This blog serves as a follow up to our previously released Q4 Investment Themes, as well as an update on what we are seeing and our current outlook.
Since recording the market update, we saw Silicon Valley Bank shut down by regulators in the biggest bank failure since the global financial crisis.[1] While the Fed did step in and provide a safety net for depositors, it doesn’t eliminate the possibility of other banks having balance sheet issues, creating future disruptions to accessing your bank balances, especially for business owners. For those of you with very large business or personal deposits at your bank, it may be worth considering having a deeper conversation (or doing a deeper dive) about other options. If you have any concerns and want to discuss what these options might be available, do not hesitate to reach out.
Here are the top three things we are covering in this month’s blog (quarterly update):
- The January stock market rally continued into early February thanks to remarks from Jerome Powell during the FOMC press conference on February 1. Powell said, “the disinflationary process has started”, which ignited stocks and continue the stealth easing of financial condition.[1]
- The stock market rally ran into a brick wall of bad news on inflation. First it was the hotter-than-expected Producer Price Index (PPI) release on February 16 that started the market downswing.[2] Then a hotter-than expected Personal Consumption Index (PCE) release on February 24 caused the market to take another leg down in the selling.[3]
- The Macro data continues to be a mixture of “seasonally adjusted” better than expected jobs data[4], and worse than expected real-estate[5] and real income data[6]. Earnings season is confirming a recession as aggregate S&P 500 earnings have turned negative year-over-year.[7]
Market
We saw markets experience the opposite of what occurred in January by retracing the gains that were made in the previous month. There are a variety of factors into why, but we are seeing the Fed have a large influence in the activity within the markets. Even the notes of the meetings is having an impact, which is what we saw occur in February. The SPX finished down 3.62%, the Nasdaq finished down 3.05%, the RUT down 3.25% while the Dow led the way down 4.28%. [8]
Across the globe markets were also down similarly meaning investors had nowhere to hide from a market standpoint. The MSCI finished down 3.39%[9]
Commodities were also down the near similar levels of the major indexes and the DBC finished down 3.08%[10]
Continuing the theme, precious metals also experienced similar volatility with gold down 5.46% and silver being down 10.75% after experiencing strong finishes in both the previous month and year.[11]
February saw the return of stocks and bonds being more correlated again, similar to the pattern we saw much of last year. Long term treasuries went down as rates went up. The 2-year treasury spiked a bit in February ending at 4.81%. The 10-year also experience a similar increase ending at 3.92%. This has kept a pretty wide gap in the inversion with the 2-year being higher than the 10 year. This level of inversion is one of the larger we’ve seen over the last roughly 40 years.[12][13]
Economy
The January stock market rally pushed higher in early February during the FOMC press conference from Jerome Powell as he narrated tightening financial conditions, to the media. However, the FOMC minutes released several weeks later actually revealed that a number of Fed members were very concerned about just the opposite of what Powell told the public, which is that financial conditions had loosened considerably.[14]
The January PPI report released on February 16 indicated a 0.7% month-over month (MoM) rise in inflation, and a 6.0% (YoY) increase.[15] Although PPI prices dropped from 6.5% YoY in December, the number was still hotter than expected. Instead of rates coming down (along with inflation), we are seeing sticky inflation and higher rates.[16]
Oil, which is a big influence on inflation, was relatively flat on the month, isn’t giving any sort of large influence on next months inflation numbers coming out.[17] Part of the reason that oil prices remained depressed is the continuation of the release of petroleum from the reserves putting us to levels we have seen since the 1980’s. At some point this will have to give, and there is concern we could see some pressure on oil prices later in the year.[18]
Macro economic data continues to be a mixed bag of hotter-than-expected jobs reports thanks to record seasonal adjustments, and imploding real-estate and consumer data as noted above. The jobs data is full of revisions and statistical noise. For instance, full-time employment continues to fall, while part-time and multiple job holders continue to increase.[19] In addition, the seasonally adjusted data does not appear to be in line with the actual small business and big tech layoffs.[20] The types of employees being laid off are high income individuals and the impact of those can be larger. Actual analysis of real earnings growth and consumer financial security reveals the worst aggregate conditions in decades. Approximately half of millennials are now regularly running out of money and relying on credit cards.[21] And credit card debt is growing at the fastest pace in 20 years at exactly the same time that credit card interest rates are at multi-decade highs.[22] We are also starting to see a drop in bank deposits. This may be tied to spending, but it may also be tied to smart investors seeking higher yields in brokerage accounts then what they would receive at banks. At some point, this can become a problem if the banks experience a huge run-on cash. A record 15.7% of consumers are now paying more than $1,000/month for their car payment and auto payment delinquencies are beginning to skyrocket.[23] This can take a while to filter through to the larger economy but all of the above is putting pressure on the lowest income group in the economy.
