Category: Economy

The Week Ahead – Earnings Season, Beige Book, Jobs Report

Posted on by phoffman@channelchek.com

Can the S&P Hold Above 4,000? Will Fed Presidents Change Market Expectations?

The S&P 500 closed on the cusp of 4,000 last week; while this is still nearly 800 points from an all-time-high if it should break through and hold, it could have positive psychological value for equity markets.

Two reports this week that have the potential to drive direction are both released on Wednesday. They are the December numbers on retail sales and the Fed’s Beige Book. Earnings season is also in full swing beginning this week. The reporting results of companies such as Netflix on Thursday may have an impact and set the stage for specific sectors and markets.

The Beige Book will provide a sense of economic conditions across the 12 Federal Reserve Districts, measuring the period between late November and early January. The tone of the last three releases points toward the US economy sitting on the brink of recession. There will be information on how interest rates are impacting housing markets and the strength of the labor market in different districts. The evidence in the report could mean the difference between a 0.25% increase or a 0.50% increase after the FOMC meeting held on January 31 through February 1.

Monday 1/16

  • US Markets and Government Offices closed (MLK Jr. Day).

Tuesday 1/17

  • 8:30 AM ET, The Empire State Manufacturing Index disappointed in December with a reading of minus 11.2. The estimate for January is less negative minus 7.5. It tallies, each first of the month, the same pool of roughly 200 manufacturing executives (usually the CEO or the president) responses to a questionnaire on an assortment of indicators from the previous month.
  • 3:00 PM ET, John Williams, the President of the Federal Reserve Bank of New York will be speaking. The New York Fed President is a particularly influential voting member of the FOMC. There is the possibility of insight into how that member may have changed their leaning on policy, which could impact markets.

Wednesday 1/18

  • 8:30 AM ET, PPI- Final Demand Numbers will be released for December; they are expected to have fallen 0.1 percent on the month for a year-over-year increase of 6.8%. This would compare with a 7.4% year-over-year level in November.
  • 8:30 AM ET, Retail Sales are expected to fall 0.9% in December on top of November’s weaker-than-expected 0.6% decline. Ex-vehicle sales slipped 0.2% in November, with this measure expected to fall 0.5% in December. When excluding both vehicles and gasoline, sales are expected to read 0.1% higher.
  • 9:00 AM ET, the President of the Atlanta Fed, Raphael Bostic, will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the potential for insight into how that member may have adjusted their leaning on policy. Atlanta Fed events are often broadcast live on this YouTube channel.
  • 9:15 AM ET, Industrial Production has been contracting, and further the contraction is expected to continue with a consensus loss estimate of 0.1% for December. Manufacturing output is expected to fall 0.2%.
  • 9:30 AM ET, the Chief Executive Officer of the St. Louis Fed, James Bullard, will be speaking.
  • 10:00 AM ET, Business inventories in November are expected to rise 0.4% following a 0.3% build in October.
  • 2:00 PM ET, Beige Book Release.

Thursday 1/19

  • 8:30 AM ET, December’s annualized rates are expected at 1.358 million for starts and 1.380 million for permits which would compare with 1.427 and 1.342 million in November.
  • 8:30 AM ET, Jobless claims for the January 14 week are expected to rise slightly to 215,000 versus 205,000 and 206,000 in the two prior weeks.
  • 8:30 AM ET, The Philadelphia Fed manufacturing index is expected to come in at minus 10.0 in January. This report has been contracting for six of the last seven reports.
  • 9:00 AM ET, Federal Reserve Bank of Boston Fed President Susan Collins is scheduled to speak.
  • The debt ceiling may be reached as per US Treasury Secretary Janet Yellen.

Friday 1/20

• 10:00 AM ET, Existing home sales in December are expected to have declined further to a 3.955 million annualized rate versus November’s lower-than-expected 4.090 million.

1:00 PM ET, Better World Acquisition (BWAC) will be interviewed in a C-Suite style interview. A video will be made available here on Channelchek.

