by Jason Bodner
July 19, 2022
We’re human, so we’re easily herded into common assumptions. Let me cite an example: Where do you think the most pyramids are? Egypt, right? Wrong. There are more pyramids in northern Sudan than in all of Egypt. The ones in Egypt are much bigger, and have better stories, so that’s what we think of first.
Does the same go for attitudes towards recession and markets?
I started to feel that way Wednesday, a day when market futures were up. But then the CPI came out. Futures went sharply negative (groan). The pre-open NASDAQ swung from +1% to -2% because the headline CPI number was terrible: rising to 9.1%, which was higher than expected, and higher than it’s been in nearly 40 years. This should come as no surprise, as we’re all getting pinched.
Under the surface you find that most of the real inflation resides in energy and in food. Both rose significantly in June, but removing those leaves us “core inflation,” which rose 0.7%. However, every month core inflation has been falling, meaning, all items outside of food and gasoline (and other forms of energy) have been coming down. In fact, core inflation has fallen over the last few months from 6.5% to 5.9%.
Eventually the market digested this good news nicely on Wednesday and the NASDAQ turned positive, similar to Thursday’s reversion. I think people are starting to digest that there really is a light at the end of the tunnel. Inflation is actually moderating, only we’re mainly seeing higher prices in food and energy.
Let’s look at those: Everybody is getting killed at the pump. But you should all have noticed that over the last month we’ve seen a little bit of relief from a peak of $5.11 to $4.75 according to y-charts:
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary
Oil peaked at around $122 per barrel in early June, falling to roughly $96, which means lower prices at the pump. But energy companies’ earnings lag, so their numbers will still be at record levels, certainly year over year. So, energy companies are still a great place to be as an inflation hedge.
Food price stability is hampered by the Ukraine conflict. Russia and Ukraine supply a huge amount of grain. The world has already begun to look elsewhere for food, but it takes time to grow and harvest crops. Europe is also very environmentally conscious. ESG initiatives for a more friendly environment clash with a supply reduction from Ukraine. So, prices may be high for a while. Yet, let’s not forget, as supply chains come back online, that should help mediate food inflation.
So, gross as the headline numbers seemed, I see indications that we have hit peak inflation.
Now, let’s look at the housing market… This was another area of CPI inflation that reported a wicked gain for June. New mortgage applications are down, but rates have actually fallen for the first time in a long time. Housing listings are staying on the market longer and even seeing price reductions.
With the initial signs of slowing in terms of housing and shelter, the final bits of froth are working their way out of the system. So, let’s revisit my concept of the Fed’s “ghost tightening” in that light:
- Starting in December 2021, the Fed used scary language.
- Risk assets started falling from November on, tech stocks and then cryptocurrencies.
- In February and March, all stocks came under pressure.
- In May, margin debt balances got wiped out by the brokers.
- Now we are starting to see consumers starting to spend less and scale back
- We’re even noticing less demand for gas, as reported by the EIA a few weeks ago.
The last a piece of the puzzle in my mind, is consumer debt. As rates rise and consumers finance things they can’t afford because of inflation, there’s a potential crunch that’s going to happen.
Where does that leave us right now?
We’re in July and summer months are typically choppy as liquidity is low. Traders take vacations. Add illiquidity due to uncertainty over recession.
So, bringing it home: I believe that all along the Fed has been using ghost-tightening to engineer a soft landing that most people don’t think is possible. In my opinion, that’s exactly what’s happening right now. Even should we enter a technical recession (two consecutive quarters of GDP contraction), many lose sight that the growth we might recede from was engineered by free easy money. One could argue that the growth cycle we’re receding from shouldn’t have even been there in the first place.
If there is a recession, I believe it will be short-lived. The Fed does not want to shove the economy into a recession. Its hands are tied: they can’t raise rates too much with a $30 trillion national deficit. Our 30-year average target rate is 3%, and right now we’re sitting at 1.75%. My belief is rate hikes will come, but I think the next two (for both July and September meetings) could be 0.5%, not 0.75%. I think November will have no action, as it is a mid-term election month. Then I think the Fed will enter a holding pattern with no more rate hikes. I think the median ending rate should be around 2.75 to 3.00%.
Come the fourth quarter, we should have clear news of abating inflation. Energy prices will seasonally start to fall in September, easing consumer pressure. Food production and inflation should start to adjust to normal, while housing will have abated. We should also see stronger labor figures by that point.
From my standpoint, July and August will be choppy like normal summers. September should see more clarity from the Fed and economic certainty will start to return.
At that point, I think money will rush back into equities. There’s really no place else to put your money than stocks. Even with higher rates, bonds can’t overcome a negative real rate of return: certainly not at 9.1%! Investing in stocks (especially dividend stocks with sales and earnings growth) is the oasis.
Finally, the euro is now on parity with the dollar. Europe is in poor shape. There are real recessionary pressures over there: they’re getting squeezed with the gas supply while they’re trying to go green. The euro is weakening while the U.S. dollar is strong, as energy and commodities are priced in dollars. The majority opinion may be that we’re headed towards disaster, but I just don’t think that’s the case, folks.
The U.S. equity market is the place to be. One of our most powerful yet rare indicators is an oversold Big Money Index (BMI). It gauges unusual buying and selling over a 25-day moving average. Below green is oversold. Above red is overbought. The BMI (electric blue line) looks like this as of today:
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary
The BMI is almost green, and this is rare because it has only happened 21 times since 1990. We should be oversold soon. That’s good news, because the average forward returns for the S&P 500 are strong:
- 1 month +2.8% on average
- 3 months +6.3% on average
- 6 months +9.6% on average
- 9 months +11.3% on average
- 1 year +16.0% on average
- 2 year +29.2% on average
Here is a summary of all historical oversold instances:
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary
Now just to drive home the power of this visually, here are the six prior instances (I didn’t include all – just went back a few years in my charts, but you can look in the portal):
Graphs are for illustrative and discussion purposes only. Please read important disclosures at the end of this commentary
Let’s get through the summer, people. And instead of dwelling on the negative, try enjoying it!
“Like a welcome summer rain, humor may suddenly cleanse and cool the earth, the air and you.”
–Langston Hughes
All content above represents the opinion of Jason Bodner of Navellier & Associates, Inc.
Also In This Issue
A Look Ahead by Louis Navellier
Despite Double-Digit Headlines, “Core” Inflation is Still Declining
Income Mail by Bryan Perry
Latest Developments in Europe Further Boost LNG Prospects
Growth Mail by Gary Alexander
Business is a Foreign Language in Biden-Land
Global Mail by Ivan Martchev
The Difference Between “A Bottom” and “The Bottom” for Stocks
Sector Spotlight by Jason Bodner
Some Hidden Stories in the Inflation Narrative
View Full Archive
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Jason Bodner
MARKETMAIL EDITOR FOR SECTOR SPOTLIGHT
Jason Bodner writes Sector Spotlight in the weekly Marketmail publication and has authored several white papers for the company. He is also Co-Founder of Macro Analytics for Professionals which produces proprietary equity accumulation/distribution research for its clients. Previously, Mr. Bodner served as Director of European Equity Derivatives for Cantor Fitzgerald Europe in London, then moved to the role of Head of Equity Derivatives North America for the same company in New York. He also served as S.V.P. Equity Derivatives for Jefferies, LLC. He received a B.S. in business administration in 1996, with honors, from Skidmore College as a member of the Periclean Honors Society. All content of “Sector Spotlight” represents the opinion of Jason Bodner
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