Market Swoon - Deploying Capital

Market Swoon

Inflation, interest rates, employment, Fed taper, pandemic backdrop, Washington wrangling, supply chain disruptions, slowing growth, and the seasonally weak period for stocks are all aggregating and resulting in the current market swoon. The month of September saw a 4.8% market drawdown, breaking a seven-month winning streak. The initial portion of October was met with heavy losses as well. Many individual stocks have reached correction territory, technically a 10% drop, while the Nasdaq is also closing in on that 10% correction level. Many high-quality names are selling at deep discounts of 10%-30% off their 52-week highs. The outlook for equities remains positive after the weak September as the economy continues to move past the pandemic. During these correction/near correction periods in the market, putting cash to work in high-quality long equity is a great way to capitalize on the market weakness for long-term investors. Absent of any systemic risk, there’s a lot of appealing entry points for many large-cap names. Don’t’ be too bearish or remiss and ignore this potential buying opportunity.

Deploying Capital

For any portfolio structure, having cash on hand is essential. This cash position provides investors with flexibility and agility when faced with market corrections. Cash enables investors to be opportunistic and capitalize on stocks that have sold off and become de-risked. Initiating new positions or dollar-cost averaging in these weak periods are great long-term drivers of portfolio appreciation. Many household names such as Starbucks (SBUX), UnitedHealth (UNH), Apple (AAPL), Amazon (AMZN), Micron (MU), Adobe (ADBE), Qualcomm (QCOM), 3M (MMM), Facebook (FB), Johnson and Johnson (JNJ), Mastercard (MA), Nike (NKE), PayPal (PYPL) and FedEx (FDX) are off 10%-30% from their 52-week highs. Even the broad market indices such as Dow Jones (DIA), S&P 500 (SPY), Nasdaq (QQQ), and the Russell 2000 (IWM) are significantly off their 52-week highs. All of these are examples of potentially buying opportunities via deploying some of the cash on hand. Continue reading "Market Swoon - Deploying Capital"

Ominous Inflationary Signs Evident

Inflation Revving Up

Earnings season is getting underway, and thus far Costco (COST), Federal Express (FDX), and Nike (NKE) have warned that inflation is real and is bound to hit consumers as the holidays approach. Costco, Federal Express, and Nike are seeing rising shipping costs and supply chain disruptions that persist and should continue through the upcoming holiday season. In particular, the cost to ship containers overseas has skyrocketed over the past few months. These rising inflation expectations and the realization of these inflationary pressured could cause the Federal Reserve to change policy course sooner rather than later. It’s going to be a tug-a-war between inflation, employment, Washington wrangling, and the delta variant backdrop. CPI reports will become more significant as these readings are used to identify periods of inflation. The recent CPI readings result in a much stronger influence on the Federal Reserve’s monetary policies hence the recent taper guidance.

Real World Inflationary Commentary

Supply chain disruptions, specifically in the shipping channels, have led to rising freight costs that have escalated shipping costs dramatically. The cost to ship containers overseas has soared in recent months. A standard 40-foot container from Shanghai to New York costs about $2,000 a year and a half ago pre-pandemic. Now, it runs some $16,000, per Bank of America.

Costco CFO Richard Galanti called freight costs “permanent inflationary items” and said those increases combine with things that are “somewhat permanent” to drive up pressure. They include freight and higher labor costs, rising demand for transportation and products, shortages in computer chips, oils, and chemicals, and higher commodity prices. Continue reading "Ominous Inflationary Signs Evident"

Financials - Clear Runway Ahead?

The Taper

The Federal Reserve indicated that the central bank is likely to begin withdrawing some of its stimulatory monetary policies before the end of 2021. Although interest rate hikes are likely off in the distance, the economy has reached a point where it no longer needs as much monetary policy support. This pivot in monetary policy by the Federal Reserve sets the stage for the initial reduction in asset purchases and downstream interest rate hikes. As this pivot unfolds, risk appetite towards equities hangs in the balance. The speed at which rate increases hit the markets will be in part contingent upon inflation, employment, and of course, the pandemic backdrop. Inevitably, rates will rise and likely have a negative impact on equities.

