@theMarket: Macro-Economic Data Indicate a Soft Landing
The economy grew faster than most expected in the fourth quarter. Unemployment continues to remain tame and corporate earnings, while not stellar, have been good enough to support financial markets this week.
Good news on the economy has been bad news for the stock market at least since the Fed has been tightening interest rates. The reasoning has been that stronger growth and employment would feed the inflation rate forcing even further tightening by the U.S. central bank and ultimately choking off the economy.
Now that inflation appears to be coming down, a bullish case is building that says we might get away with just a mild (as opposed to a full-fledged) recession. If so, corporate earnings would slow, but not fall off a cliff. Unemployment would rise, but not decidedly so, and a quarter or two of flat to slightly down GDP growth could suffice to continue pushing inflation lower. I call that the Goldilocks Scenario.
This week's macro data appeared to support that theory. U.S. fourth-quarter Gross Domestic Product for 2022 came in higher than expected at 2.9 percent versus an estimate of 2.6 percent. But that was down from the third quarter's 3.2 percent gain. Unemployment claims for the last week of 2022 fell by 19,000 to a seasonally adjusted 204,000. However, the number of temporary jobs, which usually leads to the overall unemployment rate is starting to decline.
The Fed's favorite inflation gauge, the Personal Consumption Expenditures Price Index, (PCE) came in a bit cooler in December. And corporate earnings, while not great, are still good enough for most stocks to maintain price support.
Most readers know that the quarterly earnings reports are a dance where the Street reduces earnings estimates low enough that most companies can "beat" estimates. Future guidance is therefore the focal point for investors. Coming into this week, traders were positioned for a "worst-case" scenario for most earnings announcements.
Microsoft is one of the most important stocks in the equity universe. It announced so-so earnings, but the stock leaped higher by 6 percent after the announcement because it could have been much worse. In the discussion after the announced results, however, management guided investors to expect fewer sales and profits in the quarters to come. The company's stock swooned in the after-hours. It dropped even further the next day and took the entire market down with it.
Traders decided at some point during the next day that the bad news was fully discounted and preceded to bid the stock back up to close even on the day. The same exercise occurred several times throughout the week on many stocks that announced earnings. On a macro level, the same thing happened on Thursday after the positive GDP quarterly data was announced. The markets spiked higher, but then gave it all back as the "good news is bad news" crowd reasserted themselves. In short, investors are grabbling to find a happy medium between the strength in the economy, the Fed's intentions toward future tightening, and the proper level for the markets given these unknowns.
It had been my view that the stock market could retest or even break last year's lows as early as February. I had predicted this unraveling as far back as early November of last year. It has now become the consensus view, which has made me increasingly uncomfortable.
If the bearish view were to come true, equities, as well as commodities and precious metals around the world would decline, interest rates would spike higher, and the U.S. dollar would skyrocket. I believe that would be a fantastic generational opportunity to buy the dip. Materials, gold, and silver as well as miners, would be high on my list of areas to accumulate. China and emerging markets would also be up there.
If, on the other hand, my prediction fails to materialize, and the market continues to grind higher, we could ultimately see 4,370 on the S&P 500 Index, which is another 300 points higher from here, before all is said and done.
In the end, it all comes down to what the Fed will decide to do in its February FOMC meeting next week. The problem is that the higher the markets climb, the more dovish the Fed would have to be to support the market.
A continuation of their hawkish stance will disappoint the markets while sending the U.S. dollar and interest rates higher. If they moderate their message and hint at a possible pause to assess the results of past tightening, markets will continue higher. I wish I had a crystal ball, but I don't. However, either way, in the longer term, it seems that we end up in the same place, which is higher going into the second half of the year.
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The Retired Investor: Back to the gym
As the New Year gets underway, the fitness industry is breathing a sigh of relief. It has been a rough three years for those who provide the means to a healthy body for millions of Americans, but times are changing for the better.
During the pandemic, one in four health and fitness facilities across the nation closed permanently. Americans, who were forced to hunker down at home either gave up their fitness routine overall or made do as best they could with a few dumbbells and maybe, if they could afford it, online membership to one of the many internet fitness sites such as Peloton.
Most readers are not aware that gyms and fitness studios were among the hardest-hit businesses during that period. First, it was the lockdowns, followed by limits on the number of people allowed to attend classes, or even to work out at the gym. Strict rules on wiping down equipment, wearing masks, and maintaining distances between members discouraged even the most die-hard members after a time.
While other services such as restaurants, bars, and other live venues were supported with federal aid, health clubs were left to survive on their own. The National Health & Fitness Alliance, an industry group, found that 25 percent of U.S. health clubs and studios closed permanently due to the pandemic. My gym, a nationwide franchise, was among the victims.
