2024-01-13 01:36:09 ET
Summary
- 2024 is likely to be a “show-me” year where valuations and profits have a tug of war as drivers of equity prices.
- New banking regulations, such as the Basel rule, may stifle lending and have unintended consequences on the U.S. economy.
- Electric vehicle startups are facing financial struggles, with many at risk of running out of cash, causing billions of dollars in losses for investors.
- CPI and PPI inflation reports present slightly different pictures, the Fed now turns to the PCE report for more evidence.
- Unless resolved, all of the MACRO issues that are present today will eventually have severe impacts on the economies of the world.
“People calculate too much and think too little.” Charlie Munger
The Macro View
The U.S. economy continues to perform relatively well – and by that I mean it is confounding all of the experts who have been forecasting that it would be in a recession by now. The end of the year inevitably brings the surge of recaps for the past year and outlooks for the coming year. I have been coming across plenty of commentary of late that has talked about how the economy surprised most economists by avoiding a recession during 2023 – but then went on to emphasize that a recession appears to be in the cards for 2024.
We shall see how things develop from here. As mentioned in my 2024 Outlook, I'm going to put less emphasis on trying to forecast this economy . There is nothing "normal" or routine about this particular economic cycle. The conflicting signals that confused many are still present. The fact that we are also in an election year adds more uncertainty to the fundamental picture. Let's see where the "official" GDP data takes us and proceed from there. The equity market is NOT forecasting economic trouble for at least the first half of the year. If economic trouble lies ahead, the stock market by its price action should sniff that out as the year progresses.
When I take a step back and take a big-picture view of the economy today , I do not see too many signs of imminent trouble. If the economy does slip into a recession this year, it will change the scene entirely, and that includes the corporate earnings picture. We already had two quarters in a row of negative GDP in 2022, but that wasn't called an "official" recession. When they start shifting the goalposts, it's best to sit back and let the others forecast the show.
The stock market has adopted an "immaculate" soft landing view that is seen as materializing even faster than originally thought, and that view comes with an interest rate-cutting frenzy. Heading into 2024 the equity market seems as convinced about a soft landing today as it was convinced of a recession in 2022. At the very least that should get us to tap the brakes on the "euphoria".
In the meantime, the S&P 500 is near its all-time closing high (4,796) and unemployment is near its cycle low. The short-term lesson is not to stand in the way of a market that wants to express an opinion, while the longer-term lesson is that the economy is exhibiting the DNA of a tortoise. No matter the conviction level the equity market wants to have, the economy may take longer than most think to reveal its ultimate answer. I continue to believe that Wall Street is overpromising investors when it comes to rate cuts. The fed funds futures are pricing the odds of a cut taking place no later than the March meeting at a whopping 93%. That confirms my view - this circus that continues to put on a show regarding what the Fed will or won't do is all "noise".
It's simple. Unless the FED becomes "political" in an election year, the data that they have referred to as their yardstick will determine the path of interest rates. At this moment in time, no one has a clue as to how that data is going to roll out during Q1. Those who proclaim they do have that answer are practicing the art of "speculation", and I like to avoid that game at all costs.
In keeping with my ongoing strategy (separate the Short term from the MACRO view), I can see the "Goldilocks" view of the economy remaining through Q1, especially if Atlanta Fed's GDPNow forecast for Q4 GDP in the 2% range comes to fruition. The Three-headed monster was neutered in Q4 '22 and lower interest rates (i.e. 10-year Treasury yield), a weak dollar, and muted crude oil prices resulted in a rally in stock prices. Watch that pattern VERY closely .
I do expect the remainder of this month and possibly the entire first quarter to be very interesting. Many have highlighted the reasons why the equity market should pull back, and it might be enough to shake out all of this renewed optimistic sentiment that we’ve seen in the stock market since November ’23.
2024 is likely to be a “show-me” year when valuations and profits have a tug of war as drivers of equity prices. Economic slowing can quickly morph into a much weaker economy, an uptick in unemployment, and challenged profits.
Morgan Stanley research points out;
"The line between bad news being good , and bad news being bad is fragile and porous."
We saw that type of change happen quickly last year going from Bearish in October, to Bullish in November. Stay tuned.
Global Markets
Global growth is projected to slow to 2.7% in 2024, which would be the slowest calendar-year growth since 2020. We should expect global growth to remain highly dependent on fast-growing Asian economies.
