Based on past precedent, either this recent rally signals the end of the bear market OR we are due to experience a market similar to the dot.com crash or GFC.
See how difficult it can be?
This is why I am not chasing price or momentum stocks.
..if we can get Oil at or below $80, we could avert the latter.
1) Betting the Under
For the first time since early 2021, if you bet the under on the US inflation rate, you were on the right side. CPI came in at 8.5% year-over-year in July versus expectations of 8.7% and last month’s 40-year high of 9.1%.
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The primary driver of the move down? A reduction in energy prices, which has continued thus far in August with Crude Oil and Gasoline hitting 5-month lows. Gas prices are now back below $4.00 a barrel (national average), $1.06 (21%) lower than their all-time high in mid-June.
Back to CPI report – did everything show a decline from June? No. Medical Care, Transportation, Shelter, Electricity, and Food at Home we all among the major components that showed a move higher in their year-over-year rate of increase.
Which is another way of saying that while moving in the right direction, the threat of higher inflation is far from over.
That means, in turn, that the Fed is not yet done with their hiking cycle. The market is currently expecting additional rate hikes of 50 bps in September (to 2.75%-3.00%), 50 bps in November (to 3.25%-3.50%), and 25 bps in December (3.50%-3.75%).
2) Why The Fed Can’t Stop Tightening
With the inflation rate finally moving lower, why can’t the Fed stop tightening?
For one thing, they remain far behind the curve, with a Fed Funds Rate of only 2.25%-2.50% versus 8.5% inflation.
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This is extraordinarily easy policy as compared to the 1970s and early 1980s when inflation in the US was at a similar level (8-9%).
But the primary reason why the Fed must continue to normalize rates is the decline in prosperity for the American worker. US wage growth has now failed to keep pace with rising prices for 16 consecutive months, an untenable situation.
Additionally, the negative impact on small businesses is clear, with 37% of companies in the NFIB report saying that inflation was their single most important problem in operating their business. This is the highest percentage we’ve seen since the 4th quarter of 1979.
3) The Greatest Trick
While the Fed has more work to do on the inflation front, there’s no central bank in the developed world with a more disconnected policy than the ECB.
With record inflation of 8.9%, the ECB just moved rates back to 0% in July, abandoning negative interest rate policy for the first time since 2014.
Intended to “spur lending and spending,” negative rates have been a scourge for the banking system, as evidenced by the fact that European Financials ETF ($EUFN) is down 19% during this time period.
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By comparison, the US Financials ETF ($XLF) has more than doubled.
The greatest trick the ECB ever pulled was convincing the European people that negative rates were a good thing. Hopefully, they’ve learned the lesson that they are anything but, and will push back against implementing such distorted policies in the future.
4) Back Below $1 Trillion
The US Federal Budget Deficit moved back below $1 trillion in July for the first time since September 2019. The Deficit peaked at a record $4.1 trillion in March 2021.
Reducing the rate of borrowing/spending has been painful in the short run but will be a good thing in a long run. And the more we can shrink the deficit, the more it will help to counteract inflationary pressures.
5) How Do You Like Them Apples?
Apple’s 7.3% weight in the S&P 500 today is the largest weighting we’ve seen for any individual company going back to 1980.
Apple has bought back $522 billion in stock over the past 10 years, which is greater than the market cap of 494 companies in the S&P 500.
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At $4.94 trillion, the market cap of Apple & Microsoft is now $1.75 trillion higher than the combined market value of all the companies in the Russell 2000 ($3.19 trillion).
6) The AWS Juggernaut and the Big 4 Get Bigger
Amazon’s AWS revenue in 2021 ($62 billion) was higher than the revenue of 448 companies in the S&P 500. In the first half of this year, the growth has continued, up 35% year-over-year. Just an absolute juggernaut.
The combined revenue of the 4 largest US companies (Amazon, Apple, Google, and Microsoft) hit a record $1.35 trillion over last 12 months. That’s larger than the GDP of all but 14 countries.
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7) Volatility Subsides
The Volatility Index ($VIX) closed below 20 last week for the first time since April, ending a streak of 86 trading days.
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Does that mean the bear market is over?
Possibly, but not necessarily.
There have been long $VIX streaks above 20 in prior bear markets that ended only to be followed by lower lows ahead (ex: Jun ’00, Jun ’01, Feb ’02, Apr ’08, Aug ’08).
8) Putting the Rally in Context
The S&P 500 rally continued with the gain on a closing basis approaching 17%. Have we ever seen a rally this large in a bear market with the bear not being over? Yes, both the 2000-02 and 2007-09 bears had rallies even larger than this with lower lows to follow.
But the question is: are these the right comps, or should we be comparing the 2022 bear to short-lived bears in 2020/2018/2011/1998 which hit a low in less than 6 months and never looked back? Unfortunately, we’ll only know the answer in hindsight.
9) The End of the Bidding Wars?
44% of US homes for sale faced bidding wars in July, the 6th straight monthly decline and lowest percentage on record with the exception of April 2020. A year ago the rate was 64% and in January it hit a high of 69.8%. (note: bidding war is defined as an offer with at least one competing bid).
The percentage of US homes that were listed for sale for 30 days or more without going to contract is up 12.5% YoY. With data going back to 2012 the only time there was more of an increase in “stale” inventory was April 2020 during the pandemic shutdowns.
7.8% of US homes for sale have now cut their asking price over the last 4 weeks, the highest percentage we’ve seen since Redfin started tracking the data in 2015.
The median sales price of homes in the US is up 8.2% year-over-year, the slowest growth rate since July 2020. A 4-week average of sales prices peaked in June and has fallen 4.1% since.
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