Markets Rally Big in Q1! Can it Continue and with What Leadership?
April 10, 2023
By Mitchell Anthony
The first quarter of 2023 was volatile for both the economy and the financial markets. Expectations for economic growth and expectations for inflation mostly fell during the quarter but optimism for the soft landing ultimately prevailed. Inflation has been a tremendous burden on the US economy for the last two years and consumers are close to the end of their discretionary savings and they have been spending more and getting less for quite a while now. Consumers have yet to show frustration or walk away from the higher prices but it would seem that this sort of mentality is near. The financial markets mostly performed poorly in 2022 as inflation ran out of control and the Fed looked terribly behind in his job fighting inflation. Stocks, Bonds REITS, and Crypto all fell hard. However optimism has started to prevail in 2023 as many of the leading economic indicators showed clear signs of a significant slowdown that will curtail if not end the inflation cycle that we have endured. At this point it is unclear what lies ahead for economic growth but inflation seems set to re-anchor near the 3 to 3 ½% level by the end of 2023.Read more
First Major Banking Collapse Since 2009 – What Does it Mean?
March 11, 2023
By Mitchell Anthony
Silicon Valley Bank (SVB) collapsed yesterday as depositors withdrew cash! This is the first major banking collapse since the great financial crisis of 2008. While the crisis and details of this takeover are still unfolding the early visibility we have reveals that this failure is not part of a systemic problem within the US economy and we are unlikely to see other banks fail in a similar manner. The problems and circumstances that led to the default seem unique to this highly specialized regional bank that worked almost exclusively with the start-up tech industry in Silicon Valley. At first blush it would appear that the majority of major banks are sound and not subject to the unique circumstances that brought down this highly specialized bank. The problem that we have is the fact that banks are not required to disclose or mark to market their bond portfolios that are being held to maturity or they hope to hold to maturity. There could be significant unrealized losses on these portfolios. This crisis may force banks to reveal their bond portfolio status and it could certainly require them to start paying higher returns on cash deposits. Investors are obviously bracing for the worst and the stock prices for almost all banks plunged by as much as 20 to 30% over the last few days as the crisis unfolded. We believe the crisis and the plunge in bank stock prices likely represents a value opportunity. We have been underweight banks in our portfolio since the pandemic began for reasons such as this!Read more
Can Markets Move Higher with Inflation Finally Heading Lower?
By Mitchell Anthony
December 23, 2022
Financial markets have been extremely volatile throughout most of 2022 as high inflation shocked the economy and central banks around the world reacted with significantly higher interest rates. The inflation battle has taken significant time to even dent inflation and the path out of the crisis is still unclear. As a result stocks, bonds, and commodities have all been volatile as inflation and the cost of money is critical to the success of an economic cycle.
Inflation peaked in October and has begun to tilt lower but the path back to the feds target of 2% inflation is still very uncertain. Fixed-income securities have declined in value substantially throughout most of the year as the fed pushed rates higher although the decline has paused over the last few months. Equities have followed a similar path but a modest rally has begun several times that is now again struggling. Yields on treasuries have quadrupled this year reaching as high as 4.5% but falling back to 3.7% today.
The equity market has ebbed and flowed since the June bottom and three rebounds have occurred. While the first two failed, the third has been quite strong narrowing the S&P 500 loss to -18% YTD.Read more
Economy Stays Strong but Risk Assets Move Lower Again in Q3
By Mitchell Anthony
October 10, 2022
The US Economy has found a way to avoid recession despite a record rise in interest rates.
Consumption in the US economy has remained resilient despite a record rise in interest rates and the highest inflation in 40 years. This is somewhat unexplainable but likely tied to the fiscal stimulus that was poured into the US economy in a plentiful manner by the U.S. Congress as it worried about getting the economy back on its feet after Covid. Investors and strategists seemed almost certain that the US economy was headed for recession in the first half of 2022 as the FED began to raise rates aggressively, however after two quarters of negative GDP optimism for economy growth has sprung back to life and the 3rd quarter is expected to be positive with over 2.5% GDP. Actually the US economy was never seemingly in recession despite the negative growth. Unemployment has remained at near record lows and with it came a return to strong consumption. That’s the positive spin, however as we all know inflation is out of control and central bankers are in the position of busting it even if it means busting the values of all risk assets as well as consumption and employment. The Fed has been at work raising rates and investors have been doing it right along with the Fed. Mortgage rates have risen from 2.5 to over 7% currently (figure 1). Surprisingly housing has not busted and consumer spending has continued to grow. Strong Employment seems to be the backbone of the economic resilience. Consumers still have liquidity from Covid stimulus, though it seems to be waning based upon a notable increase in credit usage.