What Else

The Federal Reserve members can impact longer-term interest rates by impacting expectations they set through their speeches. Some say their voices have been drowned out by analysts and media reporting. For this reason, Fed rhetoric may become elevated as we approach the next FOMC meeting that begins late month.

Earnings season begins to ramp up just as a major index at psychologically important levels. This could be what sets the tone for the stock market and various sectors for the first quarter.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://us.econoday.com/byweek.asp?cust=us

https://home.treasury.gov/system/files/136/Debt-Limit-Letter-to-Congress-McCarthy-20230113.pdf

Cooling Inflation May Not Translate to a More Accommodating Fed

Posted on by phoffman@channelchek.com
Image Credit: Brookings Institute (Flickr)

Unbalanced Hype in the Markets Surrounding the “Unknowable” Could be Costly

“It’s not knowable” if there will be a recession in 2023, said Fed Chair Jerome Powell recently. A month earlier, after the last change in monetary policy, he said it is easier to go too far and bring the economy back than to do too little and then have to then tame stronger inflationary pressures. The most recent CPI number shows a trend that policymakers want to see, but it likely is not a number the Fed will pivot off of. After all, for the Consumer Price Index (CPI) to rise by 6.5% YoY means that cost increases experienced by consumers are running more than three times higher than the Fed’s stated target. Of course, the rate increases have not had time to work their way into the system; they haven’t even fully worked their way into the interest rate markets.

An Alternative Way to Look at Tightening

Relatively speaking, a hypothetical decline in your investment account by 2% last month may be an improvement in performance if it had been down 3% the month before. But if your need to meet your goals is a positive 8%, then you still have a lot of work to do in order to consider yourself successful. The same for the Fed policymakers. US dollar buying power is losing ground, just not as quickly as it was. And since the inflation rate is also subject to what savers and investors call ‘the miracle of compounding’ and the jobs market is strong, the Fed has motivation and room to keep pulling money from the system and raising interest rates – the sooner, the better based on Powell’s statements.

And it may be that they are willingly driving the economy into reverse to stop service costs from rising as quickly, and bring inflationary wage increases lower. Workers, after all, have not reacted to the possibility of a recession. They still feel at ease leaving their employers at a very high pace, and the layoff rate is still near a record low. To demonstrate, the economy added 223,000 in payroll employment in December (well above the 200,000 forecast — and the unemployment rate came down to 3.5%, below the 3.7% forecast. This may not seem high compared to the gains just after the pandemic opening, but it is quite steamy.

Take Away

The financial news has been full of ‘pivot’ headlines for months. When it comes to the “unknowable,” it is important to remind oneself, as an investor, that very few things are a done deal until they happen. The big picture is the bond market has not priced itself in a way that fully reflects the Fed tightening of short-term rates. This represents difficulty for the Fed, and the Fed is looking for slower economic growth.

Throughout 2022, the big question while consumers faced increasing prices was whether the Federal Reserve would push the economy into decline. Their intent, after years of excessive stimulus, is to slow economic growth to bring inflation down. The Fed hiked interest rates seven times during 2022, its aggressive tactics caused some to worry about job losses and a recession. With an inflation rate that Powell thinks is more than three times too high, investors must consider that the Fed has different goals than investors but the same as consumers. We are all consumers, we’re not all investors.

As a final note, what the year brings is unknowable. There are always stocks going up, going down, and tracking sideways. A 2% inflation rate is easier to beat in terms of performance as an equity market investor than a 4% or 6% level. What the Fed will do, they likely don’t know for sure themselves; our job, that of investors, is to not get caught up in hype. And the markets and the media are breeding grounds for hype.

Paul Hoffman

Managing Editor, Channelchek

Powell Just Insisted, “We are not, and will not be, a climate policymaker”

Posted on by phoffman@channelchek.com
Source: Riksbank Sweden (Bloomberg)

Fed Chair Jerome Powell made three strong points during the panel on “Central Bank Independence and the Mandate—Evolving Views,” which just took place in Stockholm. These points include the role of elected representatives and unelected agency officials, the transparency of a central bank’s intents and actions while remaining independent of political agendas, and not becoming sidetracked from the established mandates.

