Research.LeutholdGroup

The May Green Book, published a short three weeks ago, included an article titled “Market Narrowness in 2023” discussing the Big Tech theme’s market leadership this year.  We noted that 77% of the S&P 500’s year-to-date return through April 30^th was produced by the nine S&P 500 members of the NYSE FANG+^® Index, itself a collection of just ten large companies that dominate the Social/Cloud/Innovators cohort.  (As for which FANG+ company is not also in the S&P 500, that is your puzzle challenge for this long weekend.)

Read this week's Major Trend. 

Read this week's Major Trend. 

Latest numbers support a Fed pause. We believe the 25 bps rate hike in May was the last one of the current tightening cycle. Our Scorecard suggests that the disinflationary force has the upper hand and the impact of credit tightening has yet to show up.

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We have no special insights into the likely depth or duration of the banking crisis, but the impact on credit has already been severe. That might seal the fate of the economic expansion. It’s worth noting that in 2008, the recession seemed to have “caused” the credit crunch—not the other way around. 

An earlier-than-expected X-date means higher market volatility and increased chance of a temporary short-term deal. Typically, the debt ceiling drama is short-lived and there’s not much impact on most assets before or after a resolution. Overall, the possibility of an accident is now above average.

Volcker stormed to the scene to extinguish a blaze lit by others, while Powell battles a conflagration of his own making. Even if Powell executed a perfect, disinflationary soft landing, there may be something else in the cards: The magnitude of M2 shrinkage has resulted in the Marshallian K’s worst ever reading. 

Growth and Tech have been the flagrant winners YTD, yet the SVB crisis triggered further bifurcation: Since SVB failed, it’s been important to own only “big” Growth and “big” Technology, amplifying the multiples of monster stocks, like MSFT and AAPL. Can a major market low occur when investors are herded in a handful of the most richly-priced public companies in history?

The performance derby between actively managed portfolios and passively managed index funds is a fascinating and important topic in the investment community at large. This note provides a brief update our previous studies through the first quarter of 2023.

Read this week's Major Trend Index.

Read this week's Major Trend. 

A distinguishing feature of fixed income securities is that the expected return on a bond over its remaining lifetime is known with considerable certainty at the time of purchase. This characteristic can be a blessing or a curse, the negative aspect coming into play during an asset price bubble. Equity investors can justify almost any price as they dream of boundless riches arising from the bubble’s driving theme, limited only by their imagination. However, a bond’s yield to maturity is known at the time of purchase and this is the return investors in aggregate will earn. Even during the euphoria of an asset bubble, the expected outcome - the return of par value at maturity - is also the best-case outcome, and that is where our story begins.

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Yesterday was the six-month anniversary of the bear market low of 3,577.03 in the S&P 500. We think it’s unlikely the moderate upswing since then represents a new cyclical bull market. However, with the evidence still weighing in at Neutral, we’re not betting the farm on that opinion.

Latest numbers are unlikely to impact the Fed’s upcoming rate hike decision in May. The China reopening theme is holding up but the inflationary impulse is still missing. Our Scorecard suggests that the disinflationary force is getting a bit stronger, but the overall inflation picture remains quite muddled.

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This year marks the 25th anniversary of a slew of major bank mergers: Wells Fargo/Norwest, Banc One/First Chicago, NationsBank/BankAmerica, Star Bank/Firstar, First Union/CoreStates Financial, and SunTrust/Crestar Financial. Who knew the KBW Bank Index would celebrate the occasion by returning to its price level of that same era?!

At 144 months, this is now the longest Large-Cap cycle on record, but its dominance will have to prolong to eclipse the second-longest leadership phase (1946-1957), in which Large Caps achieved a 190% performance spread above Small Caps.

Tightening peaked in Q4-2022, with the BAA yield at 266 bps above its year-earlier level—the most contractionary move since the early 1980s. If the standard lead-time applies, the full impact will be felt in Q4-2023.

Despite the Fed’s tough-talk about getting the funds rate above 5%, monetary and liquidity measures are significantly less bearish. Thank SVB depositors, who required a bailout big enough to reverse five months of QT in just two weeks. The market reaction looks like that after September 2019’s Overnight Repo-market turmoil, which forced the Fed to end its first experiment with QT.

