Inflation Cooling, But Is The Fed’s Work Done?

On a short and intermediate-term basis, the HCM-BuyLine® has turned positive and investors should start to look for opportunities. The longer-term trend is still negative, so caution and prudence are still advised. Biotech, technology, basic materials, and transportation all look to be gaining momentum. (EA) Electronic Arts looks to be on the verge of breaking out of a triangle pattern. (ADM) Archer-Daniels-Midland and (CVX) Chevron are starting to break out of resistance and could have some nice follow through.
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The most recent labor market and inflation data support a downshift in Fed rate hikes, and we now expect a 50-basis point rate rise in December. However, the risk of a severe recession still exists as the latest data shows the global economy contracted for a third straight month in October. After last week’s rally following better than expected news on inflation, we expect reduced volatility and for markets to settle into a range. 
  1. Both CPI and core CPI rose less than expected in October
  2. October payrolls were stronger than expected, but wage growth moderated.
  3. This is supportive of a downshift in Fed rate hikes. We expect a 50-basis point rate rise in December.
The S&P Global Flash U.S. Composite PMI fell 1.9 points in November to 46.3, below the break-even level of 50 for the fifth consecutive month, indicating continued weakness in private sector business activity in 2H 2022. Both manufacturing and services activity contracted this month, weighed down by rising interest rates and economic uncertainty. The Flash Manufacturing PMI dropped 2.8 points to 47.6, below the consensus of 50, and indicating contraction for the first time since June 2020. Output and new orders both fell, with the latter sinking at the quickest rate since May 2020. Delivery times for inputs shortened, reflecting improvement in supplier performance but also weaker demand. As a result, order backlogs fell sharply. Employment growth moderated. Nevertheless, optimism about the output growth outlook over the coming year improved from the prior month, driven by expectations of firmer client demand and shorted input delivery times. Price pressures, both for inputs and output, eased significantly. The Flash Services PMI fell 1.7 points to 46.1, also below the consensus of 48.0, and in contraction territory for the fifth consecutive month. Service providers pointed to rising interest rates and inflation cutting into disposable income as the main culprits for weaker demand and activity. New orders declined for the second consecutive month and at the fastest rate since May 2020. Backlogs fell, while employment grew only marginally. But optimism about the year-ahead outlook for growth picked up from the prior month. Similar to manufacturing, price pressures in services continued to ease.

Intermediate-Term Optimism, Have We Turned The Corner?

The HCM-BuyLine® turned positive on a short-and-intermediate-term basis this week, which has prompted us to start taking some smaller positions and adding exposure to stocks. The long-term trend of the HCM-BuyLine® is still in a downtrend, but optimism has at least stuck its head up. Tight stops should be adhered to, and volatility should be expected. Could this be the beginning of a turn, or just a short-term bear market rally? Only time will tell.

Last week’s Producer Price Index (PPI) also showed signs that inflation may be cooling. The softer-than-expected October PPI number was news that may further boost investor confidence. The year-over-year number was up 8% vs. an 8.3% estimate; when you strip out volatile food and energy prices, PPI went up 6.2% year-over-year vs. a 7.2% estimate.

Overall, the data is encouraging and leans toward the possibility that perhaps the Fed may slow its pace of interest rate hikes. As of now, the CME Group’s FedWatch tool shows an 80.6% likelihood of a 50 basis point rate hike when the Fed meets on December 14. But there’s a long way to go before the Fed thinks about pausing rate hikes. Inflation is still here and needs to be a lot closer to the Fed’s target rate of 2-3% before we see any pause in rate hikes. Until then, it’s likely that rates will continue moving higher.

One interesting dynamic coming from the stock market’s reaction to a cooling inflation number is how the stock market tends to move up strongly on encouraging news. The Fed’s goal is to bring down inflation by raising interest rates. This is expected to slow down growth, which, in turn, should cool the stock market. But if equities move up sharply on news of the cooling inflation, could it impact the pace of future interest rate hikes? That may be something to keep an eye out for in future Fed meetings.

Overreaction To A Good CPI Print? Why You Should Let The Trend Sort Itself Out

The market’s reaction this morning is very positive to the news that core inflation looks to be slowing down. Remember, one data point does not make a trend, and the Fed has been very clear that they will not let up until inflation is under control. The trend is still decisively down, and we will be patient and let the market tell us when to buy and re-enter the market.

