Bond and equity volatilities at lowest levels since 2021 = supportive >20% rise in 2023. Updating "Granny shots" +12 adds (-12 deletes). 2023 YTD +39bp outperformance. 2022 +395bp outperformance. List adds attached.

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• Granny Shots January Quarterly rebalance today
• see below for adds and deletes

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Main event this week is Feb FOMC and we think Fed will continue to tolerate easing financial conditions

The most important event in the coming week is the Feb FOMC decision (2/1). We will have more comprehensive thoughts on Wednesday, but as many are aware, we expect the Fed to become increasingly tolerant of easing financial conditions. Why? Because inflation is tanking and the Fed and markets are now “course correcting” as this trajectory legs down.

As for equities, our base case for 2023 is that stocks will rise >20% and while it is early in the year, the S&P 500 is indeed tracking very closely to the historical template:

• the rule of first 5 days was triggered with S&P 500 >1.4% in 1st 5 days
• since 1950, this has led to a median gain of 26% (7 of 7 instances positive return)

And this ties back to the need for investors to shift their mindset. From the crisis of 2022 to seeing the opportunities in 2023. Again, this is not a straight line recovery, but the cadence and tempo of markets already in 2023 is far different:

• recall, from Feb 2022 to Oct 2022, equities were under enormous selling pressure as inflation fears escalated
• Fed was “raising rates in a hurry” and investors saw little reason to believe otherwise

INFLATION: Hit a wall in October and markets are only now starting to recognize this

Last year, our argument that inflation “hit a wall” in October was generally met with skepticism. Recall, our thesis was premised on the fact that >54% of 64 leading indicators for inflation were rolling over. Thus, we could not see how core inflation could continue to accelerate.

• and as shown, core inflation took a leg down since October

But Consensus continued to argue inflation would remain high with “no relief”

And in October, investors and media were skeptical this was possible. Most inflation-istas adopted the 1970-80 view and argued the global economy was in for a period of extended high inflation. Take a look at these headlines in October, which came at a time when there was already strong evidence that inflation was cooling throughout the global economy. In fact, oil was already down >30% by this point.

Even by December 2022, the notion of inflation here for longer was a centrally entrenched view. By this point, many leading indicators of inflation were rolling over (even inflation breakevens), but many pundits argued inflation would not come down. In fact, many strategists warned inflation would remain in the “5% range” — in retrospect, we think many pundits and investors were overly focused on YoY rate of change, even as 3-month annualized showed a far slower pace of inflation.

VOLATILITY: Equity and Bond volatilities collapsed when inflation tanked

When inflation “hit a wall” in October, so did bond and equity volatilities as shown below:

• the BofA MOVE index (bond vol) is now at the lowest levels since early 2022
• the equity VIX at 18 is at the lowest levels since 2021
• as we commented in the past, this drop in volatility is far more important for forward equity returns
• this is also a component of why financial conditions have eased and we think the Fed will tolerate this

STRATEGY: VIX matters far more for 2023 returns than EPS growth

Our data science team compiled the impact on 2023 equity returns from variables and we have highlighted in past reports, this is the most consequential factor for 2023 returns:

• the key is to start with fact this is a S&P 500 post-negative year (2022)

• if VIX falls, equity gain is 22% (win ratio 83%, n=23)

• if VIX rises, equity lose -23% (win ratio 14%, n=7)

I mean, this shows this all comes down to the VIX

• EPS growth has little impact

• If EPS growth is negative YoY (likely), median gain +14.8% (win-ratio 70% n=33). If EPS growth is positive YoY, median gain is 15.5% (win-ratio is 78%)

Hardly a sizable bifurcation

37 GRANNY SHOTS: +12 adds, (-12 deletes). 2022 outperformance +395bp YTD outperformance +39bp

Today is the January quarterly rebalance of our Granny Shots portfolio.

