SUMMARY
S&P 500 earnings season is upon us, with most focus on three large US banks that reported before the open on Friday (JPM, WFC and C)
The new UK government led by Labour is settling in, France remains messy, and President Biden continues to make gaffes, some funny if he wasn’t so determined to remain the expected Democratic nominee for President in spite of his slipping mental condition
US June CPI came in cooler than expected causing US Treasury yields to plummet on Thursday. Friday’s PPI data was more ambivalent, and consumer confidence came in lower than expected.
UK economic data continues to surprise on the upside, with May GDP exceeding expectations. China’s CPI data had price declines in June, a clear concern as the government continues to look for the magic sauce to jumpstart the Chinese economy.
In spite of a blip on Thursday in US equities, risk markets were generally on fire again as the week drew to a close, with most global stock markets registering solid gains WoW. Stateside, the Russell 2000 (value proxy) really ripped, serving up a big gain (+6% WoW), with the tech-heavy NASDAQ registering the worst performance WoW (+0.2% WoW) as tech stocks floundered.
MARKETS LAST WEEK
Global stock indices tracked by EMC were positive across the board last week, with emerging markets leading the charge. Relief rallies in Europe also took hold as investors settle in with new governments in the UK and France.
US stock indices were higher but unusually were led by small caps and large company stocks rather than tech shares. Momentum shares struggled leading the NASDAQ to a scant 0.2% WoW gain, with the small cap Russell 2000 up 6.0% WoW.
UST yields were lower across the curve last week, most pronounced at the policy-sensitive short-end as the cooler-than-expected June CPI figure sent bond prices soaring.
Corporate credit spreads were unchanged in USD investment grade, better in USD high yield and a touch wider in EUR-denominated high yield.
The USD continued to edge lower along with oil prices, while gold, the Japanese Yen and Bitcoin were all better WoW.
NOW WHAT?
US Treasuries rallied and stocks took a beating on Thursday following a cooler-than-expected CPI print for June in the US, a blip that was erased on Friday with most US stock indices (and many global indices) again heading towards all-time highs. It makes you wonder – “will stocks ever pause?”
I think that investors need to think about whether or not we might be at an inflection point, with earnings season starting and a complex political situation – at least on the Democratic side – facing the world in the upcoming US election. Not that I necessarily want to jump on the Mike Wilson wagon, but I absolutely see asymmetrical risk to the downside in the coming weeks for risk assets. Admittedly, these words have been said time and time again by Street analysts of all ilks for months now, only to be proven wrong as they revise their forecasts higher and higher to chase a market that continues to defy gravity, even if the rally has been driven by a narrow group of stocks. It’s risky to put this out there, but I am concerned for three reasons:
Earnings: Earnings season has begun, and the initial results have been mixed. Expectations are super-high – recall that FactSet’s consensus is for 8.8% YoY aggregate growth in earnings this quarter. There are 500 companies (actually 503 stocks) in the S&P 500, and some will slip up. Already Delta has disappointed, and three US banks that reported Friday beat earnings but were weaker-than-expected in some operating lines and were cautious on the outlook. However, the major risk for this earnings round is a combination of a miss (or disappointment) from one or more of the handful of tech companies that have driven the ascent of the indices, or the AI narrative begins to fade.
The economy (stupid): Investors have cheered every datapoint that suggests the US economy is slowing, on the basis that as inflation cools, the Fed will be more aggressive in easing monetary policy. I understand the positive effects of bottom-line margins related to lower borrowing costs and also the favourable effect on valuations of a lower discount rate. What I have never understood completely is how investors dismiss the effects of slower earnings growth associated with a slowing economy. Assuming the US economy continues to slow, I would expect this to matter much more to investors than whether the Fed is going to reduce the Fed Funds rate by 25bps in July or in September.