India offers outsized opportunities within EM, with a 10% Compound Annual Growth Rate in nominal GDP growth over the past 20 years Investing in India’s medium-term growth story continues to produce winners. India's economy is expected to comfortably surpass the government's growth estimate of 6.5% in FY24
China & Deglobalization. China is expected to finally restructure property developers and local government financing vehicles, and strengthen social safety nets to encourage household consumption. GDP growth estimates range from 4.1% to 4.9% for 2024.
How these two economies fare will go a long way in keeping other developed economies (Eurozone) afloat.
In the table below we see the macroeconomic and market data points for 23 major global economies. For the macroeconomic data, in addition to current readings, we also see the forecasts for 2023 headed into this year and forecasts for 2024.
Global Markets (www.bespokepremoum.com)
Forecasters underestimated the strength of the global economy in 2023 as actual readings on CPI came in cooler than expected and unemployment and GDP exceeded expectations. Forecasters are once again predicting growth to slow this year, inflation to continue cooling, and employment to modestly tick up.
The Brazil ETF ( EWZ ) showed a positive technical setup and is favored as a "trade" or an intermediate (6-9 months) holding. On the Fundamental side, the EWZ trades with a PE of 9 and has a yield of 4.9%. If the forecasts are correct, there is only a 10% chance of Brazil falling into a recession in '24.
The Week On Wall Street
There was no economics news on Monday's calendar, but there were plenty of announcements from individual companies concerning guidance and Q4 performance. This week marks the unofficial start of Q4 earnings season, while attention swung to what was discussed at the JP Morgan Healthcare Conference and the 2024 Consumer Electronics Show.
The cautious start to the New Year ended when the BULLS took control and pushed the indices higher. The S&P 500 added 66 points and left analysts/investors wondering if the 5-day mini pullback was all the weakness we were going to get.
The remainder of the week was highlighted by plenty of churning price action with the general market direction tilted to the upside. The megacaps, which were a drag last week, rotated back in favor, providing leadership again. However, there was also plenty of rotation under the surface with no real staying power in many of these mini trends. As an example, some of the megacaps were weaker than the general market on Friday.
That suggests investors will have to dance between the raindrops to generate some alpha in the short term
The Economy
Inflation
Headline and core CPI each rose 0.3% in December, slightly above forecasts. These follow respective November gains of 0.1% and 0.3%. The overall rate bumped up to 3.4% y/y from 3.1% y/y previously. Additionally, the core rate slowed to 3.9% y/y from 4.0% y/y, the first time below 4.0% since May 2021.
Energy prices rebounded 0.4% from -2.3% last month. Gasoline prices edged up 0.2% after slumping -6.0% previously. Housing prices increased 0.4%, also identical to the prior month's gain. Shelter costs increased 0.5% from 0.4%, with owners' equivalent rent up 0.5%, the same as in November.
Transportation edged up 0.2% from -0.6% with new vehicle prices bouncing 0.3% from -0.1% and used car prices climbing 0.5% after the prior 1.6% jump. While the report revealed some progress on inflation, the Fed's 2% target is still some distance away.
However, Friday's weak PPI figures challenged the disappointingly firm 0.3% December CPI gains for both the headline and core. PPI undershot assumptions in December with a 0.1% headline drop and a flat core figure. leaving a third downside surprise in Q4 after three consecutive upside surprises in Q3. The Fed now looks to the PCE report for additional information.
NFIB Small Business Optimism Index - A Different year same results.
NFIB Chief Economist Bill Dunkelberg;
Small business owners remain very pessimistic about economic prospects this year. Inflation and labor quality have consistently been a tough complication for small business owners, and they are not convinced that it will get better in 2024.”
While the index did increase 1.3 points in December to 91.9, that was the 24th consecutive month below the 50-year average of 98.
The Banking Sector
Policy and regulations have consequences. Many times these are unintended consequences that no one wants to remember or speak about. There is no other industry like the banking industry when it comes to regulations and they often come with "dirty little secrets". The Great Financial Crisis taught everyone a lesson, but ONLY the banks seem to have learned it. Those who followed that script came to realize ALL of the facts of the banking system failures back then.
Make no mistake the banks played a role in the GFC but they simply were carrying out government policy. The housing bubble, driven by U.S. government policy to increase homeownership, is the primary cause of the financial crisis. Starting in the late 1990s, the government, as a social policy to boost homeownership, required Fannie Mae and Freddie Mac to acquire increasing numbers of “affordable” housing loans. (An “affordable loan” is made to people who normally would not qualify.) Given this green light to let "everyone" in on the American Dream of home ownership, every lending institution followed suit because the Government "policies" incentivized and even mandated banks to extend subprime loans. After all, who were they to deny home ownership to "everyone"? Make no mistake they all made fortunes but the root cause was black and white.
