Control Panel: Soft landing ahead?

All METARs know that the Federal Reserve has been raising the fed funds rate at the same time as gradually decreasing its bloated book of bonds in an effort to reduce inflation to its target of 2%. So far, the results are tepid. After months of rapid raises in the fed funds rate, the median CPI (which the Fed thinks can provide a better signal of the underlying inflation trend than either the all-items CPI or the CPI excluding food and energy (also known as core CPI) changed +0.5% in October 2022. The PCE excluding food and energy (the Fed’s preferred inflation indicator) ticked down a fraction but was still 5%, way above the Fed’s goal of 2%.

The Fed will announce its December change in the fed funds rate this coming week. The market expects + 0.5%.

Employment is strong and the ratio of jobs to applicants is 1.7. Wages are increasing fast (up 5%) but less than the inflation rate. The Labor Department will release its November reading for the consumer-price index Tuesday. The report will offer the Fed its last look at inflation before it announces its final interest-rate decision of the year on Wednesday.

Despite the Treasury yield curve indicating a future recession more strongly than in the past 30 years the markets are expecting a soft landing.

Investors Grow More Confident Fed Will Pull Off a Soft Landing

Mutual funds and hedge funds are putting money in stocks that would benefit from slowing inflation, falling rates

By Akane Otani, The Wall Street Journal, Dec. 11, 2022


Mutual funds and hedge funds managing roughly $4.8 trillion in assets have been putting money into stocks that stand to benefit from inflation cooling, interest rates going down and the U.S. economy avoiding a recession.

The investors have larger-than-average positions in shares of industrial, materials and energy companies, Goldman’s analysis found. All three groups tend to be sensitive to changes in the economy, meaning investors’ bets should eventually pay off if the U.S. can avoid a deep and prolonged downturn, or a “hard landing.”…

Whether there winds up being a recession or not, many say they are in agreement on one thing: Markets are likely to remain volatile for some time…[end quote]

While everyone hopes for a soft landing that will bring down inflation without a recession it’s hard to put confidence in this.

Since the beginning of 2022 the SPX has followed a pattern of lower highs and lower lows. Last week fell back from the most recent high set on December 1, 2022.

The Fear & Greed Index fell to Neutral. The trade is neutral since the SPX, junk bonds and UST are bouncing around in a similar range. USD is falling since the market thinks the Fed will slow interest rate rises while the ECB and UK central bank are expected to raise more rapidly.

Copper, silver and gold are rising while oil is falling and natgas has stabilized in a broad channel.

The Treasury yield curve has fallen dramatically at the long end while rising at the short end, leading to a strongly inverted yield curve. There is a strong trend of falling long-term interest rates which may or may not stabilize. The 10-year TIPS yield is also falling.

The 10-Year Treasury Constant Maturity Minus 3-Month Treasury Constant Maturity spread is -0.74%, the deepest spread since December 2000 and a clear indicator of approaching recession.

The 10-year breakeven inflation rate is 2.26% so the market is showing confidence that the Fed will be able to control inflation. I am less confident than the market so I am buying TIPS instead of fixed income that is not inflation-adusted.

The METAR for next week is uncertain. The Fed will announce its raise of the Fed funds rate. If it is 0.5%, as the market expects, there will probably be a stock market rally. The Fed will emphasize, as it has many times before, that it will continue to tighten until inflation has been controlled for an extended period of time. The market won’t listen as it hasn’t listened before – but then it may face reality and drop. Will there be an end-of-year rally? Too soon to say.

Wendy

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I have been in the soft landing camp since last December looking at 2023.

The reason is demand in the economy is strong. When I see the slow down seemingly in retail spending it worries me but demand is not just a dollar figure in a quarter. I get recessions are measured as such but the real quality of a deeper recession is like the great depression when there was no demand for many people. That of course is hard to call a tangible idea.

People are okay. Even with the lower middle class racking up their credit card debt. The job market is not going to dip until 2H23. Perhaps only in 4Q23 if we look at 1948. The debtors will easily hold on and pay off much of their debt.

Also some student debt forgiveness economically could go a very long way. Expect some progress on that by the end of 2023.

The IRA means retooling in the down year of 2023. That is a huge boon. Well done for the American public. I expect major results going forward.

We have marginal recessions on an individual basis. We do not exactly have recessions of a societal nature. The stats are reported as societal.

An individual corporation is also what I mean by individual casualties. A homeowner being foreclosed on is another example.

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I would point out the political realities of recessions. 2024 is a presidential election year and it is far more comfortable for the party in office to be coming out of an inevitable recession than to be in the midst of one. Usually, the year of a presidential election sees the equity market rising - and when it does the reverse, it usually means a shift of power at the top.

Jeff

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If Powell wants to hasten the recession then he should raise by 75 bps this week. Maybe he will?