Although our forecasts continue to indicate a deceleration in YoY inflation[24], it’s the overall number that is the problem, not the rate of change. We are anticipating inflation staying sticky at the +4% as our research groups are seeing, not the 2% people experienced prior to the pandemic. We continue to forecast negative/flat quarter-over-quarter (QoQ) economic growth for the first and second quarters of 2023[25] , with significantly decelerating growth on a YoY basis for the same period.[26] As a reminder, two straight quarters of negative economic growth is a recession. Therefore, our market outlook is solidly decelerating growth and inflation for the first and second quarter of this year.
Finally, we want to highlight a couple scenarios that may be on the near horizon. During covid a number of companies were able to refinance corporate debt and roll over into 3, 5 or even 10 year increments at very low interest rates. For companies that had the worst financial conditions, they were able to do a 3 year rollover that is coming due. If rates stay where they are at and those same companies continue to struggle with profit ability, their ability to roll over debt may become a bigger challenge.
Summary
- The January stock market rally continued into early February thanks to dovish remarks from Jerome Powell during the FOMC press conference at the beginning of the month.
- The stock market rally ran into a brick wall of bad news on inflation. First it was the hotter-than-expected Producer Price Index (PPI) release on February 16 that started the market downswing, and then a hotter-than-expected Personal Consumption Index (PCE) release on February 24 caused the market to take another leg down in the selling.
- The Macro data continues to be a mixture of “seasonally adjusted” better than expected jobs data, and worse than expected real-estate and real income data. Earnings season is confirming a recession as aggregate S&P 500 earnings have turned negative year-over-year.
We hope you have enjoyed getting a deeper look into our investment research and look forward to providing this to you each quarter going forward. Thank you from the entire Konvergent Team!
[1] https://fortune.com/2023/02/02/jerome-powell-press-conference-inflation-dovish-rate-hike-disinflation-process-started-market-rally/
[2] https://www.reuters.com/markets/global-markets-wrapup-1-pix-2023-02-16/
[3] https://www.zerohedge.com/markets/stocks-bonds-slammed-after-hot-inflation-print-rate-hike-odds-soar
[4] https://www.cnbc.com/2023/02/03/jobs-report-january-2023-.html
[5] https://www.yahoo.com/now/us-home-purchase-applications-drop-121758446.html
[6] https://www.foxbusiness.com/markets/gdp-report-reveals-ominous-great-depression-warning-sign-1932
[7] https://lipperalpha.refinitiv.com/2023/03/sp-500-earnings-dashboard-22q4-mar-10-2023
[8] Slide – Major Indexes
[9] Slide – Global vs Emerging Market Equities
[10] Slide – Commodities
[11] Slide – Precious Metals
[12] Slide – 2 Year & 10 Year Treasury Rate
[13] https://ycharts.com/indicators/10_2_year_treasury_yield_spread
[14] https://www.federalreserve.gov/monetarypolicy/fomcminutes20230201.htm
[15] https://www.bls.gov/opub/ted/2023/producer-prices-up-6-0-percent-from-january-2022-to-january-2023.htm
[16] Slide – Producer Price Index
[17] Slide – WTI Oil Price Change
[18] Slide – Strategic Petroleum Reserve
[19] Slide – Full time vs. Part time
[20] Slide – Layoffs
[21] Slide – Real Earnings
[22] Slide – Credit Balance and Rates
[23] Slide – Car Payments
[24] Slide – Consumer Price Index
[25] Slide – GDP QoQ
[26] Slide – GDP YoY