by Louis Navellier
August 9, 2022
It was a busy week, with a series of positive economic news that telegraphed, “No Recession Here!”
First, the Institute of Supply Management (ISM) announced that its manufacturing index dipped only slightly to 52.8 in July, down from 53 in June, but any reading above 50 signals an expansion, not a contraction, and manufacturing only represents about 30 percent of the U.S. economy. Furthermore, the U.S. is outpacing purchasing manufacturer indices (PMIs) in most other economies, including China.
Then, on Wednesday, ISM announced that its non-manufacturing (services) index shot up to 56.7 in July, up from 55.3 in June, well above the economists’ consensus expectation of 53.5. Even more impressive, the ISM new orders component surged to 59.9 (up from 55.6 in June) and its business activity component rose to the same stratospheric 59.9 level in July (up from 56.1 in June). This is very bullish and indicative of reaccelerating economic growth, since services account for over half of economic output.
Furthermore, the Atlanta Fed now estimates that third-quarter GDP growth is a positive +1.4% annual pace, and I am expecting an upward GDP estimate revision in the wake of the ISM service index report.
On Thursday, the Commerce Department announced that the U.S. trade deficit plunged 6.2% in June due largely to food and petroleum exports. Specifically, exports rose 1.7% to $261 billion, while imports fell 0.3% to $340 billion. The improving trade deficit may result in upward second-quarter GDP revisions.
The biggest news was the jobs report. On Friday, the Labor Department announced that 528,000 new jobs were created in July, more than twice the economists’ consensus estimate of 250,000 jobs. Furthermore, the June payroll report was revised up to 398,000 from the 372,000 jobs previously reported.
The labor force is finally larger that it was before the pandemic struck nearly 30 months ago, even though the labor force participation rate is 62.1%, well below the pre-pandemic level of 63.4% in February 2020.
The unemployment rate tied a 52-year low of 3.5% in July, down from 3.6% in June. Average hourly earnings rose 0.5% (or 15 cents) to $32.27, and wages have now risen 5.2% in the past year.
Overall, this was a stunning payroll report, which bodes well for third-quarter GDP growth.
We’re Also In the Midst of a Truly Stunning Earnings Announcement Season
Add to these great economic numbers the fact that we have not had the expected “earnings recession,” and all this talk of an economic recession is premature, to say the least. As a result, I find myself agreeing with Fed Chairman Jerome Powell, Treasury Secretary Janet Yellen, and President Joe Biden that the U.S. is not in a real recession, unless you are in the homebuilding business, which is now running at only 42% of its near-bubble peak. As a result, institutional investors have concluded that recessionary fears are overblown, and Treasury bond yields may have peaked in mid-June since inflationary pressures are cooling, so it is time to go bargain hunting and snap up quality stocks with historically low P/E ratios.
This has been a truly stunning announcement season, since flagship stocks like Apple and Amazon have attracted a lot of institutional buying pressure. Major energy stocks are doing even better, as crude oil prices have resumed rising due to tight supply/demand imbalances. The U.S. is “the Saudi Arabia of natural gas” and despite record production, natural gas prices remain near their highest level in 14 years, due to the fact that Russia is rationing their natural gas to Europe, creating chaos on that continent.
Energy stocks will continue to post strong sales and earnings due to high prices for both crude oil and natural gas for at least the next six months, even though crude oil prices should moderate by October as seasonal demand ebbs. The semiconductor shortage persists, which bodes well for our semiconductor stocks. Shipping rates remain elevated, which will help our shipping stocks continue to prosper.
According to the Energy Information Administration (EIA), crude oil production in the U.S. was running a bit lower in May, at 11.6 million barrels per day, so crude oil prices have meandered higher. Although production in North Dakota rose 17.1% in May, to one million barrels per day, New Mexico’s output fell 0.7% to 1.5 million barrels per day, and Texas’ output declined 1% to five million barrels per day. The EIA also said that U.S. natural gas production in May was running at a record pace.
The EIA also reported on Wednesday that the inventory of crude oil rose 4.5 million barrels in the latest week, which is 7% below the 5-year average this time of year. Gasoline inventories rose 200,000 barrels in the same week, while the inventory of distillates declined by 2.4 million barrels. Interestingly, gasoline demand in the U.S. is running below pre-pandemic levels and, according to the EIA, consumers are using less than one million barrels of gasoline a day. Even though gasoline prices have declined for 50 straight days – as the Biden Administration loves to tell us – that’s just because most consumers are driving less.
