VTI - Investors Start To Awaken To A New Reality

2023-09-29 11:48:43 ET

Summary

• After a sizzling performance in the first half of 2023, equities have now declined in both August and September as the third quarter closes on a down note.
• Investors seem to be starting to realize that both the economy and the American consumer are weaker than initially believed.
• This could have important ramifications for equities as we head into the final quarter of 2023.

"Reality is that which, when you stop believing in it, doesn't go away ." - Philip K. Dick

On July 17th, I laid out the reasons that investors were unlikely to like the " reality check " heading their way. That piece almost perfectly coincided with the top in the market, with September on its way to becoming the worst performance month for equities so far here in 2023.

It has been a tale of two separate halves of the year for investors in 2023. In the first six months of this year, the S&P 500 (SP500) posted a sizzling 15.9% return. However, as I have noted many times, there was no breadth to this rally. Taking out the performance of the " Magnificent Seven ," the rest of the S&P 493 actually were slightly down on average in the first two quarters of the year.

Unfortunately, even members of the Seven have started to falter in the third quarter of this year, which can be seen in the chart of Apple ( AAPL ) above. Outside the energy sector, which has benefited from the approximate 30% rise in crude oil prices this quarter, there has been precious little strength from equities since mid-July.

It appears we are getting a bit of a relief rally to end September and the third quarter. However, I expect this to dissipate soon. There have been a couple of solid calls this week that I will repeat as I think they offer the proper outlook for investors as we head into the fourth quarter.

The first is from JPMorgan Chase & Co.'s ( JPM ) Chief Strategist Marko Kolanovic. He noted that " the stock market is set for a more volatile period and also faces a core risk of an interest rate shock. " Mr. Kolanovic also stated investors are likely to get a better return from short-term Treasuries than from equities. It is important to note that Mr. Kolanovic was one of the bigger bulls on the market near the end of the broad equity selloff in 2022, and he has now changed his view. I concur with his investment thesis now, and it is why I have half of my portfolio in short-term treasuries yielding 5.5% at the moment.

The second good take on the market this week comes courtesy of the CEO at asset manager TCW Group. She stated yesterday that " A recession is all but inevitable for the U.S., and investors should be playing defense in that kind of environment. "

I wholeheartedly agree with that assessment for myriad reasons. The most important of which is that the Federal Reserve has implemented the most aggressive monetary policy since the days of Paul Volcker on an economy and consumer that is much weaker than it initially believed. This can only lead to one eventual outcome, something important " breaks" in the economy. When that happens, equities can only head lower in my opinion.

As I highlighted in my article earlier this week, the " Consumer Is Toast ." All the excess savings built up from the government largesse during the Covid pandemic and its aftermath have now been burned through. The personal savings rate stood at 3.5% in July, the lowest level since the great financial crisis of 15 years ago.

In addition, it seems that every important government economic reading ends up getting revised down, pointing to an economy that is much weaker than initially portrayed. Let's take personal consumption. Yesterday, the personal consumption component of GDP was revised down as the latest second quarter GDP revision came out from 1.7%, all the way down to just .8%. Not only that, but this component was also downwardly revised for most quarters going back to the start of 2022 when the Federal Reserve began their tightening cycle.

In addition, the jobs picture is worsening and also weaker than has been initially reported. Full time jobs fell in both July and August, according to the Bureau of Labor Statistics or BLS. It was only a surge in part-time jobs that kept the headline number in positive territory. It also should be noted that the BLS has revised every single monthly initial jobs number down in subsequent revisions so far in 2023.

Over the last two months, investors have started to awaken to this reality that the economy and the consumer is much weaker than initially reported. This was a key reason, along with continued rising interest rates and a big rally in energy prices, that the major indices posted losses in both August and September.

Unfortunately, I think that pain continues into the fourth quarter, and my plan is to remain very conservatively positioned within my portfolio until the Fed becomes more ready to " pivot" to a more accommodating monetary policy. Unfortunately, this is probably a few quarters out in the future or comes as a result of something major breaking in the economy.

"Reality is merely an illusion, albeit a very persistent one ." - Albert Einstein

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