Wanna change the subject?
Uncertainties casting doubt on the rally.
Never in my career have I seen so much mainstream discussion about the recession question. Could it be a political issue?? My travels this week took me to Lexington, Ky., horse capital of the world. In my career, I’ve spoken at all manner of venues, and can now add a thoroughbred racetrack to my list. Keeneland Racecourse has the track, but also the world’s largest thoroughbred auction house. The stage upon which those horses are showcased for sale was my stage, whose steep ramp was most certainly not designed for these Jimmy Choos! It’s easy to get tripped up thinking about this economy and market. Are we in a recession or not? Is the worst of inflation behind us? Have we put in a bottom? No clear answers. On one side, Bank of America’s survey of global fund managers finds expectations for global growth and profits at all-time lows, cash levels their highest since “9/11,” equity allocations their lowest since Lehman and a record low percentage expecting a stronger economy. On the other, the median view for the next six quarters in a Bloomberg survey of economists sees GDP growth slowing but never dropping close to zero, the unemployment rate rising to 4.2% due to strong labor force growth, not big layoffs (with monthly payroll growth averaging more than 150K), and PCE inflation plunging to 2.3%. Who’s right? Whichever, Strategas Research warns against getting seduced by this rally. As pronounced as Wednesday’s post-Fed surge was, only 4% of S&P 500 issues and 7% of the Nasdaq 100 posted +2 standard deviation advances. Something north of 50% is typical of a sustainable acceleration phase. Meanwhile, technical indicators show overbought conditions. While AAII sentiment remains very bearish, individuals have yet to pare equity holdings significantly.
If recession signals continue to mount, portfolio adjustments could lead to a brutal sell-off. And recession warnings are everywhere—except in market pricing. After a 6-week rally that trimmed more than 11% off the lows, the 14.6% year-to-date decline in the S&P 500 appears to be pricing in a liquidity squeeze, nothing worse. The Q2 earnings reporting season so far also has reflected a slowdown, not a meltdown, with earnings besting beaten-down estimates and guidance citing challenges, not insurmountable obstacles. Analysts have shaved, but not slashed, some estimates—a sign the market for now is siding with Chair Powell’s view that a soft landing is possible. Despite two straight negative quarterly prints (more below), the National Bureau of Economic Research, the official arbiter of when recessions begin and end, historically waits to see falling payrolls before making the recession call. (Wherever you fall on the recession/not yet a recession debate, we have never experienced two consecutive quarters of negative growth without experiencing one.) Piper Sandler thinks payroll declines could come this quarter as layoff announcements and initial claims keep climbing. The latter already is consistent with unemployment rising a full percentage point above its current 3.6%, adding to pressures that saw all-important consumer spending nearly near stall in the spring. Nominal GDP still rose a strong 7.8% annualized in Q2, well above a 5-6% rate that historically has brought—and kept—down inflation. After a decade of high nominal GDP, Volcker utilized rapid and high policy rates to crush demand to drive it down. Demand, not supply, is the issue now, too. Will Powell follow Volcker’s playbook? The market’s not ready if he does.
Facts change quickly in a bear market, with liquidity dynamics in late July and August often fickle, particularly in a falling yield environment. Evercore ISI says the likely source of incremental selling—a heavily leveraged retail public whose ownership of stocks is at multi-decade highs and remains overweight FAANGs—may be too busy enjoying summer vacation to sell stocks before September. But the psychology of inflation in a weakening economy, with declining earnings forecasts amid the start of layoff announcements, may soon change the dynamic. Could bring the capitulation among investors and the wholesale downshift in analysts’ expectations that have been missing. Analysts continue to call for solid earnings growth this year and next, with consensus forecasts that collectively imply S&P profit growth of 10.6% this year and 8.2% in 2023 and, ex-Energy, 4.4% and 10.6%, respectively. It’s possible U.S. markets will see support as the best house on a bad block, or as Yardeni Research calls it, “TINAC,” for “there is no alternative country.” As the world seems to be spinning out of control (a likely steep recession in Europe, a China that can’t seem to shake Covid and Russia caught up in a war of its own making), the U.S. looks like a haven for global investors. A veteran advisor in Ohio told me this week that he has never in his career had so many 55-year-old clients retire as this year. Indeed, baby boomers are retiring in droves, far more quickly than in pre-Covid years. Financially ready. Perhaps not engaging in the recession or not debate? The revenge of the boomers!
- Upon revision Rising exports and declining imports caused June’s trade gap to narrow significantly, and retail inventories for the month surged. Evercore ISI estimates improvements in the two GDP components could equate to roughly a percentage point of contributions from each when Q2 GDP is revised. Moreover, this morning’s read on June consumer spending rose a more than expected 1.1%, while May’s initial decline was revised up to a 0.3% increase.
- Manufacturing still kicking Driven by defense aircraft and higher prices, June durable goods orders surprised, jumping 1.9%. Consensus had expected a decline. Among regional Fed manufacturing gauges, Dallas plunged in July but 6-month capital spending intentions jumped, a sign of rising oil and gas investment. Kansas City rebounded on increases in production, shipments and orders. And a 3-month high in capital spending intentions lifted Richmond out of contraction.
- Feeling a little better Michigan’s final take on July consumer sentiment rose more than expected off June’s record low. A jump in the current conditions component drove the improvement. Sour expectations were a drag on sentiment and also worsened in the Conference Board confidence gauge, which slipped a third straight month.
- A global recession? The initial take on Q2 saw real GDP decline a second straight quarter, with consumer spending growing at its slowest pace in two years as increases in services outlays offset a plunge in goods purchases. Elsewhere, eurozone consumer confidence hit an all-time low in July and the German Ifo index fell a second straight month to a 25-month low (with expectations at global financial crisis lows). JP Morgan estimates global retail sales are contracting at a 10% annualized pace, led by a “stunning” 38% Covid-related collapse in China and an “equally stunning” 45% plunge in Russia.
- The elusive “peak” Core PCE rose above consensus in June, lifting the annual figure 4.8%. Led by accelerating wages, the Employment Cost Index also rose slightly above forecasts in Q2, though a tick below Q1’s pace. Over the past year, the ECI has risen at 5.1% pace, up from Q1’s 4.5% rate.
- Housing drag deepens Excluding early 2020’s pandemic shutdown months, pending home sales crumbled in June to 2011 lows. New home sales also sank, driving year-to-date sales down 29%. Amid slowing buyer traffic and decades-high mortgage rates, prices as measured by various gauges have started to roll over. Housing market research firm Zonda reports 20% of builders lowered new-home prices in July.
$500 here, $500 there and pretty soon you’re talking real money According to National Public Radio, today’s average American family must spend $500 per month more to simply maintain the same lifestyle they did compared to a year earlier. Despite a jobless rate near all-time lows, a Census Bureau survey found that four in 10 adults are having difficulty covering usual household expenses.
What’s in a name? With the Senate’s August recess just days away and unified support among House Dems all but certain, the revival of components of Build Back Better (now called “The Inflation Adjustment Act of 2022”) following Sen. Manchin’s surprise conversion still faces tight odds for passage. The reconciliation clock necessary to get it through Congress with minimal to no GOP support runs out at the end of September, and that’s assuming the Senate parliamentarian agrees it meets budget rules. Cowen says it’s notable what wasn’t included: nothing on individual tax rates, capital gains, SALT, etc.
Something for the bulls While lacking the magnitude of surges during the global financial crisis and Covid shutdowns, insiders continue to slowly purchase their stock, with 193 buyers in the S&P 500 over the last four quarters.