Market is Calm Ahead of Debt Ceiling

I update each Saturday with my view of the stock market for the next few weeks (if occupied with family or travel, rarely I am a day or two late, just check back).  The monthly “Long Term” update will be on the fourth Thursday of each month, and this supports investors who want to buy and hold, but want to sell to avoid the bulk of a primary bear market, and buy back in for most of the next bull market.

If you lose your bookmark to the blog, google “Rich Investing Blog” and it should show up on the first page or so.

The monthly Long Term update was posted Thursday and follows this post on the website. 

The TABLES in the Long Term report are not showing up on the email if you get that.  I checked and there is a bug in the latest WordPress update, which they are aware of.  The tables display correctly on the website.

Economy:

The second estimate of Q1 2023 GDP was +1.3%, a fair reading.  April durable goods orders were up 1.1%.  The May U. of Michigan consumer sentiment index was up slightly at 59.2.  The PCE index for April was up .4% (4.8% annualized), while the core PCE Y-o-Y was up 4.7%, up .1% over the March read.  The Fed is not going to like these PCE numbers because they show that inflation is sticky and the Fed quickly got inflation down from 9% to 6%, but progress lower has been slow.  The next Fed meeting is June 13-14 and the bond traders increased the probability of a rate hike from 30% to 60% in the last week.

Geo-Political:

In Washington it seems both sides are working on a debt ceiling agreement.  The stock market takes them at their word and has not panicked.  Yellen extended the x-date from June 1 to June 5.  We may get a pop when a deal is announced, but the market has not gone down on the negotiations so I don’t expect much to the upside, nor for more than a few days.  Then the market should get back to what counts, earnings and valuations.

Here is a current look at China’s economy:

“May 16, 2023 – China’s economic data for April broadly missed expectations as the economy continued to show an uneven path of recovery from the impact of its stringent Covid restrictions.

Industrial production for April rose by 5.6% year-on-year, compared to the 10.9% expected by economists surveyed in a Reuters poll. The figure was up 3.9% in March following a muted start to the year.

Retail sales rose by 18.4% – lower than economists’ forecast a surge of 21%.

Fixed asset investment rose by 4.7%, against expectations of 5.5%. The reading rose 5.1% the previous month.

“China is in the stage of recovering, compared to last year, the numbers are positive as we just saw, but is the recovery good enough for the market, is the recovery good enough to meet investors’ expectations – that’s the big question here,” BofA Securities China equity strategist Winnie Wu told CNBC’s “Street Signs Asia.”

“It’s not good enough to meet with investors’ expectations – that’s a problem,” Wu said, adding that the momentum from China’s pent-up demand seems to be fading away.

“The recovery of income, of job security, and confidence will take time,” she said.

China stocks have pared most of the gains seen this year. The Shenzhen Component was down 4.67% quarter-to-date and up only 1.48% year-to-date, and notching a 9.5% drop from its peak in early February.”

https://www.cnbc.com/2023/05/16/chinas-data-industrial-profit.html

Clearly, opposition to China’s positions is not limited to the US.  Opposition also came from the G7 countries just last week.

“BEIJING, May 22 (Reuters) – State-backed Chinese mouthpiece Global Times called the G7 an “anti-China workshop” on Monday, a day after Beijing summoned Japan’s envoy and berated Britain in a fiery response to statements issued at the group’s summit in Hiroshima.

Group of Seven (G7) declarations issued on Saturday singled out China on issues including Taiwan, nuclear arms, economic coercion and human rights abuses, underscoring the wide-ranging tensions between Beijing and the group of rich countries which includes the United States.

“The U.S. is pushing hard to weave an anti-China net in the Western world,” Global Times said in an editorial on Monday titled “G7 has descended into an anti-China workshop”.

“This is not just a matter of brutal interference in China’s internal affairs and smearing China, but also an undisguised urge for confrontation between the camps.”

Beijing’s foreign ministry said it firmly opposed the statement by the G7 – which also includes Japan, Britain, Canada, France, Germany and Italy – and late Sunday said it had summoned Japan’s ambassador to China in a pointed protest to the summit host.”

https://www.reuters.com/world/china/china-summons-japanese-ambassador-over-actions-g7-2023-05-22/

I don’t expect this news to directly influence your investment position, but it pays to look around the world and keep aware of what is going on in China, Great Britain, the EU, southeast Asia, and Russia.

Technical Analysis:

For the week ending 5/26/2023, the S&P 500 was up .2%.

Technically (see chart below) the market looks fair.  RSI at the top of the chart is neutral.  Momentum shown by MACD at the bottom of the chart is neutral, moving sideways.  The price action is neutral, still in the small channel (blue lines), but it popped up late in the week on strong earnings from NVDA and excitement over AI. 

The technical concern I have remains that the price continues to hug the BOTTOM of the up-channel it has been in since Oct (purple lines).  It is not pushing up into the channel.  It has popped briefly above the trading range (blue lines) we have been in since April 1, but then failed to push higher. 

