I want to start by saying the support you’ve all shown over the past couple days is amazing! Thank you all, you’re incredible, and I’m honored to be working for you.
Most importantly, I don’t want anyone to feel any pressure to sign up for a paid subscription.
However, I want to make this work, and in order to do that, I need an income. So, from time to time, I’ll be sending out articles to everyone that have a paywall.
This isn’t to “pressure” anyone into subscribing – it’s to make any new or existing readers aware of my trading service in case they haven’t seen it yet. Most readers don’t read every article, so I assume there are some people out there who are interested but otherwise wouldn’t know to sign up.
If you’re still here, thank you, and I hope you’ll stay with me.
Anyway, back to the markets!
The Great Market Shift Of 2023
Today, I’ll be giving an update on the shift going on in the market right now. I believe the days of focusing on inflation are winding down, and that narrative will be replaced by a focus on recession.
What does that mean?
First, let me explain why I believe the inflation narrative is in its final days.
Last week, I wrote about the underlying deflation in the producers price index (PPI) and consumer price index (CPI) – two of the most prevalent economic datasets on inflation in the US. Deflation is specifically hitting goods, not services, and since services make up a lot of the PPI and CPI, we’re still seeing high year-over-year inflation.
However, I expect both the PPI and CPI to be a lot lower by the end of Q1. That’s because Q1 2022 accounted for the worst part of inflation for energy and some types of goods. A lot of the CPI and PPI components have actually come down since then, but they’re still higher than they were a year ago.
That means that if they stay the same or even if they go up a little in Q1, the year-over-year change will still be deflationary. Again, this doesn’t count for some components; services in general are still a lot higher than they were in Q1.
So, I don’t expect CPI to be negative, but I do expect it to be a lot lower than the 7.1% reading in November.
Because of that, I expect the market to gradually stop caring about CPI readings.
Everyone can see that the data is pointing towards CPI coming way down. The only thing that can change that in this point is another spike in energy prices. However, every indicator I see is pointing to recession, and energy prices typically don’t go up during recessions.
Keep An Eye On Jobs Reports
As the market phases out of inflation mode, which I expect to occur over the span of Q1, the focus will shift towards recession. After all, creating a recession has been the Fed’s goal this entire time via their rate hikes.
The nice term for this that you’ve probably heard a million times is “demand destruction.” When people lose their jobs, they become much tighter with their budget. This is why we see prices of goods falling now, and services prices will fall in time as well. This is evident by the ratio of consumer revolving credit (mostly credit card loans) to personal savings.
Source: TradingView
Savings have been depleted, as people now have 2.75x more revolving debt than savings. One of the primary consequences of this major reduction in savings will be deflation.
That means that instead of caring about CPI, the market will care much more about jobs data.
If lots of people lose their jobs, and barely have any savings, spending is going to go way, way down. This won’t just bring deflation, but lower unit sales and contracting margins for lots of companies.
I know, it’s hard to imagine the market ignoring the monthly CPI data; it’s been a highlight of every month so far in 2022. However, all things must come to an end! By the end of Q1, the data that moves markets, and probably will for most of 2023, will be jobs data.
Over the next month, keep a close eye on how the market reacts to initial and continuing jobless claims.
These are reported every Thursday morning. I also think that monthly payroll data will become increasingly relevant in terms of what moves markets, especially the monthly unemployment reports.
Jobs: The Primary Lagging Indicator
When it comes to assessing macro data, it’s vital to understand which data is leading, coincident, or lagging. One of my favorite ways to track this is through the Conference Board’s leading, coincident, and lagging indices. These are updated every month, and I provided some more detail on them here.
Leading indicators have been bad to say the least for much of 2022. We’ll get new data from Conference Board on Thursday for December, in which I expect to see that coincident indicators have also weakened. This can give us a good idea on how to gauge the market bottom; I expect the bottom, at least for indices, to come within 6 months of the first bad coincident indicator reading. Growth stocks, especially the quality ones that I go over here, have been so mistreated during this bear market that I think they’ll bottom out before the broader indices, so this is a time to be watching for that bottom to be forming.
The thing about lagging indicators is by the time they’re bad, the market is already moving back up from its bottom. Now, I still don’t think the market (meaning the indices) has bottomed, but I do think there’s a good chance that it will in the first half of 2023 as the coincident and
When that Conference Board data comes out on Thursday, I’ll let you know what it says.
Where Does The Fed Fit Into It All?
The faster the deflation hits, the faster we see the Fed pivot and begin to lower rates. Like I said before, by the end of Q1 we’ll see deflation in lots of goods and energy, but that’s not necessarily enough to bring down the entire CPI. For example, the “shelter” component, which (poorly) tracks real estate price, makes up about 1/3 of CPI, and that shows no signs of slowing.
That being said, if we see labor market conditions begin to deteriorate rapidly, that could also force a Fed pivot, assuming CPI comes down as I think it will. However, that’s simply not the case yet. Unemployment is still low, and even though there’s lots of conflicting jobs data (read more about that here), it’s not bad enough to force a pivot at this point.
At the end of the day, I think it’s more important to gauge future market moves based off of the leading/coincident/lagging indicators rather than go all-in on a Fed Pivot. But in this case, the Fed will probably pivot when the lagging indicators are rapidly deteriorating. If that’s the case, the pivot could definitely be a turning point for the market, but not necessarily the economy.
Sure, lower rates will boost the economy, but keep in mind that the Fed looks at lagging indicators, and the lag between rate hikes and their toll on the economy is believed to be about a 9-to-12-month span. That means we’ve barely seen the effects of the hikes yet, and the cuts will take another 9-12 months to show up in the data.
Essentially, they’ll be cutting rates into a rapidly weakening economy. But like I said before, when the lagging indicators are starting to look super bearish, the market has most likely already started its ascent from the bottom.
What About Growth Stocks?
I touched on this above, but I expect the quality growth stocks to bottom out before the indices. If you’re wondering what “quality growth stocks” are, the 21 Disruptors Index which I linked to above are my top picks for growth stocks that could see huge rebounds out of this bear market. Each one of them focuses on something that there’s an increasing desire for, even in a bad macro environment.
As an aside, it continues to blow my mind that the traditional “safe haven” stocks are still perceived as safe havens – particularly consumer staples. Generally, the safe haven stocks are very debt-heavy, but have abused the low interest rate environment for years by taking out obscene amounts of debt just to buy back stock and pay out dividends. This worked back then, but right now it’s a very risky game to play. At the same time, they’re seeing declining margins, increasing inventory, and their cash balances are falling fast. I’ll provide more detail on this in a future post, probably during the next earnings season as we see their updated financials and outlooks for 2023.
When it’s all said and done, the companies that fix problems and offer products that people want regardless of the economy, as well as have solid financials to withstand a tough economy, are the ones that will win. Those are the ones that will make life-changing gains, and you only have to nail a few to see those gains become reality. The market doesn’t see that right now, and that spells opportunity for the future.
Ian, I don't see the link to your 21 Disrupters?