Paulsen's Perspective
Thoughts On The HAWK At The Helm
Over the years, I’ve never tried to “figure out” what the Fed would do. Rarely spent much time adding up the number of doves versus hawks comprising the board. Didn’t find much value in parsing “Fed Speak,” carefully examining changes in the minutes from the last meeting, trying to reconcile widely diverging opinions among the multiple speeches of current members, and certainly never did a deep dive into the dot plots. Turns out, that was a mistake!
Confidence Is Cheap… Relative To Fear
What a year! Runaway inflation, surging bond yields, a rebirth of the Volcker Fed, a persistent bear market, widespread recession fears, a European War, and rising China/U.S. tensions. Not to mention—yet another booster shot, the passing of a 70-year-reigning Monarch, unprecedented heat, floods, fires, tornadoes, hurricanes, and, of course, mid-term elections in a country with massive political strife.
Yields Increasingly OUT OF BOUNDS?
Yields have been on an upswing all year, and based on Federal Reserve comments, they may go up for the balance of 2022 and perhaps into 2023. Nevertheless, a host of factors suggest yields are getting more and more “out of bounds” with historical norms, and a “rate peak” is probably nearing.
The LOW Is In… Because The HIGH Is In
Inflation plays a part in nearly all economic cycles. Once a new recovery gains footing, inflation starts rising, overheat fears intensify, policy officials respond, and bond yields increase. However, significant inflation—the type that becomes the centerpiece of an economic expansion—is a rarity.
Support For “SMALLS”
Despite a bear market, small-cap stocks have essentially been market performers this year. The S&P 500 is off by 17.8%, while the S&P 600 Small Cap Index is about the same (-18%). The Russell 2000’s YTD loss of 19.8% is nearly equivalent, even though it contains a more significant portion of low-quality companies. Overall, small caps have been resilient as the Bear growls, and, hopefully, that’s a good sign they could again be the leaders once the Bull takes charge.
“Offense” Remains Sturdy During This Pullback
The stock market rally from the June low failed to break through its 200-day moving average on August 16th, and the S&P 500 has since fallen on tough times. The market advance was seemingly clipped, and the Bears again ruled! The decline began during the preamble leading up to Jackson Hole, and the S&P 500 completely collapsed after Chairman Powell’s hawkish speech reiterated the Fed’s resolve to bring inflation under control. The index dropped by about 9% from its recent high and is more than 18% below its all-time high.
A Brave New World Or Bizarro World?
The contemporary economic and financial market cycle has been a weird one. It began with the biggest post-war bust in both real GDP and employment, followed almost instantaneously by a boom! It has been characterized by unprecedented use of monetary and fiscal stimulus, the lowest bond yields ever recorded in U.S. history, chronic supply-side shortages, the highest inflation in 40 years, and one of the speediest and most aggressive Fed tightening cycles
Cyclical… NOT Secular Inflation
With inflation still ravaging the U.S. economy and the leader of the Federal Reserve about to take center stage to inform everyone what he will do about it, investors should remind themselves that “disinflation” probably still rules. Yeah, you read that right.
Some Good News For The Bad News (Jackson Hole) Week
It’s yet another Fed week. Monetary officials meet in picturesque Jackson Hole, Wyoming, for some scary talk about fighting inflation, hard-line commitments to raise interest rates, and frightening possibilities about an imminent recession.
Corporate Profits—“Poof” Or “Purr?”
As inflation rages and real economic growth decelerates, investors share legitimate concerns about the direction of company earnings. Undoubtedly, profit growth will slow; businesses are simultaneously dealing with declining unit sales and margin pressures. In the coming year, the question is, will corporate earnings significantly collapse or simply moderate to a sluggish (but still positive) growth rate? That is, are profits poised to “Poof” or “Purr?”
Listen To The Fed Or The Bond Market?
Who’s correct? The Federal Reserve is talking tough on inflation, indicating its fight is far from over and multiple rate hikes are yet forthcoming. The bond market, though, has turned decidedly dovish: The 10-year Treasury yield peaked in mid-June near 3.5% and has subsequently eased by about 75 bps. Moreover, the one-year breakeven rate (the bond market’s embedded one-year-forward inflation expectation) collapsed from 6.3% in March to 3.0% today. Indeed, the recent decline suggests the inflation outlook could soon be back near the Fed’s 2% target.
A Stimulus-Induced Supply Problem
An early mentor told me, “When your management style starts to reduce productivity, apply less management!” Fiscal authorities should consider that advice.
Without The Tech Sector… Why Buy Stocks At All?
Not all sectors are created equal. Some influence the direction and thrust of the stock market more than others. The Technology sector, however, has historically had an unparalleled impact on the overall performance of U.S. stocks.
Investors Back “On OFFENSE”
One of the problems with the bear market this year is there have simply been too many investors playing defense. Well, that has finally changed. Investors are again on OFFENSE, perhaps giving the stock market its best chance, yet, to ultimately put the bear to bed.
Has a New EASING Cycle Already Begun?!?
The goal of decelerating real economic growth (demand destruction) has been achieved. The economy is not likely in a recession because job creation rose at an annual pace of nearly 3.7% in the first half of this year, real personal consumption increased by 1% in the second quarter, the ISM Manufacturing Survey is at 52.8, and profits, dividends, and capital-goods orders continue rising.
Is This Market Trifecta Headed For A Win?
Sometimes, trends get so extreme that it is best to bet on a reversal. Such is the case for a few critical factors underlying the health of the U.S. stock market. Because they have been stretched to exaggerated positions, there are currently three favorable forces for the stock market: real liquidity growth, private sector confidence, and valuations.
Why Does The Fed Have Press Conferences?
Tomorrow’s meeting conclusion will be the “lucky 13th” since the start of 2021. Count me skeptical, but what is the rationale for having these glitzy Fed Pressers? Do we really ever learn anything on "Fed Day" that we didn’t know before the event started?
Monday Morsels
Here are a few morsels to start the week...
“Sector Similarity”
VOLATILITY has wreaked havoc in the financial markets this year. The median stock-market CBOE VIX Volatility Index® is 26.7 compared to only 18.6 in 2021 and is higher than 86% of the time since 1990. Because Treasury yields recently returned to some sense of normalcy, bond market volatility has also been challenging. For example, the median ICE MOVE Index (a yield-curve-weighted index of implied Treasury-option volatility) is at 111 versus just 61 in 2021—this is higher than 80% of the time measured back to 1990!
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