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If he does that, it will be the last straw for me. I’ll dump QQQ and radically change my investments. I am that close to losing patience on a market recovery.

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That’s what is commonly known as “capitulation”. And it may be exactly what “they” want to see happen before they decide they are on the right path to “fix the economy” and “eliminate the inflation spike”.

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I am positioned (and have been for over 1 year) for capitulation.

I’m looking forward to the day that the market reflects the reality that the US cannot keep kicking the can down the road and needs to address the overpriced market that has grown with the Fed pumping Trillions into the economy.

While I say I’m looking forward to capitulation, I do not look forward to what effect that might have on other investors who may be caught with their pants down ie overly leveraged in this market - as I do not wish anything bad on my fellow investors.

'38Packard
==> patiently waiting for the S#!T to hit the fan.

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Yellen’s interview with Norah O’Donnell certainly has her rose colored glasses on.

The NY Post had an article about the tug of war berween Powell & Yellen.
Powell wants to bring down inflation ASAP. Yellen not so much as 2024 election nears.

Ack! I’m a tool! :smiley:

Who remembers Jay saying this nearly 4 years ago? The process, Powell proclaimed, was on “automatic pilot”: It would not be slowed or hindered, even if stock prices plunged or the bond market panicked.

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I too am positioned for the possibility of capitulation, a steep crash below the lowest lows this year, and possibly slow 80’s style recovery. If I am wrong my stocks will outperform my cash just like 2000-2 and 2009-11.If I am right, I will have cash when Cash is King.

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@iampops5 and @38Packard I’m with you. Heavily invested in short-term Treasuries and TIPS that will mature in 2023, waiting for capitulation.
Wendy

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There’s a very old saying in investing. Don’t fight the Fed.

I humbly suggest if you are investing in such a way that a 50 - 75 bps rate increase this week is bad for your investments, you are trying to fight the Fed.

–Peter

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Jeff,

That dye was cast this year with the IRA. We will see massive GDP growth in 2024. Meanwhile in many segments the build out will begin in 2023.

Met a young man yesterday who is working locally in a firm that builds skyscrapers. He is involved as a worker on the steel in those buildings. His industry is going to become bulletproof next year. It is already very hot.

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@iampops5 and @38Packard I’m with you. Heavily invested in short-term Treasuries and TIPS that will mature in 2023, waiting for capitulation.

I’m similarly positioned; currently 25% Japanese equities, 75% dollars and short-term US treasuries.

I previously held euros but it’s quite hard to justify that when eurozone inflation is around 12% and euro short-term rates are 2%, and when the euro always seems to dump at the same time as stockmarkets.

One small difference. I’m not waiting for capitulation. I’m just waiting for ‘reasonable’ prices. Doesn’t need to be accompanied by any particular market movement.

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What happens if capitulation doesn’t happen? How do you then decide when to get back in to the market?

Or if waiting for “reasonable” prices, how do you determine that? Solely by P/E? Which markets? Which segments? Do you adjust that for prevailing interest rates? Etc.

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Or if waiting for “reasonable” prices, how do you determine that? Solely by P/E? Which markets? Which segments? Do you adjust that for prevailing interest rates? Etc.

A bunch of metrics.

Shiller CAPE is still wildly high.

Buffett Ratio still high.

Price/earnings 1-year is higher than normal

Yields not impressive.

Price/sales not impressive.

All of the above especially bad given an incoming recession, rising rates, high inflation, & global synchronised housing crash.

I’m using the whole market as a gauge. Picking sectors is tricky with inflation, recession, wildly fluctuating supply chains and energy costs.

I don’t think we’re at an extreme high valuation generally, just very high. But, very high + recession is extremely high in context.

I don’t adjust for interest rates (short term) but I keep an eye on long-term bond yields as a prospective alternative investment.

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Interesting! When was the last date that your requirements were met?

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Great question. I’m hoping for the S&P to hit somewhere around 2800. That’s a target number that I wrote down about a year ago from a post on the BRK board. Not sure who posted it, as I would give a shout out to the original poster - but the rationale for 2800 was pretty solid in my mind - so I’m going with that target.

In the meantime, I’m 90% in cash / cash equivalents and waiting for the shoe to fall. If it doesn’t - no problem. Our conservative financial plan requires us to make 2% annually at a 3% annual (average) inflation rate. I know inflation is not 3% right now, but given the law of averages, I think we should be OK staying out of the market.

I’d get back in with 20% of our retirement money at S&P 2800 just to have lots of fun money to spend on future grandkids :wink:

'38Packard

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I know many people, including me, who were waiting for the S&P to hit 650 before getting back in in 2009. We’re still waiting! :face_with_symbols_over_mouth:

The problem is, what happens if there are a few years of making 3% with inflation at 7%? Two and a half years of that reduces your purchasing power by a full 10%!!! Arggghhhh.

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I’ll just have to take the credit card away from DW… :wink:

'38Packard

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