Personally, my wife, Barbara, and I are confirmed gym rats and have been for decades, so COVID-19 decimated our routines. Fortunately, we were early members of Peloton, so we already had the bike for several years before the pandemic. These online classes had already been included in our daily routine at home.
In addition, we own a rower, and a comprehensive set of weights, which we used when not at the gym. Thanks to that backup equipment, we managed to maintain our physical routines during this period. Of course, our living room suddenly became a mini gym, but our workouts were just too important to sacrifice. In addition, we supplanted our indoor activities with an increased level of outdoor hiking, lake swimming, kayaking, and aquacise.
However, we recognize that both of us are highly motivated individuals, and somewhat competitive. All I need to see is my wife huffing and puffing during one of her internet classes for me to jump on the rower, or go for a run shortly thereafter — but that's us. I recognize that not everyone is as motivated (obsessed) with physical fitness as we are.
For many, the health club functions as a community where social interaction and group motivation is as important as exercise for many members. To their credit, the industry fought back as membership plummeted, and did what it could to survive. They diversified their offerings to maintain and attract members.
Outdoor classes in parking lots, public parks, and beaches, even winter greenhouses, sprang up across the U.S. On the weekend, for example, one enterprising local gym set up shop in a lakeside parking lot. Berkshire Money Management, whose owner Allen Harris, is another dedicated gym rat, offered his company grounds as an outdoor venue for both yoga and workout enthusiasts.
By necessity, class sizes were reduced, and workout areas enlarged, while many gyms pivoted to online training sessions. Personal training has also come back into fashion. All these innovations seem to be working. Many facilities plan to continue and enlarge these services into a hybrid form of exercise that encompasses both the home and the fitness facility.
It is not as if the business is booming at health clubs quite yet. Foot traffic is still down 3 percent compared to the beginning of 2019, but up 40 percent compared to 2021, according to Placer.ai, which tracks foot traffic in the retail gym space. And don't forget we are in the optimal time of the year for new memberships at health clubs. The New Year resolutions crowd is joining gyms once again. If history is any guide, half of these new members will fall by the wayside within three months.
However, one unintended positive consequence of the pandemic for the industry is that it did drive home to most Americans the importance of a healthy body. The impact of COVID and its various mutations has proven to be far more serious for those individuals who are unhealthy, obese, and with chronic illnesses. That may change the equation in the psyche of many. In short, in a post-pandemic world, a healthy body could be the difference between life and death for many Americans.
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The Retired Investor: The Billionaire Lottery
On the surface, you would think that inflation has hit the lottery. Billionaire-dollar jackpots were infrequent until recently. But lately, the total winnings in the Mega Millions lottery have hit close to or over that magical mark several times. Is it inflation, or something else that has moved these jackpots to a whole new level?
There was a time when winning a million dollars in one of the nation's weekly lotteries was a big deal. Today, million-dollar winnings are no more than consolation prizes for those who picked a couple of winning numbers, but not the whole enchilada. As of today, there have been only a few times that the U.S. lottery has surpassed $1 billion. I don't know about you, but I have played and lost every one of them.
For those who don't know, the lottery is played in 45 states. It is also available in the District of Columbia and the U.S. Virgin Islands. A breakdown of the proceeds of your $2 ticket is interesting. Seventy-five cents funds the jackpot, approximately 35 cents go to non-jackpot prizes and the rest (90 cents) goes to the government. It is much more than that, since winners are required to pay taxes on their gains.
As a rule of thumb, the after-tax lump sum of winning a $1 billion prize is somewhere north of $600 million, since the federal tax rate is about 40 percent. Oh, and don't forget the IRS withholds an extra 25 to 28 percent because the winnings came from gambling. Of course, there are also state taxes to worry about as well, unless you live in a state that doesn't charge a tax on your winnings. Add all of this up and the government's share of your ticket can easily top $1.30.
We all know that the chance of winning the lottery is low, like 300 million to one low. Statistically speaking, that's close to zero. But it is worse than you think. If you do win, there is a 50 percent chance that you will have to share the jackpot with at least one other winner who chose the same numbers. Back in 2016, there was a $1.6 billion Powerball jackpot that had to be split three ways.
But winning anything from the nation's lotteries has become harder and harder overall. Mega Millions and Powerball organizers have been gradually reducing the odds of winning for decades. The largest change was back in 2015 when the lottery added more number combinations, which nearly halved the odds of winning.
Before the change, the odds of winning Powerball, for example, were around 175 million to one. Today, those odds stand at 292.2 million to one. Mega Millions waited until 2017 before adding more number combinations to their game, while also increasing ticket prices. The results are the same. You are now paying more for a product that has reduced your chance of winning.
