Stocks Continue Sideways Move in April
Our Views
On Friday last week (4/14), the S&P 500 closed at 4,137.64 and today, the S&P 500 closed at 4,133.52–basically a flat week.
- But it has been a week of a grind. Equities managed a multi-month high of 4,169.48 (4/18 Tuesday) but on Wed and Thu, ground lower. One can never really tell what compels market direction in any single day.
- In our conversations with investors, some high profile earnings misses (TSLA -3.53% and CDW 0.71% ) coupled with softer-side readings on incoming economic data (initial jobless claims and Philly Fed 4/20) added to the concerns that economic weakness is further deepening.
- Further economic weakness is arguably “dovish” from the Fed hike perspective, except that earlier in the week, the stronger Empire Manufacturing (+10.8 vs -18.0 expected 4/17), along with solid housing (4/17 NAHB, 4/18 Housing Starts) means that markets are dealing with countervailing signal regarding the type of hike and Fed tone on the May meeting (5/3-5/4). This is summarized in the second chart (Bloomberg table)
- In the past week, the odds of a +25bp hike have risen from 69% (4/14) to 88%, with the initial spike higher coming on the heels of the UMich Consumer Sentiment survey showing 1-year inflation expectations rose 100bp. But as we noted earlier this week, in the precedent instances of seeing such spikes, these are often quickly reversed.
- In our view, this is shaping up to be a “dovish” +25bp, meaning the Fed likely raises +25bp (given its prior commitment to this hike) but the probabilities of future hikes diminishes because of incrementally higher downside risks. Most notably, there are increasing signs of employment softening (4-week jobless claims are at the highest level since January 2022. Yes, claims are at a 15-month high. And considering other signs of job softening, this is affirming labor markets are moving in the direction consistent with the Fed seeking to reduce inflationary pressures.
- And 1Q23 EPS season continues to come in “better than feared” and with 84 companies having report (17% of S&P 500), 79% are beating with a beat margin of 5.7%. So it has remained consistently high as we moved through the week. For the reported companies, 1Q23 EPS is tracking to be -1.2% YoY on sales growth of +7.3% (see below). The nadir in YoY EPS growth continues to be tracking to 2Q23 (maybe 3Q23) and for those keeping tabs, historically equities bottom 11-12 months before EPS bottoms. Hence, this would be supportive of Oct 2022 representing the low.
Bottom line: While odds of a +25bp hike rose in the past week (UMich), it increasingly looks like a dovish hike
This is our key takeaway. While the odds of a hike have risen since Friday last week, we think the softness of data this week–in particular, the softening labor market–argue more for a dovish hike. Couple this with a better-than-feared earnings season, and we believe probabilities favor stocks grinding higher in the coming week.
- Stock indices have now pushed higher for four of the last five weeks, and sectors like Discretionary, Healthcare and Financials have outperformed at a time when Technology has lagged.
- SPX lies just below the key 4200 level, but trends remain positive and bullish. April pre-election year seasonality continues to outweigh negativity towards FOMC or Earnings.
- Markets are likely to remain afloat until late April/early May before a Spring peak.
- We are well into the 1Q23 earnings season, and based on my research from last week, I did not expect corporate profits to collapse. However, some forecasters have claimed that the announced results have been super strong, which my analysis does not support.
- The early reports from large banks have had an outsized impact on the aggregate statistics, as fewer than 100 companies have announced their results. In my view, the final results for the S&P 500 operating earnings per share (OEPS) will show a decline of 4-6% year-over-year. I have not seen anything in my data or heard anything from corporate managements that would cause me to change my core macro view: forward profit expectations remain too high and will need to be lowered.
- There has been some slight divergence between the S&P 500 cap-weighted ASM indicator and the S&P 1500 equally weighted metric in terms of earnings revisions. The S&P 500 shows a second derivative improvement, while the broader S&P 1500 appears poised to start falling to a new low for this cycle. Upon analysis, it appears that the S&P 500 ASM is being overly impacted by less than ten mega-cap technology companies, and when they are excluded, its strength disappears.
- Overall, these earnings observations continue to support my longstanding positioning recommendations: higher quality over lower, larger cap over SMid, and secular over cyclical.
- Despite the ongoing rally, my key indicators for the equity market are not supporting its sustainability and are flagging considerable risk. Thus, I continue to urge caution, selling rallies, maintaining above-average cash levels, and increasing hedges on strength. Downside protection is currently cheap, as volatility remains low.
- The U.S. government is confronted with a potential debt ceiling showdown as the Treasury General Account (TGA) balance is limited to $166 billion, creating an urgent need for resolution to prevent default. Historical precedent indicates that resolving the debt ceiling could impact private market liquidity and influence risk assets such as BTC.
- An increasing MVRV Ratio suggests that Bitcoin, which has risen above 1x to approach 1.5x and nears its long-term moving average of 1.7x, is no longer in a “deep value” territory.
- A declining SOPR indicates the possibility of investors realizing losses, potentially signaling a decrease in bullish market momentum and increased trading caution, which merits careful monitoring as it may reflect shifts in market dynamics and investor sentiment.
- Despite cautionary factors, we remain in the early stages of the crypto cycle with promising upside potential, supported by historical price trends and positive on-chain indicators, including a bullish turnaround in realized cap suggesting capital inflow into the bitcoin network. Additionally, given the rebound in major central banks’ balance sheet assets since October, marking a bottom in global liquidity, we foresee the conclusion of the most severe monetary tightening period and the commencement of a long-term upswing in global liquidity.
- Core Strategy – In light of near-term risks, we deem it prudent to take some profits and reserve dry powder for potential drawdowns while maintaining a largely allocated position given the intermediate-term bullish outlook for crypto.