Volatility returned, as two large bank failures had investors questioning growth expectations. Value was hit the hardest; growth was the main beneficiary. 

We studied market behavior around yield curve re-steepening and identified six historical cases. Of those, three were successful and preceded major recessions. The other three instances failed and reversed to new lows. The gist of the study: We are at a critical crossroads.

Here we evaluate the returns of fixed-income ETFs since the Fed began its boosting campaign last March; for many mainstream offerings, the picture is not a pretty one. We recap the pain felt by investors in conventional fixed-rate bond funds.

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Yesterday the NASDAQ 100 closed up more than 20% from its late-December low, prompting the media to enthuse that it had entered a “new bull market!” Sadly, though, the “NDX” has no company among the broad indexes: During this NASDAQ move, gains in the S&P 500 and Russell 2000 have been just 6.5% and 2.9%, respectively, while the DJIA is down 0.5%. (So much for January’s “breadth thrust!”)

One of the most vivid memories of the Great Depression is the sight of nervous depositors lined up outside a bank hoping to withdraw their meager savings before the bank failed.  Like a rare tropical disease that was thought to be eradicated by modern medicine, the classic bank run reappeared this month in the form of Silicon Valley Bank.  At the beginning of March, the market had no particular concerns about the potential for systemic bank failures, but SVB’s sudden demise has cast a pall over the entire industry.

Read this week's MTI

Read this week's Major Trend. 

Style investors recently witnessed a rare event when, on February 13^th, the P/E ratio of the S&P 500 Growth Index fell below that of the S&P 500 Value Index. At first glance, it is tempting to attribute this valuation flip-flop to the 2022 bear market, which saw Value outperform Growth by a whopping 24.2%. However, the bear-induced collapse of Growth stock prices in 2022 only served to return the P/E spread to a level just below its historical median of 5.1, meaning that the final move toward parity was caused by a force outside the market itself. That “something else” was the S&P 500 style reconstitution that occurs annually on the third Friday of December.

CPI readings for February were in-line with consensus estimates. Attention has been and will continue to be focused on banks and credit markets for investors and the Fed in the coming weeks. The Shelter Index made a fresh YOY high despite almost a year of declining YOY rent prices.

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Steve Leuthold, a nationally respected investment strategist known for his contrarian nature and unpretentious style, passed away peacefully at his home in Carlsbad, CA, on March 7, 2023, at the age of 85.

Factor performance stabilized in February, recovering from a brutal start to the year. While those dynamics bled into the first two days of February, the trend quickly reversed as interest rates bounced off recent lows and stayed on an upward trajectory for the rest of the month.

While the valuation gap between Growth and Value sectors was compelling just a couple of years ago, it has closed drastically the last twelve months. Our analysis shows that Value sectors (Energy, Industrials) are still more favorable than Growth sectors (IT, Health Care).

Imagine telling a Small Cap investor in mid-2018 that: (1) the U.S. economy would spend all but two months of the next 4-1/2 years in expansionary mode; and (2) M2 money supply would increase by 50% in that time, and yet the Russell 2000 would gain a grand total of just 9% over the same span.

A large swath of the institutional asset-allocation world is engaged in the sometimes dangerous, binary game of “stocks versus bonds.” Although the 2022 bond debacle caused relatively mild damage to a massively overweight equity position, the bear markets of 2000-2002 and 2007-2009 produced losses for stocks versus bonds that exceeded 60%. 

Monetary conditions have worsened, recession evidence is piling up, and some of our Large Cap valuation measures have returned to their tenth historical deciles. However, with the economy near full employment we thought it worth revisiting the past to find examples where the market might have temporarily thrived under similar circumstances.

S&P rebalanced its style indexes in December, and the shuffle caused substantial turnover. The Value index now includes a sizeable swath of mega-cap tech companies, and this changing membership significantly affects the relative valuation metrics that defined those styles.

For those disappointed that February’s employment report won’t be released until March 10th, we have something to consider in the meantime.