Bob’s Journal for 5/12/22
The ‘Fed Put’ Has Expired
For many years, investors believed in the “Fed Put” and profited from that belief. Investors need a new strategy.
Since early 2009, the Fed relied on the wealth effect to support the economy. If prices of assets such as stocks and homes were high and rising, heads of households seemed to feel be confident and financially secure.
They would spend on goods and services. Higher asset prices led to a circle of spending and economic growth.
That’s why any time stock prices appeared vulnerable to sustained selling, the Fed eased monetary policy. That was known as the Fed Put.
The last pre-COVID-19 incident was in late 2018. The Fed was tightening monetary policy in 2018 to nip incipient inflation in the bud. But stock prices declined significantly in late 2018. The Fed quickly reversed policy and announced it would inject liquidity into the markets and economy. Stocks rallied.
We can’t afford the Fed Put now. Inflation soared to its highest level in more than 40 years. The Fed has made clear it will focus on reducing inflation and won’t support stock prices until progress is made on inflation.
The Fed Put allowed investors to pay higher valuations for stocks. Investors gave the highest valuations to the riskiest stocks and stocks of companies with rapid growth rates.
Many of those stocks reached bubble levels, and those bubbles have been deflating since late 2021.
Unlike in the past, the Fed can’t be relied on to restore liquidity soon and reinflate the bubbles. Investors should value stocks based on company fundamentals and the economic outlook instead of counting on a lot of liquidity to keep flowing into the markets.
Revelations of Scams Should Occur Soon
We’re finding out who’s been swimming naked, to use Warren Buffett’s imagery.
Bull markets support a lot of things, including scams and mismanagement. People leave their money invested when account values are rising. But when investment prices sink, investors begin to cash out investments.
That’s when we learn which investments were real and which were scams. Buffett likened falling stock prices to the tide going out, revealing who’s been swimming naked.
Bernie Madoff’s grand Ponzi scheme went on for decades and was revealed only during the financial crisis. Madoff couldn’t find enough new investors whose money he could use to pay redemptions to old investors who wanted their profits. He had to confess to the scam.
A lot of the scams to be revealed will be in the digital asset sector. The Securities and Exchange Commission (SEC) recently doubled the resources devoted to policing the digital asset sector. I think they’ll be very busy in the next few years.
But more traditional scams and Ponzi schemes also will be revealed when the perpetrators can’t come up with the cash to meet investor redemptions.
Also revealed will be poor investment strategies and corporate management. A growing economy and bull market bail out a lot of mistakes. They will be revealed and amplified as asset prices decline, and some of the perpetrators will be accused of crimes instead of incompetence.
The SEC has promised this time it will be cracking down on a wide range of scams and other misdeeds instead of following its traditional practice of focusing its resources on a few key areas.
One result of these new trends could be reduced confidence in the markets and an increase in the belief that investments are rigged against individual investors. That will make it harder for stock prices to return to previous highs.
How Sectors Have Fared Since the Pandemic
While the economy and stock market overall recovered from the pandemic, the recovery hasn’t been even throughout the economy.
One good measure of the strength of different sectors is the number of employees or jobs in each sector in the latest employment reports, compared to the number in February 2020, just before the pandemic.
The sector that gained the most jobs is “professional and business services,” registering 738,000 more jobs in May 2022 than before the pandemic.
That’s no surprise. Most of those jobs could be performed either in offices or virtually. There were few if any layoffs by most employers in the sector. In addition, the economic trends in the pandemic favored many businesses in this sector.
The second best-performing sector also is no surprise, “transportation and warehousing.” It had an increase of 674,000 jobs. This sector’s been busy dealing with the increased demand for goods that we’ve seen since the pandemic began.
A surprise is the recovery in retailers. Employment in retail trade is 284,000 higher than before the pandemic.
The sector that’s done worst is “leisure and hospitality.” This sector still employs about 1.4 million fewer people than it did in February 2020. That shouldn’t surprise anyone, though the sector has added a lot of jobs in 2022.