- House Speaker Kevin McCarthy will attempt to generate pressure on the Biden administration to hold talks on increasing the debt ceiling.
- However, members of his own party are his immediate obstacle.
- McCarthy’s proposed spending cuts will worry moderate Republicans, while any debt-ceiling increase will see opposition from the more conservative wing of the GOP.
Wall Street Debrief — Weekly Roundup
Key Takeaways
- The S&P 500 was flat this week and closed at 4,133.52. The tech-heavy Nasdaq skidded down 0.3% to finish the week at 12,072.46. Bitcoin shed about 10% to drop back under $28,000.
- Banks continued to kick off earnings season with mostly positive news, while Tesla, a Granny Shot, posted disappointing operating margin results that sent the stock lower.
- Stocks have been mostly range-bound over the past few weeks, and Mark Newton expects short-term weakness into May.
“To hell with circumstances; I create opportunities.”
~ Bruce Lee
Good evening:
The story of the past few weeks has been one of sideways chop: The S&P 500 is virtually unchanged from where it began April at 4,124. Over the past six months, the benchmark is up about 10%, and it’s still up nearly 8% year-to-date, despite bearish sentiment, banking woes, inflationary pressure, and recession fears. Pick a negative headline -- it’s probably flashed across the news this year. But thus far, big bank earnings have been largely positive, while the Fed’s interest-rate hiking campaign continues to trickle in markets. Overall, it was another quiet week.
Unemployment remains near a record low, but the labor market has softened. Home sales in March fell 21% year-over-year amid low inventory, high mortgage rates, and buyers and sellers alike who refuse to move. More importantly, inflation is falling. Since the inflation rate peaked last June, each of the past 10 annualized inflation readings has been lower than the previous level.
“I think overall, it just shows you businesses are managing through this pretty well,” said Tom Lee, Head of Research. “I don't think the economy is as dire as many people think it might be. So I think it's been better than expected.”
En route back to Washington on Monday after a Congressional recess, House Speaker Kevin McCarthy opened the trading week on the NYSE with a speech in which he proposed a one-year debt-ceiling increase conditioned on spending cuts and regulatory loosening. Says Fundstrat’s Washington Policy Strategist, Tom Block, “that idea is unlikely to draw much support from the Senate or White House.”
Markets do not yet seem overly concerned with the issue, since the debt-ceiling “X date” is not expected for at least a few months. Instead, investors this week paid more attention to the latest quarterly results and the possibility of recession this year. Lee believes that although it’s still early in this earnings season, results are “better than feared.”
As for the market, Lee noted at our weekly research huddle that “the percentage of up days is starting to get to bullish levels. It’s over 60% right now, and really, once you’re above 55%, it’s more of a ‘buy the dip’ environment versus ‘sell the rip.’”
Though also bullish over the long term beyond a few weeks, Head of Technical Strategy Mark Newton sees both seasonal and breadth signs that opportunities for “BTD” might materialize soon. “April historically has been a great month, and I still think it's right to be long,” he said. “But the cycles suggest that we probably have another one or two weeks where markets can try to rally out of this into the final week of April. I suspect that we're going to pull back toward 4,000 and potentially 3,900 sometime in May.”
Newton also cited some recent slowdowns in breadth. “Admittedly about 80% of the stocks are above their 20-day moving average, but when it comes to the 50-day, there’s only about half of what we saw on the February peaks,” he noted. “We're nearing an important juncture in the market where stock indices will really have to prove themselves at this point for us to think that the rally will continue uninterrupted. We really need to see Financials kick in a lot better, to see the Healthcare move really start to accelerate, and to really see Technology continue higher, uninterrupted. I'm not certain if we can do that.”
Lee sees a re-emerging pattern that could signal higher profits in the second half of the year. As our Chart of the Week shows, during the profit recessions of 2016 and 2020, three to four quarters of negative year-over-year EPS were followed by upswings. This might be happening again now: “The nadir in YoY EPS growth continues to be tracking to 2Q23 (maybe 3Q23),” Lee noted, observing that this supports his longstanding thesis that October 2022 represents the market bottom.
Added Lee: “Historically, equities bottom 11 to 12 months before EPS bottoms.”
Chart of the Week
Elsewhere
The EU approved a $47 billion equivalent to the U.S. CHIPS act, motivated by a similar desire to mitigate potential East Asian chokepoints in the semiconductor supply chain. The European Chips Act includes funding for manufacturing incentives, education and training, and research.
China’s economy beat expectations for Q1 2023, growing 4.5% YoY. The strong results were driven by increased household spending and factory activity after the country’s December 2022 emergence from its COVID lockdown.
A drop in global rice production this year will cause a deficit of 8.7 million tons, the largest shortfall since the 2003/2004 shortfall of 18.6 million tons. Production was hit by heavy rainfall and flooding in China and Pakistan in the summer of 2022, while demand for rice spiked after Russia’s 2022 invasion of Ukraine interrupted global wheat supplies.
China will soon cease to be the world’s most populous nation for the first time since at least 1950, a United Nations report concluded this week. At some point this year, India’s estimated population will reach roughly 1,428,600,000, surpassing China’s 1,425,700,000. The U.S. remains the third-most populous country, with approximately 340 million people.
And finally: Rising metals prices meant that in 2022, it cost 2.4 cents to manufacture a penny and 9.1 cents to manufacture a nickel, the U.S. Mint said in a report this week. (A dime cost 4.4 cents to produce, and it cost 9.75 cents to manufacture a quarter.) Congress is considering adopting a new metal composition of coins to lower these production costs.
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