Weekly Update (09-12 – 09-19): Typical September Price Action

Hi all –

We hope your September is going well! We wanted to send out an update on what we are seeing in markets entering the final few months of the year.

• Earnings season wraps up with the bears feeling disappointed that there was not more capitulation, in the form of investors selling stocks. Compared to Q2 ’22, when over 50% of S&P 500 companies mentioned the word “recession” on their earnings calls, in the quarter just ended Q2 ’23, only 13.7% of S&P 500 companies mentioned or expected a recession.

• This data point is arguably important, not just because of the remarkable improvement in sentiment among the mega-firms dominating the S&P 500, because it also supports our viewpoint that last year was a year of “rolling recessions” that hit the economy with different impacts, and at different times. As Ed Yardeni (CEO of Yardeni Research) has pointed out, we now appear to be in a “rolling recovery.”

• Contrary to what may seem obvious, recessionary conditions and tightening credit standards may not be bad for very large companies with very low debt levels. Since many such companies reside in the S&P 500, especially among the Magnificent 7, one could argue that these companies with their reliance on self-funding through their huge free-cash-flow generating ability, has made them impermeable to the need to tap the capital markets to raise debt, also blunting some of the impact of rising interest rates on the economy. In other words, the Fed’s typical mechanism for slowing the economy may not work well this time, because America’s largest companies are simply too strong, and may be widening their competitive advantages over debt-burdened businesses.

• Inflation continues to come down, with the 3-month annualized rate of core inflation clocking in right around 2.1%. This is right at the Fed’s target and begs the question of why the Fed seems overly focused on Year-over-Year figures, when they seem to not support contemporary views of inflation. Simultaneously, investors’ views of future inflation seem to be moderating, with breakeven 3-year TIPS rates settling around 2.8%.

• Labor Force Participation seems to be the key lynchpin that will allow the Federal Reserve to thread the needle of raising the unemployment rate, without causing a recession (while allowing them to defeat inflation.) The Civilian Labor Force is growing at 1.9% per year, more than twice the pre-COVID 10-year average.

• While the importance of this figure is a little wonky to Economic Statisticians, the reason is that basically when the labor force grows, there are incrementally more folks seeking jobs each month. This has a dampening effect on wage growth, as it becomes easier to “replace” workers seeking much higher compensation. Since a wage-price spiral (i.e., strong labor negotiating powers driving up incomes, and thus spending, and thus inflation) is the Fed’s central worry, the labor force growth is arguably the silver bullet that will fix this and allow a soft-landing to prevail.

• According to T Rowe Price’s CIO Sebastien Page, who admits to getting less bearish lately, there is still an estimated $5.5 trillion in money market funds, and over $4 trillion in bank deposits. As he has stated it, “there is a giant blob of cash eating all the negative news.” In other words, with so much excess cash, investors are using selloffs to buy dips and keep the market afloat.

• Household Wealth in America surged to $154.3 trillion and has never been higher, according to CNN (increasing 4% between the end of March and the end of June.) Much is driven by the stock market. Our view is that the “my neighbor is getting rich in the market” scenario is one that will eventually blossom into a full-blown bull market in which sentiment becomes ebullient again.

• In the absence of more data, we remain vigilant and fully invested, aware that the macro “narrative” may devolve due to seasonality, and we may enter this period of no news, in which we would not be surprised to see more volatility due to non-fundamental and non-worrisome reasons