Bob’s Journal for 2/10/22

Stock Picking Matters More Now

Index investing is great in a bull market, but active investing (or stock picking) can be safer when the Federal Reserve stops supporting markets.

When the Fed’s pumping liquidity into the markets and investors are buying index funds, stocks that recently have done well continue to outperform. That’s because the capitalization-weighted indexes force a higher percentage of new money into the latest winners.

But when the liquidity stops flowing in, fundamental factors begin to matter more to stocks than momentum.

We saw a couple of stark examples of that in the last week.

Facebook (FB), now called Meta Platforms, released earnings that disappointed investors. Revenues were less than expected. The company blamed that on changes Apple made in its privacy policies. The new policies apparently restricted Facebook’s ability to track users’ online activities and sell that information to others.

In addition, Meta’s expenses increased because it is making sizable investments in what it calls the metaverse.

Facebook, or Meta, has been one of the stocks leading the indexes higher for several years. It is part of what’s been called the FAANG, or FAANG+, trade in which a handful of stocks generate most of the gains in the stock indexes.

The situation reversed last week. The day after the earnings report, FB’s share price closed down more than 26%, the largest one-day percentage decline in its stock.

The market capitalization of the company declined by $230 billion, believed to be the largest one-day loss in market capitalization for any stock in history.

The next day Amazon.com (AMZN), also a component of the FAANG trade, did the opposite.

It released a positive earnings report. Its earnings more than doubled, and the company announced an increase in the price of Amazon Prime. Sizable revenue increases were announced in cloud computing and advertising.

The result was a 14% increase in the stock’s price. That added $191 billion to the company’s market capitalization, believed to be the largest one-day increase in a company’s capitalization ever.

Stocks of the tech giants and other companies no longer are moving in unison. Investors in non-index funds have done better than the index investors since the markets turned, and I expect that continue.

That’s why I’ve been recommending Oakmark (OAKMX) for its value-stock selections as well as select sectors such as iShares MSCI Global Metals & Mining Producers (PICK), which is up 3.99% so far in 2022 and 11.74% over three months.

Why Supply Shortages, High Prices Will Continue

Is inflation likely to decline soon because the supply chain problems will be resolved?

Many economists say so, but the data tell me that’s unlikely. Some supply chain issues are due to temporary imbalances that are likely to be resolved soon but there’s a broad imbalance between supply and demand in the economy that isn’t likely to be remedied fast.

Producers curtailed operations early in the pandemic when governments closed much of the economy. At the same time, governments gave people a lot of purchasing power through fiscal stimulus.

A result of the stimulus was a large surge in demand. A lot of that demand was for products, because services such as travel and dining weren’t available.

Producers can’t ramp up demand with the flip of a switch. In addition, the labor shortage is acute, making it more difficult to increase demand for both goods and services.

To monitor this situation, I look at business inventories and the inventories to sales ratio. Both are at record lows.

Business inventories are depleted at a time when demand is high and likely to remain strong. Even if demand from consumers declines, demand from businesses to restore inventories to normal levels will be strong for a while.

While I believe inflation will decline from the recent highs as 2022 progresses, I don’t see it returning to 2% or lower any time soon. There’s a demand boom that is strong and sustainable.

Speculators Leaving the Markets

Leverage and speculation were key supports of stock prices following March 2020. Those supports are fading.

Several indicators of speculation and leverage rose beginning in the early days of the pandemic. Those indicators included the use of stock options, margin loans and futures contracts. Since the Fed began talking about ending its easy money policies, those indicators of speculation and leverage have steadily declined.

The latest evidence is from the Commodity Futures Trading Commission (CFTC) in its regular report on futures positioning.

The reports shows that futures positions rapidly switched from bullish to bearish. While some contrarians would say that’s a bullish indicator, history indicates otherwise. The data indicated investors took strongly bullish positions in futures when the indexes were rising. Market indexes turned down as the futures positions switched to net bearish postures.

