KEY DRIVERS & CALENDAR
TIP – This is a brief bullet-point summary. It is a tool that gives investors and financial advisors a fast and simple list of what to news and market data watch that may move the markets.
- Ukraine Conflict (Ukraine Running Out of Ammo, Losing Ground, Peace Agreement Possible?)
- Rising Inflation, Recession & Stagflation Fears
- Wednesday, July 6 – JOLTs Job Openings (May)
- Friday, July 8 – Unemployment Rate (June)
On July 6, the same day as the release of the minutes from the most recent Fed meeting, the EU will publish its updated economic estimates. On Friday, July 8, the US will closely watch the June employment data. Investors in the United States will benefit from an extended weekend thanks to Monday being a national holiday on July 4.
S&P 500 SECTORS
Tip: Use this section to know various sectors’ performance, and weight portfolios, or look for trades. Modern portfolio theory stresses the importance of diversification, but recently several sectors like technology have outperformed others like utilities. This is also a way to narrow the sectors to find investment opportunities.
WEEKLY MACRO: The Fed, Supply Glut, and Recession Fears
Last week, the financial markets continued a bear trend with a few up bumps, only to fall down shortly after. A 20-year record of -29.5 percent for the Nasdaq, for instance, makes the index performance for the first half of the year very BEARISH. Some market analysts are suggesting this may be a good time to start looking at buying quality tech stock like Apple (APPL), but I am still not sure if we have hit the bottom. More importantly, the risks of a recession could hurt Apple as consumer spending could drop.
The first set of quarterly results, scheduled to be released in two weeks, will allow us to compare the goals we established a few weeks ago with the state of the economy now, so caution is still the watchword. At the start of the year’s second half, there is, therefore, still a lot of uncertainty. Still, there are also opportunities for good companies whose valuations have automatically become once again reasonable.
The big question for investors is, “Are central banks exaggerating the prospect of rate increases to avoid implementing them fully?”
Investors appear to like this scenario, which supported the comeback earlier this week. But the most significant risk is still the worry of a recession and its effects. The health of the American consumer will need to be closely watched in the coming weeks.
The Fed’s present wager includes the consumer: if he can continue to spend until rate hikes or threats of rate hikes, you guessed it, have calmed inflation, the gamble for a soft landing may succeed. Still a lot of conditional in there.
Last week, the Dallas Federal Reserve released a number of measures, each of which indicated a deteriorating economic situation. In contrast to May’s reading of -7.3, the Texas Manufacturing Index of General Business Activity was reported as -17.7 in June. From 1.5 in May to -12.4 in June, the Texas Service Sector Index of General Business Activity decreased. Shipments fell to 1.2 from 13.1, the manufacturing delivery time index rose to 19.9, and the growth rate of orders dropped to -5.3 from -16.2.
In a recent interview with CNBC, Cathie Wood of ARK stated that she thinks the United States is already in a recession. (last time I checked her fund was down 40%). The increase in inventories, which I’ve never seen this large in my experience, is what we [ARK] believe to be the main issue at hand. This often reflects regional activity in Texas, where manufacturing has drastically declined due to the buildup of inventory, which is lowering revenues and forcing firms to cut staff.
In the run-up to the 2008 Great Financial Crisis, Scion Capital’s Michael Burry, who gained notoriety for his “Big Short,” mentioned the “whiplash” effect, which predicts that larger inventories and a “retail supply glut” will result in lower pricing. Burry seems to be advocating for deflation later this year, which, in his view, will force the Fed to reverse its tightening cycle and result in even higher inflation. Burry has been vocal about the potential for hyperinflation.
I anticipate food and commodity prices will stay high overall due to supply, production, and distribution issues, even if retail outlets should drop prices to clear away excess supply. Investment company JPMorgan has forewarned customers of probable “unplanned supply interruptions” brought on by international upheaval, which may raise costs.
The Federal Reserve is dedicated to utilizing interest rate policy to fight inflation for the time being. Jay Powell, the chairman of the Federal Reserve, appears to favor raising interest rates even if doing so sends the US into a recession, suggesting that the risk of out-of-control inflation outweighs the risk of a slowdown in the economy.
I predict that tightening and raising interest rates will temporarily tamp inflation but not completely eradicate it. Unfortunately, I view Powell’s statement this week that there is “no certainty” that the Fed can effectively combat inflation. This will like result in generally high pricing for most goods while financial assets and housing prices decline due to tighter lending standards.
Worse Case Scenario With The Fed
The most significant risk I see for the coming year, which is a worst-case scenario, is that:
- The Fed is unable to stop inflation (which is a no-brainer).
- Attempts to combat it result in a recession (another no-brainer).
- The Fed decides that fighting inflation during a recession is too painful and risks a severe economic depression.
- The Fed reverses course, loosens monetary conditions, and increases inflation.
- The Fed is If this series of events takes place, Ray Dalio’s inflationary depression scenario becomes plausible.