Think about Granny Shots as a “core portfolio” that we rebalance every quarter. The Granny Shots is a list of our core stock holdings, using 7 thematic/quantitative portfolios and is designed to identify long-term EPS growers. Since inception in 2019, Granny Shots has outperformed every year:

• 2019 +879bp –> great year
• 2020 +3,015bp –> great year
• 2021 +392bp –> good year
• 2022 +395bp–> good year
• 2023 +39bp–> good start

12 rebalance additions are:

• OMC 1.12% , KO -0.05% , MRO -0.49% , OXY 0.60% , VLO 1.14% , JPM 0.07% , ISRG 3.96% , MRK 1.86% , GD 0.18% , CDNS 3.45% , NUE 2.08%  and JCI 1.94%

Below are the 2-year stock charts for the 12 additions

12 rebalance deletions are:

• CF 0.59% , ORLY 0.36% , ALL -1.66% , AVGO 4.07% , AZO 0.30% , CCI 2.43% , CVX -0.34% , EXR 2.31% , FCX 0.18% , GPC -0.37% , LIN -0.30%  and QCOM 2.87%

TECHNICALS ON 12 GRANNY SHOT ADDS: By Mark Newton

Cadence Design Systems (CDNS 3.45% ) 

CDNS remains short-term bullish as part of a 14-month sideways range-bound pattern. Long-term, this 14-month range remains near the upper quartile of its pattern and still within striking distance of all-time highs after a 250% lift off the March lows.  In the short run, further upside looks likely to $195, which might result in a temporary stalling out.  However, any catalyst that results in CDNS exceeding $195 could result in upside acceleration, possibly up to $245. Overall, it’s right to own this name technically.

General Dynamics (GD 0.18% )

Many Aerospace and Defense names have been in a short-term downtrend over the last month, but it looks right to be intermediate-term bullish, given the larger structure remains quite positive. General Dynamics likely finds support at current levels, near $220. Unless we see a  break under $212, it looks to be a technical buy. It is thought the stock will rally back to test and exceed highs near $260, so this is attractive, and short term weakness presents buying opportunities as part of a longer term bullish structure. 

Intuitive Surgical (ISRG 3.96% )

Intuitive Surgical has been trending lower since the middle part of December. The overall structure remains bullish. We made a nice breakout in mid-October, retraced 50% of the high to low range, and have since been consolidating. Key for this stock will be to get back over $258, which will allow a rally higher to challenge and exceed highs from last December. Upside targets are $297, above that $330. There is not yet enough evidence to suggest ISRG has officially bottomed, so minor pullbacks are possible in the short-term, but downside risk looks to be contained near $225. 

Johnson Control Systems (JCI 1.94% ) 

Very attractive name in the process of attempting to breakout to new monthly highs. A move above $69.15 should allow steady progress up to $75, where we could then challenge January 2022 highs at $81.45. Structure has shown recent improvement since a breakout last August, and this stock remains in a nice uptrend. Base since November should provide buying opportunities for further upward progress.  

JPMorgan Chase (JPM 0.07% ) 

Many of the bank stocks  broke out in October of last year. Since then, a bit of a stair stepping pattern, but the trends overall remain quite positive. Recent consolidation has not caused any technical damage, and JP Morgan does still look to push higher. Key resistance lies at $145, then $158. Only a decline under $133 could see some further weakness to $128. Overall, I still like JPM, and it looks attractive to me technically.  

Coca-Cola (KO -0.05% ) 

Consumer staples has been an area of weakness this year and I am not certain this weakness has completely run its course. Weakness should not get down under an area near $58, and any act of moving back towards highs, above $65, is going to make this very attractive on an intermediate term basis. Recent weakness has created a more attractive entry point from a risk/reward perspective.   However,  no evidence that the short-term downtrend has completely exhausted itself yet. 

Merck (MRK 1.86% )

Merck is one of the more attractive stocks within the Pharmaceutical space on a long-term basis, having broken out of a longer term base going back 20 years and seeing some rapid acceleration. Now that many pharma names have been lumped in with Staples and Defensives, they have been weakening in the short run. I Can’t say that weakness has run its course yet, but I would be a buyer of Merck, one of the most attractive pharma names lately given its bullish long-term technical structure.  Pullbacks are likely contained in the low to mid 90s,  before rallying back to test and exceed all time highs just above $115.5. I do like buying dips and think this is attractive. 

Marathon Oil (MRO -0.49% ) 

The majority of the energy space remains quite bullish, and after a downtrend from November into January, the last few days look to be indicating a turn back higher. A break above $33 would help further strength to the mid to high-30s. A move below $26 would change the picture. It looks right to be bullish for the time being. 