By 2007, 55 percent of all loans made by Fannie and Freddie had to be “affordable.” By June 2008, 27 million subprime housing loans were outstanding (19.2 million directly owed by government or government-sponsored agencies) with an unpaid principal amount of $4.6 trillion. Approximately 50 percent of all mortgages outstanding in the United States in 2008 were subprime or otherwise deficient and high-risk loans. The fact that two-thirds of these mortgages were on the balance sheets of government agencies, or firms required to buy them by government regulations, is irrefutable evidence that the government’s housing policies were responsible for most of the weak mortgages that became delinquent and defaulted in unprecedented numbers when the housing bubble collapsed.
In essence, the great Financial crisis is the poster child for how the "all-inclusive", let's make everyone "equal" can have unintended consequences. The FACTS and statistics show that government policies (including actions by the Fed), not greedy bankers, caused the financial meltdown. The government continued to force its agencies and private parties to give housing loans to those who could not afford them. That left a problem for innocent bystanders as well. Taxpayers were on the hook for hundreds of billions of dollars in additional debt to clean up this "equality directive". Without the government's intervention, there would have never been a housing crisis.
That bit of FACTUAL history brings us to the present. Today we have something called the "Basel endgame" proposal , which overhauls how banks must calculate their loss-absorbing capital , as regulators roll out fair lending and fee cap regulations, among other rules. In simple terms the banks will have to stockpile more cash, reducing the ability to make loans. Loans that grow the economy. Like many of these "regulations," it's another dirty little secret' that never makes the newswire.
However, it did get the attention of the CEOs of the large banks as they were asked to give their views on the new regulatory proposals. The Basel rule, which the Federal Reserve is leading will have consequences. It will stifle lending, hurting small businesses and consumers. The latest stats show just how tight lending standards are today.
Credit ( Home )
If enacted as drafted, this proposal will fundamentally alter the U.S. economy in ways that the Federal Reserve may not have intended. One of the ironies is that it will impact smaller lending institutions greater than their larger counterparts, thus making the too-big-to-fail banks even larger and more dominant. Finally, the "cost of capital" will increase producing an economic drag that slows and or kills the economy's ability to grow naturally.
As mentioned at the beginning of this narrative - only some have learned. Once again we have government regulations dictating policy that can do more damage than good. Part of this regulatory scheme comes from the latest banking debacle in California. An autopsy of that fiasco reveals that there were plenty of regulations that could have avoided the issue. At the end of the day, it was a failure by bank officials and Federal regulators who simply didn't do their job in enforcing those regulations that failed the system. It is also why this so-called crisis was contained and did not spread to the rest of the US banking system. It was a failure at the local level in California, and now the same Federal Reserve wants to institute more regulations that can stifle the U.S. economy.
A strong unencumbered financial sector is a requirement for a growing economy. With GDP growth forecasts coming down, Financials are a KEY to a stable economy and market in '24. The analysts calling for a soft landing will need the banking sector to remain robust and be able to operate without a ball and chain.
The Global Economy
Germany, the beleaguered manufacturing giant reported factory orders up just 0.3% MoM. That pessimistic data for November was met with a more optimistic tone from exports where sales abroad rose 3.7% MoM versus 0.5% expected. The result was the highest trade surplus in current euros since January 2021 and the second-highest since 2018. Export volumes were up 3.9% at the fastest pace since 2020.
Pick your narrative: either demand for German capital goods is collapsing, or foreign demand is robust and ramping up.
World Bank's "Global Economic Prospects";
World real GDP is projected to slow to 2.4% in 2024 from 2.6% in 2023, which was a deceleration from 3.0% in 2022. Global growth is expected to pick up to 2.7% in 2025.
"Global growth is set to slow further this year, amid the lagged and ongoing effects of tight monetary policy, restrictive financial conditions, and feeble global trade and investment."
While the projected 2024 growth rate is unchanged from the bank's June 2023 projections, the growth rates of different regions have been revised.
"Near-term prospects are diverging, with subdued growth in major economies alongside improving conditions in emerging market and developing economies with solid fundamentals."
Real GDP in the U.S. is revised up 0.8% to 1.6% in 2024 from 2.5% in 2023, while Euro area growth was marked down 0.6% to 0.7%, improving from the 0.4% growth estimated for 2023.
East Asia and Pacific real GDP growth is projected to rise 4.5%, slowing from the 5.1% estimated for 2023. Growth in China at 4.5%, is seen slowing from 5.2% in 2023.
