Nothing happens in a vacuum. It’s been proven again that when interest rates rise, things break.
Perhaps that’s why there’s been a shift in the Federal Reserve’s worry, from inflation to the stability of the banking system. Suddenly the same people who yelled that Fed Chair Jerome Powell didn't do enough are now pounding the table that he's behind on cutting interest rates.
It’s coinciding with the continued rally of growth stocks this year. Notice the correlation below between liquidity and the relative performance of the Nasdaq 100# versus the S&P 500*. Even with aggressive Fed tightening, riskier assets are hanging in there.
As we discussed last week, prices keep falling. Drilling deeper, we want to reflect on the economy and potential recession.
Food costs are flat or down, while rent gains moderated for a second straight month though remain the largest portion of “core” CPI (see chart below). Since shelter costs are lagging indicators, we expect to see inflation drop even more in the coming months.
Aggressive monetary tightening and bank collapses are slowing “core” service prices (excluding shelter) significantly:
The data cited thus far is lagging. However, forward-looking indicators show price drops too. For example, freight data indicates transportation costs are rolling over aggressively:
Export prices, as represented by the indexed blue line, fell in April by 5.9% after a 4.8% decline in March:
Perhaps most interestingly, trucking tender rejections are at an all-time low of 2.53%. A high rejection rate indicates trucking firm scrutinization of load contracts and higher costs (less supply, more demand). A low rate suggests carriers are more willing to accept cargo and lower prices (more supply, less demand).
So we have lagging and leading data reflecting dramatic price decreases. It could mean we’re in or about to enter a slowdown (i.e., a recession).
Unemployment data shows similar slowing, though we want to highlight a forward-looking figure, not the traditional backward-looking statistics. We’re referring to WARN Notices, which companies file to give employees 60 days of notice before mass layoffs. We think WARN filings validate initial unemployment claims.
According to recent data, notices are rising significantly in 2023, indicating initial unemployment claims could spike over the next few months. The 250,000-level breakout, when combined with WARN notices, would be significant because the 300,000-level is historically associated with recession:
We’ve long spoken of the importance of the M2 measure of money, saying that lowering it would lower inflation. The money supply sported year-over-year declines of 9.9% in March 2023 and 6.6% in February 2023:
The decrease is also reflected in the last two months’ historic decline in bank deposits, with April 2023 deposits falling deeper into negative territory than any month since 1980:
All this data points toward rapidly declining economic activity. It also supports our base thesis of a minor cyclical recession followed by a resurgence to end the year and start 2024.
At Cornerstone, we’re honest with our assessments. We relay the good, the bad, and the ugly. That is obvious in the case of this blog post.
It may seem like there’s no safety to be had. But again, let’s review data, not rely on emotion.
The trusty MAPsignals Big Money Index (BMI), a 25-day moving average of “big money” investor buys versus sells, has been pressured from low volumes and slightly more selling as the market consolidates post earnings season. It fell 6.2% to finish the week at 50.4%:
Markets remain choppy. “Big money” buying and selling has been more balanced, though nothing extreme:
Here’s another view of the selling, where we can more clearly see the smaller stock hits:
When markets thrive, there is some semblance of balance. So, if the successful trade is currently centered on risk, where is the safety counterbalance?
It’s not there right now because it’s on the sidelines. We pointed out two weeks ago the more than $5 trillion sitting in money market accounts right now (the most on record). In the short-term, investors can expect equities volatility until that cash is deployed.
But don’t let day-to-day negative media sentiment and fleeting emotions derail long-term plans. Remember, stocks began this upswing back in October 2022. Sentiment was quite bad then. The BMI signaled a potential bottom when it went oversold:
Unfortunately, nobody sounded an “all clear” signal, especially the ad-driven media. But history has shown how an oversold BMI is often a fruitful long-term buying opportunity. It gave us some confidence at that time and markets have rallied significantly since.
But since earnings season ended, the market can seem frustratingly sideways again. Yes, earnings worked. But the cautious (possibly prudent) corporate guidance may be holding the market back as high-frequency sellers punish shares seemingly unfairly based off headlines.
Let’s again turn to data: remember how seasonality affects returns. While October through April is typically the strongest time of the year, summer can be wobbly:
Without the sidelined cash, we think stock investors will likely have a volatile summer. But once that “dry powder” is used, everyone will smile again. We think that will happen as recession fears subside later this year.
Investors want safety right now, even if that could mean missing out on huge gains down the line. Our friends at MAPsignals did a hypothetical comparison showing two investors: the “perfect” investor who does everything right (Investor A), and the more typical investor who seeks safety and succumbs to emotion (Investor B). In short, trying to feel safe can be costly.
Investor A bought the S&P 500-tracking fund SPY^ at a low price of $353.54 per share in October 2022, when things were rocky. Investor B sought safety then but felt good reentering the market after SPY rallied to $453.34.
Now say the fund closed at $566.68. Investor A’s return would be more than double that of Investor B:
It pays to be consistent and stick with the plan. Emotion and perceived safety can feel better, but they can also derail long-term goals.
#The Nasdaq 100 Index represents the 100 largest, most traded, non-financial U.S. companies on the Nasdaq stock exchange.
*The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.
^Cornerstone Financial Services, LLC owns SPY directly in managed client accounts.
*Links to third-party websites are being provided for informational purposes only. CoreCap is not affiliated with and does not endorse, authorize, or sponsor any of the listed websites or their respective sponsors. CoreCap is not responsible for the content of any third-party website or the collection or use of information regarding any websites users and/or members.
Securities sold through CoreCap Investments, LLC. Advisory services offered by CoreCap Advisors, LLC. Cornerstone Financial and CoreCap are separate and unaffiliated entities.