this trend. Jackie collects the evidence from two places where EV adoption is ahead of the curve, California and Norway. It’s a nascent trend worth watching given the ramifications for global oil demand.
On US Earnings & India’s Economy
Executive Summary: This earnings season stands out from most, and not in a good way: Hearing managements discuss their companies’ Q4 results on conference calls has sent analysts back to their spreadsheets. Consensus earnings estimates for all four quarters of this year have been falling. … Looking at valuations in the context of falling estimates suggests that the S&P 500 isn’t cheap after its runup since October. SMidCaps and overseas stocks are cheaper. … Also: India aims to usurp China as the go-to nation for outsourcing, hoping to shed its “developing” status and become a global trade leader. But first, it may need to clean up its act.
Four Landing Scenarios
Executive Summary: What’s next for the US economy? Of four potential outlooks, we see the greatest odds (40%) of a soft landing in which inflation moderates, the Treasury bond remains below last year’s peak, and the S&P 500 ends the year at a new high. We also see two no-landing possibilities—one disinflationary, one inflationary (20% each)—and a possible hard landing (20%). The first two scenarios would be optimistic for the economy and bullish for stocks, the last two negative and bearish. … Also: We examine data supporting the relatively new no-landing scenarios as well as the latest inflation data. … And: Dr. Ed reviews “Vikings: Valhalla: Season 2” (+ + +).
Industrials, Chinese Spies & MIT’s Picks
Executive Summary: Three pieces of recent legislation incentivize manufacturers to produce their goods on US soil, and the amount being spent on the construction of new factories has risen sharply, presumably in response. Jackie examines the projects planned by three such companies—a solar panel maker, a semiconductor manufacturer, and Ford Motor. … Also: We recap the DOJ’s recent efforts to stop Chinese spies intent on stealing US technology and defense secrets. … And: A look at several innovations on MIT’s short list of life-changing new technologies.
On Consumer Inflation & Housing Activity
Executive Summary: Yesterday’s CPI report for January showed inflation continuing to moderate but slowly. The new information isn’t likely to moderate Fed officials’ hawkishness, though, and doesn’t much change the economic outlook. We continue to see a soft landing with disinflation as the Fed continues to raise the federal funds rate to 5.10%, then keeps it there through year-end. So the stock-market implications of the CPI results are minimal. But stocks and bonds might be ready for some consolidation after their runups since October. … Also: Melissa homes in on why home prices have been holding up and looks at housing market trends.
Guides to Inflation & the Economy
Executive Summary: How investors interpret this morning’s CPI release for January could move the markets; but assessing what the data say about inflation’s stickiness may be tricky given BLS’s new CPI calculation methodology. All eyes will be on services inflation in particular since it hasn’t yet peaked, buoyed by wage inflation. … The long-running hard-vs-soft-landing economic debate now includes a no-landing prospect, which itself has two scenarios—an inflationary version (possibly the long route to a hard landing?) and a disinflationary one. The latter would be ideal, and we think it’s possible. … Also: The economies of Europe and China both dodged bullets this winter, to widespread surprise.
Financial Conditions
Executive Summary: Perversely, the financial markets’ vote of confidence in the Fed’s ability to subdue inflation without getting the economy into trouble represents a threat to those very efforts, in Fed officials’ eyes, loosening financial conditions as the Fed tightens them. So Fed officials have been trying to squelch investor optimism. … A close look at the data relevant to financial conditions reveals them as tight, but in a good way—tight enough to bring inflation down without a recession but not tight enough to provoke a credit crunch that results in a recession. We continue to stand behind our disinflationary soft-landing forecast. … Also: Dr. Ed reviews the film “Mr. Jones” (+ + +).
