We have endured some rather unattractive volatility over the past several months. It's like investors can't make up their minds whether to be bullish or bearish, states Steve Reitmeister of Reitmeister Total Return.
This stems from the many calls for a recession that led to a drop in stock prices. Yet, when it did not really come to pass when the market runs higher once again. Kind of like the action the past week with no further bank failures in the headlines.
This week is chock full of key economic reports and there are already some interesting cracks in the economic foundation that warrant discussion. What that means for the market outlook will be the focus of today's Reitmeister Total Return commentary.
Market Commentary
We all appreciate that a combination of high inflation and the hawkish Fed is typically a recipe for recession and a bear market. This explains why investors wasted no time hitting the sell button as early as January 2022 leading to an official bear market call in June with lows of 3,491 made in October.
Yet, here we are six months later with the same possibility of recession...but no proof in hand. This has led many investors to think of the recession calls not unlike “The Boy Who Cried Wolf”. This explains why stocks are 17% above the lows.
Helping to bolster this view of no real recession on the way was the surprising strength of Q1 GDP. Just a few weeks back the famed GDPNow model from the Atlanta Fed was pointing to +3.2% results this past quarter. Then came a host of subpar economic reports cutting it down to 1.7% in a hurry.
Most notable of these announcements slashing the GDP forecast was ISM Manufacturing coming in Monday at a post-Covid low of 46.3. There was no light in this tunnel as every sub-metric was pointing in the wrong direction:
44.3 New Orders vs. 47 last month vs. 49 forecast
46.9 Employment vs. 49.1 last month vs. 50 forecast
Why Were These Results so Much Worse Than Expectations?
This likely harkens back to what the Fed spoke about at their last meeting. Concerns over the banking industry were like another rate hike by itself. Both from the standpoint that it would lead to tighter credit, but also from the fact that it would increase doubt about the economic outlook which would dampen demand.
Now let’s follow that interesting thread about the depressed reading for the ISM Manufacturing Employment component, which is now at the lowest post-Covid level, 46.9. Many of us have pondered, including the Fed, what it will take for employment to finally weaken because that is likely the key nail in the high inflation coffin.
So this weak reading is a curious start to wondering if employment is finally ready to rollover. And just the very next day we get another clue that this trend may finally be afoot. That is the precipitous 632,000 drop in job openings from the monthly JOLTs report which makes it the lowest level since May 2021.
Think about it this way…
Step One before laying people off is to stop hiring new employees. This lowering of job openings may be the lynchpin for Step Two being much larger layoffs around the corner that would lead to a rise in unemployment.
Let’s remember the vicious cycle that takes place once job loss is in the economic mix:
Job Loss > Lower Income > Lower Spending > Lower Corporate Profits > Rinse and Repeat
The “Rinse and Repeat” aspect is an acknowledgment that most often the solution to lower corporate profits is to lay off more employees. And that is how a crack in the unemployment foundation can become a much wider chasm over time.
Not helping matters was a surprise output cut from OPEC just in time for the all-important summer driving season. This has oil back up from a recent low of $67 to over $80 once again.
It does not take a genius to appreciate that this only acerbates the high inflation concerns of the Fed. Plus for the rest of the economy, if more money is being drained into the gas tank, there is that much less to be spent elsewhere.
Add this all up and you appreciate why investors were wise to end their recent bull run on Tuesday. This pause will likely mean that investors will have a watchful eye on the next slate of economic reports to see if indeed there is greater cause for concern.
4/5 ADP Employment and ISM Services.
4/6 Jobless Claims (a leading indicator for the health of employment).
4/7 Government Employment Situation (with a focus on wage inflation which has been Public Enemy Number One for the Fed).
Mid-April through Mid-May = Q1 Earnings Season
To sum up, I think the stars are finally aligning for the recession to unfold starting in Q2 which would bring the bear market back out from its recent hibernation. That is why I continue to have my bearish portfolio strategy in place which gained +0.73% Tuesday as the market slumped.
However, just like in the recent past, if those recessionary forecasts do not hold true, then be prepared to bet on more market upside. That means watching each key economic report closely for clues of where we stand and what comes next.
Be sure to review these announcements as objectively as possible because those looking for a bear market may see one even if the facts don’t support that conclusion. The same goes for you bulls being too optimistic at times only for Chairman Powell to sternly remind you of current realities.
Now let the chips fall where they may and we will trade accordingly.
Closing Comments
I have heard some technicians talk about the recent action range-bound action as that of the tightening of a spring. Meaning a breakout is likely soon upon us. The only question is bullish or bearishness. Indeed, the future economic clues we discussed today are likely the key to which comes true.
If a recession unfolds, that points to a bearish break. If another false recessionary fear, then will break bullish. That means this summer will be anything but the typical sleepy stock season. We will be on top of which ever reality unfolds and adjust our plan accordingly.