Futures positions can change quickly and are likely to follow markets instead of lead them. But the current trends don’t indicate there will be above-average gains in the indexes in coming months.

The Data

The Small Business Optimism Index declined to 97.1 in January from 98.9 in December. The index reached a peak of 108.58 in August 2018 and was at 102.28 in June 2021.

The percentage of small business owners reporting inflation as their biggest problem is the highest since 1981 and accounts for much of the decline since June 2021. Small business owners also continue to report difficulty filling jobs.

Last Friday’s Employment Situation reports surprised economists by estimating 467,000 jobs were created in January. Economists were expecting a much lower number.

Private payrolls accounted for 444,000 of the new jobs.

Average hourly earnings continued to increase, rising by 0.7% in January and 5.7% over 12 months. Though the wage gains are high, they still lag price inflation for goods and services.

In addition, revisions increased the estimated number of jobs created in November and December by a total of 709,000.

After the revisions, 6.665 million jobs were created in 2021, the highest one-year total since the data has been kept.

New unemployment claims declined to 238,000 in the latest week from 261,000 the week before. That’s the second straight week that new claims declined from the recent peak of 290,000.

Continuing claims declined by 44,000 to 1.62 million. The four-week average of continuing claims hit its lowest level since August 1973.

Productivity increased 6.6% in the fourth quarter after declining 5.0% in the third quarter.

Hourly compensation increased 6.9% in the fourth quarter. But because of the sharp increase in productivity, unit labor costs increased only 0.3%.

The economy improved a little in the last half of January, according to the PMI Composite Index for the month. The Services Index improved to 51.2 from 50.9 at mid-month. That pushed the Composite Index to 51.1, up from 50.8 at mid-month.

Factory orders declined 0.4% in December after a 1.8% increase in November.

But core capital goods orders increased 0.3% in December. Core capital goods orders is considered a good measure of business investment. Shipments of core capital goods increased 1.3%.

The ISM Services Index declined in January to 59.9 from 62.9 in December. The January level still indicates strong growth. The index has indicated growth (by being above 50.0) for all but two of the last 144 months.

Consumer credit increased 5.1% in December, following a 10.7% increase in November.

Revolving credit (primarily credit cards) increased 2.4% in December, which is well below the historic 22.8% increase in November. Non-revolving credit (primarily vehicle and student loans) increased 6.0% in December and 7.0% in November.

In all of 2021, consumer credit increased 5.9%. Revolving credit increased 6.6%, and nonrevolving credit increased 5.7%.

The Markets

The S&P 500 lost 0.44% for the week ended with Tuesday’s close. The Dow Jones Industrial Average gained 0.17%. The Russell 2000 fell 0.30%. The All-Country World Index (excluding U.S. stocks) added 0.07%. Emerging market equities declined 0.22%.

Long-term treasuries lost 2.50% for the week. Investment-grade bonds fell 1.97%. Treasury Inflation-Protected Securities (TIPS) declined 1.26%. High-yield bonds retreated 1.31%.

In the currency arena, the U.S. dollar declined 0.78%.

Energy-based commodities increased 0.78%. Broader-based commodities lost 0.06%. Gold rose 1.34%.

Bob’s News & Updates

My latest book is “Where’s My Money: Secrets to Getting the Most out of Your Social Security.” It tells you clearly what your benefit options are in different situations and how to determine the best choice for you. You can find it on Amazon.com or Regnery.com.

The number of regular viewers for my Retirement Watch Spotlight Series continues to increase. You should sign up because I make in-depth presentations of key retirement finance topics. You can watch these online seminars from the comfort of your home or office at times you choose. To learn more about my new Spotlight Series, click here.

A recent five-star review of my book on Amazon.com said, “A complete retirement guide! One of the best books on this topic!” Click for more details about the revised edition of “The New Rules of Retirement.”

If you’re interested in my books, check my Amazon.com author’s page.

I’m a senior contributor to the Forbes.com blog. You can view my contributor page here.