Financials, Cruise Lines & AI Search
Executive Summary: The stock market’s strength since October has been a beckoning beacon for the capital markets: IPOs have revived, bond markets have calmed, and bond issuance has picked up. It may be halcyon days for the capital markets if investors in the shares of alternative fund managers are correct. These bellwethers of capital markets activity have outperformed the S&P 500 dramatically since September. … Also: Consumers are spending on travel again—sparking earnings recoveries for Royal Caribbean and the S&P 500 Hotels, Resorts & Cruise Lines industry generally. … And: AI is poised to transform search, but market dominance may be up for grabs.
The Third & Fourth Scenarios
Executive Summary: Strong economic releases last week raise new uncertainties for financial markets. No longer is the economic debate limited to the hard-or-soft-landing question. Two no-landing scenarios are in the running now—one bearish for stocks (if inflation can’t be controlled) and one bullish (if inflation moderates). We still forecast a soft landing with moderating inflation, which would be bullish. Minneapolis Fed President Neel Kashkari seems to be concerned about the inflationary-no-landing scenario. … Also: Fixed-income markets have sent interest rates higher in response to the robust economic data. … And: A look at the European Central Bank’s tightening course ahead.
Earnings & Valuation
Executive Summary: While earnings recessions usually don’t occur without economic recessions, recent data suggest a possible decoupling. Analysts have been lowering their earnings estimates, and a recession in forward earnings could occur if forward margins decline faster than forward revenues grow. Yet we see no recession ahead in the broad economy—or in earnings—but a soft landing, with real GDP growth approximating 1.0% during the first half of this year and 2.0% during the second half. … Also: Valuations have been rebounding across the board for S&P indexes since October 12, surprisingly so for the S&P 500 and its Value index. Comparatively low valuations in overseas stock markets have begun luring global investors.
US Economy: Still Flying & Disinflating
Executive Summary: Last week brought plenty of affirmation for stock-market bulls, with lots of favorable data releases and a less hawkish-sounding Fed Chair Powell. The data depicted an economy that has not been landing at all but remaining quite airborne amid more signs of disinflation. … Powell said in his post-FOMC meeting presser that disinflation has a ways to go. Until inflation declines to the Fed’s target level, monetary policy will remain restrictive, he said, confirming that two more 25bps hikes in the federal funds rate are likely, followed by a pause. We review the latest disinflation readings, and Dr. Ed reviews another movie: “To Leslie” (+ +).
All About Tech & Productivity
Executive Summary: Robotics and artificial intelligence are transforming myriad companies in multiple industries—allowing producers and service providers alike to work more efficiently, become more agile, and make up for productivity lost through repeated hiring and training in this tight job market. Rising adoption of robotics and AI solutions over time should drive gains in corporate productivity and mitigate businesses’ labor challenges. After all, robots never sleep! Jackie reports on some of the innovative ways that companies in various industries are putting tireless robots to work.
Peak Hawkishness?
Executive Summary: It’s almost a given that the FOMC will decide today to ratchet up the federal funds rate by another 25bps. Less certain are how hawkish FOMC members will sound discussing the future course of monetary policy—starting with Fed Chair Powell today—and how much their words may perturb financial markets. But since the Fed remains ever “data dependent,” we can gain insight into their thinking by examining the recent data releases that are likely to affect it. … Also: Improving global growth prospects are igniting commodities markets, especially for gold, copper, and other metals. Melissa takes a look.
Market Dynamics
Executive Summary: Old-fashioned stock picking may be coming back into fashion as momentum investing stumbles. The breadth of stocks participating in the recent rally is improving, which could even the playing field for active versus passive equity managers and give the former a shot at outperforming the latter. … We recommend overweighting four S&P 500 sectors this year (Energy, Financials, Industrials, and Materials), market-weighting two (Tech and Health Care), and underweighting the remaining five. Our choices reflect our soft-landing expectations for the US and global economies in 2023 (with better growth in 2024)… Also: The latest Fed business surveys depict a slowing US economy and lower inflation.