A string of robust Consumer Price Index (CPI) readings spooked the markets as a harbinger for the inevitable rise in interest rates. Although rising rates may introduce some systemic risk, the financial cohort is poised to go higher. Moreover, the confluence of rising rates, post-pandemic economic rebound, financially strong balance sheets, a robust housing market, and the easy passage of annual stress tests will be tailwinds for the big banks.

2021 Financial Stress Tests Easily Pass

The recent stress tests were easily passed and indicated that the biggest U.S. banks could easily withstand a severe recession. In addition, all 23 institutions in the 2021 exam remained "well above" minimum required capital levels during a hypothetical economic downturn. Continue reading "Financials - Clear Runway Ahead?"

When The Tight Economic Rope Slackens

[edit] It’s probably best to read the article first and then circle back to this edit.

Upon completing the article I realized that no forward look at the economy and financial markets from an inflationary/deflationary point of view would be complete without consideration of the Yield Curve. Here is its status at the time of writing. It is making a steepening hint this week along with the rise in bond yields. That signaling is inflationary, at least for now. But in 2008 the curve morphed from an inflationary steepener to a deflationary one and that’s an important distinction.

You’ll notice that a blessed Goldilocks economy is mentioned below as a less favored option for 2022. She runs with a flattening curve like the one during the 2013-2019 phase. If it steepens forget about Goldilocks and prepare for either an inflationary or deflationary steepener.

inflation

Stagflation and/or eventual Deflationary liquidation likely in 2022

We all know that the post-pandemic world is currently rife with supply bottlenecks and frustrated demand. We also know that the Federal Reserve and its fellow central banks sprang into heroic action (you know that is sarcasm) to fight the good fight against the dreaded liquidity event that came upon the macro markets and economies early in 2020. The combination of tight supply and printed money has obviously increased prices for materials, commodities, labor, and so on. Continue reading "When The Tight Economic Rope Slackens"

Q4 Approaching: Markets In Rarified Air

The bulls have been trampling the bears in a near orderly uptrend for the past ~10 straight months now. The bear thesis couldn’t have been more wrong despite the markets facing a trifecta of rising interest rates, an unknown delta variant backdrop, and the Federal Reserve tapering later this year. The major indices are in unprecedented territory breaking through all-time high after all-time in what seems to be a daily occurrence. With Q4 2021 coming into the picture, the S&P 500 is up over 20% and places the market in rarified air.

The S&P 500 index recorded its 53rd record high on September 2nd, which makes 2021 the 5th-ranked year over the past century in terms of record highs, per Bank of America. This significant milestone has been achieved with four months remaining in 2021. The other major indices, such as the Nasdaq and Dow Jones, are showing similar patterns as measured via QQQ and DIA, respectively.

Stocks are overbought and at extreme valuations, as measured by any historical metric (P/E ratio, Shiller P/E ratio, and Buffet Indicator). Valuations are stretched across the board, with the major averages at all-time highs and far away above pre-pandemic highs.

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Figure 1 – Adopted from Buffet Indicator analysis via Current Market Valuation

When the Fed Taper and Inflation Hit

As the Consumer Price Index (CPI) continues to push higher in conjunction with better-than-expected employment numbers, the Federal Reserve may be compelled to finally not only entertain the idea of raising rates but implement a rate increase. Although interest rate risk disproportionally impacts fixed-income investments such as bonds and annuities, stocks will undoubtedly be impacted as well. This is especially true for highly leveraged companies such as tech and super-charged growth companies. Even the prospect of higher rates hit the Nasdaq in March for a sharp decline, albeit that decline was quickly erased. This is a case in point of how quickly the markets can turn negative with the hint of rising rates which may be exacerbated in an already very frothy market. Continue reading "Q4 Approaching: Markets In Rarified Air"