CWS Market Review – April 11, 2023

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What to Expect from Tomorrow’s CPI Report

The stock market has been holding up pretty well over the past few days. Despite a small drop on Tuesday, the S&P 500 is still close to a two-month high. The longer-term rally that started six months ago appears to be intact. The stock market keeps making higher highs and higher lows. That’s good to see.

The next big test for the market will come tomorrow when the government releases the CPI report for March. The good news is that inflation has cooled off over the last several months. The bad news is that it still has a way to go to reach the Federal Reserve’s target of 2%.

The Fed has declared total war against inflation, and it doesn’t care how much damage to the housing sector it needs to do to guarantee victory. So far, the results have been unimpressive.

Last June, the 12-month inflation rate reached 9.1%. In February, the 12-month rate rate reached 6.0% That’s still too high. For March, the 12-month rate is expected to fall to 5.2%. I’m afraid that may be overly optimistic. Either way, I don’t see the Fed pulling back on its rate hikes just yet.

Economists like to focus on the “core rate” of inflation because that strips out food and energy prices. The 12-month core rate is expected to be 5.6% which is an increase of 0.1% over the 12-month rate for February. The major change to inflation recently is that home prices have been falling, and that will probably be reflected in tomorrow’s report.

The Fed’s gameplan for the economy is important for investors because Wall Street has been expecting the Fed to pause its rate hikes sometime soon. That belief has spurred a big rally in growth stocks since the start of this year.

Since January 5, the S&P 500 Growth ETF (black line) is up 12.11% while the S&P 500 Value Index (blue line) is up only 4.48%. It’s as if Wall Street expects the Fed to bring back the furious low-quality rally that dominated Wall Street in 2020 and 2021. Speaking of which, bitcoin broke $30,000 today. The cryptocurrency is up more than 80% this year.

There’s a growing gap between what the Fed is saying and what Wall Street expects. Fed officials are talking tough, but Wall Street only sees a worsening economy and trouble with the banks.

The futures market now strongly favors another 0.25% rate hike at the next Fed meeting in three weeks. After that, the data starts to get a little noisy. Traders expect a 0.25% hike in May, and they then expect it to be taken away in July. Traders expect two more cuts later this year, in November and again in December. This reflects Wall Street’s fear that the economy is slowing down. For next year, traders see the Fed cutting rate by 125 basis points.

On top of inflation, earnings season kicks off this week. On Friday, several major banks such as Wells Fargo, Citigroup and JPMorgan are due to report earnings. I’ll be curious to hear if the banks have been impacted by the recent mess in the banking sector. I suspect it happened too late in Q1 to have a major impact. In fact, the big banks probably benefitted from customers leaving.

For the market as a whole, Q1 earnings are expected to be 6.8% lower than last year’s Q1. Abbott Labs will be our first Buy List stock to report earnings, one week from tomorrow.

A Closer Look at Last Week’s Jobs Report

Last Friday, the government reported that the U.S. economy created a net gain of 236,000 new jobs during March. This was unusual because it nearly matched Wall Street’s forecast for a gain of 238,000. The economy added 326,000 jobs during February.

The unemployment rate ticked down 0.1% to 3.5% which is still near a multi-decade low. The unemployment rate for African Americans fell 0.7% to 5% which is the lowest since the government started tracking the data 61 years ago. The jobs-to-population ratio for African Americans last month was higher than it was for white Americans. I should note that that’s not a precise comparison since the white community tends to be older.

The problem spot continues to be wages. Last month, average hourly earnings rose by 0.3%. Over the last year, earnings are up 4.2%. That’s the lowest 12-month growth rate in nearly two years.

With previous economies, we’ve talked about jobless recoveries. This time, it seems like we have growthless hiring. That may be explained by the fact that earnings have trailed inflation.

I’ll be honest – it was a pretty good report, but it doesn’t alter my view that the broader economy is slowing down. This was the lowest monthly gain for new jobs since December 2020. Since the stock market was closed for Good Friday, we couldn’t see the market’s reaction until Monday when the S&P 500 moved a bit higher.