Here good news on economic growth is bad news for our inflation problem as inflation needs to cool rapidly to avoid significantly higher rates and the economic slowdown has not arrived as thought and is truly needed!Read more
Risk Assets Fall As Inflation Fails To Resolve Quickly!
By Mitchell Anthony
September 16, 2022
2022 has been a volatile year for financial assets. Stocks, bonds, and real estate have all slid in price considerably as inflation has remained high contray to the forecast of the Federal Reserve last year. Inflation is the primary driver of liquidity that flows into risk assets. During periods of low inflation and accommodative monetary policy liquidity drives risk assets higher. However when inflation becomes unfriendly that causes the Fed to move to remove liquidity from the system and risk assets perform poorly. This is what we are experiencing today.
The consumer price index or CPI rose to 9.1% this year and is still holding at 8.3% or more currently. Month over month data looks a bit better with only a modest increase in inflation over the last three months but overall the data is still awful. As a result interest rates have risen this year and have been volatile with treasury yields now close to 3.8% and mortgage rates over 6%. Almost all risk assets have seen volatility as optimism and pessimism has played out. The fear is about a terrible economic bust that seems unlikely but can’t be discounted entirely until inflation has been subdued.Read more
Rising Inflation Expectations Drive Investors Out Of Risk Assets!By Mitchell Anthony
July 8, 2022
While inflation has been running hot for over 1 ½ years, investors and the central bank have not believed that the inflation was entrenched and hence inflation expectations stayed relatively low until recently. Over the last 3 to 4 months that position has changed significantly and as a result investors hit the sell button in a dramatic manner last quarter. Risk assets of all types had double digit losses in Q2. Stocks, REITs, Treasuries, Corporate Bonds, Junk Bonds, and Commodities all swooned with the worst losses occurring in high PE stocks and real estate investment trusts. Both of these were down 25 to 30% in Q2. MACM’s dynamic growth portfolio lost over 16% despite a double digit cash position. Clearly we have a new hawkish position from the Fed that combined with investors armed with knowledge of how stocks and risk assets perform during periods of high inflation, combined to drive investors out of risk assets and into cash. Even ultrashort term bond funds lost money in Q2!
The Fed’s new resolve to kill inflation all but ensure that a recession will take place this year and maybe into 2023. The uncertainty of what a recession might do to the current themes of consumption in the globe has caused extreme volatility in risk assets. The US economy has been driven by four strong consumption themes for the last several years. These themes include: housing and related durable goods, the buildout of cloud computing infrastructure, consumers desire to convert to electric vehicles, and consumers pent up demand for experiences. The sustainability of these mostly secular growth themes has now been questioned by investors and will continue to be questioned until more visibility is available causing further volatility in risk markets.Read more
Inflation is Obstacle for Stocks and Bonds!
By Mitchell Anthony
June 15, 2022
Money managers, market strategists, and economists generally agree that financial markets are driven by three things. 1.) Expectations for inflation, 2.) Expectations for central bank policy, and 3.) Expectations for economic growth. And in that order! When all three of these economic criteria are friendly money tends to flow heavily toward risk assets (stocks, real estate, and bonds). When even one of these economic criteria becomes unfriendly, than money flow will change direction and move away from risk assets. The reason why these criteria drive financial assets is that when inflation is very low interest rates are also very low and investors are forced to embrace investment in risk assets by the simple fact that low-risk investments return nothing. Conversely when inflation is high interest rates are also high and investors are more likely to allocate their capital toward fixed income investments or short-term cash instruments with high return and little risk. Interest rates have always risen and fallen with inflationary expectations. Inflation has been down for the count for over 30 years and many of us have forgotten about how this relationship works. All we have known is that inflation has been anchored at 2% and this combined with very slow economic growth, and very accommodative monetary policy, has worked to keep interest rates near zero. This in turn caused financial assets to rise in value dramatically over the last 30 years as investors piled into risk assets.
Inflation is no longer anchored at 2% and is currently running at 6-9% depending upon the gauge. This high inflation has come from the pandemic induced Government stimulus that caused demand to be pulled forward and production of raw materials and durable goods to be reduced. Producers of raw materials and durable goods have taken advantage of the pandemic induced production cutbacks to raise prices considerably and keep them high by continuing to restrict and hold back production. There has been strong cohesiveness amongst producers and price wars have not developed to bring down prices and increase production as demand has returned to normal after the pandemic.Read more
Recession Uncertainties Drive Markets back to March Lows!
