June 2, 2022
May 2022 Review
After seven relentless weeks of largely negative volatility, stock prices appeared to finally come out the other side. The S&P500 touched bear market levels (-20%) and the DOW broke it’s longest losing streak since 1923. The two indices finished May near to where they opened the month. Treasury bonds climbed for a third week.
The last full week of May benefitted from a positive report by Brian Moynihan, CEO of Bank of America, that consumers are holding up well against inflation. Account balances are increasing, and consumers are paying down credit card balances. Jamie Dimon, the CEO of JPMorgan Chase, indicated that the money supply had the largest decline in decades. The decrease in money supply will contract spending and reduce inflation prospects. The combined comments gave life to bank stocks. May performance was a welcomed flat market.
S&P500: May +0.01%, YTD -13.30% DOW: May +0.04%, YTD -9.21%
NASDAQ: May -2.05%, YTD -22.78% Russell 2000: May +0.00%, YTD -16.98%
Sector Performance YTD:
Communication Services -24.60%
Consumer Discretionary -24.90%
Consumer Staples -4.0%
Real Estate -14.90%
The inflation narrative keeps changing, reminding me of what a respected college professor once said to me. He remarked that economists should remember to make projections often.
The latest demands for Fed watchers to argue for a series of 1% rate increases to promptly tame inflation could be too aggressive with money supply numbers coming into focus. This could tip results negatively. The Fed is soundly on track with two half point moves and watching the impact. In addition to inflation and Fed actions, we have Ukraine, and China covid lock downs restricting global growth.
Our sense is that the prevailing uncertainties will require more time to be solved. However, we are getting closer. The ultimate signal will be when the Fed shifts on tightening and announces “all clear” on recession.
In the second half of 2022, inflation severity will clarify. China opening up will likely be in place, corporate earnings will be clear and supply chain factors will likely be behind us. The back-half of 2022 should allow market participants to make up lost ground.
Market Action & Earnings
May trading action suggests the stock market is de-risking. Earnings multiples have moved down to the 16x level for the S&P500. Now the question is the earnings number for the rest of 2022 and 2023. We are still selective and carrying high cash positions. The pressure has lightened on markets and the rally, so far, is still intact but choppiness will remain. Our favored companies are Value names with emphasis in the Energy, Financials, and Healthcare sectors.
Margins are a key to earnings projections. In Q1 2022 earnings slipped to 12.09% and will probably fall to the 11% range for Q2. This is why earnings estimates for 2022 and 2023 are concerning. When growth pulls back the earnings numbers follow. Analyst estimates still remain high for the S&P500 earnings, assuming 10% growth over 2021 producing $228 for 2022 vs $208 for 2021.
Most strategists are expecting earnings to come down. This would translate to lower stock prices, which in turn reduces consumer wealth and spending behavior. This encourages questions on projected earnings and further lowers stock prices, an important market variable.
On the positive side, corporate buy backs are rolling in; Apple $70 billion, Alphabet an $8 billion increase, Procter & Gamble $8 billion, Chevron $10 billion…the list goes on. The key factor to watch is the Fed action on rates. A slowdown in rate hikes in the second half of 2022 will bring relief, translating to higher stock prices.
May 5, 2022
April 2022 Review
The month of April ended with a massive market downturn. The Technology heavy NASDAQ punctuated the correction. The market action changed from Fed support to the recognition that they were behind the curve and had to shift to an abrupt inflation attack. Portfolio positioning flipped to protecting principal in preparation for rapid and significant rate hiking.
The Fed is starting their program with a 50-basis point rate increase, which will start to move through the economy and curtail demand. In the short run, we expect a positive market response to this rate hike which should relieve some market pressure. The impact of the shift will start to clarify in the second half of 2022.