There is growing optimism that the Russia/Ukraine conflict could thaw in the wake of their recent agreement for grain exports to resume from Ukrainian Black Sea ports. Additionally, this deal also allows the unimpeded access of Russian fertilizers to global markets. Russia is a major producer of fertilizers, which are vital to maximizing food production, so the cost of fertilizer has soared due to the conflict. Hopefully, this first agreement will eventually lead to a cease fire between Russia and Ukraine.
The bears on Wall Street have been overpowered recently by persistent institutional buying pressure as corporate earnings remain strong and optimism spreads due to inflation cooling. The fact is that the U.S. is the oasis in a chaotic world, which is why the U.S. dollar is near its highest valuation in over 20 years. A strong dollar puts downward pressure on commodity prices, since commodities are priced in U.S. dollars. Furthermore, Treasury yields continue to decline from foreign buying pressure due to a run on Chinese banks, and no real yields in Europe or Japan and weaker economies around the world.
This summer, I have been urging investors to “wait for quarterly earnings,” and I will undoubtedly say the same thing in September before third-quarter earnings announcement season begins in mid-October. The Fed’s final interest rate hike will likely occur at the FOMC meeting on September 21st, since the next FOMC meeting is only six days before mid-term elections. There is a lot of excitement about November, since the expected Congressional outcome will likely result in more gridlock, which Wall Street prefers.
Additionally, the U.S. is in the midst of a renaissance of new R&D and manufacturing, since China has become a less reliable trading partner, as it had to dispatch tanks in the streets to squelch protesters not being able to withdraw their deposits. China’s threat to House Speaker Nancy Pelosi, when she visited Taiwan last week, could isolate China further after its military said that it will “not sit idly by” after Pelosi’s visit, adding that her visit would “lead to egregious political impact.”
Also complicating world trade is the fact that mighty Germany’s export machine has been neutered by Russia rationing natural gas, which is causing chaos as energy rationing throttles many European countries. The net result is a strong U.S. dollar and the fact that the U.S. is an oasis for investors.
Last Thursday, the Bank of England hiked key interest rates 0.5% to 1.75%, its biggest rate hike since 1995. The Bank of England also said that Britain faces a protracted recession in the worst squeeze in living standard in 60 years. They said that, due to a surge in natural gas prices, the BofE expects inflation to rise above 13% and remain at “very elevated levels” throughout 2023. Yikes! British foreign secretary, Liz Truss, the front runner to become next Prime Minister, said she wants to review the Bank’s inflation mandate. Britain’s electricity prices have risen over 1,000% since April of 2020 due to its dependence on expensive imported natural gas and a lack of wind generation, so British consumers are very upset.
The wildcard in Europe is that Ukraine would like a ceasefire in its conflict with Russian before winter. The recent agreement between Ukraine and Russia for grain and fertilizer exports to resume in the Black Sea is a good start. If and when there is a ceasefire, the stock market could explode 40% higher within a year in a massive relief rally. The bottom line is that the stock market has plenty of upside potential!
Interestingly, Apple announced last week that it is taking advantage of lower bond yields and selling $5.5 billion in bonds to fund stock buy-backs and dividends. This is a big deal, folks, since all chief financial officers (CFOs) are trained that if their company’s return on equity (ROE) is significantly higher than the rate they can earn on corporate bonds, they should take advantage of low bond yields to buy their stock back and further boost their underlying earnings per share. Sadly, this type of “financial engineering” annoys Senator Elizabeth Warren, who has called stock buy-backs “nothing but paper manipulation.”
Other Senators are now lined up to punish buy-backs. Senator Chuck Schumer has been recently critical of energy companies buying back their stock, while Senator Bernie Sanders wants to ban stock buy-backs entirely. I just want to assure everyone that there is no chance of banning stock buy-backs, since it is one of the first things taught in Finance 101 in virtually all business schools. However, in the spending bill that may pass Congress this weekend, a 1% tax on corporate stock buy-backs was added after carried interest for hedge fund managers was eliminated. This tax on stock buy-backs is a horrible policy and will likely force companies just to pay bigger dividends with the money that they allocate for stock buy-backs.
Navellier & Associates owns Amazon (AMZN), and a few accounts own Apple Computer (AAPL), in managed accounts. Louis Navellier and his family own Apple Computer (AAPL) in a personal account. He does not own Amazon (AMZN) personally.