The OECD U.S. Composite Leading Indicator (CLI) continued to decline in October, falling 0.1 point to 98.5, below 100 for the seventh consecutive month, indicating below-trend growth ahead. The drag was mainly due to high inflation, rising interest rates, and falling stock prices. The index has been grinding down since its cycle peak in May 2021, and is now at its lowest level in more than two years. Excluding the pandemic, it is at the lowest level since November 2009

The annualized six-month rate of change of the CLI edged up slightly to -2.6%, barely in the zone that historically has been consistent with positive economic growth. Nevertheless, this was an improvement from the prior month, which at the very least suggests a slower rate of deceleration in economic activity over the next several months.


Vance Howard on CNBC

Vance Howard joins Worldwide Exchange to discuss his expectations for the markets. Watch the whole interview here.
TUE, NOV 8 2022

Cash Still King As We Trudge Through This Bear Market

The markets sold off yesterday after the Fed chair’s statements about rates and their trajectory for the rest of the year. Some were surprised with hopes of a more dovish stance. I’m not entirely sure why some investors were surprised because so far Powell has been very clear that he is not going to stop until inflation starts to subside.

The markets, even after yesterday’s selloff, are not trading as bad as some think. Yes, volatility is high, but that’s to be expected with high rates and inflation being on fire. But believe it or not, the technicals look a bit better, as you can see on the chart of the S&P 500. It broke above resistance and is making lower highs on a short-term basis. There are a lot of stocks that have sold off to levels where they can be viewed as a value play. High levels of cash should be held at this time, but like we said last week it is our view that we are about 75% through the current bear market.

ADP private payrolls increased 239,000 in October, the most in three months, and above the consensus of 195,000. Nearly 90% of it, however, was concentrated in leisure/hospitality, which added 210,000 net new jobs. Payrolls in most other industries declined from the prior month, as businesses have started to pull back on hiring

Notably, manufacturing, which tends to be more cyclical and interest rate sensitive than other industries, cut 20,000 jobs, down for the second consecutive month. Additionally, jobs in some services industries have already been declining for three or more successive months. Information payrolls, a reflection of the challenges in the tech sector, fell 17,000 last month, the second most since July 2020

Annual pay growth eased slightly, but continues to run much higher than earlier in this cycle. Pay growth for job changers moderated for the third consecutive month to 15.2% y/y, but is still about double the pay growth for job stayers which was little changed at 7.7% y/y. These trends suggests that while Fed tightening may have started to ebb labor demand, the Fed’s job is not yet done, as strong pay growth may keep inflation pressures elevated for longer

Mortgage application volume continued to decline last week, as the conventional mortgage rate rose above 7.0%, its highest level since April 2002. The MBA Purchase Index fell 0.8%, reaching its lowest level since January 2015. It is also down nearly 40.0% from a year ago. It suggests continued weakness in home sales over the near-term.

The Refinance Index edged up 0.2%, its first increase in six weeks. Nevertheless, it has fallen 85.8% on a y/y trend basis and sits near its lowest level since August 2000, as mortgage rates continue to weigh on refinancing

Markets Find Some Footing As Investors Adapt to Higher Rates and Higher Inflation

The markets are trading in a much better mood than they have in the past few months, with the price action looking a bit more positive. There is room for optimism as it looks like the markets are trying to find a base. Despite seeing some big stocks such as Microsoft, Alphabet, Inc., and Meta taking a beating over the last few trading sessions, the indexes like the S&P 500 and Nasdaq 100 have held up well. If a major holding like Microsoft is way down, which is one of the largest holdings in each index, but the index is holding up somewhat firm, that is telling us that most of the other constituents of the index have hit a bottom and are not going down as they were earlier in the year. This is a very encouraging sign for the markets.

Are we calling a bottom? Of course not, but there are signs of improvement. Remember, bull markets come and go, and so do bear markets. We are more than halfway through this bear market, and I would even go as far as to say we are 75% through it. There is a mountain of cash on the sidelines to fuel the next bull market for an extended period of time, and we believe a new bull market could emerge in 2023. We do see higher interest rates and higher inflation, but investors are adapting to both. A recession is almost a given, but has the market priced that in already? There are still some big questions going forward, but after the last week or so, there is no doubt that a change is underfoot. Investors should be alert to what could be a turn in the short and intermediate-term trends, which might provide some opportunities.

