Signs of recession, sacrifice ratio, when the worm usually spins, 3 trading baskets

The fiscal stimulus enabled by monetary accommodation has produced an artificial ecosystem in an attempt to create a broad “wealth effect” and prevent the public, our public, from feeling any short-term economic pain as the nation /planet went from one shock to another. then over a period of more than ten years.

I think we can all agree on that.

However, warnings that an economy could be permanently or semi-permanently trapped in the political trappings of “easy money” have been mostly flouted, as some economists have predicted that weaning the patient from addiction will lead to the inflation, would force market disruptions and plunge the economy into a state of contraction.

Here we are, all these years later, regardless of blame (because there’s enough to share), with inflation at historic highs, despite deflationary advances in technology, with financial markets 20% to 35% below their peaks and many parts of these markets down even twice as much. Here we are with a US economy growing 0.0% in Q2 (according to the Atlanta Fed’s GDPNow model) on top of a first quarter that saw that national economy shrink 1.5% (according to the Bureau of Economic Analysis).

Knowing full well that we can’t really whistle in front of the cemetery, what should the good citizens of our community do?

Let’s explore.

Last week

Although US equity markets managed to post minor gains last Friday, it has been a tough week. While the FOMC made a needed 75 basis point hike to the federal funds rate target range (to 1.5% – 1.75%) and promised another 50 to 75 basis point hike on the 29 July, the markets were forced to set a more committed price, a more hawkish central bank. This morning, the futures markets traded in Chicago are counting on a 96% probability of a 75 basis point increase carried out at the end of July.

The S&P 500 fell 5.79% last week and is down 22.9% this year. The Nasdaq Composite fell 4.78% last week, is down just under 31% in 2022 and closed 33.4% from its November peak. The Russell 2000 took a deep thrashing of 7.48% last week, to end Friday -25.81% year-to-date. In a seven-day period ending last week, the S&P 500 had five days when at least 90% of constituent member stocks fell. There is exactly no such case in the history of the stock market.

Last week, the only bright spot in the markets was finally burned at the stake.

As fears of a long-lasting global recession took hold, energy commodities such as crude oil and natural gas sold off strongly, and the energy sector SPDR ETF (XLE), although still up 33.68% for 2022, has yielded a whopping 17.16% in just five years. days. Heck, there were bills to pay, margins to meet… and profits to take all in one place and one place. Although energy led directionally, all 11 sector SPDR ETFs shaded deep red for the week, with Consumer Staples (XLP) performing best, which you might expect. What you probably didn’t expect is that the top performer would still be set at 4.3% down.

I do not know

How am I supposed to know

Hidden meanings that will never show

Fools and prophets of the past

Life is a stage and we’re all in the cast

Nobody ever told me. I discovered by myself

You must believe in foolish miracles

It’s not how you play the game, it’s whether you win or lose

You can choose

Do not confuse

win or lose

It’s yours

– O. Osbourne, R. Rhoads, R. Daisley (Ozzy Osbourne), 1980

Signs, Signs – Wherever There Are Signs (Five Man Electrical Band, 1971)

Goldman Sachs (GS) says a mild recession is priced in. JP Morgan (JPM) says too much recession is priced in. Nomura came out this weekend and said the US will fall into a mild recession in 2022. conditions will continue to tighten, acknowledged that consumer sentiment is already at an all-time low and supply disruptions US energy and food prices have worsened as the global outlook has deteriorated. On that note, Treasury Secretary Janet Yellen, also speaking over the weekend, warned that “unacceptably high” prices are likely to be with us through the current year as the U.S. economy slows down. (How do you slow the contraction, where we are now?) Fortunately, as she will readily admit, predicting inflation is not a strength for the Treasury Secretary.

While we’re at it, a survey of economists by the the wall street journal shows that 44% have the US economy in a state of recession within 12 months, compared to 28% in April and 18% in January. As a group, these economists cite higher borrowing costs, lingering supply chain problems, massive wealth destruction that will slow household spending, and doubt the FOMC can curb inflation without increasing unemployment. among the many negative forces leading to an expected reduction in economic activity. .