Continued Independence and Transparency

Powell reminded the international audience, which included central bankers, that the purpose of monetary policy independence is the benefits allowed the policymakers. This independence can insulate policy decisions from short-term political considerations. “Price stability is the bedrock of a healthy economy and provides the public with immeasurable benefits over time. But restoring price stability when inflation is high can require measures that are not popular in the short term as we raise interest rates to slow the economy,” said Powell. The head of the US central bank then explained the absence of politics over central bank decisions provides for less conflicted decision-making in light of short-lived political considerations.

While speaking from a US point of view, Powell said that in a “well-functioning democracy, important public policy decisions should be made, in almost all cases, by the elected branches of government.”  He explained that agencies trusted to act independently, such as the Federal Reserve, should have a narrow and explicitly defined mission that protects the agency from fleeting political considerations.

Within this kind of independence in a representative democracy, including transparency that allows for oversight, the Fed and other agencies find legitimacy. Powell said about of the current makeup of the Fed, “We are tightly focused on achieving our statutory mandate and on providing useful and appropriate transparency.”

Focus on Mandates

Climate change is not part of the US central bank’s statutory goals and authority. On the subject of climate, Powell added, “we resist the temptation to broaden our scope to address other important social issues of the day. Taking on new goals, however worthy, without a clear statutory mandate would undermine the case for our independence.”

In the area of bank regulation, Powell told the audience that independence helps ensure that the public can be confident that the overseer’s supervisory decisions are not influenced by political considerations. In response to his own hypothetical question about whether it is wise to incorporate into bank supervision the perceived risks associated with climate change, consistent with existing mandates, Powell sounded strongly opposed. “Addressing climate change seems likely to require policies that would have significant distributional and other effects on companies, industries, regions, and nations. Decisions about policies to directly address climate change should be made by the elected branches of government and thus reflect the public’s will as expressed through elections.”

He did, however, share his view that any climate-related financial risks that pose material risks to the banking system are the Fed’s responsibility and under their supervision. “But without explicit congressional legislation, it would be inappropriate for us to use our monetary policy or supervisory tools to promote a greener economy or to achieve other climate-based goals. We are not, and will not be, a “climate policymaker.”

Take Away

On January 10th, the head of the US central bank participated in an international symposium to mark the end of Stefan Ingves’ time as governor of Sweden’s central bank. Senior central bank officials and prominent academics participate in four panels that address central bank independence from various angles – climate, payments, mandates, and global policy coordination. Fed Chair Powell stood determined and resolute that the Fed’s mandate is narrow, well-defined, and should not be clouded with short-term political goals.

There has been pressure on the Fed to adopt additional mandates that include social reforms and climate concerns. His talk before a world audience may be the first time Jerome Powell has publicly addressed this pressure. The US House of Representatives has just shifted its balance to a more conservative power base; this may have had an empowering impact on Powell’s open remarks.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.federalreserve.gov/newsevents/speech/powell20230110a.htm

https://www.riksbank.se/globalassets/media/konferenser/2022/riksbank-organises-international-symposium-on-central-bank-independence.pdf

https://www.reuters.com/markets/us/powell-fed-needs-independence-fight-inflation-should-avoid-climate-policy-2023-01-10/

The Pros, Cons, and Many Definitions of ‘Gig’ Work

Posted on by phoffman@channelchek.com
Image Credit: Stock Catalog

What’s a ‘Gig’ Job? How it’s Legally Defined Affects Workers’ Rights and Protections

The “gig” economy has captured the attention of technology futurists, journalists, academics and policymakers.

“Future of work” discussions tend toward two extremes: breathless excitement at the brave new world that provides greater flexibility, mobility and entrepreneurial energy, or dire accounts of its immiserating impacts on the workers who labor beneath the gig economy’s yoke.