South Asia's real GDP is expected to climb 5.6% this year, reflecting an upward revision of 0.5%, and easing slightly from the 5.7% expected for 2023.
Real GDP in Latin America and the Caribbean is projected to increase by 2.3% in 2024, up 0.3% from the prior outlook and increasing from 2.2% in 2023.
Geopolitical Scene
I surfaced concerns about the events taking place in the Red Sea recently and the economic impact that could ensue. When global leaders allow a terrorist organization to dictate policy in international waters we are witnessing a sad state of global affairs.
Real economic impacts are starting to be felt from the Red Sea shipping interdiction by Yemen’s Houthi rebels. Reuters reported that Tesla ( TSLA ) would halt production at its Berlin factory due to a shortage of inputs that have been delayed by diversions around the Red Sea. While this is just one company, it’s a good example of the hits production can take when supply chains are thrown off-kilter. The Berlin factory produces batteries, battery packs, powertrains, seats, and the Model Y small SUV.
The hundreds of other companies that are now paying a king's ransom for shipping (it takes days not hours to circumvent this route) will simply pass those costs on to consumers. While it may not spike inflation, it can at the very least keep inflation cemented in place. It's one thing for Global leaders to ignore the reality of corporate affairs and operate with an anti-business mindset, but it is quite another to allow terrorists to control the scene. The lack of leadership (starting with the US) is astonishing, and so is the economic impact.
The US and the UK are now "hinting" at taking military action . The fact that this action was allowed to go on for more than ONE day is alarming. The FIRST strike against any vessel is a declaration of War. In addition to that unprovoked aggression, we are witnessing the economic impacts of inaction. Anyone that denies the relationship between geopolitics and the markets is simply denying reality.
Israel has made it abundantly clear that terrorists must be eliminated. It is time for other nations to wake up and act or there will be causalities and/or more economic impacts.
Political Scene
House and Senate leaders have agreed to fund the discretionary portion of the federal government at approximately $1.66 trillion – $886 billion for defense and $733 billion for non-defense spending for FY2024. These are “top line” numbers and Congress will still need to draft the legislation before a vote can occur.
Key policy initiatives, supplemental military funding for Israel, Ukraine, and Taiwan, as well as a push for the extension of expired tax provisions (including the R&D and child tax credits), remain unresolved aspects of negotiations. The first deadline is January 19, with the expiration of funding for 4 of the 12 appropriations bills, with the remaining 8 expiring on February 2.
Despite the support of Speaker Johnson (R-LA), strong opposition is expected from many members of his caucus, complicating passage. Negotiations are ongoing for a comprehensive military supplemental and border security deal. The border policy debate will be difficult to find bipartisan consensus. It may come down to either closing the border or closing the government. We'll also hear concerns about the unsustainable fiscal path of the U.S. government. It's doubtful we will get a strong market reaction, over what is typically viewed as "noise".
While a shutdown remains possible, there is some progress. Should a shutdown occur, we could expect it to be finalized before the March 7 State of the Union Address.
Energy Politics and Potential Calamity
White House climate adviser Ali Zaidi is set to develop a policy recommendation on reevaluating the climate criteria it uses to approve new liquefied natural gas export facilities, threatening to stall pending projects as the 2024 election nears.
The US has committed to providing more gas to Europe after Russia invaded Ukraine. But as the election nears, every fossil-fuel project approval is being scrutinized by climate-minded voters key to the president's reelection.
The Department of Energy, which issues export permits, is checking whether it’s properly accounting for the climate impact of proposed plants. The US, which was the largest LNG exporter in the world in 2023, has five LNG export facilities under construction and several more permitted and awaiting a final investment decision. The plants chill natural gas to a liquid, allowing it to be loaded onto tankers and shipped around the globe.
LNG exports (www.bloomberg.com)
The US began exporting LNG from its vast shale reserves in 2016, with demand picking up sharply after Russian gas flows to Europe sputtered following the country’s invasion of Ukraine in 2022.
Should the administration decide to needlessly delay permits for additional LNG exports, it would undoubtedly send a troubling message to the Eurozone. It questions whether the United States is going to be a source of LNG and a reliable partner in the future. Officials are going to start asking that question if the US makes this a reality. More importantly, it will potentially force the EU to seek supply from Russia for LNG supply. Another example of enhancing Russia's ability to fund its war with Ukraine. The other option for the EU is Qatar which at the moment is home to the leaders of HAMAS.
The American Petroleum Institute reports;
Reviews of applications to broadly export LNG have stretched to more than 330 days under the Biden administration, up from 49 days under former President Donald Trump and 155 days under former President Barack Obama."