Nucor (NUE 2.08% )

Along with other steel names and some parts of Materials, Nucor has shown some very decent momentum. The breakout in the middle of January that got this stock to its highest levels since last spring looks to be ongoing. Any weakness here is a good chance to buy pullbacks. Upside targets lie at $188, which lines up with prior peaks from last April. Support to buy dips lies at $155 to $160. Overall, while a little stretched in the short run, this name remains very attractive and I expect to see it push back to challenge all time highs. 

Omnicom Group (OMC 1.12% )

We’ve been in a short term uptrend since October as part of a larger neutral pattern since November of 2016. A catalyst seems necessary to help a breakout to new all time high territory. Currently, I am not short term bullish, I am more neutral, as this stock is near a level it has held many times before. $88 is very key to exceed on a weekly basis to help this extend. Despite being overbought short-term, this stock remains attractive in the intermediate term, and my view is that it could likely underperform until it finds a catalyst to help it break out. 

Occidental Petroleum (OXY 0.60% )

A slow mover, but still a positive stock within the energy space. Occidental has been

range bound since March of last year, but overall, range has been gradually improving, and it currently lies near the highs of its 52-week range, a technical positive. Any moves over $76 will likely engender a move above that level, with my intermediate term target around $87, levels seen in June 2018. A move below $60 would be a warning sign. 

Valero Energy (VLO 1.14% )

Valero is one of the more attractive stocks in the entire energy space. It recently broke back out to new all time high territory, and is displaying a  very constructive cup and handle pattern. I expect it to move to $160, if not $180. It would take a move below $134 to change this bullishness. With most of the refiners in a bullish spot, this remains something to buy. 

37 GRANNY SHOTS: Updated list is below:

The revised 37 Granny shots are shown below. The list is sorted by the most attractive (most frequently cited) to least. To be a “Granny shot” the stock needs to appear in at least two portfolios.

Communication Services:GOOGL 1.03% , META 2.05% , OMC 1.12%

Consumer Discretionary:AMZN -0.58% , GRMN 0.38% , TSLA -1.93%

Consumer Staples:BF/B, KO -0.05% , MNST -0.44% , PG 0.44% , PM 0.86%

Energy:DVN -0.24% , EOG -0.26% , MRO -0.49% , OXY 0.60% , PSX 0.94% , VLO 1.14% , XOM

Financials:AXP 0.07% , JPM 0.07%

Health Care:AMGN 2.45% , HUM 0.77% , ISRG 3.96% , MRK 1.86% , UNH

Industrials:GD 0.18% , JCI 1.94%

Information Technology:AAPL 1.18% , AMD 4.25% , CDNS 3.45% , CSCO 6.05% , KLAC 4.08% , MSFT 1.51% , NVDA 3.79% , PYPL -1.16%

Materials:NUE 2.08%

Real Estate:AMT 2.71%

SEASONALITY: The 8 groups most attractive for next 6 months

There is an element of seasonality for Granny Shots and our rebalance highlights these 8 groups as most attractive:

• Aerospace & Defense
• Oil & Gas Exploration and Production
• Health Care Distributors
• Oil & Gas Equipment & Services
• Life Sciences Tools & Services
• Automotive Retail
• Managed Health Care
• Specialized Reits

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37 Granny Shot Ideas:GOOGL 1.03% , META 2.05% , OMC 1.12% , AMZN -0.58% , GRMN 0.38% , TSLA -1.93% , BF/B, KO -0.05% , MNST -0.44% , PG 0.44% , PM 0.86% , DVN -0.24% , EOG -0.26% , MRO -0.49% , OXY 0.60% , PSX 0.94% , VLO 1.14% , XOM, AXP 0.07% , JPM 0.07% , AMGN 2.45% , HUM 0.77% , ISRG 3.96% , MRK 1.86% , UNH, GD 0.18% , JCI 1.94% , AAPL 1.18% , AMD 4.25% , CDNS 3.45% , CSCO 6.05% , KLAC 4.08% , MSFT 1.51% , NVDA 3.79% , PYPL -1.16% , NUE 2.08% , AMT 2.71%

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