Valuations: I have heard over and over again about valuations being stretched for only a handful of S&P 500 companies although the index overall is arguably not at nose-bleed levels (although is historically high). If the relatively high forward P/E of the S&P 500 index at 21.2x (vs 17.9x average last 10 years) does not rattle you (and it may not), let’s look at two specific tech examples. Does it make sense to you as an investor that:
AAPL has seen its shares increase 39.9% in less than two months, from $164.78/sh on April 19th to $230.54/sh yesterday (31.2x forward P/E, 2.42x PEG). AAPL has been searching for a growth formula now for several quarters, as revenues have been slowly declining, and earnings have flatlined. Expectations are muted for the current quarter, and there is still no clear driver of future earnings growth. The remarkable recovery remains a mystery to me, unless it is FOMO-driven.
TSLA has seen its shares increase 45.5% in only one month, from $170.66/sh on June 11th to $248.23 yesterday (97.1x forward P/E, 4.50x PEG), even though the company is losing market share, is continuing to face headwinds in China (second largest market behind US), and is slowly morphing “downmarket” to more affordable and lower margin EVs. Or is the ridiculous 97.1x forward P/E all about robo taxis or some other speculative bet by the company? I wouldn’t get in front of TSLA on the short side, but the company is clearly facing headwinds associated with increasing competition and lower enthusiasm generally for EVs.
I own the former stock (although I lightened, too early in retrospect which is why I am not a trader), and I wouldn’t get near the latter except a punt on the short side, highly risky given the stock’s meme-like characteristics. (Having said that, my automotive bet was placed on VW a couple of years ago, the mother of all dogs and a mistake I don’t like thinking about.)
Even though my outlook for stocks has a downside bias, I will stay fully invested as always. Although FOMO haunts me at times like it does most investors, I do not intend to add to my equity positions at these levels unless there is a very severe dip in a single name I really like. In fact, I will probably go back to single name “covered call / long put” strategies on select stocks (under consideration), and also have extended the maturity dates of the index put options I own, some post-election out to January 2025. From a portfolio perspective, my more defensive stock strategy (i.e. tilt towards less cyclical names) has proven to be too early, but I am sticking with it for now. I wish I owned more NVDA and had a position I META of course, but it is what it is. “Old and boring” is the way to play this now, and I am mentally prepared for downside risk during the remainder of this year. I constantly remind myself that investing is not about a day, a week, a month, a year, or even several years. It is about decades. Don’t get caught up in euphoria either way, and keep investing regularly, because you will fail at market timing. My long-term subscribers know my views on the stock market and investing for the long-term. For new subscribers, you can read more about my philosophy in these articles on my website:
Stocks: do they always go up? (Feb 2023)
FINANCE 101: The rationale for retirement savings plans (May 2023)
WHAT DROVE MARKETS LAST WEEK
US June inflation data cooler than expected – link to BLS June CPI release here. PPI data released Friday morning more mixed, BLS June PPI release here.
UK growth for May surprised on the upside – GDP +0.4% MoM, vs consensus expectations of +0.2% MoM
Inflation in China was below expectations continuing a deflationary trend
French election ends with an unexpected result, but no majority, a messy situation
Earnings are off to a rather weak start, especially with banks cautioning on consumer spending of lower-income Americans
Fed chairman Powell testified before Congress on Tuesday and Wednesday; I heard / read nothing new
WHAT’S AHEAD THAT MATTERS
·President Biden – will he run, or will he step aside? Or to borrow the lyrics of one of my favourite songs ever by The Clash (1982): “Should I stay or should I go”?
Central bank policy meetings: ECB July 18; FOMC and Bank of Japan, both July 30-31; Bank of England Aug 1. Although I suppose the BoJ could surprise and the BoE is on the fence, the ECB and Fed are expected to leave monetary policy intact at their upcoming meetings, focusing instead on their respective September meetings.
MY TRADES LAST WEEK
Extended S&P 500 index puts to Dec / Jan (2025), and staying long equities. Have let USTs run off, which need to reload into fixed income most likley corporates.
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