ABCs of GDP & PCED
Executive Summary: The global financial markets are reflecting expectations for an improved global economy, and the US stock market is siding with the optimists on the US economic outlook, us among them: We continue to see greater odds of a soft landing (60%) than a hard one (40%). … Recent GDP and inflation data support our soft-landing scenario. Q4 GDP was strong, but a look under the hood suggests it was boosted by unintended inventories and Q1 GDP might be tempered by inventory liquidation. The past three months of PCED inflation data highlights reassuring downward progress, especially in goods inflation. … And: Dr. Ed reviews “Argentina 1985” (+ + +).
Transportation, Semiconductors & Digital Wallets
Executive Summary: Shifts in consumer purchasing have left retailers overstocked and shippers of goods feeling the pinch. But the sense among transport company managements is that demand for their services will normalize this year. Transportation stocks have been rallying in anticipation. … Another industry impacted by shifts in consumer spending is semiconductors, as computer sales have slid dramatically. And like the transports, semiconductor stocks have been outperforming the broader market as investors look past the pain. … Speaking of pain, the big banks have finally bitten the bullet and decided to develop a digital wallet of their own.
What’s in StyleAt S&P and the Fed?
Executive Summary: Standard & Poor’s last month reshuffled the components of its S&P Growth and Value indexes, with dramatic impacts on their valuation metrics. Ejected from the Pure Growth index were most of the MegaCap-8 companies, along with their gargantuan capitalizations; now only Apple remains. The forward P/Es of the S&P 500 Growth and Pure Growth indexes plummeted as a result. … Also: While FOMC members can’t share what’s been on their minds during the current pre-meeting quiet period, Melissa recaps what they last said about their expectations for monetary policy.
Market Timing
Executive Summary: Both the stock market’s and the bond market’s October bottoms have held so far—following the script we outlined as a possibility back that month. It involved moderating inflation, which we’ve seen, an end to Fed tightening, which we should see soon, and better GDP growth than we had expected, i.e., no landing so far. On the other hand, yesterday’s LEI report suggests a hard landing, while the CEI suggests a soft landing. … Also: We share insights from market maven Joe Feshbach, who notes some auspicious signs in measures of breadth. … And: We look at some total-return statistics to emphasize the importance of dividends to returns.
Another Recession Alarm Ahead
Executive Summary: Brace yourself for December’s Leading Economic Indicators and Coincident Economic Indicators coming out today. They are likely to trigger another recession alarm. But we still see greater odds of a soft landing (60%) than a hard one (40%). … What can the LEI and CEI tell us about the economy and what can’t they? Today, we discuss their usefulness and limitations. … Also: They aren’t the only economic indicators worth watching. … And: Dr. Ed reviews “The Menu” (+ + +).
Health Care, Going Global & ChatGPT
Executive Summary: The S&P 500 Health Care sector sheltered investors from the ravages of last year’s bear market, but it’s been underperforming since the market began to recover in mid-October. Jackie examines why other sectors might be more alluring now and why investors are looking past meager 2023 growth prospects for select health care companies active in M&A. … Also: Why have global stocks begun outperforming US stocks? Fears not materializing in Europe and China are part of the picture, US economic uncertainty and middling earnings growth prospects are another. … And: In a world where AI programs can write like humans, what could go wrong? Plenty.
Some Happy Developments
Executive Summary: When the equal-weighted S&P 500 price index outperforms the market-cap-weighted one, that signals rising stock market breadth. That’s what’s been happening since October 12, the date that the bear market probably ended. … Also: Wall Street has turned more bullish on prospects for Europe’s economy and stock markets in the wake of two big happy developments there. We’re in the bullish camp. … European economic indicators suggest a budding recovery—with improving energy markets tempering inflation and bolstering industrial production as well as both consumer and business sentiment.
Inflation: Persistent, Transitory, or Both?