New home sales fell 10.9% in September to a 603,000-unit annual rate, beating the consensus estimate of 593,000. The decline followed a 24.7% jump in the prior month which represented the fifth largest increase on record, as homebuyers hurried to lock in current mortgage rates ahead of more rate increases. More broadly, new home sales have been down in seven of the past nine months, as falling affordability has weighed on demand. Regionally, sales data was mixed, with sales rising in the Northeast and Midwest, but declining in the South and West. On a y/y basis, sales were down 17.6% and were also mixed by region.

The new home inventory picked up 1.1% to 462,000 units, the highest level since March 2008. Months’ available supply increased to 9.2 from 8.1 in the prior month. While the number of completed units in inventory continued to recover, it is still far below its pre-pandemic level. Homebuyers gobbled up completed units. The median number of months from completion to sale fell to a new record low of 1.5, which shows that demand is still solid in spite of the highest mortgage rates in two decades.

Median new home prices increased by 8.0% from the prior month to $470,600, while mean new home prices fell by 2.1%. Both are still running at elevated y/y rates, with increases of 13.3% and 15.0%, respectively, but off the peak rates earlier in this cycle.

Bond Holders Continue to Feel the Pain

The market has been trading in a sideways pattern for the last three weeks, with no real direction either way. However, the overarching trend is still clearly down, and the markets look to be ready for a re-test of the lows set in September. Cash is king at this stage of the cycle, and we are sitting on a lot of it. Patience will pay off. This bear market will end; we just can’t be sure of when. The bond market is having the worst performance it has had in over 40 years. A lot of investors thought government bonds were safe. Well, they are safe if you hold them to maturity, but if you own 20-year treasuries you are down almost 34%, and it looks like they have even further to fall. We have very few bonds in our holdings, and the ones we do own are 1-month treasuries which are basically a notch above cash.

Housing starts fell 8.1% in September to a 1.439 million unit annual rate, below the consensus of a 1.47 million unit rate. Although the monthly changes have been switching between positive and negative territory this year, the trend in starts has been decidedly downward. September saw the second lowest level in starts since February 2021, while the three month average was the lowest since October 2020. The near-term outlook for starts is also dour, as builder confidence, which correlates strongly with starts, sank in October to its lowest level since 2012 (excluding the pandemic).

Single-family starts fell 4.7%, down in six of the past seven months, to an 892,000 unit annual rate, the lowest level since May 2020. Multifamily starts fell a larger 13.1% to a 530,000 unit rate, but held onto a broader upward trend. Indeed, the six-month average of multifamily starts hit its highest level since September 1986. Starts fell in three of the four regions, including in the South. There wasn’t a large discernable impact from Hurricane Ian which made landfall in Florida at the end of September. But construction activity will likely be affected in the coming months as rebuilding efforts ramp up.

Another Hot CPI Number Puts More Pressure On Pocketbooks

The market is in a very defined downtrend, and we are holding about 70-80% cash. This morning’s CPI (Consumer Price Index) number was a disaster. Wall Street’s hopes that the Federal Reserve might be able to ease up on its battle against inflation later this year were decisively dashed Thursday when consumer price index data for September came in unexpectedly hot. Core CPI, which excludes food and energy, increased 6.6% from a year ago, the highest level since 1982.

There can’t be anyone left in the market who believes the Fed can raise rates by anything less than 75bps at the November meeting. In fact, if this kind of upside surprise is repeated next month, we could be facing a fifth consecutive 0.75% hike in December, with policy rates blowing through the Fed’s peak rate forecast before this year is over.

The futures market sold off hard this morning but is staging a rally mid-morning. Unfortunately, after 7 down days, we believe this is most likely just investors covering their short positions, and once that fades so will the market.