May sees a slowdown in consumer spending growth as the economy is burdened by higher prices.
There is a lot of coverage of the May consumer expenditure data out last week, but we choose to highlight this one because it leaves out something quite odd: Only nominal spending growth is reported. In other words, the numbers don’t account for inflation. Then it makes several assumptions about how the nominal 0.2 percent m/m rise, which moderated from April’s 0.9 percent, signifies that families are feeling the effects of inflation.
Consumer spending decreased by -0.4 percent m/m after accounting for inflation, which seems to support the argument made in the headline and makes further investigation worthwhile.
Let’s dig into the numbers a bit.
Spending on goods decreased by -1.6% m/m, with durable goods spending falling by -3.5% m/m and non-durable goods spending falling by a softer -0.6%. However, spending on services increased by 0.3% month over month, maintaining steady growth. This division between commodities and services is not new and has not always resulted in a decline in overall inflation-adjusted spending.
Also occurring in November and December of the previous year, spending remained stable in February as an increase in services offset a decrease in products. Consequently, even while we don’t think May’s report is good news, we also believe it is too soon to make broad inferences from it.
The decrease in spending on durable goods may be more related to a weak supply than weak demand, with China’s springtime COVID lockdowns having extremely noticeable effects on the supply chain. However, the decline in spending on non-durable products may signify that households are reducing their fuel use due to rising prices. Or, consumers might be cutting back on discretionary spending in favor of prioritizing necessities.
In summary, I think we are unlikely to see a jump in Q3-4 for stocks as many have predicted because spending and sentiment are very likely to be bearish.
A missed bond deadline indicated Russia’s first default on foreign debt since 1918.
Contrary to the named default in 1918, it didn’t occur since the Bolsheviks declared tsarist Russia’s debt invalid. And unlike the majority of global defaults since then, it wasn’t brought on by the Treasury running out of funds. Instead, the clearing agent stopped payments to the investors due to Western sanctions after Russia delivered the money.
That was mostly inevitable because it was publicly known that the payments due on May 27 hadn’t been forwarded to bondholders, starting the countdown to a 30-day grace period. That was over on Sunday. According to the report, losing access to global capital markets is often the result of a bond issuer defaulting, but due to sanctions, Russia already lost this access months ago. Additionally, it continues to get hard currency from the sale of its oil and gas, negating the need for substantial external borrowing.
A declaration of default will likely trigger credit default swap payouts, but the global financial industry’s exposure on this front is pretty low. Furthermore, the chance of contagion is almost nonexistent given the default’s aforementioned special circumstances. We believe that this is merely an intellectual curiosity.
A significant decline in the yields on US bonds with 5- and 10-year maturities confirms the shift in market sentiment. The yield on the 10-year T-Bond is 2.91 percent, down from 3.10 percent last week. Recessionary fears have caused the 6-month maturity to increase to 2.48 percent. With the German Bund yielding 1.26 percent in 10 years compared to 1.48 percent last week, softening is also anticipated in Europe. The French OAT decreased from 2% to 1.83 %.
Inflation is slightly down, this week, but I think it will likely jump up again due to July 4th spending. It will also become a major political issue going into elections as Americans pay more for everything.
Decentralized finance (DeFi) firm Truflation is based on the same calculation method as the CPI but is different in that it uses real “price data” versus the government’s survey data. It uses current real-market prices data from Zillow, Penn State, and Nielsen to measure and report inflation changes each day.
It is evident that the decline in US economic figures impacted oil prices to be lower than what they should be. While fundamentally, oil markets remain extremely tight due to restricted supply, the possibility of a recession continues to be the primary driver of price growth in the short run.
In this regard, OPEC+ has acknowledged a rise in output of 648,000 barrels per day while noting that there is little room for them to aggressively expand their production capacity. But Joe Biden, who is due to visit the Middle East and press local producers for a more significant boost in production, will address this issue later in July. With US WTI light crude at USD 107 and the North Sea Brent at USD 110 per barrel during the course of the week, oil lost some ground temporarily.
Lots and lots of red. Every industrial metal reported a poor performance for the week, and they all finished the first half of the year close to their lowest levels ever. This is true for copper $8245 a ton, aluminum $2400, zinc $USD 3250, lead $1900, nickel $23,000, and tin $27,000.
Base metal prices are affected by recession fears and bad economic data. Gold holders can find solace in the dollar-denominated metal that has only lost close to 2 percent of its value since January 1. An ounce of gold currently trades for about USD 1,800. I am tempted to buy Gold for inflation reasons, but not sure how the recession will affect it.
Bitcoin, meanwhile, just finished the month of June with a -37 percent decline, marking its lowest quarter since 2011. The digital currency is currently trading at around $19,000 as of this writing, continuing its decline that started in November 2021. In this severely deteriorating macroeconomic situation, where Bitcoin is still highly vulnerable, investors’ nerves may be tested even more this summer.