By Mitchell Anthony
April 29, 2022
Fears of recession have returned to investor’s minds over the last few weeks as inflation data has remained stubbornly high and the already heightened interest-rate environment has taken its toll on demand for housing and autos. The equity markets are now off 13% year to date as measured by the S&P 500 with NASDAQ and secular growth companies nearing a 20% correction or more. This is the same level that markets fell to just after the invasion by Russia into Ukraine and the subsequent problems with food and energy. That sell off ended after calm words from the central bank about the likelihood of a soft landing and their ability to control inflation without a deep recession. While this is still the perspective being offered by Chairman Powell investors can’t help but notice that inflation measures have not rolled over yet despite interest rates of 3% on treasuries and over 5% on mortgages. Chairman Powell is set to speak again next week. Calming words will be well received by the markets.
Are the markets set to break to new lows?
While this is possible it still seems that we will not get a substantial correction from what we have already seen. There is simply nowhere for money to go that leaves the stock market. It will move to cash temporarily as we have done with almost 15% of our portfolio over the last month but those yields are not high enough to keep money there of any size or substance. This has been the case for a very long period of time and Stock investors have enjoyed a very long period of stability in prices and steady growth since the 2009 recession. Interest rates have been near zero for a decade making fixed income a trap for defensive investors. There was volatility in stocks and bonds when interest rates threatened to rise to compete with money in stocks and real estate. However the return on bonds never got high enough to be a real competitor for stock market money. This volatility and associated rise in rates occurred in 2018 after substantial increases in rates by the Fed. It is occurring again now as investors worry about inflation and the 2.7% rates achievable in US treasuries today. Markets will move back to highs as they did previously once inflation is re-anchored and treasury rates return to 1-2% levels associated with the type of consumption that is expected in America.
Recession and/or economic slowdown will be mild
If we get a recession it will be mild but the length is hard to forecast. The US economy has a great foundation with a sound banking system and just-in-time capacity. Unemployment is very low and money is still cheap. There is very little excess capacity in the economy and no visible rot of any sort that would bring the economy to its knees. Markets today are merely discounting the possibility of much higher fixed income rates if inflation fails to subside and the attractions of bonds if rates were to rise from 3% to over 5% on treasuries. The current inflation environment could well drive that rise in rates which is highly unlikely but would be devastating for the equity market. 5% treasury rates would be strong competition for stock market money. This however is not likely as consumer demand is already waning with the current level of rates and inflation seems destined to subside and re-anchor at much lower levels.
The size of the equity market correction we could get now seems to hinge on investor’s expectations for the size and length of the economic slowdown that’s on the horizon. If the slowdown is perceived to be shallow and short no further downside is likely of any magnitude for stocks. If the recession is perceived to be shallow but long, prices may have to fall a bit further to the downside but likely are still close to their lows. If the recession starts to look like it will be deep and long it’s reasonable for another 10 to 20% decline in stock prices to occur.
As stated above growth equities are now testing their March Lows and now we note a break in defensive equity areas such as consumer staples, healthcare, and utilities which are all suddenly off 5 to 10% in just over a week. This is generally a sign of the end of a correction.
Inflation seems set to subside
As inflation continued to push higher over the last few months treasury rates rose from 1 ½% to just under 3%. However this rise in rates has stabilized as visibility of a pause in demand has become somewhat evident. Demand seems poised to fall as softness in housing and autos is beginning to materialize as 5% mortgages and auto loans take their toll on consumption. Inflation has not subsided yet but it appears to be on the immediate horizon. Food and energy prices are still high but have stabilized and demand for services is clearly on the rise both contributing to the high level of prices. Raw materials are still capacity constrained but prices have been stable for several months now. Oil has declined from $130 a barrel to $100 a barrel. This will show up in gas prices soon. However, headline
inflation prints may remain high as food and energy prices remain well above prior
year levels.