Nonetheless, we keep playing and losing. Another way organizers are luring more ticket sales from us is to direct more of their revenues toward winning the jackpot, and less on smaller prizes, which are easier to win. Many players do not realize that the advertised jackpot size is based on the amount a winner receives if they chose to be paid out in an annuity over 30 years.
This is where today's higher interest rates inflate the prize. The higher the interest rates are during a drawing will translate into a higher total payout from the life of the annuity fund. The lump-sum option, on the other hand, is directly fueled by ticket sales. In November 2022, when one Powerball jackpot stood at $1.2 billion, the lump sum option was worth less than $600 million.
Is it any wonder, given the reduced probabilities of winning, that there are fewer jackpot winners? That is just fine with the organizers because the jackpots just get bigger and bigger as they are rolled over. That in turn attracts more and more ticket sales, which means you are playing against a bigger and bigger crowd. That in turn reduces the odds of winning even lower, and so goes the vicious circle.
Most people are aware that the odds are stacked against them, so why do we play? Assuming you are not addicted to gambling, I am guessing that like me there is always the hope that for $2 all my wishes will come true. Purchasing a ticket, I usually have at least two days' worth of daydreaming about what I would do with all that money before the next drawing. Come to think about it, that's a cheap dopamine high for my two bucks.
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The Retired Investor: Beware Political Pollsters
The pollsters were wrong in 2016, 2020, and now 2022. The recent "Red Wave" of GOP wins, so confidently predicted in the final days of the mid-term elections, failed to be no more than a red ripple. Is this a question of "three times you're out?"
Heading into November 2022, Republicans were shown to have a clear edge in battleground states, as well as throughout the nation generally, according to the average of most polls. A minority of polls, mostly those of traditional pollsters, seem to dispute those results but were drowned out by the red wave forecasters.
Some argue that the traditional pollsters got it right, especially in the final weeks of the mid-term elections. Those surveys indicated that the Democrats were running neck and neck with Republicans, even in those races where opinion seemed to favor Republicans hands down. What happened to skewing the averages the other way?
One misconception is that polls are meant to predict the future. The value of polls is to explain the how and why of voters and their feelings, attitudes, and behaviors. It is a snapshot of time and not a prediction of future outcomes. Anyone can conduct a poll, you see, regardless of experience, political agenda, and in some cases, even honesty.
But beyond the right questions to ask, interpreting those answers, and extrapolating that data to form generalities with a high level of confidence is just as important. Strong poll results for a candidate or political party, or even a company, can bring several advantages. Companies, for example, that consumers consider a number one brand or a great place to work, or to have a social conscience can increase sales, profits, morale, and even the caliber of new hires. The fact that traditional polling organizations do not claim to predict the future is largely ignored.
In the political arena, strong poll numbers can mean more contributions in campaign financing, a boost to morale for volunteers, a shot in the arm for the political party overall, and in the final days and weeks of an election greater turnout at the polls. The Republican Party figured this out early on.
During Donald Trump's upset election in 2016, few pollsters got it right. Four years later, it happened again, only this time the opposite occurred, and Democrats took control. By November of last year, the polling industry was a free-for-all with partisan-aligned pollsters springing up virtually overnight to try their hand at polling.
After all, if the traditional pollsters couldn't get it right, maybe new blood with a new outlook might do better. Polling organizations, many backed by political PACs, with a great deal of enthusiasm, but little experience jumped into the fray. Even some high school students tried their hand at polling and found their results were taken as seriously as any others.
As I mentioned, traditional nonpartisan pollsters did a pretty good job of reflecting reality during the run-up to the November 2022 elections, but at the same time, they conducted far fewer polls than in the past. This left open a vacuum that fledgling newcomers in the polling business were happy to fill. And that is where the "average" poll comes in.
In this day of internet streaming, social media, and partisan news shows, political polling results can be a big business. The news media, always in pursuit of higher clicks and ratings, were eager to promote and broadcast these new poll results (even high school results), especially in key battleground states. Few questioned the ability of these pollsters to conduct surveys, or their skill and experience in what questions to ask, what groups to target, and how to analyze the outcomes of their results. Those that should but didn't pay attention to this deliberate flooding of polls were the aggregators. These are organizations that average several polls conducted by different organizations and come up with a leading candidate overall.
As more and more polls were generated, many by partisan groups showed Republicans widening their leads, the "average" poll results leaned more and more into the red column.
This had profound effects on campaign strategies for both parties. Despite internal polls conducted by veteran polling organizations that continued to call the election a toss-up, both parties began to doubt those findings in the face of the average poll results. They too began to operate as if a red wave was coming.