One of the questions I have been asked the most in virtually every conversation for the past two months is about the mid-term elections. I have been saying people vote by their pocketbooks, and no one, and I mean no one, is better off than they were 12-24 months ago. It is simply impossible when inflation is at a 40-year high. Everyone is paying the price. The rich are less rich, the upper-middle class is dropping down to middle class, the middle class is dropping to lower-middle class, and the poor are just plain suffering.

Remember, elected offices are no more than your employee. In other words, they are a well-compensated manager. Ask yourself if your employee/manager in your district is doing the job you hired them to do. If not, maybe its time to find a new manager of your district.

Four Steps to Identify a New Bull Market

The markets staged a relief rally this week, giving hope the bear market is coming to an end. Unfortunately, the HCM-BuyLine® remains negative and the trend is still down. This did little to affect even the short-term trend, so odds are that this rally was driven by shorts covering and maybe some speculators trying to pick up deals. By the way, there are some great deals out there. Ask yourself this question: if you bought today, would you be happy you did three years from now? I’ll give you my answer to that question using odds. The odds of the market being higher three year from now are incredibly high, and I would say even as high as 90% or better. When you look at stocks like Wells Fargo, Qualcomm, Inc., even Apple and Microsoft are looking like very strong buys. Being patient and waiting until the trend changes is important. We are in a bear market and the probability of the markets selling off even more is very high.

Approximate Cash %

ALP Growth: 73%

Dividend Sector (HCMNX)*: 53%

Dynamic Income (HCMBX)*: 100%

Income Plus (HCMEX)*: 67%

HCM Defender 500 Index (LGH)*: 62%

HCM Defender 100 Index (QQH)*: 62%

Tactical Growth (HCMGX)*: 69%

Ultra Aggressive: 85%

*Click to view top 10 holdings

We are holding a lot of cash, and I have updated the table of cash positions in our funds as well as a couple of models. As you can see and as I have been saying, we are well-positioned to take advantage of a new bull market. And yes, there will be a new bull market; the only question is when.

The four-step process to a new bull market is: oversold, rally, retest, and finally a move above the HCM-BuyLine®. Retests are the third step in the four-step bottoming process because whether the recent bounce is going to be sustainable or not is still a very big question.

On the weekly chart of the S&P 500 you can see we are testing the 200-day moving average on a weekly basis. Could this be a classic retest of the lows set 6/17, or is there still more downside to come?

I found this chart very interesting. It shows that midterm years see a large pullback, but returns a year later are great.

Source: LPL Research Factset 1/10/22

Markets Falter on Day Two of British Bond Buying

There was a rally yesterday when the Bank of England bought 1.415 billion pounds ($1.55 billion) of British government bonds with maturities of more than 20 years; the second day of a multi-billion pound program designed to stabilize the markets. But today the markets continued to trade in a very violent manner and came down to re-test the 3,600 area on the S&P 500.

I had a meeting today with a friend of mine who is a Principal at GTS Securities. He told me he had lunch last week with Jamie Dimon, the CEO of JPMorgan, and asked him his thoughts on the market. He stated there was over two trillion dollars of household cash on the sidelines. This is obviously a big number and could help put a damper on a recession. That is not to say that we are not going into a recession, but it could help with a soft landing.

The bond market has sold off and has some more room to the downside, but bonds are starting to look like they could be a buy in the not-too-distant future. Be patient, the bond market will come back at some point, just not today.

Initial claims for unemployment insurance dropped 16,000 last week, down in six of the past seven weeks, to 193,000, the lowest level since April. This was below the consensus of 215,000 claims and followed a downward revision of 4,000 to 209,000 claims in the previous week. The four-week average of claims fell 8,750 to 207,000, a four-month low. The trend is only modestly above its cycle low back in April and is hovering near its pre-pandemic level.

Additionally, continuing jobless claims in the prior week fell 29,000 to 1.347 million, its lowest level since mid-July and near its lowest since 1970, while the insured jobless rate was unchanged at 1.0%, close to the record low of 0.9%. This report reflects that labor demand remains strong, despite aggressive efforts by the Fed to tighten financial conditions and cool down the economy. But the Fed policy impact on labor market conditions comes with a significant lag, is more pronounced in fast tightening cycles, and varies by industry. We find that the real fed funds rate leads private sector payroll growth by 12-18 months. It implies softer labor market conditions by the spring of 2023, and elevated risk of recession also around that time.

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