S&P500: April -8.80%, YTD -13.31% DOW: April -4.91%, YTD -9.25%
NASDAQ: April -13.26%, YTD -21.16% Russell 2000: April -10.01%, YTD -17.03%
S&P500 Sector Performance YTD:
Communication Services -13.30%
Consumer Discretionary -21.00%
Consumer Staples +0.70%
Real Estate -10.30%
Inflation has spread across the landscape with food and gasoline impacting consumers. Interest Rate expansion has affected housing and mortgages are up from 3% to 5.5% for a 30-year fixed. The stock market has dislocated. Declining stock and bond prices and the related anxiety is unnerving. Investors have enjoyed the comfort zone of consistent positive portfolio returns for a long time, with little interruption. Although the current pullback is painful and necessary, it should be temporary.
The unsettling investment scene will continue. Volatility and a push-pull trading market will persist. Earnings are the determinant of stock prices in conjunction with what market participants are willing to pay. The current earnings picture supports close to 10% earnings growth in 2022. This would be impressive considering supply issues, increasing costs, labor problems and inflation.
The Fed this Wednesday will shed further light on the intensity of their rate advances. The complex background and environment facing the Fed is clearly challenging. The media provides little coverage accenting the optimistic case, but it does exist. Economic indicators are high and rising. Corporate America is investing for the future and the U.S. consumer is still flush with cash and ready to spend post pandemic, which is waning. Corporate stock buybacks are also evidence of growth. Companies are well situated with strong earnings and balance sheets.
Bond markets continue to face pressure from inflation and tighter monetary policy. This year investment grade corporate bonds and treasuries registered the most difficult performance in decades. Fixed income still faces problems from increased government supply as central banks start to unwind balance sheets. As the Fed starts to reduce bond holdings, it will pull billions from the market. This should make stocks a more attractive investment class than bonds.
The Fed message will set the prospective tone and steps toward bringing inflation under control. We expect an inflation drop, 4%-5%, taking immediate market pressure off. The multiple on forward earnings has declined 17x, inducing a beginning of increased value while taking stress off of the future. The Fed is finally stepping up, combating inflation, which will ease the discomfort felt in stock and bond prices. We can ride out the short-term pullback to trade for future asset growth.
March 4, 2022
First Quarter 2022 Review - Looking Forward
Stocks delivered a remarkable rebound from early March but faltered at month-end. The positive retracement was done in the face of rampant inflation, stress of the Ukraine invasion, rising bond yields and inversion of the short and long treasury yields. These issues have fostered the recession discussion.
These pressures reversed the market optimism with a turnaround of -500 DOW points in a few hours on the next to last trading day of March, with all three averages declining -1.5% for the day. Important market leaders shifted with banks, semiconductors and consumer discretionary names softening in price. Even so, gains in the averages during the month held up.
S&P500: March +3.58% YTD -4.95%
DOW: March +2.32% YTD -4.57%
NASDAQ: March +3.41% YTD -9.10%
Russell 2000: March +1.08% YTD -7.80%
How the individual sectors fared through the end of March:
Communication Services -11.3%
Consumer Discretionary -9.0%
Consumer Staples -0.4%
Real Estate -5.0%
The stock market has ceased to be unified and is adjusting sector relations due to inflation. Portfolio allocation has been impacted, as stocks and sectors have been rotating with extreme moves. The rise of bond yields will provide modest competition for stocks in the near-term. Street expectations are in the $225 range for S&P500 earnings and plus 5%-6% for 2022 earnings.
The inverted yield curve, which flashed in March, can signal recession. The market can still move positively as a recession would be a future event, as far out as a year and a half. Meaning, it is most likely a 2023 event (if at all) as the economy is continuing to rebound and 2022 is still intact.
The 5-year bond yield moved above the 30-year followed by the 2-year yield moving higher than the 10-year. Mortgage rates quickly followed dampening home sales and home improvement vendors such as Home Depot and Lowe’s. The pressure has mounted on the stock market. Low yields support equity prices with less avenues to place yield seeking funds. Market support is impacted by higher rates as are sector results.
The Federal Reserve has shifted course and the mindset is to get inflation under control by shrinking their balance sheet assets and raising rates. That translates to lower growth. We expect that the Fed will move rates between 2.5% and 3% by year-end. The Fed has a full plate of issues, ranging from corporate margin expectations, commodity prices, supply chain difficulties and sanction impacts.
