Category: Thoughts

The Stock Market climbed “The Wall of Worry” in October, gaining 9-14% depending upon the index.    

The Dow Jones Industrial Average “DOW” closed at 32,861 on Friday October 28, 2022, up 4,000 + points since September 31, 2022, when it closed at 28,725. The stock market is myopically focused on the direction of interest rates and is looking for signs of economic weakness. This weakness may provide the FED cause to ease off from its hawkish stance to a more accommodative monetary policy.  In plain English interest rates may stabilize or decline sooner than previously expected.  So why the swift upswing in the market? What changed?

1. Stock markets tend to perform well with a divided Federal Government between the Executive Branch (President) and Congress. Most polls during the last few weeks indicate positive momentum has been building for republican candidates. The Republican Party may take over the majority in both chambers of Congress. This is a clear shift from a few weeks ago.
2. Economic indicators during the past few weeks have shown weakness in the economy. The Purchasing Managers Index “PMI” for manufacturing and services came in at 50.9 and 46.6, respectively. A reading below 50 indicates contraction. So manufacturing is treading water while the service sector may be in contraction or will be soon. This is good news because these data points may add to other data to give the FED cause to ease its hawkish interest rate increase position sooner than expected.
3. The stock market showed clear signs of being oversold at the end of September on a technical basis and was due for a rally. We track the number of stocks in the S&P 500 index to measure the number of these stock that are priced above their 50-day moving average. When this percentage is below 5% the market tends to rally soon afterwards. Only 3% of the S&P 500 Index stocks were trading above their 50-day moving average at the end of September.

While the recent rally is encouraging, we do not expect the stock market is off to the races in a steady climb upwards. Volatility (upside and downside) will be with us as this interest rate and economic cycle unfolds. 

Richard S. Lawrence, CFA / November 9, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The stock market left investors in the dumps in the September 2022 quarter – with equity markets down 21-26% on a year-to-date basis through 09.30.2022.    

But as we all know a small beam of light becomes the most brilliant when it is the darkest. During the first two trading days the Dow Jones Industrial Average rallied 1,591 points. The US equity indices rose 6-7% in just two days.

Equity markets are trading on inflationary expectations and presumed FED monetary policy.

The September market rout was a result of the FEDs announcement at the end of August that it will continue its hawkish stance against inflation that may cause ‘economic pain”. Investor expectations shifted in the last few days and now believe the FED will pivot to a neutral monetary position in 2023 rather than 2024 as previously expected. We agree with this change in expectations and of course pleased the market rallied in early October.

We expect inflation to begin declining materially by March 2023, and the FED will pivot to a neutral policy position by mid-2023. We have not changed our position on this issue….

From our September 2022 Commentary – ”The US stock market headwinds of rising interest rates may remain until the first half of 2023 when we expect inflation to materially abate. Commodity prices have declined since June 2022 suggesting the aggregate price level may have peaked.  Once the calendar page 2023 turns, year-over-year inflation should decline.  This backdrop may give the FED reason to curtail raising interest rates, and depending upon economic growth, it may begin easing interest rates if inflation is constrained.”

We continue to believe the US stock market will recover from the current malaise by the second half of 2023.

Richard S. Lawrence, CFA / October 5, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The US stock market was up 7-10% in July only to give up 4% in August with continued selling in early September.    

Under the leadership of Chairman Powell, the Federal Reserve has made it clear that it will do what is necessary to break the back of inflation by raising interest rates “forcefully” which may likely cause “pain” in the economy. These are the exact words used by Chairman Powell at a recent conference in Jackson Hole, WY at the end of August 2022.

Inflation is due to a mismatch between demand and supply whereby “price’ clears the market.

While the FED can reduce demand by increasing interest, it has no effect on the supply side of the inflation equation. The Federal Government “fiscal policy” has tools to affect both demand and supply. During the past two years the government increased spending dramatically adding more demand to the economy. Supply has been constrained during the past two and a half years due to several factors. Most notably, the pandemic caused many economies around the world to shut down. These supply chains are in the process of coming back online. China has been the most aggressive in shutting down production with its zero COVID policy.

In our opinion, US fiscal policy could constrain spending (demand) but has exhibited a reluctance to do so as illustrated by the many spending initiatives signed into law.

Supply side economic policy of easing regulation, especially in the energy sector, and tax policy to encourage investment would lead to additional supply. At the current time we do not see fiscal policy changing to help bring demand and supply into better balance. Therefore, it will be up to the Fed to increase interest rates to reduce demand and thereby inflation.