More fundamentally, the gains in the S&P have been driven by the 10 largest market cap stocks, the tech giants, and those have been driven by “AI mania”.  The other 490 stocks in the S&P 500 are up 4% year to date.  These manias can go on longer than anyone imagines, and there is a ton of money sitting in money market accounts that could enter the market and drive it further.  But most of the chip stocks are overbought, so there is danger in buying into an overbought space.  Tuesday I may make a small buy in SMH (chip etf) and put a trailing stop loss percent order under it, down 5%.  That would give me some upside potential and cap my downside loss.  It’s about risk management.

Click THIS LINK to open the chart in a separate window.

What am I doing?  I have missed out on the AI rally in the tech giants, along with a lot of traders on CNBC.  I sell a few Put options, collecting a premium and I get the possibility to buy a stock at a lower price.  I had sold call options on my KMI stock, at a strike of 19 and out in Oct. to get a good premium.  KMI has fallen and I bought the call option back (buy to close), capturing 70% of the gain in about 20% of the time duration of the option.  My shares are not encumbered now and if KMI goes up again I can sell call options then.  I don’t usually go that far out time-wise with options, usually 60-90 days, but with a sleepy stock like KMI that I hold for the dividend and do not intend to sell, I will go out farther in time to collect a better option premium.

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If you enjoy these updates, please tell your friends and family who are interested in the stock market about this blog.

I would like to call your attention to a page of my blog called “CLASSICS”.  It is located at the top of the blog, on the banner just under the title.  The banner has links to “Home”, “About”, and now “Classics”.  These are articles that I wrote one time for the blog, but they are valuable insights at all times for investors.  I will announce in the weekly blog when I add a new classic.

There are currently 3 Classic topics posted:

1. Is it a bull market or a bear market?
2. Why does healthcare cost so much?
3. Implications of a large national debt. (posted August 2022)

Your comments and questions are always appreciated, so feel free to comment using the “Leave a Comment” feature just under the title of the post.

You can use the hyperlink below the chart of the S&P that will open a larger picture of the chart in a separate window.  The reader who suggested this wants to look at the chart side-by-side with the blog text.  If you bookmark the link to the chart you can look at it each day of the week to see how the market is progressing to certain milestones.  The picture in this post is a static .jpg so it does not update.

I am a retired person and preserving capital and seeking income are important objectives for me.  I also want a growth component to my portfolio, while minimizing major risk.  My style of investing will not suit everyone.  I like to sleep well at night.  Investing involves risk, including the risk of loss.

Rich Comeau, Rich Investing

Long Term – May 2023

Once a month, on the fourth Thursday of the month, I will put up a long term view of the market.  This is provided for investors who don’t want to trade secondary swings in the market, but would like to exit the stock market relatively soon after a bear market begins, or enter the market after a new bull market begins (change in the primary trend).  In the blog, they will always have a title called “Long Term (month) (year)”, so you can use your browser “Find” function and easily find them.

Economics:

GDP – The second estimate of 2023 Q1 GDP is +1.3%, below the long term target of 2%. 

The March 16^th Atlanta Fed estimate of Q1 GDP was +3.2%, so within six weeks of the actual number, GDPNow was way off.

The economy continues to expand, but the rate of expansion has slowed.  This is consistent with a slowing economy.  When inflation heats up a company’s cost go up, so they raise prices to the consumer.  The consumer pays them for a while, but eventually the less affluent consumer will switch to a cheaper product or just quit buying that product.  The company’s revenue starts to fall, and so do their profits.  They need to get their cost down and that usually involves layoffs.  Those laid off workers drastically cut back spending and other companies see their revenue fall.  If the damage is widespread enough the economy falls into recession.  We’re not there yet, but I am downgrading this indicator to neutral from bullish. 

This is neutral for the stock market.

Year	Quarter	GDP %
2023	Q1	1.3
2022	Q4	2.7%
2022	Q3	3.2%
2022	Q2	-0.6%
2022	Q1	-1.6%
2021	Q4	6.9%
2021	Q3	2.0%
2021	Q2	6.7%
2021	Q1	6.4%
2020 – Covid	Year	0.1
2019	Year	2.3
2018	Year	2.9
2017	Year	2.6
2016	Year	2.0

Fed interest rates – The Fed raised the Fed Funds rate by .25% on May 3rd, which brought the Fed Funds rate to 5.25%, up from zero in February 2022. 

Inflation has slowed a bit and interest rate increases impact the economy estimated at a six month lag.    Powell at the Fed press conference on May 3rd reiterated the Fed’s commitment to bring inflation back to their target of 2%, but he acknowledged that inflation has come down and a pause in rate increases might be advisable.

The other thing the Fed is doing is Quantitative Tightening (QT), which means they are not buying bonds to replace those that they hold when they mature, and outright selling bonds into the secondary market.  This will force private companies and individuals to buy the bonds, and then those dollars are not available to buy TV’s, boats, or other big ticket items.  Money is going out of circulation shown by a outright decline in the M2 money supply, which does not happen often. 

