Where are the stock markets headed?

In this thread general discussion about where the overal market is heading is welcome. :hugs:


I’ll start with some narrative about this year, which has been a rollercoaster for investors. Narratives are just, well narratives but I think when supported with ample amount of data one can really create some insights into the market.

In the long run, cash flows determine the value of companies. The higher the return companies get to their cash flow via investing it, the more valuable companies are. How valuable those future cash flows are today is determined by the discount rate.

Inflation affects the discount rate. Here is the last 30 years of CPI (consumer price index) data from the US, but the picture is the same here in Europe as well. Inflation has gotten out of hand after the pandemic disruption and gargantual amount of fiscal stimulus. This mixed with bottlenecks and numerous other factors, resulting in run away inflation.

Sudden, unexpected inflation is not a good thing for the stock market in general. It’s difficult for the companies to adapt quickly. Expenses rise, but revenue has trouble to keep the pace. Investing is more expensive and asset base is bloated reducing the ROI. For most companies, this leads to lower valuation over time. I warmly recommend reading Warren Buffett’s comment’s on inflation back in the seventies and eighties. They are as accurate today as they were back then.

It is no coinsidence that SP500 and other indices started their decline almost at the same time as interest rates started galloping up. Short term interest rates reflect the short term policy rate and actions of the central banks. Rising interest rates reduce the present value of future cash flows.

And stocks have definately gotten cheaper after the “COVID bubble” or “growth bubble”, whatever we should call the craziness that happened last year. SP500 traders always at a premium because of better growth prospects and return on capital, but especially European stocks look still cheap.

I know, we are directly hit by the energy crisis. It’s a bit question mark for myself what are the long term impacts of the energy crisis to our structural competetivines. However, thus far everything has been more smooth than expected.

It is no wonder why equities react so vehemently to every sign inflation is receding. That would drive down the discount rate. If this can be achieved without recession, all the better. But that is the big question: can inflation recede without a recession. Recessions weight down earnings. Luckily the stock market has tanked already, so shallow recessions seems to be in the cards.

6 gillningar

Just a few remarks about my latest blog.

Inverting yield curvers have a bad habit of foreseeing recessions. All the yield curves have inverted the first time since before financial crisis.

As I mentioned above, shallow recession should not be a surprise to the stock market: recession is very much anticipated actually. However, analyst concencus is forecasting earnings growth for the next few years

Of course, equities don’t have to tank every time 50 % when in recession, but I would still be a tad more careful out there.

Oh and LEI has the same core message:

Now the question is how shallow or deep the recession shall be. Shallow recession, no problem. Deeper, then I think we are not out of the woods yet.

TS Lombard provides a useful bull vs bear case for equity markets to explore scenarios and arguments about whether it is time to be bull or bear. The chart below highlights some of the arguments.

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Good table!


Just one graph from the latest Whats up Stonks.

According to OECD estimates, share of GDP spent on energy rises to 18 %, the samel level as the in the last energy crisis.

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Interesting chart from Bloomberg. Fed Regional Manufacturing Indices are in contraction mode. Manufacturing makes up 10% of the U.S. GDP.

FiwHKg6VEAE-WmY (1)

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On top of that, CEO confidence has collapsed, indicating recession.

Perhaps earnings recession as well…

I wrote more about CEO confidence in here:

To put some positive notes here, I have mention that usually stonks bottom way before macro data. The best time buy is when everything seems to go wrong. :smiley:

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Don’t take this too seriously. Are we again on course for Santa Claus rally? :santa:

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Taming the Inflation - not an easy task. Shortly summarized:

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Nobody should be surprised if the economy contracts next year. We are in the midst of the most widely predicted recession in history. Just because economists are convinced of their predictions doesn’t mean they are right.

wsj

Wall Street Journal writes that since Philly Fed survey started, not a single recession was spotted a year in advance. Economists missed the 1990, 2001 and 2008 recessions completely.

3 gillningar

Uncertain times, and a historically interesting setup. Just thinking about the winter ahead…

When was the last time so much was depending on what the weather will be like? An extrem cold winter will impact not only the European companies and households and their disposable income, but also the possible outcome of the war in Ukraine.

Other major topics that will affect us all is the Chinese economy and covid policy, - not to mention the up-coming election in the US.

The world is kind of holding its breath, really.

2 gillningar

Yep. And this might be “strongest” recession thus far.

The latest ISM services data:

GDP Now is still quite strong for Q4, despite the recent decline. Expected GDP growth 2,8 % for Q4.

Of course stronger than expected data now do not mean we could not have a recession next year, but so far so good.

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Few notes from the last Whats up stonks.

China officials are planning GDP growth target of 5 % for the next year, indicating return to growth after a year ruined by COVID-restrictions.

New wage tracker in Eurozone indicates that wages are rising accross the board, especially in Germany. This brings a headache for ECB.

Many investors wait for pivot. That might come as the economy cools down, but usually cutting rates don’t mean a violent rally. More the opposite: cutting rates were bearish in the last cycles.

2 gillningar

Rate hike decisions coming up!
We certainly have an interesting week ahead, with several centralbanks delivering their rate announcements.
First up is fed, on Wed 14th of Dec., followed by ECB, BOE, Norges Bank & Swiss National Bank on Thurs 15th of Dec.

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Today I wrote the Fed seems to have blinked already. Is pivot underway? Net liquidity, contrary to QT, has actually increased for the last few months. No wonder the why stocks have gone up.

However, the reason behind this is TGA: treasury account which has injected money to the economy.

Whether this trend continues or not is a mystery, and is it coordinated with Fed? If treasury starts to fill in coffins again later this year while Fed continues it’s QT, we may say this pivot call was too early.

Enjoy ! :coffee:

Todays inflation data was lower than expected. CPI M/M 0.1 %, estimate was 0.3 %.

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I really enjoy reading Howard Marks’ memos, and want to share his way to illustrate past and present context in the market.

https://www.oaktreecapital.com/insights/memo/sea-change

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Fed: the fight against the inflation continues
During its last monetary policy meeting this year, Dec 14th 2022, Fed announced a half point interest rate hike, to 4.25%-4.5%, stating that the fight against inflation continues, even though some positive signs has been seen in this area. The longer-run goal for inflation is 2 percent, and even if the direction is right, it is still too high.

As Powell stated: “Price stability is the responsibility of the
Federal Reserve and serves as the bedrock of our economy. Without price stability, the economy doesn’t work for anyone.”

The interest rates are now expected to reach 5.1% next year.

The fed also announced that process of significantly reducing the size of the balance sheet continues.

More about the the Dec meeting:

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This Bloomberg chart is telling: inflation is falling like a rock if we strip out Shelter from core inflation.

On the other hand, wage inflation is still high which probably prolongs the inflation fight.

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Some highlights from my lates post about flatlining markets.

One of my favorite analogies to present days market is the post ww2 bear market. The economy revided from the supply/demand shock after the war. Inflation peaked at 20 %. The equity market had had e massive bull run, which ended in 30 % bear market and then flat line market for 3 years. Earnings growth continued and in the end stocks were quite cheap actually.

Now we have the shock from the pandemic, inflation has probably peaked at 10 %. We’ve a similar bear market. Earnings are still growing, albeit at a slower pace.

Could we see something similar in the coming years?

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Is market telling us something?

Usually (not always though, like 1998) Fed has paused hikes when the 2 year yield has slided below Fed funds rate.

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