This article was republished with permission from The Conversation, a news site dedicated to sharing ideas from academic experts. It represents the research-based findings and thoughts of David Weil, Visiting Senior Faculty Fellow, Ash Center for Democracy Harvard Kennedy School / Professor, Heller School for Social Policy and Management, Brandeis University.

These widely diverging views may be partly due to the many definitions of what constitutes “gig work” and the resulting difficulties in measuring its prevalence. As an academic who has studied workplace laws for decades and ran the federal agency that enforces workplace protections during the Obama administration, I know the way we define, measure and treat gig workers under the law has significant consequences for workers. That’s particularly true for those lacking leverage in the labor market.

While there are benefits for workers for this emerging model of employment, there are pitfalls as well. Confusion over the meaning and size of the gig workforce – at times the intentional work of companies with a vested economic interest – can obscure the problems gig status can have on workers’ earnings, workplace conditions and opportunities.

Defining Gig Work

Many trace the phrase “gig economy” to a 2009 essay in which editor and author Tina Brown proclaimed: “No one I know has a job anymore. They’ve got Gigs.”

Although Brown focused on professional and semiprofessional workers chasing short-term work, the term soon applied to a variety of jobs in low-paid occupations and industries. Several years later, the rapid ascent of Uber, Lyft and DoorDash led the term gig to be associated with platform and digital business models. More recently, the pandemic linked gig work to a broader set of jobs associated with high turnover, limited career prospects, volatile wages and exposure to COVID-19 uncertainties.

The imprecision of gig, therefore, connotes different things: Some uses focus on the temporary or “contingent” nature of the work, such as jobs that may be terminated at any time, usually at the discretion of the employer. Other definitions focus on the unpredictability of work in terms of earnings, scheduling, hours provided in a workweek or location. Still other depictions focus on the business structure through which work is engaged – a staffing agency, digital platform, contractor or other intermediary. Further complicating the definition of gig is whether the focus is on a worker’s primary source of income or on side work meant to supplement income.

Measuring Gig Work

These differing definitions of gig work have led to widely varying estimates of its prevalence.

A conservative estimate from the Bureau of Labor Statistics household-based survey of “alternative work arrangements” suggests that gig workers “in non-standard categories” account for about 10% of employment. Alternatively, other researchers estimate the prevalence as three times as common, or 32.5%, using a Federal Reserve survey that broadly defines gig work to include any work that is temporary and variable in nature as either a primary or secondary source of earnings. And when freelancing platform Upworks and consulting firm McKinsey & Co. use a broader concept of “independent work,” they report rates as high as 36% of employed respondents.

No consensus definition or measurement approach has emerged, despite many attempts, including a 2020 panel report by the National Academies of Sciences, Engineering, and Medicine. Various estimates do suggest several common themes, however: Gig work is sizable, present in both traditional and digital workplaces, and draws upon workers across the age, education, demographic and skill spectrum.

Why it Matters

As the above indicates, gig workers can range from high-paid professionals working on a project-to-project basis to low-wage workers whose earnings are highly variable, who work in nonprofessional or semiprofessional occupations and who accept – by choice or necessity – volatile hours and a short-term time commitment from the organization paying for that work.

Regardless of their professional status, many workers operating in gig arrangements are classified as independent contractors rather than employees. As independent contractors, workers lose rights to a minimum wage, overtime and a safe and healthy work environment as well as protections against discrimination and harassment. Independent contractors also lose access to unemployment insurance, workers’ compensation and paid sick leave now required in many states.

Federal and state laws differ in the factors they draw on to make that call. A key concept underlying that determination is how “economically dependent” the worker is on the employer or contracting party. Greater economic independence – for example, the ability to determine price of service, how and where tasks are done and opportunities for expanding or contracting that work based on the individual’s own skills, abilities and enterprise – suggest a role as an independent contractor.

In contrast, if the hiring party basically calls the shots – for example, controlling what the individual does, how they do their work and when they do it, what they are permitted to do and not do, and what performance is deemed acceptable – this suggests employee status. That’s because workplace laws are generally geared toward employees and seek to protect workers who have unequal bargaining leverage in the labor market, a concept based on long-standing Supreme Court precedent.