Local and regional banks have tightened lending standards making it harder for small and medium businesses to get loans to expand.  That will slow the economy down somewhat.

Notice in the chart below how interest rates have moved up significantly in just one month.  If you look at the March line, the Fed hiked up to 5% but the 5, 10 and 30 year rates fell.  In May the Fed hiked Fed Funds the same amount and the 5, 10 and 30 year rates all increased.  I am not sure what drove that.  Maybe the bond market is saying a future recession will be less severe so the Fed will not have to cut rates very far.  Maybe they think inflation is staying high so interest rates should stay high to compensate bond buyers.  Perhaps there is concern over a default by the US its debt, so US Treasury bonds are less reliable and have to pay a higher interest rate to attract buyers.  When you have $32 trillion in debt, that would be a bad outcome, higher rates because you are not a reliable borrower.

Fed policy is restrictive for the economy, and bearish for the stock market. 

Date	Fed Funds Rate	5 Year Treasury	10 Year Treasury	30 Year Treasury
May 2023	5.2	3.8	3.7	4.0
Apr 2023	5.0	3.5	3.4	3.7
Mar 2023	5.0	3.6	3.5	3.7
Feb 2023	4.7	4.2	3.9	3.9
Jan 2023	4.5	3.6	3.5	3.6
2022 Q4	3.9	4.0	3.9	4.0
2022 Q3	2.5	3.4	3.3	3.3
2022 Q2	0.8	2.9	2.9	3.0
2022 Q1	0.2	2.0	2.1	2.3
2021 Year	0.2	0.8	1.4	2.0
2020 Year	0.4	0.6	0.9	1.6 – Covid
2019 Year	2.2	1.9	2.2	2.6
2018 Year	1.8	2.8	2.9	3.1 – Tax Cut
2017 Year	1.0	1.9	2.3	2.9

Valuation:

S&P 500 earnings – Factset shows that for Q1 of 2023 the earnings are -2% vs. Q1 of last year. At the beginning of Q1 the projection was a 6% decline so earnings were better than expected and that helped prop up the stock market.  It is unusual for earnings to show an outright year over year decline.  This follows the 4% earnings decline in Q4 2022, so we have two consecutive quarters of negative earnings and are in an “earnings recession”, which is not an economic recession.

For Q2 Factset projects an earnings decline of 6% also; the projection was -3% last month.  Normal year over year earnings growth is about +5%. 

The forward PE for the S&P is 18 compared to the ten year average of 17, but remember, the forward PE is just a guess and nobody’s guess has been very good lately.  The bear market has done its job and brought the stock market from dangerous overvaluation 2 years ago, down to normal valuation.  The question is, will the interest rate hikes cause a recession later this year that will take the market valuation down from normal to attractive level, with a PE in the low teens?

The 12 month forward “operating earnings” estimate on the S&P 500 from the Standard and Poor’s company is $222, down $1 from last month.  The more bearish analysts like Mike Wilson think the S&P company estimate is too high, Mike thinks $200 is more realistic for 2023.  That is a large difference of opinion.

The outlook for earnings is bearish, below the long term trend of +5%.

PE on S&P 500 – The current 12-month trailing GAAP PE on the S&P 500 is 24, unchanged from 24 last month and down from 31 in the summer of 2021.  I used 4 quarters of earnings with the most recent being Q1 2022. 

This metric is  moderately overvalued relative to my trimmed 30 year average of 19.  I trimmed out the quarters during recessions for my 30 year average, since the P/E behaves very abnormally during those times.  I go in 5 point increments for my terminology, so 20 – 25 would be moderately overvalued, while 25 – 30 would be significantly overvalued.  Above 30 would be dangerously overvalued.  On the downside, I will go with 14-18 being moderately undervalued and 9-13 being significantly undervalued.  As a last resort, I will go with 4-8 as being egregiously undervalued, and hope we never see that because all investors will be in pain at that point.

This indicator is bearish.

Age of primary move, bull or bear market – This bear market is 1.4 years old.  This is neither bullish nor bearish, but it is worthwhile to keep it in mind. 

Geo-Political:

Liquidity:  Central banks globally are withdrawing emergency accommodation for Covid.  They are tightening financial conditions by raising interest rates to fight inflation.

US / China:  It appears that the US and China are engaged in a tug of war to see who is the world’s economic leader.  China has advantages in low cost labor and some natural resources such as rare earth metals, but they lack oil and natural gas.  China developed the ability to produce advanced electronics with the aid of the US, but the primary market for those items is the US and Europe.  The US has long been a technology leader and we have sophisticated financial markets that are usually well regulated.

Ukraine:  Thewar in Ukraine drags on.  Ukraine is having more success on the battlefield than most expected, with the help of western weapons.  Russia is destroying much of eastern Ukraine’s cities and rebuilding will be difficult.  Sanctions against Russia are disrupting commodity markets since Russia was such a large exporter or oil, natural gas, and metals.  Ukraine was a large exporter of wheat and other foods and that export is hindered by the war.  It appears that after the initial shock in the commodity markets when Russia invaded, prices have stabilized and the world is dealing with new sources and trading patterns.