Recession seems almost undoubtedly to be on the horizon. This is defined by two consecutive quarters of negative growth in GDP. First quarters GDP was -1.5% and while the second quarter is forecast to be positive that could well slip negative as consumption continues to wane despite record low levels of unemployment and trends in retail sales to all time high levels. The depth and length of this recession is clearly up for debate. How much overcapacity needs to be trimmed from corporate America as consumption eases? Mortgage originators are already announcing some layoffs but employment in the sector was never even close to record levels and hence layoffs will likely be mild to moderate in size. There is lots of uncertainty about what other industries in corporate America are fat with overcapacity. After careful analysis is difficult to find the fat if it exists? E-commerce giants like Amazon added more capacity recently than was needed for the near term but will likely stick with this capacity and avoid any layoffs and the associated costs of bringing those people back after a brief pause in demand. The auto and housing industries would typically be areas you would look to for rot and overcapacity however both of these areas have struggled to get capacity even close to existing demand let alone have excess capacity. It would seem that capacity will finally meet demand in those areas and inflation will subside or turn into outright deflation over the next year.
Economic and Market Outlook
Equities appear to have already priced in a long but mild recession that re-anchors inflation back under 3% within 1 year. Inflation is peaking now and will likely rollover as recession and the related decline in demand unfolds this quarter. Equities are positioned for a substantial rally as softer inflation data and consumption data arrive. Equity markets may tilt a bit lower as consumer demand ebbs and flows over next month but will ultimately turn higher.
Fixed income areas of the market are still not high enough in yield to draw money out of equities. This could change soon if rates have another jump higher but it is still not the case. Fixed income has performed poorly as rates rose and are still not an option for defensive investors, particularly if rates rise further.
As inflation subsides, the Fed will nurture the economy forward and help it avoid deep recession as inflation ebbs lower and his hands free up for policy action.
Stocks are still the most attractive asset class!
We remain optimistic but ready to adapt and change if needed!
Fed Handcuffed after 30 Years of Freewheeling Use of Printing Press
April 12, 2022
By Mitchell Anthony.
The Most Significant Economic Event of the Quarter was not the War
While most of us thought the most significant economic event thus far in 2022 was the impact of the war in Ukraine on consumer confidence. However inflation really remains the most significant economic problem in the world today and its impact that it has on central bank’s ability to monetize our way out of economic problems. The war has only aggravated this problem with food and energy prices still rising.
The Federal Reserve has had freewheeling use of its printing press for over 30 years enabled by inflationary expectations that were anchored at 2 to 2 ½%. Every single recession encountered since 1990 was easily resolved with the Fed’s ability to pour new credit into the markets and monetize our way out of virtually every economic problem we encountered over the last 30 years. With the dollar being the reserve currency of the world combined with ultra low inflationary expectations the Fed acted without hesitation to print money and run its press as often as needed. Unfortunately America has encountered what appears to be a very difficult inflationary environment that may take several years to resolve with tight monetary policy. This is contrary to the belief that was embraced by central bankers around the world in 2021 as the economy emerged from the pandemic lows. Capacity was largely the driver of inflation in the beginning as producers shut down during the pandemic and were very slow to return their factories and facilities to full-scale. At the same time demand ramped up considerably for durable goods and housing as consumer spent a tremendous amount of time at home instead of traveling. Read more
Will The War End this Economic and Market Cycle Suddenly ? 15% Equity Market Correction Takes A Bite Out of Investor Wealth and Confidence!
March 9, 2022
By Mitchell Anthony
WILL THE WAR END THE ASSET BUBBLE, ENTRENCHED INFLATION, AND THE RECKLESS CONSUMER?
This economic cycle has been wrought with problems. At the top of the list are consumption and consumer confidence issues which have been dealt with through easy monetary policy and fiscal stimulus. However the solutions had collateral damage and we now have entrenched inflation, a consumer that spends with unbridled optimism, and asset bubbles in real estate and financial assets. Now to add insult to injury we have a wild man at the helm of a nuclear enabled superpower that is acting reckless and has declared war on the Ukraine. Historically war has destroyed consumer confidence and pushed the economy into recession quickly. However this war is like none other and the world has to fight Mr. Putin with economic warfare rather than military warfare. This has only exacerbated our problem with inflation because it has been rooted in capacity problems for raw materials of all types and now we add to it things produced by Russia and the Ukraine like oil, natural gas, and some agriculture like wheat. This war will undoubtedly effect consumer confidence along with the higher price of gasoline and soften the demand side of inflation. However the US consumer is not entirely rational and the central bank and Congress left the punch bowl out far too long and the US consumer is addicted to free money and has bankrolled much of it for continued use and spends recklessly as a result. Hopefully a more sober price conscious consumer will emerge?Read more
