In last week’s commentary we talked about the big bounce of the S&P 500 (SPY) which has returned to the mix of all our main trend lines (50/100/200 day moving average). And maybe we’ll be stuck in a trading range around those levels for a while because investors will choose things that are fast enough to get higher … or if really Russia / Ukraine + Inflation + Inverted Yield Curve + Hawkish Fed = Time Hibernation for Bears The total sum to come out of is the emergence of a consolidation period with a heavy dose of sector rotation. Again, last week we talked about the nature of those environments and how to work through them. This week we will dive into the essentials of the Inverted Yield Curve which I discussed in the Reitmeister Total Return comment on the first Tuesday 4/5. From there I will provide rate and economy updates. Read below for more 7.
(Please enjoy this updated version of my weekly commentary published April 8M2022 from POWR Value Newsletter).
The inverted yield curve is not inverted as of this moment. In fact, it was only inverted for 2 days. And even when it was overturned … there were big question marks about its authenticity.
There is no need to rediscover the wheel as I spelled it out quite clearly in the 4/5/22 Rhythmister Total Return comment. Here are the key sections followed with some important updates:
“Fear of reversed yield curves is heading. And yes, it is a frightening thought that all modern recessions have been predicted by this event. Unfortunately, the recession and the bear market go hand in hand which explains why all investors have their hands wrinkled and teeth grinding.
What does an inverted yield curve represent? Lots of BS articles talk about meaningless relationships. The actual yield inversion is when the long-term treasury bond rate (10 years) is lower than the short-term rate (2 years).
Technically, this inversion first appeared on April 1, when the 2-year Treasury reached 2.44% vs. just 2.39% for 10 years. The opposite remained at 4/4. However, today, April 5th, the 10-year Treasury rose 2.54% and is currently off the table. (Check all Treasury rates here on a daily basis).
(4/8/22 POWR Value Update: Today we see 10 years moving up to 2.70% which is creating a big spread with 2.51% for 2 years… this spread should only increase as the Fed takes further steps to bring the market back to natural energy. More to come about this.)
Note that there is widespread disagreement over how long the inversion should be maintained in order to become a true recession warning. But most would agree that 2 days does not create a reverse. Unfortunately, this race did not end with a lot of time to get to the extended, and meaningful, retrospective view that investors are on the edge of.
Why does a chronic catastrophe often indicate a recession and a good market?
The explanation for this event is that investors are predicting that the economy will shrink in the future (like a recession)… and that is why rates are lower in the long run than in the short term.
Now let’s verify the reality.
Inflation is heating up now and will have to come down in the future. It could reverse now and normalize later without a recession and a good market.
More importantly for this discussion, the government artificially dominates the long-term bond market thanks to many years of additional quantitative easing (QE). This means that the government has distorted the long-term rates by such an exaggerated demand that it keeps them lower than normal market forces.
Natural market strength = when the Fed does not buy any bonds which is the historical norm
The bottom line is that I don’t really believe that the yield curve has been reversed because of the risk of recession. It has been reversed for the 2 noble reasons mentioned above.
I am not alone with this view. Here is a recent clip from PIMCO Fund Manager Erin Brown:
“There is reason to believe that at this point, the yield curve inversion may not be as good as an indicator in the past, especially given the massive simplifications adopted by central banks around the world.”
Let’s keep in mind that PIMCO is an influential player in the bond market. So when they talk about this …It’s good to hear.
I am standing there now. But here comes the sad truth … there could really be a recession in our future.
Because many times in the past high inflation has been its predecessor. It is also sadly true that the Fed historically hurts the economy by removing excessive housing in this situation. Therefore, it is wise not to blindly ignore what is happening at this critical time.
So even though I like the adversity that for some reason this reversal is not realistic … I am still on the lookout for any economic indicators that point to a recession and related markets. Because if I see a growing adversity for this to happen I will flip the script into our portfolio because the average beer market is down 34% from the highest to the highest.
Step 1 = Sell all stocks (because the best of them will still go down … maybe lower than average)
Step 2 = Buy reverse ETF to profit from stock price decline.
Step 3 = Buy Bonds After One or Two Months
Step 4 = Take advantage of the reverse ETF and start fishing below because it is the most surprising when it comes to bounce. It is better to have a groove too late than a groove too early.