Government employment was next worst, with a net loss of 690,000. This includes all levels of government, and it’s hard to tell whether federal, state, or local governments lost the most jobs. “Education and health services” also struggles with a net loss of 409,000 jobs.
One question we can’t answer from this data is whether a decline in jobs in a sector is due to weakness in the businesses or to the labor shortage and people being unwilling to work in those jobs.
The Data
The Consumer Price Index (CPI) declined a bit in April. The CPI increased by 0.3% for the month, compared to a 1.2% increase in March.
Over 12 months, the CPI increased 8.3%. That’s down a bit from the 8.5% rate recorded in March. That’s the first decline in the 12-month rate in eight months.
Excluding food and energy, the CPI increased 0.6% in April, higher than the 0.3% rate of March. Over 12 months, the CPI, excluding food and energy, increased 6.2%, down from the 6.5% rate in March, which was the highest rate since August 1982.
The Small Business Optimism Index from the National Federation of Independent Business (NFIB) was unchanged in April at 93.2. But April was the fourth consecutive month the index was below the long-term average of 98.
In addition, the percentage of business owners expecting better business conditions over the next six months declined to the lowest level in the 48-year history of the survey.
Inflation was reported as the most important problem by 32% of small business owners, the highest level since the fourth quarter of 1980.
Finding workers to fill open positions is another problem with 47% of owners reporting they had job openings they couldn’t fill and 93% saying they had few or no applicants for positions they were trying to fill.
New unemployment claims increased by 19,000 to 200,000 in the latest week. That’s the first weekly increase since early April.
The four-week average of new claims increased to 188,000. A month ago, the four-week average was 170,500, the lowest level ever for this report, which goes back to 1967.
Continuing claims declined to 1.4 million, the lowest level since January 1970. Continuing claims lag new claims by one week.
Productivity declined 7.5% in the first quarter of 2022 from the fourth quarter of 2021. Output decreased 2.4%, while hours worked increased 5.5%. This is the largest quarterly decline in productivity since the third quarter of 1947.
Hourly compensation increased 3.2% in the first quarter. The compensation increase, coupled with the decline in productivity, resulted in unit labor costs increasing at an annual rate of 11.6% in the first quarter.
Over four quarters, unit labor costs increased 7.2%. That’s the largest four-quarter increase in unit labor costs since the third quarter of 1982.
Productivity declined over four quarters to 0.6%. That’s the biggest 12-month decline in productivity since the fourth quarter of 1993.
Last Friday’s Employment Situation reports showed the labor market remained strong in April. There were 428,000 new jobs created in April, the same as in March after revisions.
Private payrolls increased by 406,000, with manufacturing accounting for 55,000 of those new jobs.
April was the 12th consecutive month job gains were 400,000 or higher. Most of the hiring was in restaurants, hotels and leisure industries. Even after the increases, the economy still has 1.2 million fewer employees than before the pandemic.
Average hourly earnings increased 0.3% in April and 5.5% over 12 months. Those are strong compensation increases, but they still lag inflation. Real wages declined.
Consumer credit outstanding increased at an annual rate of 9.7% in the first quarter of 2022. Revolving credit, which is mostly credit card use, increased at a 21.4% annual rate. Nonrevolving credit, mostly vehicle and student loans, increased at a 6.1% annual rate.
The data show that in the face of strong inflation consumers are maintaining their spending levels by increasing debt, especially credit card debt.
The Markets
The S&P 500 fell 4.15% for the week ended with Tuesday’s close. The Dow Jones Industrial Average lost 2.84%. The Russell 2000 declined 7.18%. The All-Country World Index (excluding U.S. stocks) decreased 5.22%. Emerging market equities dropped 6.31%.
Long-term treasuries lost 1.92% for the week. Investment-grade bonds fell 0.65%. Treasury Inflation-Protected Securities (TIPS) declined 1.37%. High-yield bonds dropped 1.82%.
On the currency front, the U.S. dollar rose 0.43%.
Energy-based commodities fell 3.01%. Broader-based commodities lost 4.03%. Gold declined 1.58%.
Bob’s News & Updates
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