Executive Summary: Consensus economic views seem to be mostly pessimistic. Big bank CEOs are preparing for a mild recession. Americans are skittish about a downturn, most economists project a recession, and lots of investment strategists remain bearish. But not us: We don’t foresee recessions this year in the US, Europe, or China. And we think 2023 will be an up year for the stock market. … Also: Goods inflation is proving transitory. Services is less so, hiked by unusually high rent inflation. And: a closer look at the Fed’s core services ex housing costs CPI. … Dr. Ed’s review of “The Banshees of Inisherin” (+).
Financials, Materials & Robots
Executive Summary: Yes, most banks and brokerages’ Q4 results will be down y/y, but investors already knew that. As long as earnings reports don’t bring much new negative news, the S&P 500 Financials sector’s rebound may continue, buoyed by easy y/y comparisons ahead. … Also: The World Bank‘s global growth forecast for this year is now a grim 1.7%. But you’d never know it from the surge in metals prices and the S&P 500 Materials sector since October. The strong dollar, China’s lockdown unlocking, and Europe’s energy resourcefulness no doubt have helped. … Also: How robots are about to transform farming, EV fueling, and manufacturing productivity.
Earnings Bottoming?
Executive Summary: Might the worst be over for corporate earnings? The earnings recession in some industries likely continued during Q4, with economically sensitive ones the worst hit. But Q4 may mark the bottom for earnings growth, as we don’t see a broad-based recession this year. … In yesterday’s Morning Briefing, we likened Fed Chair Powell’s bond-market conundrum to his predecessor Greenspan’s. But does Powell have a lever to hike bond yields that Greenspan didn’t? Perhaps, but pulling it is no option. … Consumers aren’t tapped out yet: Their revolving debt as a percent of income is only around pre-pandemic levels. … And: The labor market remains unbalanced.
Powell’s Conundrum
Executive Summary: US bond markets haven’t responded as expected to the Fed’s warnings not to expect the federal funds rate to be lowered this year. Bond investors seem unfazed by this, which is fazing Fed Chair Jerome Powell. He’s been fretting that easy financial conditions aren’t what the Fed needs to see at this time of tightening by the Fed. It’s all reminiscent of “Greenspan’s conundrum” during the early 2000s. The bond market then too seemed unaffected by the Fed’s tightening. This time, Fed officials have turned more hawkish because investors aren’t listening to their warnings. Perhaps, Fed officials should listen to the bond market.
Good Start
Executive Summary: We still see greater odds that the economy will glide to a soft landing (60%) than plummet to a hard one (40%), which nearly everyone else expects. What might a soft landing look like? The happiest—and most contrary—of scenarios would be a return of the “Old Normal,” which actually wouldn’t entail a landing at all: real GDP growth of at least 2.0%, moderating inflation, and not much more monetary tightening. … We expect this week’s market-moving news to be mostly reassuring, with a subdued CPI release and earnings reports that don’t disappoint. … Recent news has cut both ways—a concerning NM-PMI but auspicious capital-spending signs. … Movie review: “Tár” (+).
All About Central Banks
Executive Summary: Bears warning that the worst is yet to come for financial assets and the economy emphasize the effects on asset prices of central banks’ recent tightening policy moves, in the US and around the world. Yes, the unconventionally easy monetary policy that greased financial markets for more than a decade is over, but quite a bit of the tightening that has replaced it has been discounted by financial markets already. Moreover, most asset bubbles have burst already without much collateral damage. And the US markets continue to benefit from record foreign capital inflows. … Also: Melissa recaps recent monetary policy developments in Europe, Japan, and China.
Recession in 2023: 60/40 or 40/60?
Executive Summary: With last year thankfully behind us, we take stock of what could go both wrong and right for the economy in 2023. We’re optimistic that 2023 will be better than 2022 for several reasons, but that’s a contrarian viewpoint. We maintain our 60% subjective odds that the economy will achieve a soft landing in 2023 and 40% odds that it will land hard, with a broad-based recession and no bull market resuming for stocks. Much depends on what happens with Fed policy and inflation. … Dr. Ed reviews “Causeway” (+).