Here are some details from the report:

Leisure and hospitality led sectors with growth of 72,000 jobs, below the 95,000 pace of the past six months. Government (47,000), professional and business services (39,000) and health care (34,000) also posted solid increases. Retail saw a loss of 15,000 positions.

While the February report was revised up from its initially reported 311,000, January’s number moved lower to 472,000, a reduction of 32,000 from the last estimate.

An alternative measure of unemployment that includes discouraged workers and those holding part-time jobs for economic reasons edged lower to 6.7%. The household survey, which is used to calculate the unemployment rate, was much stronger than the establishment survey, showing growth of 577,000 jobs.

Also last week, the Labor Department said that job openings fell to 9.9 million. That was the lowest number in nearly two years. There used to be 1.9 jobs for every unemployed person. That has fallen to 1.7 jobs.

Are Stocks Really Too Expensive?

The Wall Street Journal recently ran a story titled, “Stocks Haven’t Looked This Unattractive Since 2007.” These stories always get my attention. The financial media’s track record isn’t merely bad – it can often be a perfectly negative indicator.

This isn’t new. The New York Times famously said that stocks looked good just before the Panic of 1893. Both political parties get into the act. Right at the 2009 low, the WSJ told us, “Obama’s Radicalism Is Killing the Dow.” Paul Krugman said much the same after President Trump was elected.

But I wanted to look at the WSJ’s case this time. The argument is that the stock market’s equity risk premium is at 1.59% which is very low.

The equity risk premium is the yield difference between the 10-year Treasury and the stock market’s earnings yield (that’s the inverse of the P/E Ratio). The argument is that stock investors are not being paid very much to shoulder the risk of owning stocks. Typically, stocks carry earnings yields are that 3% to 4% more than the 10-year Treasury.

But this analysis misses a key point. This only looks at the relative value of stocks versus bonds, not the value of stocks in general. In fact, it could mean that bonds are underpriced. The equity risk premium could return to normal if bonds rallied. The Fed hiking rates over the last year has had a big impact on Treasury yields.

With the Fed moving against inflation as it has, that’s distorted the overall market. Bond yields and mortgage rates would never be this high without the Fed’s intervention. Stocks aren’t expensive right now. Instead, the yield curve has been squeezed to the brink and it will redound on the economy.

Stock Focus: Stryker

This week, I’ve chosen one of our Buy List stocks to focus on which is Stryker (SYK). This is one of my favorite stocks and it’s been a member of the Buy List for a long time. Stryker is one of the world’s leading orthopedic companies.

We first added Stryker to our Buy List on December 31, 2007. This is its 16th year on our Buy List.

As it turns out, we added Stryker at a terrible time. The stock rallied well during 2007. Our initial price was $74.72 per share which I thought was a good price. It wasn’t. By March of 2009, SYK was going for $30 per share. Ugh!

But we held on. We didn’t make a profit on Stryker until the middle of 2013. We continued to hold on. From the beginning of 2013 until August of 2019, Stryker gained 340% for us while the S&P 500 gained 133%.

The stock hit another rough patch for us last year. With its Q1 earnings report last April, Stryker said it expected full-year earnings to come in at the low end of its range which was $9.60 to $10 per share. In July, Stryker lowered its range to $9.30 to $9.50 per share. In October, it was lowered again to $9.15 to $9.25 per share. In two months, shares of SYK lost 30%.

But we held on. As it turned out, Stryker made $9.34 per share last year. The company said it expects earnings this year between $9.85 and $10.15 per share. Not only has Stryker made back everything it lost, but the stock hit a new all-time high today of $292.20 per share.

We’re still holding on.

That’s all for now. I’ll have more for you in the next issue of CWS Market Review.

– Eddy

P.S. If you want more info on our ETF, you can check out the ETF’s website.

Posted by on April 11th, 2023 at 6:31 pm


The information in this blog post represents my own opinions and does not contain a recommendation for any particular security or investment. I or my affiliates may hold positions or other interests in securities mentioned in the Blog, please see my Disclaimer page for my full disclaimer.