Our portfolio strategy is to retain higher than normal cash, be selective with sector preferences and adhere to investment discipline. The all-clear signal is premature. We expect an extension of volatility. Unemployment at 3.6% is a source of optimism. The U.S. consumer is awash in cash, providing stimulus to a 75% consumer driven economy.
So far this year, we are comfortably ahead of the averages. We expect the problems to be worked out as the year matures, generating modestly higher stock prices by year-end.
March 4, 2022
February 2022 Review - Looking Forward
The stock market has been a challenge since the start of 2022. Wide price swings and volatility have marked the action. February alone registered over a -3% correction in both the S&P500 and DOW, as well as an almost -3.5% decline in the NASDAQ index. Inflation has clearly surfaced, and Russia’s invasion of Ukraine have become leading negative factors.
Both Energy and Financials gave up a small part of their January gains in February. All other categories remained negative, like in January. YTD through February Energy is +26.5%, Financials -1.6%, and bringing up the rear are Real Estate -13.2% and Consumer Discretionary at -13.4%. Technology and Communication Services finished the month down -11.6% and -12.9% respectively.
S&P500: Jan -5.26% Feb -3.14% YTD -8.23%
DOW: Jan -3.32% Feb -3.53% YTD -6.73%
NASDAQ: Jan -8.98% Feb -3.43% YTD -12.10%
Russell 2000: Jan -9.66% Feb +0.97% YTD -8.78%
Treasury rates received a boost as investors turned to safety with the Russian incursion of Ukraine and related anxiety. The 2-Year U.S. Treasury moved up 26 basis points to a 1.79% yield. Outside the U.S., Canada’s long bond moved ahead of the 10-Year U.S. Treasury and Germany’s long rated bond moved into positive territory.
Inflation climbed for the fifth straight month, stepping up to 7.5%. Gold rose 5% in February and oil headed over $100 per barrel. New single-family homes sold slipped 4.5% from January’s numbers, while sale availability for existing homes declined to another all-time low.
The Federal Reserve Chairman, Jerome Powell, appeared before the U.S. House Committee for Financial Services on Wednesday, March 2, followed by the Senate on Thursday, March 3rd. The question was clarity on the Fed’s plans for interest rate hikes to temper inflation. Powell received a booming market response on Wednesday. The DOW gained +1.79%, S&P500 +1.86% and NASDAQ +1.62%. Just the reverse took place after Thursday’s meeting as the DOW retreated -0.50%, S&P500 -0.28% and the NASDAQ worse the laggard at -1.55%. Powell indicated four to five quarter point increases and then judge the impact, exactly what Wall Street wanted.
Russia rejected Ukraine sovereignty and started the process of annexing the country. The outcome will probably conclude in a relatively short period. Either Russia will step up the fighting and dominate or decide to give in to global pressures. At a minimum, the conflict has had devastating effects on Ukrainian civilians as well as global and Russian economics. Ukraine is the “breadbasket” of the world.
The U.S. is the largest producer of oil and natural gas followed by Saudi Arabia and then Russia. Global demand for oil puts Russia in a position to impact oil prices. The food and energy impact will make the global inflation path more difficult but still manageable.
We have been cautious with high cash positions. We have introduced modest new positions starting with 2% equity weightings rather than larger percentages, which is normal in more favorable market conditions. This allows for participation with reduced risk. We can always add to the positions.
The first two quarters of 2022 have been expected to be volatile and choppy with heightened risks. This pattern will continue. No U.S. recession is close at hand, and the Fed will be dealing with appropriate rate increases. Progress is being made and we continue our positive thoughts as the year develops assuming no major Russia surprises.
January 12, 2022
Santa Claus Rally - Looking Forward 2022
2021 ended the year with a late mounted Santa Claus rally. Annual results clustered to highs in the S&P500 during the year. The last quarter, and virtually the full year, delivered positive results.
S&P500: Dec +4.47% 2021 +28.68%
DOW: Dec +5.53% 2021 +20.95%
NASDAQ: Dec +0.75% 2021 +22.21%
Russell 2000: Dec +2.23% 2021 +14.78%
The S&P500 average is concentrated in a handful of companies; Apple, Alphabet (Google), Microsoft, Nvidia and Tesla. This group was responsible for almost 30% of the S&P500’s results for 2021.
