by Bryan Perry

June 6, 2023

Investors will be trapped in this period of macro-economic volatility for a while. There is no question in my mind that the headwinds the market now faces will remain, or even stiffen, as the year progresses.

These headwinds include a continuation of quantitative tightening (shrinking of M2 money supply) by the Fed, inflation and low growth that borders on stagflation, a stubbornly unaffordable housing market (especially for first-time and move-up buyers) due to short supply, balance sheet stresses at regional banks that restrict lending to consumers and businesses alike, household debt that sets new monthly records, and all the geo-political risk that could go awry. U.S. diplomacy is losing credibility around the globe.

The Fed is on a dual mission of raising rates to somehow slow wage growth while also reducing the velocity of money that was created from all of the stimulus born of overzealous Fed easing and Congressional spending. But Congress has kept on spending with the passage of the oxymoronic Inflation Reduction Act ($370 billion), the CHIPS Act ($280 billion), and the raising of the debt ceiling ($2.5 trillion), while the Fed has been trying to reduce its balance sheet before having to inject massive emergency funds to thwart systemic chaos within the regional bank sector. This situation is far from over.

The S&P Regional Bank Sector ETF SPDR (KRE) has shed nearly 50% of its value since January 2022. Another rate hike or two will only exacerbate further deposit outflows to higher yielding money markets, not to mention the stresses within corporate office property loans that are just starting to unfold.

This past week, JPMorgan Chase & Co. CEO Jamie Dimon said that the markets should brace for 6% or even 7% interest rates. This longest-tenured CEO of any major money center bank now warns that the banking system could take a big hit from commercial real estate loans.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

On May 23, the Federal Reserve Bank of New York’s Center for Microeconomic Data issued its Quarterly Report on Household Debt and Credit. The report shows an increase in total household debt in the first quarter of 2023 of $148 billion to $17.05 trillion. Balances are now $2.9 trillion higher than at the end of 2019, before the pandemic began. The share of current debt becoming delinquent increased for most debt types and represents a troubling trend for an economy where roughly 70% of GDP is consumer spending.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Index funds have proven to be a good bet in years past, but only two of 11 S&P 500 sectors are trading in a sustainable bullish pattern – technology and communication services. Consumer discretion and industrials are neutral. Consumer staples, materials, real estate, energy, financials, and utilities have lagged or have turned lower. Market leadership is narrower now than when the year began. Just nine stocks account for about 56% of the Nasdaq 100 and just nine stocks account for roughly 28% of the S&P 500.

There are two plausible scenarios that will likely unfold as the year progresses. Either the economy will experience a period of immaculate deflation that produces slowing growth without a recession, or global macro-economic conditions deteriorate outside the U.S., which in turn starts to impact sales and earnings growth of those nine mega-caps and the multinational companies that anchor the major averages.

Without the epiphany surrounding the radically sudden disruptive technological advances of artificial intelligence (AI), it is my view the S&P would be retesting the October lows – as many very smart chief market strategists have been calling for since January. The rising tide within the top seven (all tech) of these nine stocks has provided the much-needed fund manager the bids that have altered the course of an otherwise soft first-quarter reporting season and cautious outlook by most premier blue-chip companies, leading to a bifurcated market of a few big winners and multitudes of lagging stocks in downtrends.

Last Friday’s big rally showed for the first time a genuine broadening out of sector participation. History has shown that about two-thirds of the time, breadth catches up with price and not the other way around; so regardless of what the Fed might do, there was clear rotation from mega-tech to other sector leaders.

This is where the quantitative bulls perform price discovery of stocks that are inherently cheap to their historical valuation. Price to fundamentals is king in the business of stock selection – where the cheap tend to outperform the expensive when the market begins to broaden out. With that said, great companies trading at steep discounts are down for similar reasons – they lack a near-term visible catalyst that suggests that good things are about to happen. Even a great stock in a lagging sector may well struggle to outperform because of outgoing fund flows in sector ETFs and mutual funds.

Instead, the practice of trend following is extremely beneficial to identifying where the sky is blue for a sector and stocks within those sectors that are under heavy accumulation. Last Friday’s big rally showed for the first time a genuine broadening out of sector participation.

Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary.

Friday’s rally had the SPDR S&P 500 ETF Trust (SPY) higher by 1.45%, where the top nine holdings account for 27% of total assets, whereas the Invesco SPDR Equal Weight ETF (RSP) rose by 1.81% on the biggest spike in volume in six months, reflecting participation from the other nine sectors that had not previously been involved. Given the large macro issues noted within that should have kept a lid on the market, there may be a clear and present upside breakout underway that must have cash rich investors wondering what they are missing. Just maybe the market has priced in all the bad news. Go figure.

All content above represents the opinion of Bryan Perry of Navellier & Associates, Inc.

Please see important disclosures below.

Also In This Issue

Global Mail by Ivan Martchev
Recession is Still Nowhere to be Seen

Sector Spotlight by Jason Bodner
How is Your Team (of Stocks) Doing?

View Full Archive
Read Past Issues Here

About The Author

Bryan Perry

Bryan Perry

Bryan Perry is a Senior Director with Navellier Private Client Group, advising and facilitating high net worth investors in the pursuit of their financial goals.

Bryan’s financial services career spanning the past three decades includes over 20 years of wealth management experience with Wall Street firms that include Bear Stearns, Lehman Brothers and Paine Webber, working with both retail and institutional clients. Bryan earned a B.A. in Political Science from Virginia Polytechnic Institute & State University and currently holds a Series 65 license. All content of “Income Mail” represents the opinion of Bryan Perry

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