The proposed Commonwealth LNG project in Louisiana has been waiting more than 400 days for its so-called non-FTA export permit from the DOE. An example of the anti-business climate that corporations have been operating under since 2021.
When "climate" becomes THE KEY factor in decision-making - Common sense is absent and calamity is sure to follow. (We've already seen examples of how wasteful spending yields no results in the EV transition). Funding Russia and Hamas because there might be an environmental impact is placing politics above all else and is sheer irresponsibility. This move can alter the "economics of supply and demand and eventually affect an economy.
Energy Economics
Here is the reason it is irresponsible to place the Climate FIRST in the decision-making process. US emissions are falling steadily, and they have been doing so without expensive and mostly ineffective"green" programs. Preliminary estimates for 2023 from the Rhodium Group show that total US emissions (in CO2 equivalent terms) fell in the year after two years when they bounced back. As shown in the chart below, total emissions have trended lower at a rate of about 1% per year since peaking in 2004.
US Carbon Emissions (www.bespokepemoum.com )
The spike was due to global economic activity bouncing back in 2021 and 2022 after the pandemic. But 2023 saw a decline and turned out to be the second-lowest year for emissions since at least 1990.
What we are witnessing is a complete misrepresentation of the issue and if leaders continue to take the US down the "green" road the economic consequences are going to be dire. The facts demonstrate that the US need not make decisions that have serious ill effects on Global economies based solely on "emissions".
It was this latest headline that was cited as the reason for the recent spike in Nat gas prices this week. From an investment perspective, there is little reason to abandon the REAL "Energy" trade. This anti-business climate will keep supply in check and prices stable.
The Daily chart of the S&P 500 ( SPY )
A week where we watched the S&P 500 make another run at the old highs.
The attempt fell just short again, and it's your call. We either get a breakout or a failure. Either way, the intermediate trend is still Bullish, and unless that changes, and changes quickly, the S&P looks poised for a new high at some point in '24.
Investment Backdrop
The first trading week of the year did not inspire much confidence to jump in and buy. All four sessions saw the S&P 500 make a lower low relative to the previous day and only on Friday did the index manage to close in the green, even if just barely.
That price action raised concerns about the “January Barometer” ( Stock Trader’s Almanac) which suggests that January’s performance, particularly in the first week of the year, foreshadows the whole year. I would not let this affect our sentiment, rather letting trend-following gauges guide us. Also, note that the modest pullback was preceded by a major breakout. That left no damage to positive intermediate-term momentum.
This lackluster start was not too surprising, since it was expected that we would see some weakness in 2024 as stockholders took advantage of the new tax year to realize gains. That resulted in a five-day mini-pullback before this week's bounce. It wasn't the early week bounce that surprised me it was the strength of the rally that was so surprising.
Market "internals" revealed it was a very strong day and it effectively erased the losses we experienced in the first week of trading in the S&P this year. The strong, broad-based upside day, does introduce the possibility that we've already dipped as much as we're going to dip in the short term before another push higher. Today's giveback was well-contained adding more evidence to that theory.
If that's the case, many setups stand out to me technically for trades. The megacaps, which were a drag last week, have rotated back in favor, providing leadership again. I note the NVDA breakout and upturns in AMZN, GOOG, MSFT, and META as evidence.
There is plenty of "churn" under the surface, with different sectors taking turns at leadership. One day it will be Tech, then Consumer Discretionary, etc. However, other than a few momentum names there is no staying power to any move. That is typical price action as the indices trade below the old highs.
While we are still surrounded by numerous MACRO issues that are quite unnerving, successful investors will have to separate the short-term sentiment from those MACRO issues.
I see plenty of opportunities in "select" areas of the market. RECENT trades are producing outsized results. I've introduced a new "tactical" summary for members of my SA Marketplace Service to assist and unleash opportunities in select sectors.
THANKS to all of the readers that contribute to this forum to make these articles a better experience for everyone.
These FREE articles help support the SA platform. They provide information that speaks to Both the MACRO and the short-term situation. With a diverse audience, there is no way for any author to get specific unless they're simply highlighting ONE stock, ETF, etc. Therefore, detailed analysis, advice, and recommendations are reserved for members of my service offering on the platform.
The information provided here is verified by SA and in most cases, links are provided as supporting documentation. If anyone can point out a comment in any article I put forth and demonstrate that it is factually INCORRECT - I will REMOVE it. -
Best of Luck to Everyone!
For further details see:
Wall Street 2024: A 'Show Me' Year