(4/8/22 POWR Value Update: The above game plan is for active traders, but it is not necessarily what we do in the POWR standard newsletter. That’s because the mission of this newsletter is to have the best value stock rain or shine investment.
In fact, it is now written that the charter of this service will not allow me to keep less than 80% of the money invested in the stock. And that’s because it’s easier said than done.
The bottom line is that if I really feel like a bear market is coming up, I’ll share the above strategy with you. But the construction of POWR pricing services will probably have 80% investment and 20% cash. But the stocks we invest in will be much more defensive in nature and thus more resilient to market declines.
Long story short, my hand may be tied to what I can show in the POWR pricing service, but through the comment you will get my irresistible opinion about where the market stands and what may happen next).
Let us not advance ourselves. The steps above are what we will do. “If and when”The signs indicate a recession and a much higher potential for the beer market.
Now let’s review the signs from the recent slate of key economic reports to see what they tell us:
Both last week’s ADP and government employment report showed impressive job gains in the 400,000 north. Remember that adding more than 150,000 jobs a month should be equal to reducing the unemployment rate.
In fact, it has dropped from 3.8% to 3.6% this time around. This means that we are back to almost the same strong employment level that was seen in the pre-covid.
Then on Friday we got a healthy 57.1 reading for ISM manufacturing. The most impressive of which is the improvement of employment which gives a good indication for future employment. However, if there are concerns, it will be 53.8 for new orders.
Yes, anything above 50 points for future expansion. But that reading has spent most of the last few years between 57 and 62.
Grants that are unstablely high levels. Yet the drop from 61.5 last month to 53.8 this month gives a break to consider whether it is the first sign of a slowdown in the future. And so we will continue to closely monitor the results ahead.
Happily this morning the ISM Services report indicated nothing but positivity. The overall reading has increased from 56.5 to 58.3 last month. Employment readings jumped from scary 48.5 to impressive 54.0. And most importantly, the new order component has been upgraded from 56.1 to 60.1.
(4/8/22 POWR Value Update: Unemployment claims were the only meticulous economic data point this week and it is a surprisingly good 166K which is the lowest reading since 1968 (not a typo). This important part of the economy is showing no signs of slowing down).
The net-net positives have outperformed the negatives at this point which is why we did not quickly go back below the recent low of 4,200.
On the other hand, with so much bounce going on over the last month, investors don’t have the guts to go too far right now.
And it probably won’t happen until more people are convinced that the yield curve inversion was a lie with the economy and corporate income moving at a healthy pace.
This will be the catalyst behind the next bull assembly to test the previous height … and hopefully the new height.
This bullish result is still the most probable in my book. Unfortunately Bearish has the merits of reasoning. Thus, we need to constantly examine the evidence and recalculate the probability of a recession to chart our way forward.
For now you should expect range bound trading plus bull volatility to be the norm until market participants reach a broader consensus on the bull vs. bear argument.
(4/5/22 Reitmeister Total Return Comment End)
The last paragraph proved itself to be very true. This is a lot of volatile trading around the main trend line:
4,427 = 50 day moving average
4,493 = 200 day moving average
4,534 = 100 day moving average
At this stage investors will soon be waiting for what they hear from Corporate America as the Q1 earnings season. What happened last quarter is not so important. It will be much more about their guidance for the future.
If negative, earnings estimates are typically cut for key companies, expect further market downturns to follow.
However, if Flipside happens, and we get a clear bill of health for the future, hopefully the stocks will break above these key trend lines and move closer to the previous high of 4,800.
What to do next?
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CEO of StockNews.com and editor of POWR Value Trading Services
SPY shares closed at $ 447.57 on Friday, down 1 -1.20 (-0.27%). Year-to-date, SPY fell -5.47%, in contrast to a one% increase in the benchmark S&P 500 index over the same period.
About the Author: Steve Reitmeister
Steve is better known to Stocknews listeners as “Riti”. Not only is he the CEO of the firm, he also shares his 40 years of investment experience in the Reitmeister Total Return portfolio. Learn more about Reity’s background, including links to his recent articles and stock picks.
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