The US stock market headwinds of rising interest rates may remain until the first half of 2023 when we expect inflation to materially abate.

Commodity prices have declined since June 2022 suggesting the aggregate price level may have peaked. Once the calendar page 2023 turns, year-over-year inflation should decline. This backdrop may give the FED reason to curtail raising interest, and depending upon economic growth, it may begin easing interest rates if inflation is constrained.

We continue to believe the US stock market will recover from the current malaise by the second half of 2023 which is 12-18 months after consumer confident hit an historic low in June 2022.

Richard S. Lawrence, CFA / September 8, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The US stock market is down 10-15% on a year-to-date basis through July 31, 2022 and remains in “correction” territory.    

Markets rebounded in July with a 7-10% gain as investors believe the FED may not have to ratchet-up its interest rate projections.  The Fed’s swift increase in interest rates this year is intended to reduce demand and thereby inflation.  The rise in interest rates is delivering the intended result with the economy clearly slowing down.  The Bureau of Economic Analysis “BEA” reported US Gross Domestic Product “GDP” declined for the second consecutive quarter in June 2022. The second-quarter decline reflected decreases in private inventory investment, residential fixed investment (housing), federal government spending, state and local government spending, and nonresidential (business) fixed investment. These declines were partially offset by increases in exports and personal consumption expenditures. While there is debate as to whether we are in a recession or not, the economy is weakening.

Companies continue to report earnings growth and are expected to deliver 10% and 9% earnings growth for 2022 and 2023, respectively.

The stock market’s price-to-earnings “P/E” ratio is 16.5x 2023 earnings, in line with its average over the past 25 years.  Stock prices are a function of interest rates and earnings.  If our economy continues to weaken into a prolonged recession, earnings estimates will likely decline, and the market may very well take a leg down once again.  This cycle will run its course over 12-18 months from the beginning of 2022.  This leads us to believe the US stock market will be materially higher by mid-2023.

We are optimistic about the stock market for the next 18 months! Yes, we are!

Investor and consumer sentiment indices are in “extreme negative” territory.  And when this occurs, almost without exception, markets reverse and turn positive over the subsequent 18 months.  When the negative components of the outlook begin to turn positive, the stock market typically responds positively and swiftly.

Richard S. Lawrence, CFA / August 2, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The first six months of 2022 have been devastating for both stocks and bonds; US stocks were down 15-24%, depending on the index.    

Unlike other corrections or bear markets bonds were also down 10%. Bitcoin was down 70% from its peak, showing the carnage in the speculators den.

Where we are now:

Stock market valuation (price-to-earnings ratio) is slightly below the historical average and is now 15.7x, down from 23.0x at the recent peak.  The rise in interest rates and concerns over corporate earnings have caused this severe sell off in the markets.  Predicting a market bottom during any market selloff is impossible to do. However, current prices may prove to be quite attractive in two years once looking back.

The economy is clearly slowing down due to higher interest rates and inflation.  The Federal Reserve “FED” is committed in bringing down inflation and may very well over play the inflation cycle by increasing interest rates to the point of causing a recession.  We think a recession is likely to unfold which will reduce corporate earnings and their expectations for 2023.  The market may decline further.  However once inflation is showing clear signs of abating, the FED will likely cease increasing interest rates and may reduce interest rates to spur the next expansion cycle. 

The stock market may have established a bottom if the US economy averts a recession.

The Dow Jones Industrial Average “DOW” has been trading in the 31,000 to 33,000 range.  The stock markets valuation is back to average with the price-to-earnings ratio of 15-16x.

We are optimistic about the stock market for the next 18 months! Yes, we are!

Investor and consumer sentiment indices are in “extreme negative” territory.  And when this occurs, almost without exception, markets reverse and turn positive over the subsequent 18 months.  When the negative components of the outlook begin to turn positive, the stock market typically responds positively and swiftly.

Richard S. Lawrence, CFA / July 12, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The Federal Reserve “FED” increasing interest rates to choke off inflation is the cause!    

A brief review of economics 101:  prices of goods and services brings into balance demand and supply.  On the demand side of the equation, The FED announced in early 2021 that it would begin the process of raising interest rates to reduce demand in the US economy.  We are now seeing housing demand easing as well as prices of many commodities.  However, energy and food prices continue to rise putting pressure on households’ monthly budgets.  If oil and gas supplies are not increased globally, prices will likely remain at elevated levels.  This result likely will be gloomy consumer confidence and less disposable income for other purchases

Recession versus Stagflation:

The common variable between these two economic conditions is lower economic activity.  In the case of recession, economic activity declines for at least two consecutive quarters.  Prices typically decline, and inflation is put to rest.  Stagflation on the other hand is characterized with inflation and a very low economic growth rate. 