We expect the first half of 2022 to be volatile and troublesome. Since the beginning of the new year, the market has taken it on the chin in a daily fashion. The NASDAQ suffered the downside in particular. The close to -2% slide in the S&P500 accompanied by a -3.3% downdraft in the NASDAQ composite rounded out the market response.
Tech stocks were crushed. The advancing interest rate message hammered companies with growing revenues and only long-term earnings prospects. Earnings multiples abruptly shifted lower. Roughly 40% of the companies in the NASDAQ index have had their values cut in half from their 52-week highs.
Adding to this volatility was the Federal Reserve minutes, released on Jan 5th, and a shift in Fed policy to combat inflation, which dropped the DOW -400 points. The Fed message brought two steps to the fore. First…the likelihood of 3 or 4 rate increases. Second…decreasing the inflated Fed balance sheet, which has ballooned from $4 trillion to $12 trillion. The Fed pivot was faster than expected. Inflation conditions had changed the oft-repeated Fed warranty.
On the positive side, Financials picked up gains with the assured prospect of higher rates. Energy stocks shifted higher on the pricing outlook of $80 oil possibly moving to $100. The 10-Year Treasury has moved quickly up to the 1.70% yield level.
The “buy the dip” has been helped by comments from JP Morgan’s Jamie Dimon, a respected CEO. Dimon expects exceptional economic returns, exceeding 2021 in 2022. Dimon’s comments coupled with Fed Chair Powell indicating to the U.S. Senate that the Fed would act thoughtfully and not be rushed fueled a solid market rally on Tuesday, Jan 11th.
2022 Portfolio Strategy
In December, and early this month, we added defense to our portfolios by harvesting gains. Cash reserves are exceptionally high. We have added names from the Energy and Materials sectors while increasing portfolio yields. We continue to emphasize the Financial sector in portfolios. These pronounced correctional pullbacks provide opportunities.
Our sense is that economic results will be strong for all of 2022. After a bumpy first half of the year, we anticipate solid market gains for the full year, perhaps in the 10% range.
December 3, 2021
November 2021 Review - Looking Ahead
November Market Picture
On the last trading day of November, Fed chair Powell surprised markets, saying that the Fed was prepared to quicken the taper of easy money policies. At the next Fed meeting, December 15th, a tightening discussion would be on the agenda. Powell suggested that the Fed will adapt amid risk of persistent inflation. The shift in emphasis alarmed markets. Equities, no matter market cap or sector, were down across the board. Coupled with a fresh Covid threat, the impact resulted in the S&P500 pulling back -2%.
Wall Street firms are divided on market prospects for 2022, with fear of advancing inflation and negative real rates. Slower earnings growth, rising interest rates along with supply chain disruptions, will continue to dominate the economic scene. We are not yet out of the woods.
Many are suggesting a stock market bubble, and there are plenty of high beta stocks still well ahead of reasonable valuations. Erratically enhanced option trading only exacerbates the violent price moves. These elements will continue to promote volatility and daily price swings with added risk. Our view is that the S&P500 will approach the 5,000 level in 2022. There is rampant liquidity in the market. The length of cyclical growth of 2-3 years works in investors favor. Volatility will continue. We do expect a Santa Claus rally in the second half of December.
In GN&Co news, we are saying goodbye to Dora Strout this December. We’ll miss Dora! Dora has been with us for over 6 years and was a great addition to our GN&Co family. I know that our clients have enjoyed working with Dora, as have the many other people that have communicated with her on a regular basis. Dora is leaving to help with her husband’s family business in North Reading. Dora will still be assisting us in the transition with our new addition, Matthew Butler.
Matthew will be handling Dora’s role and has a great skill set in dealing with teams and clients. His background at State Street Bank & Co. and at Northeast Retirement Services are a plus for our Firm. We are excited to be able to add Matthew to our team and I’m sure our clients will enjoy getting to know him.