Geo-politics is currently bearish, mainly due to the war in Ukraine and global central banks tightening.

Technical:

Technically the chart below is neutral near term (months), but still positive longer term (year).

RSI at the top of the chart is neutral at 51, moving sideways.  Momentum shown by MACD at the bottom of the chart is negative and falling, but the rate of deline is moderating.  The price action is neutral for the medium term, but still positive longer term.  For the last 9 months, we’ve been in a trading range from 3500 – 4200.  I wonder which side of the range we will pop out, above or below?

2022 was dominated by the Fed raising interest rates to fight inflation.  Valuations had become “dangerously overvalued” on a PE basis, as far back as the spring of 2021.  The govt. had printed too much money over the last 20 years and kept interest rates low, which is a prescription for creating an overvalued market and for inflation.  It had to be corrected.

In 2023, most think the Fed is near the end of its interest rate hikes.  The strength or weakness of earnings will dictate the market direction.  The yield curve is still inverted and that happens when the bond traders see economic weakness ahead, they think the Fed will lower interest rates in the future, so they better buy longer maturity bonds now and lock in the yield before it falls further.  Bond buying in longer dated maturities drives the bond prices up, and that moves the bond yield down for long dated bonds.  The Fed hikes move the short end of the bond maturities to higher interest rates, and that is what “inverts the yield curve”.  It is not a sure fire predictor of a recession, but it works as a predictor of recession more often than it does not.  So that’s a warning.

Ten Year Chart of the S&P 500

This is neutral in the short run, but remains bullish longer term.

Conclusion:

1. GDP growth is positive with Q1 GDP rising by 1.1% so that is neutral. 
2. The Fed has short term rates at 5.25%.  That is restrictive and bearish. 
3. S&P earnings for Q1 are 2% below Q1 2022 which is below trend and bearish. 
4. The PE valuation of the S&P based on the 12 month trailing GAAP number is 24, which is moderately overvalued and bearish.
5. The geo-political factors are bearish.  
6. Technically the chart looks neutral short term, but bullish longer term.

By that way of looking at it, the market is bearish, with four factors bearish and two neutral.

Long Term Issues to Keep in Mind:

National Debt: 

(December 2022) – The national debt stands at $31.5 trillion.

(Updated March 2020) – Covid 19 begins.  Well this is going to get a lot worse.  Looks like the politicians are going to be printing money and dropping it from helicopters.  But all the other major economies will do the same thing, so relatively, the dollar may not drop much (which would be bad for inflation).

(Negative – Noted Jan. 2018)  The deficit will go up despite the republicans saying that if the tax cut bill is “dynamically scored” using “possible” increases in economic activity, it will hold down the deficit by increasing tax receipts.  This has not been shown to work in the past.  The US added $980 billion to the national debt in fiscal 2019 (ended 9/30/2019), a tragedy in good financial times.

(Late 2020) – The total national debt exceeds $26 Trillion, and as interest rates rise, the component of the annual budget allocated to “interest on the debt” will increase, putting pressure on existing programs, or increasing the deficit.  If the deficit is allowed to rise too much in good economic times, the value of the dollar will fall and that is inflationary which is usually bad.  The thing saving us today is how poorly all the other nations are managing their economies, so the dollar continues to hold up.

Rich Comeau, Rich Investing

Stock Market Calm as Debt Ceiling Approaches

I update each Saturday with my view of the stock market for the next few weeks (if occupied with family or travel, rarely I am a day or two late, just check back).  The monthly “Long Term” update will be on the fourth Thursday of each month, and this supports investors who want to buy and hold, but want to sell to avoid the bulk of a primary bear market, and buy back in for most of the next bull market.

If you lose your bookmark to the blog, google “Rich Investing Blog” and it should show up on the first page or so.

The monthly Long Term update will be posted Thursday the 24^th.

This is posted late morning Friday 5/19 since I have something to do Saturday.

Economy:

Retail sales for April were up .4%, an improvement over a weak March report.  Existing home sales fell slightly in April to 4.3 million units annualized rate (not good, normally you expect home sales to pick up in the spring since families want to move just as the school year ends).  The Leading Economic Indicators (LEI) fell .6% in April, the 13^th consecutive month of decline.  The Conference Board which produces the index see slowing economic activity and a recession later this year.

The stock market appears to be holding up currently, but most analysts on CNBC say that much of the gains have come in the ten largest companies by market capitalization, namely the tech giants.  The rest of the stock market is flat year to date.

Geo-Political:

There is an interesting development regarding the war in Ukraine.  Putin has had meetings with China’s president, so I guess this is a backdoor approach from Russia.

“May 18, 2023 – China’s special envoy, who visited Ukraine this week, has warned that there is “no panacea” to the war in Ukraine and urged “all parties” to work toward creating conditions to end the conflict.

