Published February 2, 2024
The stock market in recent years has been clearly driven by changes in interest rates. If you looked at nothing else but rates, you would have done a great job investing in stocks. Of course, the volatility of some moves along the way were heart-stopping, which is why we prefer having the help of our models. Outside of the pandemic, the economy has been on a nearly non-stop upward trajectory – far outperforming the economies of other countries around the globe. Yet the bears persist in their doom and gloom, finding some (typically well-worn) angle to throw darts at the health of the economy and markets.
Below, we offer Blake Millard’s analysis of the economy and markets. This was his effort to expand on the points he presented recently on Fox Business channel.
“I am taking a few minutes here to express several reasons why we should be constructive on markets early here in 2024. This is not meant to be an exhaustive list, rather a selection of objective truths that tip the scorecard (i.e. probabilities) in favor of upside market risks.
1. The U.S. economy is on stable footing.
* Real GDP increased 2.5% in 2023, up from 1.9% in 2022.
* The U.S. economy added 2.7M jobs in 2023, while the unemployment rate is hovering near multi-decade lows at 3.7%. Average hourly gains are finally making meaningful strides as inflation subsides, offsetting some of the erosion in purchasing power.
* Wealth effects: equity and home prices have recovered from their declines in 2022, strengthening household balance sheets. What’s more: the median, inflation-adjusted net worth for the typical U.S. household grew 37% to $192,900 from 2019 to 2022, the highest on record – fueled by higher home prices, investment account balances, and pandemic-era stimulus payments.
* New business applications surged from 2021 to 2023, with 16 million applications filed – an important leading indicator for jobs and innovation.
* The world finally got religion on savings accounts paying nothing and moved cash en-masse into money markets paying 5%+. Savers are getting paid on cash, for now.
* Tech: AI is having an iPhone moment, a transformative technology only in its 1st-2nd innings – true productivity and earnings gains haven’t even started.
2. Monetary policy is transitioning from aggressive jaw-boning tactics to one of accommodation.
* Real interest rates remain elevated as inflation continues to moderate (PCE, GDP personal consumption, CPI, headline, core, trimmed, etc. – you name it, its moderating). This allows the Fed to keep financial conditions restrictive for now because economic growth and the labor market can support it.
* Yet, inflation remains a key driver for the Fed reaction function, which in turn is the key driver for equities. Inflation should continue falling like a rock, but the Fed and markets have to embrace that view and believe it.
* The Fed has signaled that rate cuts are coming later this year. We don’t know the timing or magnitude yet – the Fed doesn’t either – but cuts are a significant moderation in policy. Assuming the recession is avoided, interest rate cuts are generally supportive for risk assets.
* The Fed is currently shrinking its balance sheet via ~$95B in monthly runoff via U.S. Treasuries and Mortgage-Backed Securities (MBS). The whispers of a Fed taper – i.e. the reduction in this restrictive policy of balance sheet normalization – are growing louder, which means the market will lead the Fed’s hand. A taper improves liquidity and the outlook for money availability.
3. 4th quarter 2023 breadth and momentum thrusts cannot be ignored. This is a resilient market with strong undertones of buyers incrementally adding to risk.
* In December, over 90% of the S&P 500 index was trading above their 50-DMA. When this happens, the average forward 12-month gain is +17.2% (success rate 94.7%).
* Zweig Breadth Thrust: rare signal, stocks higher every time 12-months later for an average gain of +23.3%.
* +45% of S&P 500 “overbought” (daily RSI > 70) in December – reaching its highest level on record. Overbought conditions are just one characteristic of bull markets, especially around the formation of new uptrends.
* Advance/Decline lines are moving from the lower left to the upper right on most charts.
* Bottom line, it’s getting harder and harder to find a chart at any geography, index, or sector level that hasn’t completed a primary trend reversal pattern from the bear market. Sellers have been taken out, cleared out at key levels incrementally higher one-at-a-time.
* Not only are we in a bull market… but one that has been expanding and gaining in strength.
* This comes after 2023 when equity flows into ETFs/Mutual Funds was slightly negative.
4. Market structure is supportive.
* The leaders are leading. Your best players – LeBron, Kobe, Michael – are all dropping 50 points right now. That’s constructive for markets. Tech ($XLK), Industrials ($XLI), Semis ($SMH), Homebuilders ($XHB) are all at record highs/52-week highs.
* Defensive groups like Consumer Staples, Low Volatility, and Utilities are weaker in absolute and/or relative terms – as it should be during risk-on environments.
* High Yield OAS spreads are hovering around two-year lows – confirmation from credit.
* Bitcoin ETFs launched, and in-flows are significant. Two funds already at $1B+. This type of behavior shows investors looking to add to risk.
* Most recent signal: Tesla earnings was a disaster; stock down -11% after earnings. 8th largest stock in S&P 500. Yet the S&P 500 and Nasdaq 100 both finished that trading session positive shrugging off bad news from one of their largest component stocks.”
While the stock market will continue to produce its usual ups and downs, it has not paid at all to be consistently negative on the economy or stock market. We seek to trade with the market’s trend, which has been decidedly positive throughout most of the past decade. The gap in performance between the U.S. economy and other nations has been growing wider, not shrinking, with few exceptions. Now comes another feather in the cap – AI. The markets are moving accordingly.
Market update
It was to be a busy week with the first Fed meeting of the year, the monthly employment report, and a plethora of earnings announcements, including from five of the market’s Magnificent Seven market leaders. Monday brought a continuation of the market’s 13 week rally with a +0.8% rise. A pause in the Nasdaq’s upward thrust Tuesday ahead of the Mag 7 earnings found the index sloughing off -0.8%. Wednesday. Alphabet (aka Google) and Microsoft saw their stocks tumble after their earnings. Fed Chair Powell pushed back on the market’s optimism that interest rates will be cut by the central bank in their March meeting. Rates fell as did stocks. The S&P 500 slipped -1.6%. Weakness in a regional bank put pressure on the finance sector Thursday. But the broader market found buyers en route to a +1.2% day as investors looked to results from Apple, Meta, and Amazon after the close. Meta and Amazon delighted investors with both stocks gapping higher Friday morning. Apple slid initially before recovering to a fractional loss. Stocks broadly rose Friday with the monthly jobs report crushing estimates while wage growth stayed flat – a dream scenario for investors. Interest rates recovered all of their Fed-induced weakness from the prior couple of days. Stocks did the same skipping back upward toward record close territory – a solid +1% gain for the broad market Friday.
Stocks overcame a couple of days of selling to close the week with yet another gain. The S&P 500 (SPY) gained +1.42% while the Nasdaq 100 (QQQ) added +1.23%. Smallcap stocks (IWM) slipped -0.80% reflecting weakness in non-tech areas of the market.
Warm wishes and until next week.