by Jason Bodner

July 6, 2022

COVID-19 seems to be fading away, but all of a sudden, everything else stinks: War, inflation, and layoffs are now rocking the warm sense of security that many of us had heading into 2022. Stocks are having their worst first-half of the year in over 50 years, and nothing seems to make sense anymore.

So today, I’ll try to provide some context for this malaise, and what I see as our critical path forward.

Let’s start with what I have said I thought would happen – ever since the beginning of this year.

Something smelled to me in late 2021: The Fed was cranking up the hawkish talk. They telegraphed that aggressive tightening may be required. That started to shake stocks, starting with NASDAQ in late November. Then cryptos began to crumble. Risk assets started to fall quickly evaporating paper wealth.

The Fed was in a bind. It needed to cool the economy as froth was evident in the system. Inflation was skyrocketing. In ordinary times (not after a once-in-a-century pandemic), the Fed could measuredly raise interest rates, but the U.S. now has a $30 trillion (and climbing) national debt, up from $9 trillion in 2007.

FRED Chart

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

During much of that steep climb in debt from 2008 onward, interest rates were at or near zero. Financing debt at zero is pretty sweet, but when you owe $30 trillion each 1% rise adds $300 billion in interest. That’s 3 followed by 11 zeros. So, I heard the negative talk from Jay Powell and leaders of big banks and felt it was fearmongering by design. You see, by scaring consumers into spending less, the economy would cool on its own, and the market could do the hard work for the Fed. I called it “ghost tightening.”

This new hawkish Fed language began around December. The subsequent pressure on stocks came from a combination of Fed-speak, inflation, and then a war in Ukraine. The first interest rate hike didn’t occur until mid-March. By that time, the S&P 500 had fallen about 8%. The next hikes came in May and June and the Fed funds rate currently stands at an upper limit of 1.75%. Stocks have been consistently sloppy all year and, as I write this, the S&P 500 remains in a bear market, down -21% from last year’s close.

Gas prices soared along with food prices, which siphons money off the average U.S. consumer quickly. That leaves fewer dollars for discretionary spending, further tightening the economy. These collective forces work to curb inflation. All the while, the Fed has only risen rates to a range of 1.50% to 1.75%, well below the average 3% (since 1990). That is what I call ghost tightening. The economy is slowing without the need for huge rate increases hinted at late last year. Naturally, we will likely see a few more hikes. I believe there will be 50 basis points (each) two more times, and then we will hit a holding pattern. That will still be below the average rate. November is election time, so nothing is likely to happen then.

Recession or No Recession – That is the Big Question Now

This brings us to the big question: Recession or no recession?  There is no shortage of negative sentiment on our current situation. According to one survey, 76% of CEOs expect a recession. It’s now a forgone conclusion in many news stories, and some Americans talk like we’re already in one. A recession is defined as two successive quarters of negative GDP. That has not happened yet, but is a recession certain?

There are those who don’t believe one is coming, but they may have a political bias. President Joe Biden said a recession is not guaranteed. Fed Chair Jerome Powell also doesn’t necessarily see one in the cards. U.S. Treasury Secretary and Former Fed Chief Janet Yellen said that she expects the economy to slow, but a recession is “not at all inevitable.” Plenty of others reject the idea of a recession. JP Morgan’s Chief Economist Bruce Kasman doesn’t see a recession (even though his CEO, Jamie Dimon, sees an economic “hurricane.”). Even the notorious shark Kevin O’Leary says there’s no evidence of a recession right now.

As confusing as all that may be, let’s just review the facts, not the opinions: The Fed spoke. Markets fell. Risk assets fell. Rate hikes came slowly, and then they ramped up but we’re still sitting at merely half the 32-year average interest rate. We are in a bear market largely precipitated by the Fed’s comments before any interest rate hikes ever happened. Essential costs are tightening the U.S. consumer’s wallets, leaving less disposable money to chase prices higher in many areas. This sounds a lot like ghost tightening to me.

So, what’s coming next? Economist Paul Samuelson famously said, “The stock market has predicted nine of the past five recessions,” meaning that about half of the stock bear markets don’t result in a recession. Could this be another time the market gets it wrong? If so, I think the Fed’s plan worked like a charm.

There are some signs of peak inflation popping up. In May, Goldman Sachs released a report showing signs of peak inflation. Prices at the gas pump certainly don’t agree, but energy prices recently cracked. The price of oil fell from over $120 to around $105 per barrel:Crude Oil Chart

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

Louis Navellier pointed out that major government agencies have released data indicating a demand drop. Some drivers are consolidating trips or just driving less. And energy is the biggest driver of inflation now.

If inflation should peak, where does that leave us?  Markets closed June with ugly price action, but the week’s volatility was met with low volume. You can see that here, as the blue and red bars dried up:

Big Money Stocks Buys and Sells Charts

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

Low volume means low signal counts. Last Monday through Wednesday saw only 53 signals (26 buys and 27 sells). The breakdown of buys and sells is a small data set, but something should catch your eye:

Energy is virtually missing, with 0 sells and 1 buy.

Big Money Sells from Universe PIE Charts

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

Energy has been the biggest driver of market buying since the start of the year. But since mid-June selling has rocked the energy sector:

Energy vs XLE Chart

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

Peak inflation may be here…or near. The Fed may be getting this ship righted. And should we get some clarity and direction, the market will find its footing. We may consolidate sideways for a while, possibly through part of the third quarter, but I believe Q4 will see a lift in equities, especially growth stocks.

If the market incorrectly predicted this recession, we have nowhere to go but up. Money will flood into beaten-down sectors. I don’t necessarily see a recession ahead. Instead, I see ghost tightening by the Fed, and I see it working. I recently read that “reality is hidden in the unseen.” What we see and hear all around us is fear and negativity. Positivity and happiness are nowhere to be seen… They are unseen.

All content above represents the opinion of Jason Bodner of Navellier & Associates, Inc.

Please see important disclosures below.

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Sector Spotlight by Jason Bodner
Making Sense of a Senseless Market

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About The Author

Jason Bodner

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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