Special envoy Li Hui held talks with Ukrainian President Volodymyr Zelenskiy, Foreign Minister Dmytro Kuleba, and other senior officials on May 16-17 on ways to end the Ukraine-Russia conflict through a political settlement, China’s Foreign Ministry said on May 18.

During his meeting with Zelenskiy, Li “explained China’s position on the political solution to the Ukrainian crisis,” the statement said, adding that Beijing was “willing to make its own efforts to stop the war, declare a cease-fire, and restore peace as soon as possible.”

The Chinese statement touted Beijing’s humanitarian assistance for Kyiv.

“China has always played a constructive role in alleviating the humanitarian situation in Ukraine in its own way and will continue to provide assistance to Ukraine within its capacity,” the statement said.

Kuleba told Li that Kyiv would not accept any proposals to end the war that involved losing territory or freezing the conflict, the Ukrainian Foreign Ministry said.

Beijing, which has not condemned Russia’s aggression against its neighbor, has said Li’s trip, the highest by a Chinese official to Ukraine since the start of Moscow’s unprovoked invasion last year, is aimed at discussing a “political settlement” to the conflict.“

https://www.rferl.org/a/ukraine-china-envoy-kyiv-peace-talks/32416804.html

The stock market has been very quiet while the debt ceiling discussions are going on.  Both sides have said they are committed to avoiding a default and it appears the market is taking them at their word.

The bond market has the odds of a Fed hike at the June meeting at 30%, and 70% that they will not hike.

A debt ceiling deal and a Fed pause would be good for the market in the short term.

Technical Analysis:

For the week ending 5/19/2023, the S&P 500 was up about 2%.

Technically (see chart below) the market looks fair.  RSI at the top of the chart is neutral at 62 but it has moved up.  Momentum shown by MACD at the bottom of the chart is flat, but it looks like it might turn up.  The price action is neutral, but it turned up Thursday (will it continue?).  Again, it looks like the market thinks there will be an agreement on the debt ceiling without too much heartburn.

There is a ton of cash on the sideline in money market accounts.  Some of the bears on CNBC like Mike Wilson have scared investors, based on classic bearish indicators like the inverted yield curve, high valuation of stocks, Fed policy and its historical implication, and persistent weakness of the LEI.  Factset had projected Q1 earnings to be down 6% but they were only down 2%.  It looks like we will get a softish landing, and it is being pushed farther out in time, like out to Q4 or Q1 2024.  I don’t see stocks falling off a cliff, or rocketing up, in the near term.

Click THIS LINK to open the chart in a separate window.

What am I doing?  I bought a little CSCO last week, it has a PE of 18 and dividend of 3.2%.  I would like to sell more Puts if the market came down and Put premiums were higher, so I am waiting. I have placed a few “sell to open” orders at strike prices below where the market is now, and my “ask” price is higher than what is currently available, good till cancelled. Those orders may fire if the market comes down. With a Put option, that does not mean I would buy the stock, rather I would sell an option that gives the option holder the right to put the shares to me if the stock falls below the option strike price. The option buyer may or may not own the stock, and if he does not, and the stock price falls below the strike price, the option holder could buy the shares on the open market at a price lower than the strike price, sell them to me at the strike price, and thereby generate his profit. I would have acquired shares in hopefully a good company that is temporarily down, and believe I can make a profit in the longer term.

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If you enjoy these updates, please tell your friends and family who are interested in the stock market about this blog.

I would like to call your attention to a page of my blog called “CLASSICS”.  It is located at the top of the blog, on the banner just under the title.  The banner has links to “Home”, “About”, and now “Classics”.  These are articles that I wrote one time for the blog, but they are valuable insights at all times for investors.  I will announce in the weekly blog when I add a new classic.

There are currently 3 Classic topics posted:

1. Is it a bull market or a bear market?
2. Why does healthcare cost so much?
3. Implications of a large national debt. (posted August 2022)

Your comments and questions are always appreciated, so feel free to comment using the “Leave a Comment” feature just under the title of the post.

You can use the hyperlink below the chart of the S&P that will open a larger picture of the chart in a separate window.  The reader who suggested this wants to look at the chart side-by-side with the blog text.  If you bookmark the link to the chart you can look at it each day of the week to see how the market is progressing to certain milestones.  The picture in this post is a static .jpg so it does not update.

I am a retired person and preserving capital and seeking income are important objectives for me.  I also want a growth component to my portfolio, while minimizing major risk.  My style of investing will not suit everyone.  I like to sleep well at night.  Investing involves risk, including the risk of loss.

Rich Comeau, Rich Investing

Facing a Financial Cliff

I update each Saturday with my view of the stock market for the next few weeks (if occupied with family or travel, rarely I am a day or two late, just check back).  The monthly “Long Term” update will be on the fourth Thursday of each month, and this supports investors who want to buy and hold, but want to sell to avoid the bulk of a primary bear market, and buy back in for most of the next bull market.