For his part, President Biden said he doesn’t see a recession as inevitable, after speaking to former Treasury Secretary Larry Summers on Sunday (not exactly who I think I’m going to go to for economic advice). Summers sees the need for the US unemployment rate to reach 6% and stay there for five years (or 7.5% unemployment for two years, or 10% unemployment for one year…that’s good ) in order to contain inflation. In other words, Summers sees a need for more than 10 million of you or us to lose our jobs from current levels in order to control inflation at the consumer level and not get them back for a period. prolonged. Well, he’s right about one thing. This would curb inflation. And eat.

You may have heard of the Phillips curve, which, with varying degrees of success, attempts to relate the correlation between unemployment (wage growth) and inflation. Now, get used to hearing about the “sacrifice ratio” which attempts to measure the effect of rising and falling inflation against the total output of an ecosystem. In other words, simplified… Using the sacrifice ratio as a tool would involve tinkering with aggregate output in order to adjust for inflation at the level of consumption.

Prepare to be “sacrificed” my friends. Summers also called for an end to forward guidance on monetary policy.

front and center

The fact is, the S&P 500 is now trading at 15.4 times forward earnings. The financial markets have never run away. The start of a new bull market or the turn of the worm has always coincided with the Fed becoming dovish on monetary policy (at least since I’ve been around, and I’m not that young).

In recent years, this spot where the Fed responds favorably to the stock markets by shouting “Uncle” has multiplied by 13.5. This is where the Fed’s “put” was. Of course inflation is what the Fed is trying to control and we haven’t had this kind of inflation since I was less than 5 minutes away. Take a while. 13.5 times may be generous this time around, but even if that’s where the bet is, we’re talking about 14% more than the S&P 500 (3160-ish) and that’s if the estimates profits stay where they are.

The Fed also appears to come to the market’s aid when the S&P 500 free cash flow yield hits 6%. Currently, this yield is still below 5%. Again, not so close to artificial help intended to have a positive impact on price discovery.

That’s a lot of negativity I just piled on you. Now for what I think might work.

The S&P 500 fell 5.8% over one month and 17.7% over three. The Invesco 1-30 Laddered US Treasury ETF (PLW) is down 3.7% in one month and 10.3% in three. The suggestion? As bad as bonds are, pension funds with mandatory monthly or quarterly rebalances could still be forced to shift capital into equities towards the end of June. Additionally, the Fed will release the results of its annual bank stress tests (tentatively) this Thursday. It has always been a business opportunity through this space, because often banks are then able to free up more capital in the form of shareholder returns. Banks may want to maintain a higher level of reserves at this time, but this is a potential near-term upside catalyst.

For these reasons, and because the markets are approaching the limit of being technically oversold this week, I suggest breaking up portfolios into baskets. I find the separation of portfolios by mission statement somewhat takes the stress out of this job for those who might ask why.

Basket Suggestions

Trade the end of the month

(High Beta Revenue Wholesalers): My cart includes Apple (AAPL), Advanced Micro Devices (AMD), Marvel Technology (MRVL), Nvidia (NVDA), Microsoft (MSFT), APA Corp. (APA), Lam Research (LRCX) and others.

Negotiate stress tests

(Banks set up for a positive catalyst): My basket includes Bank of America (BAC) and Wells Fargo (WFC).

Investing in a H2 2022 recession

(Low Beta Dividend Payers): My basket includes Colgate-Palmolive (CL), PepsiCo (PEP), Procter & Gamble (PG), General Dynamics (GD), Lockheed Martin (LMT), Raytheon Technologies (RTX), and Northrop Grumman. (NOC), CVS Health (CVS), Southern Company (SO).

Note to readers: These baskets are not complete and are still in progress. The idea is to let you into my head a bit. This is how I set up both the short term and, loosely, the medium term. This is not advice at all. I often change my mind. Sometimes I’m even wrong. That said, Rock & Roll.

Economy (all Eastern times)

10:00 a.m. – Existing Home Sales (February): Waiting for 5.4M, last 5.61M SAAR.

The Fed (all Eastern times)

11:00 a.m. – Speaker: richmond Close. fed. Tom Barkin.

3:30 p.m. – Speaker: richmond Close. fed. Tom Barkin.

Highlights of Today’s Earnings (PSE Consensus Expectations)

Before the Open: (LEN) (3.97)

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Sallie R. Loera