Some candidates that were in little danger of losing their seats found that political action committees and other organizations funneled more money than necessary into campaigns where candidates were leading. In comparison, these candidates who were fighting for their political lives, but were assumed to win in a red wave, were ignored.
The bottom line is that a "three times you're out" attitude toward political polling results may be a bit extreme. However, if partisan polls, no matter what the subject matter, continues to gain traction and the media accept those results carte blanche, the value of polls overall will surely continue to diminish.
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@theMarket: Markets Are Stuck in Chop City
Welcome to a new year of financial markets. But while the dates have changed, stocks continue to disappoint.
The S&P 500 Index has been caught in a range with the mid-point around the 3,800 level. Next week, we could see a minor break higher to the 3,920 level, but it probably won't last. That is because Wall Street experts are as confused as the rest of us. Forecasts for 2023 are all over the place with some strategists predicting an up year while others believe the declines of last year will continue.
The confusion stems from a variety of unknowns including the path of inflation, interest rates, and the economy overall. Currently, the markets are focused on the labor market, specifically job and wage growth. That is understandable given the Fed is also focusing on this area as a 'tell' on whether their tight money policy is working.
However, both wages and jobs data thus far seem unaffected by higher interest rates and the Fed's attempt to slow the economy. That may change soon since we are seeing more and more companies announce layoffs and other cost-cutting actions. Goldman Sachs, Salesforce, and Amazon, for example, announced layoffs this week.
This week's non-farm payroll report illustrates the confusion. The number of job gains in December surpassed expectations (223,000 jobs versus 200,000 expected) but the average hourly wage growth fell slightly (from 0.3 percent compared to 0.4 percent expected). The headline unemployment rate, which politicians tend to focus on, declined from 3.7 percent to 3.5 percent.
This is the second month in a row where wage gains fell while employment gained. This is the best of all worlds for the Fed's battle with inflation. If jobs continue to grow, but wage gains, which are a big component of future inflation, continue to decline that may give some hope to traders the Fed may not need to tighten as much this year.
The macroeconomic data continues to give conflicting signals on economic growth as well. Some sectors appear to be slowing, while others are continuing to grow at a reasonable pace. Most economists believe we will be entering a recession in the first half of the year but how deep and long is subject to endless debate.
Other smart people I follow believe we will see a series of rolling recessions among various sectors as the year progresses as opposed to a traditional decline in sectors throughout the economy. If so, any recession will likely be moderate as some areas continue to do well while others sink.
Over on the inflation front, the data appears to be indicating further price declines, but how much and how soon is unknown. While everyone has an opinion, no one knows for sure. In essence, both investors and the Fed are in a wait-and-see environment on how monetary policy will impact the economy in 2023. All this conflicting data has created what is called a "chop city" in the stock market where markets gain and lose from data point to data point sometimes on the same day or even hour.
Speaking of the market, the other area that will surely impact stock prices will be fourth-quarter corporate earnings, which are just around the corner (Friday, Jan. 13). Most analysts believe that earnings estimates, and future guidance will be disappointing. If so, it will trigger further sell-offs in stocks.
In the past, I have written that until the "generals" start to fall, stocks have a long way to go before this decline will be over. The good news is that has begun to happen. The bad news is that these top 5-6 stocks are destroying investors' portfolios and the market with it. The FANG stocks, which had represented 24 percent of the major indexes, are seeing major declines but still represent 19 percent of the overall market. Names such as Tesla, Apple, Google, Microsoft, and Amazon are seeing unrelenting selling, followed by short-lived bounces that indicate to me substantial liquidation from both retail and institutional investors. For the markets to finally bottom these stocks must catch up or even exceed the losses sustained by many other growth stocks.
As readers are aware, my forecast over the last month was that the S&P 500 index would trade between 3,700-3,800 through December and into January. That has come to pass. This week's bullish sentiment reading of the AAII Sentiment Survey ranks among the 60 lowest in the survey's history. Bearish sentiment continues to build, which is no surprise given how negative many financial players feel about the markets. Still, as a contrarian indicator, that likely indicates we are due for a bounce soon.
I can see the markets rally into mid-next week if the dollar remains weaker, and interest rates remain stable. At that point, Thursday, Jan.12, the Consumer Price Index for December will be the focal point, followed by bank earnings on Friday. Those events could either goose markets higher or tear them down again.
Longer-term, I believe that we will see lower lows in February through March 2023 that could take the S&P 500 Index down to 3,200 or lower. Disappointing corporate earnings, a Fed that is unmoved by improving inflation rates, higher interest rates, and a stronger dollar will be the triggers for this. That's the bad news.
Sometime in March, however, I think the markets will bottom. We could see a substantial rally into the spring, and maybe even into the summer. I will flesh out that forecast as we go along so stay tuned.
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