The stock market may have established a bottom if the US economy averts a recession.

The Dow Jones Industrial Average “DOW” has been trading in the 31,000 to 33,000 range.  The stock markets valuation is back to average with the price-to-earnings ratio of 15-16x.

We are optimistic about the stock market for the next 18 months! REALLY? Yes, we are!

Investor and consumer sentiment indices are approaching extreme negative readings.  And when this occurs, almost with out exception, markets reverse and turn positive over the subsequent 18 months.  When the negative components of the outlook begin to turn positive, the stock market typically responds positively.

Richard S. Lawrence, CFA / June 15, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

Investors are nervous – We are turning optimistic however!

Investor concerns are plentiful:  

The Russian Ukrainian war, persistent inflation, rising interest rates, economic growth slowing and high valuation in parts of the market. The S&P 500 Index is down 13% from its high in January, with most of the decline occurring in April.

Is a recession on the horizon?

The “R” word is being used recently in more and more investment commentaries.  The possibility of a recession is clearly rising for 2023, however we do not believe one will occur in 2022.  The Federal Reserve Board the “FED” is at the beginning of a monetary tightening cycle by raising interest rates.  Higher interest rates are intended to slow demand and thereby reduce inflation. In so doing if demand slows too much, the economy could easily shift into a recession.

We are optimistic about the stock market for the next 18 months! REALLY? Yes we are!

Investor and consumer sentiment indices are approaching extreme negative readings.  And when this occurs, almost with out exception, markets reverse and turn positive over the subsequent 18 months.  When the negative components of the future outlook begin to turn positive, the stock market typically goes up in response.

Richard S. Lawrence, CFA / May 6, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

Russian invasion of Ukraine is creating global economic uncertainty, causing equity markets to decline.

History illustrates that equity markets decline during geopolitical events due to uncertainty of economic growth, inflation, and interest rates. The current event is creating concern over economic growth as countries coalesce (except for China) to economically squeeze Russia.  The Russian economy is now in freefall with the value of the Ruble relative to the U.S. Dollar down 50% since the beginning of this event.  Russian bonds now yield 20% reflecting capital flight out of Russia.  The following chart illustrates how the S&P 500 Index responded to various geopolitical events.

Richard S. Lawrence, CFA / March 9, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!

The stock market retreated and is down 3-6% through 02.10.2022 on a year-to-date basis (YTD).   

Large cap growth stocks have fallen out of favor as illustrated by the 10% decline of the NASDAQ Index.  Investors have been shifting portfolios away from the high-flyer growth stocks to stocks with more appealing price-to-earnings (P/E) ratios.  Stocks’ P/E ratios have declined to 20x but remain well above the 16-18x historical average. We expect the Federal Reserve Board “FED” to increase interest rates four or five times in 2022 to cool off inflation.  Interest rates and P/E multiples move in opposite directions from one another. So, we expect stocks’ P/E ratio to decline as the FED increases interest rates.

On the positive side, corporate earnings are expected to increase 9-10% in 2022. 

If supply rebounds significantly in the second half of 2022, inflation may subside materially.  If this occurs the Fed may not need to increase interest rates to the degree that is currently being anticipated.

Inflation is the most significant economic issue facing our economy in 2022 in our opinion. 

Money supply (M2) expanded by an astounding 40% since the beginning of the pandemic.  Constrained supply, due to businesses shutting down periodically across the globe, and extraordinary government spending are both contributing to the current 7.0% inflation. The FED has the great challenge of curtailing inflation by slowing down the economy, while keeping employment and the economy expanding.

The stock market will likely experience heightened volatility in 2022 with periodic declines of 10% or more (3,600 Dow Jones Index points).

This potential volatility is precisely why we recommend clients maintain sufficient cash and short-term bonds “safety funds” to fund three years of spending needs. Timing the market by jumping out of the market and then back in is typically a futile strategy.

Richard S. Lawrence, CFA / February 11, 2022

AS ALWAYS
We recommend only to invest in the stock market with a long-term view (3+ years) and have cash available for emergencies and spending needs for the short term (1-3 years).

PLAN FOR THE LONG TERM
PREPARE FOR SHORT TERM STOCK MARKET DECLINES!