If you lose your bookmark to the blog, google “Rich Investing Blog” and it should show up on the first page or so.

Economy:

In April the CPI and core CPI both advanced .4%, a 4.8% annualized rate.  Y-o-Y CPI was +4.9% while the core CPI was +5.5%.  That is down substantially from 9%, but the drops in inflation are smaller now that we are trying to get the last 3% out of it, down to the target of 2%.  Initial jobless claims for the prior week were 264K, the first time they have ticked above 250K in a long time (I don’t report initial jobless claims if they are below 250K because below 250K is normal).  The U. of Michigan preliminary (the one at mid month) consumer sentiment report for May was down substantially from 63 last month to 57.7 in mid May.  I’m not sure if layoffs, turmoil in banking, inflation, or the debt ceiling scare have turned them more pessimistic, but they have.  Concerned consumers spend less and that is another drag on the economy.

When you look at the data, there is nothing positive here, it is all slightly negative.

Geo-Political:

The big deal in Washington now is the debt ceiling.  Congress has this ridiculous charade to increase the amount of bonds the US can issue, every so often.  It has always passed because failure to pass it would be a large negative for the US.  We have never missed an interest payment on our bonds or to redeem a maturing bond, and because of that we have an excellent credit rating.  Countries are willing to hold their national reserves in US dollars, so they buy our Treasury bonds.  That keeps our interest rates lower than if our bonds were not trustworthy.  Trust in the dollar means we will pay our bills when they come due, and that we will responsibly manage our debt level on an annual basis so the value of the dollar remains high.  We have not done a good job managing our annual debt level since Clinton left office in late 2000 when the national debt stood at $5 trillion and the budget was balanced.

Negotiating the debt is not like the deals we face in life.  When it comes to buying a house or a car, if we don’t strike a deal, nothing happens and eventually someone else comes along and buys the house or car.  With the debt ceiling, a financial nuke would go off, so a deal MUST be done by a certain date, or some really bad stuff will happen to all of us.  But if you want the smallest amount of “give” in order to say you did negotiate, you would wait until the last possible moment to give anything.  If you give one thing too soon, the other side will take it and hold you up at the end for another thing.  From McCarthy’s side, when you write a bill, you should put some things in there that are easy “gives” for the other guy, so you can say you got something for passing the debt ceiling.  It’s a show.  The house bill to extend the debt ceiling calls for a claw back on funds that are not yet spent for Covid.  That money appears unnecessary, so that would be a throw down item that Biden can give on, no harm to anyone, McCarthy can claim a victory.  We’ll have to see how messy this one gets.

The other big topic is whether the Fed will pause hikes to the Fed Funds rate at the June meeting.  We are seeing slowing in the economy, inflation has come down some.  There is a lot of stress in the regional banking system, and the Fed has caused much of it, so perhaps they are incented to pause.  The Fed kept rates near zero for most of the past 12 years.  They made that mode of operation a habit for all the banks.  Then we get inflation, they hike rates by 5% in one year, and they are amazed that the bank’s “hold to maturity” portfolios of Treasury bonds are taking a huge hit and a few have outright failed, a few so far.  There is some poor bank management at fault also because most banks have not failed, but the Fed set the interest rate conditions.

Technical Analysis:

For the week ending 5/12/2023, the S&P 500 was unchanged.

Technically (see chart below) the market looks fair.  RSI at the top of the chart is neutral at 52.  Momentum shown by MACD at the bottom of the chart is negative and falling.  The price action is neutral, moving sideways in a tight channel shown by the two new blue horizontal lines.  When it breaks out decisively, up or down, that should set the direction for a few weeks.  The concern I have about the price falling out the bottom of the seven month up-channel (the two purple lines) since Oct. remains.  By the price action moving sideways while the bottom of the channel moves up, without a selloff we are falling out the bottom, which shows weakness.  That is not surprising given we are walking up on a possible default on US Treasury bonds if the debt ceiling is not raised.  In August 2011 the stock market declined 16% in 10 days as we approached the financial cliff and I expect a similar result this time, and worse for longer if a default is allowed to happen. 

Earnings have come in a little better than expected for Q1, -2% vs. 2022 Q1 instead of the projected -6%.  That has held the market up.  The mega-cap tech stocks have rallied impressively, cutting headcount, cutting costs, and all touting artificial intelligence (AI) as the savior of the world.  I think there is some hype in those stocks.  Outside of the mega-cap techs the story has been ho-hum, and that is reflected in stock prices.

On the negative side, the yield curve remains inverted, GDP slowed in Q1 to +1.1%, valuation by the PE ratio is a little high, and while inflation has come down to around 5% that is still too high.  There seems to be a shortage of workers so unemployment is very low at 3.4%.  Workers who get laid off seem to have no trouble finding another job, and as a result domestic spending remains stable, but no longer very strong.  A company like Peleton that sells an expensive home stationary bike soared during the pandemic when we all stayed at home, and it has been brought low now that people are back at work and the free money the govt. sent us is drying up.

Click THIS LINK to open the chart in a separate window.

