Paulsen's Perspective
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!
Sticking With International Stocks
After a promising start, year-to-date, international stocks are now trailing the S&P 500. At mid-year, despite a strong U.S. dollar, the MSCI ACWI ex-USA and MSCI EM ex-China indexes essentially matched the S&P 500. Indeed, through June, the developed markets index was ahead of the S&P 500 nearly two-thirds of the time, while EM ex-China surpassed the S&P 500 more than 90% of the time. Recently, as global recession fears have intensified and the U.S. dollar has soared, both international indexes now slightly trail domestic stocks. Nonetheless, we are sticking with a tilt toward global stocks—particularly EM ex-China—primarily because we expect the U.S. dollar to soon dive!
Are CEOs Indicating Earnings Are Okay?
Despite an obvious slowdown in real economic growth this year, and insatiable talk of recession, it is curious that S&P 500 EPS estimates continue to climb.
The Fed Should Listen To Its Boss
The Federal Reserve has regular meetings and fancy press conferences, but like the rest of us, it is usually directed by its boss. The Fed’s board of directors comprises the character of the economy, both inflation and real economic growth, and bond vigilantes. This group of bosses primarily dictates whether the Fed is a hawk or a dove.
Recession And Earnings?
Recession mania has gripped Wall Street: Surveys consistently show a high percentage of respondents expect that a recession is inevitable. That is true for investors, company leaders, and consumers. These fears are understandable because fighting against rapid inflation often ends in recession.
Under All The Turbulence… A Return To Normalcy
The fight against runaway inflation is intense, and recession fears are rampant. The stock market has collapsed while bond yields have surged, and the panicked Federal Reserve is rapidly catching up with 75-basis-point fed fund hikes. In addition, Putin’s invasion of Ukraine shows no end in sight, and the U.S. Supreme Court is now at war with the Executive Branch.
Contemplating A Few Concepts…
“Quantitative Policy” by the Federal Reserve is a very recent addition to the monetary tool kit, and we are still learning about its significance. For example, does QT directly and consistently impact the money supply? Is it equivalent to raising the fed funds rate? Is QT really another substantial tightening force—or is its impact overstated? Unfortunately, nobody yet knows the answer to these questions. They will become understood only after many more years of data becomes available.
A Cycle-Ender Or A Rate Hiccup?
The current inflation spike has already ended the bull market and is widely expected to end the economic recovery soon. Nonetheless, rather than a “cycle-ender,” the contemporary environment could alternatively play out as a “rate hiccup,” which often occurs as the Federal Reserve and bond vigilantes react to signs of overheated growth during a recovery.
The Latest Report Is Disturbing… But Inflation Is Likely Near Its Peak
Higher energy and services prices caused the headline Consumer Price Index (CPI) to reach 8.6% in May, its highest level since 1981! Friday’s disturbing report has sent bond yields to new recovery highs and the S&P 500 into bear market territory. Yet, despite its ongoing persistence, as illustrated in the following pictorial, U.S. inflation is nonetheless likely topping out.
Fortunately, The Fed Has HELP—Making A Soft-Landing Probable
There is widespread consternation that a recession is imminent because the Federal Reserve has been hesitant to act, which has left it woefully behind the curve in fighting inflation. Many fear the Fed will feel compelled to be extremely aggressive in contracting monetary policy, making a soft landing nearly impossible.
Inflation Spikes: Do You Want The Good News, Or Bad News First?
Inflation continues to be the focal point for policy officials and the financial markets. Has inflation peaked yet? How fast will it come down? Will the Fed orchestrate a soft landing, or can inflation only be slayed by a recession? Finally, how will the stock and bond markets respond to such high inflation, particularly if the Fed is forced to raise interest rates significantly more and implement aggressive quantitative tightening?