Broker Check

The Macro Landscape Looks Solidly Bullish

| July 17, 2023

It’s often difficult to distinguish signals from noise in life – it’s especially true for investors. To remedy the issue, we at Cornerstone turn to objective data. Many others listen to the noise caused by the media (probably because it’s so loud).

One recent example is the job creation report from ADP (we discussed it last week). There’s now more data we can use to guide us forward. As we often do, let's begin zooming out to a macro level with the trusty Big Money Index (BMI) from MAPsignals. It’s a 25-day moving average of buy versus sell action from “big money” professional investors. The BMI is always a great place to start because it provides an instant snapshot of trends.

As you can see, the BMI has been rising steadily for awhile and is near overbought status (80%). The key is not when the BMI reaches overbought, it’s when it starts to fall. Sometimes that can take a while.

In our opinion, the long-term returns after an overbought market are a better place to focus. Since 2009, average returns after one, three, six, nine, and 12 months for the S&P 500 after an overbought BMI are positive:

With that in mind and a rising BMI, we shouldn't necessarily worry about a consolidation until it begins. Is there other data that can support or contradict that? Well, the strong recent buying and absence of selling bode well for a continued rising market (notice recent selling relative to the past year):

It’s also important to see what’s being bought (or sold). You’d think if there were significant fundamental concerns, the biggest investors would act defensively. They’re not. Growth sectors like technology, discretionary, and industrials are leading the way:

Lastly, there’s a continuing trend of buying cyclical-oriented stocks. Rightfully, there has been talk of mega-caps hogging all the money. But since June, “big money” buying has centered on small- and mid-cap stocks, which is an additional growth indicator as the market breadth widens (more on this in a bit):

All in all, the macro landscape looks solidly bullish. But let’s look deeper into some other areas to be sure.

June Consumer Price Index (CPI)

We expected material month-over-month downside of 0.25% for the core CPI in the June report, which was less than the consensus expectation of 0.30%. The actual number came in at just 0.20%.

The reason we expected a lower-than-consensus CPI is we got early soft data on used cars and other seasonal factors that are significant drivers of core CPI. We believe the low read will impact how markets and the Fed view the trajectory of inflation, especially if July and August produce similar readings, which we expect.

If core inflation continues to fall like a rock over the summer, it could end up around 2.5% or less. If so, markets will entirely rethink the path of future inflation. Keep in mind, this is all before we see housing begin to truly roll over (it’s a lagging indicator).  Think about this, currently Core CPI ex-housing and ex cars is already only 0.3% annualized.

If core inflation drops continually, does a “higher for longer” approach to interest rates really make sense? When we've had softer CPI guidance like last week, the S&P 500 rallied significantly:

So, inflation is tracking positively – another bullish indicator.

Earnings Guidance

We’re getting early earnings per share (EPS) guidance from the S&P 500 leading into earnings season. As of this writing, 113 S&P 500 companies have issued EPS guidance for the second quarter. Of them, 46 have issued positive guidance, which is more than the five-year average of 40 and well above the 10-year average of 35:

This year’s second quarter is seeing the highest number of S&P 500 companies issuing positive quarterly EPS guidance since the third quarter of 2020. Notably, the technology and industrial sectors (which are cyclical growth sectors), have the highest number of companies issuing positive EPS guidance:

Additionally, further evidence of healthy corporations can be seen in continually increased dividend payments and corporate buybacks picking up again:

Most importantly, S&P 500 firms’ cash and equivalents have increased from $1.5 trillion to $1.65 trillion. That, along with larger dividend payments and increased buybacks, is indicative of healthy corporate fundamentals leading into earnings season. This is another bullish signal and increases our optimism that Q1 was the earnings trough we thought it was.

Market Leadership Broadens

As you’re probably aware, the news harbinger of equity doom all year has been that the weak breadth in the rally was a reason to be bearish. Well, as we enter the second half of the year, we believe the narrow leadership actually means more pain to come for the bears.

Yes, market leadership has been narrower than usual thus far, as only 20% of S&P 500 stocks are outperforming the index, versus the long-term median of 48%. This year so far features the lowest constituent outperformance in 15 years:

But here’s what the bears miss: narrow market leadership is a positive for the second half. Looking at history, the S&P 500 posted 15.4% annual returns in the 12 months following periods of narrow market leadership versus only 7.4% after broad-based markets:

In other words, when everything has already run up, it makes sense that future performance would be less powerful because there are fewer names left to run. The first half of 2023’s narrow leadership leaves room for many stocks to catch up.

We're already seeing this begin to play out as market leadership is quietly beginning to widen. For example, the equal weight S&P 500 has outperformed its market cap counterpart over the past month 1% versus -0.4%, respectively. Also, the advance/decline line readings are now strongest for cyclical sectors like discretionary and industrials:

Furthermore, small-cap stocks have received multiple weeks of “big money” inflows. This action has created a Golden Cross for the second time this year for the Russell 2000.

Bringing it All Home

Let’s return to our favorite indicator, the BMI. One reason we love it is because everything discussed in this post (and more) is encapsulated in its daily reading. What feeds the BMI? Activity from the largest institutional investors on the planet who have vast expertise and the best information. So, when you see the BMI rising strongly, it confirms healthy, broad buying under the surface.

The data clearly indicates the undercurrents of the market are bullish. But let's assume the BMI hits overbought territory and pulls back in the summer months. That would be consistent with seasonality. Typically, August and September are notoriously volatile with low liquidity.

Our focus has continually been the final three months of the year, which are historically the strongest. The news and financial outlets continue to create the noise that black clouds are ahead. But remember, the market thinks forward. And right now, market data points to a good horizon. Until that changes, this data will inform our view.

Remember, don't believe everything you hear. And it’s also wise to believe only half of what you see.

* The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.

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