What am I doing?  I didn’t buy anything last week.  I have been selling put options on occasion, usually far out of the money so if I get assigned and have to buy stock, it is a quality company at a good price.  I bought back an IBM May 120 put at a profit and I have an order to sell an IBM Jun 110 put, but only if IBM stock sells off and I get a better price for the option.  The order is good till canceled (GTC), so it’s just sitting there.  If the govt. does a debt ceiling deal and the market does not sell off, I didn’t lose anything, except possibly the profit on IBM if I had bought it and it soars on a debt ceiling deal.  I expect a deal, but not till the last minute, for show, so both sides can beat their chest and say they held out until the last minute.  You do better selling puts when the market is selling off, the premiums on the option are higher.

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If you enjoy these updates, please tell your friends and family who are interested in the stock market about this blog.

I would like to call your attention to a page of my blog called “CLASSICS”.  It is located at the top of the blog, on the banner just under the title.  The banner has links to “Home”, “About”, and now “Classics”.  These are articles that I wrote one time for the blog, but they are valuable insights at all times for investors.  I will announce in the weekly blog when I add a new classic.

There are currently 3 Classic topics posted:

1. Is it a bull market or a bear market?
2. Why does healthcare cost so much?
3. Implications of a large national debt. (posted August 2022)

Your comments and questions are always appreciated, so feel free to comment using the “Leave a Comment” feature just under the title of the post.

You can use the hyperlink below the chart of the S&P that will open a larger picture of the chart in a separate window.  The reader who suggested this wants to look at the chart side-by-side with the blog text.  If you bookmark the link to the chart you can look at it each day of the week to see how the market is progressing to certain milestones.  The picture in this post is a static .jpg so it does not update.

I am a retired person and preserving capital and seeking income are important objectives for me.  I also want a growth component to my portfolio, while minimizing major risk.  My style of investing will not suit everyone.  I like to sleep well at night.

Rich Comeau, Rich Investing

The Fed Hikes Again

I update each Saturday with my view of the stock market for the next few weeks (if occupied with family or travel, rarely I am a day or two late, just check back).  The monthly “Long Term” update will be on the fourth Thursday of each month, and this supports investors who want to buy and hold, but want to sell to avoid the bulk of a primary bear market, and buy back in for most of the next bull market.

If you lose your bookmark to the blog, google “Rich Investing Blog” and it should show up on the first page or so.

Economy:

The ISM manufacturing index for April improved a bit to 47.1.  The ISM services index for April improved slightly to 51.9 (the services sector is 4 times bigger than manufacturing so this is the important one), and anything over 50 shows growth.  Factory orders for March were up .9%.  The economy added 253K jobs in April and the unemployment rate fell to 3.4%. 

Following the takeover of First Republic Bank last weekend, the regional banks were all under pressure last week, but many recovered a bit on Friday.  The sight of so many regional banks falling sharply unsettled the rest of the stock market.  The banks are in a tough spot.  They have been required to hold capital in reserve to service redemptions.  They had invested the money in US Treasury bonds, but rates were low for so long, some banks made the mistake to buying long term bonds to capture a tiny bit of extra yield.  Unfortunately in a rising interest rate environment, the loss of principal is much greater on long duration bonds.  There is a component of the bank capital called “hold to maturity” and they did not have to show the loss of capital on the HTM portion.  So, it was not a problem until investors thought there might be a problem and began taking their money out of the bank rapidly.  At that point the banks could not hold the bonds to maturity and had to sell them at a loss to service redemptions.  If the bank can no longer service redemptions because it has so many losses on its capital reserve bond portfolio, the FDIC steps in and takes the bank over.  Investors have gotten all of their deposits back, but the stockholders and bond holders of the bank debt are wiped out (bond holders may get some pennies on the dollar).

The banks have another problem.  For years, while the Fed kept interest rates low, the banks paid almost nothing on checking or traditional savings or money market accounts.  When the Fed began raising interest rates you would think the bank money market and savings accounts would pay more than nothing.  Over a decade ago, banks paid reasonable rates.  But in the rate increase cycle, the banks did not raise the rate that they paid on savings or money market accounts, many continued to pay almost zero.  So, depositors have been withdrawing money from banks and moving it to brokerage houses like Fidelity, Schwab and Vanguard where the money market accounts paid much higher interest rates.  You can get 4.5% to 5% on many of those accounts depending on the amount in the account.

The banks, in response to pressure on their profits and the general slowing of the economy (GDP was only 1.1% in Q1) is tightening their lending standard.  Start-ups may not get funded, and anyone who gets a loan will have to pay a higher interest rate.  If your credit rating is weak, no loan for you, especially with the prospect of a recession in the second half of the year.

The Fed continues their Quantitative Tightening (QT), letting bonds roll off their balance sheet as they mature, forcing the private sector buy the replacement bond.  That is shrinking the M2 money supply, and that has a slowing effect on the economy.  It is another tool the Fed is using to reverse the inflationary effect they had when they did all of the QE, buying the govt. debt to enable them to send us all checks and pay enhanced unemployment benefits during Covid.

So, there you have 3 slowing effects on the economy:

• Higher interest rates from the Fed
• Quantitative Tightening – the Fed shrinking its balance sheet
• Credit contraction at the banks

Geo-Political:

At the Fed press conference on May 3^rd, they raised the Fed Funds rate by .25% as expected, taking the Fed Funds rate to 5.25%.  Many thought the hike was not necessary since the regional banks are already suffering.  Others thought the rate hike was warranted because inflation is still around 5% and too high.  Interest rate hikes are known to impact the economy with a lag of six to nine months, so some who opposed the rate hike say we don’t even know the effect of the last .75% rate hike last fall.  Regardless, the Fed went ahead with the hike.  Now many observers think the Fed will pause, and not hike in June.  I remember a Fed chart called the “dot plot” a few months ago showing the “terminal rate” of Fed Funds at 5.2%, and we are there.  The Fed always has the right to raise rates again if inflation does not come down far enough.

Technical Analysis:

For the week ending 5/5/2023, the S&P 500 was down 1%.

Technically (see chart below) the market looks fair.  RSI at the top of the chart is neutral at 55.  Momentum shown by MACD at the bottom of the chart is negative and falling.  The price action is neutral, trading in a tight range for the last six weeks.  My concern remains that we are stuck at the bottom of the up-channel and it does not appear that the market has the energy to push higher.  We’ve had a nice seven month rally off the October low, but I don’t see this as a new bull market.  The Fed rate hikes are intended to slow the economy and it is working.  I see the last seven months as a nice upside correction in a bear market.

Many observers of the economy are amazed that we are 16 months into a bear market and unemployment is so low at 3.4%.  GDP went slightly negative for two quarters in early 2022 but has been positive since.  The consensus remains that we will have a short shallow recession in the second half of 2023, or into early 2024.  Is that going to happen?  Maybe.  But what if the consensus is wrong?  In a standard world, following a short shallow recession, normal growth would return and usher in a new bull market.  But we have never gone into a recession with the nation being $32 trillion in debt.  In a recession, the govt. becomes the spender of last resort, after the consumer and business have quit spending.  Throwing a big spending program on top of $32 trillion of debt could have unanticipated consequences.  The value of the dollar might weaken more, which is inflationary because all imported goods will cost more.  We might break out of the recession, but the recovery could be less robust than usual.  Just be aware, the economy does not always follow the script of the consensus writers.  That is because the major underpinnings of the economy change over time, due to technology advances, new govt. policies, or changes in economies abroad, and it is a different type of economy, so it does not react the way the old economy used to react.

Click THIS LINK to open the chart in a separate window.

What am I doing?  I bought my first stock in a while, MRNA.  The stock has come down a lot from its high back when it was selling lots of Covid vaccine.  They are using their messenger RNA technology to develop vaccine for RSV, and potentially a one shot cocktail for flu, covid and RSV, which should have market appeal.  I only bought a small amount, but if it falls I will add to it, unless the narrative changes.  I would like to hold it longer term, get a long term capital gain in order to pay a lower income tax rate on that trade, so I bought it in my taxable account.

Now is a good time for us to consider how we want to be invested AFTER the recession and end of the bear market.  I’m thinking – less trading, more longer term investments, capture long term capital gains in taxable accounts to minimize income taxes.  My wife just retired and we will be able to travel, so I would like to cut down on my trading.  The nice thing is, if we do reach a significant low in the stock market, there will be no better time to take good positions and hold them for a few years.

If the Fed is done hiking, we are at the interest rate peak (no guarantee).  If we go into recession and the Fed starts cutting rates, things won’t be as good in the future for rates on fixed income like CD’s.

———————–  

If you enjoy these updates, please tell your friends and family who are interested in the stock market about this blog.

I would like to call your attention to a page of my blog called “CLASSICS”.  It is located at the top of the blog, on the banner just under the title.  The banner has links to “Home”, “About”, and now “Classics”.  These are articles that I wrote one time for the blog, but they are valuable insights at all times for investors.  I will announce in the weekly blog when I add a new classic.

There are currently 3 Classic topics posted:

1. Is it a bull market or a bear market?
2. Why does healthcare cost so much?
3. Implications of a large national debt. (posted August 2022)

Your comments and questions are always appreciated, so feel free to comment using the “Leave a Comment” feature just under the title of the post.

You can use the hyperlink below the chart of the S&P that will open a larger picture of the chart in a separate window.  The reader who suggested this wants to look at the chart side-by-side with the blog text.  If you bookmark the link to the chart you can look at it each day of the week to see how the market is progressing to certain milestones.  The picture in this post is a static .jpg so it does not update.

I am a retired person and preserving capital and seeking income are important objectives for me.  I also want a growth component to my portfolio, while minimizing major risk.  My style of investing will not suit everyone.  I like to sleep well at night.

Rich Comeau, Rich Investing