Making Work More Precarious

Over the past few decades, a growing number of low-wage workers find themselves in gig work situations – everything from platform drivers and delivery personnel to construction laborers, distribution workers, short-haul truck drivers and home health aides. Taken together, the grouping could easily exceed 20 million workers.

Many companies have incentives to classify these workers as independent contractors in order to reduce costs and risks, not because of a truly transformed nature of work where those so classified are real entrepreneurs or self-standing businesses.

Since gig work tends to be volatile and contingent, losing employment protections amplifies the precariousness of work. A business using misclassified workers can gain cost advantages over competitors who treat their workers as employees as required by the law. This competitive dynamic can spread misclassification to new companies, industries and occupations – a problem we addressed directly, for example, in construction cases when I led the Wage and Hour Division and more recently in several health care cases.

The future of work is not governed by immutable technological forces but involves volitional private and public choices. Navigating to that future requires weighing the benefits gig work can provide some workers with greater economic independence against the continuing need to protect and bestow rights for the many workers who will continue to play on a very uneven playing field in the labor market.

The Week Ahead – Inflation Data in Focus

Posted on by phoffman@channelchek.com

Although CPI is the Focus, Chairman Powell’s Discussion in Sweden Could Have a Long-Lasting Impact

As this full five-day trading week kicks off, stock’s YTD performance and the week-to-date performance are equal. This will change with the opening bell on Monday. It is a quiet week for highly scrutinized numbers or events. However, two scheduled events have the potential to change investor sentiment. The first comes on Tuesday when the US central bank chairman (Fed Chair Powell)  speaks in Stockholm about central bank independence. This debate regarding politic’s role in central bank decisions is getting more intense. Channelchek recently published an article on the subject which can be found here.

The second is CPI which is the next look we get at inflation. If inflation is higher than expectations, the stock and bond markets could sell off; if lower, they may celebrate with a rally.

Otherwise, the week kicks off with the Investment Movement Index, which will get little attention, but is worth watching. The IMX is a behavior-based index assembled by TD Ameritrade designed to measure what investors are actually doing. More on the IMX below.

Monday 01/09

  • 12:30 PM, The Investor Movement Index or IMX measures what investors are actually doing and how they are actually positioned in the markets. It accomplishes this by using data on the holdings/positions, trading activity, and other data from an anonymous sample of six million funded accounts. It reflects consumer retail portfolios. At its most basic level, the IMX can provide insight into whether investors are growing more bullish or bearish on equities.
  • 12:30 PM, the President of the Atlanta Fed, Raphael Bostic, will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the potential for insight into how that member may have adjusted their leaning on policy. Atlanta Fed events are often broadcast live on this YouTube channel.

Tuesday 01/10

  • 6:00 AM, NFIB Small Business Optimism Index has been below the historical average of 98 for 11 months in a row. December’s consensus is 91.3 versus 91.9 and 91.3 in the past two reports. The index is a composite of 10 seasonally adjusted components based on the following questions: plans to increase employment, plans to make capital outlays, plans to increase inventories, expect the economy to improve, expect real sales higher, current inventory, current job openings, expected credit conditions, now a good time to expand, and earnings trend.
  • 9:00 AM, Fed Chair Powell speaks at the Sveriges Riksbank International Symposium on Central Bank Independence in Stockholm, Sweden. It is not expected that micro discussions on current interest rate policy will surface in his conversation.

Wednesday 01/10

  • 7:00 AM, Mortgage Bankers Association (MBA) will release numbers on mortgage applications. There has been a steady decline in applications over the past seven months.

Thursday 01/11

  • 7:30 AM ET, Philadelphia Fed President Patrick Harker will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the possibility of insight into how that member may have changed their leaning on policy.
  • 8:30 AM, the CPI number will be such a distracting focus this week that trading may actually be subdued earlier in the week in anticipation of this inflation report. The consensus is for no monthly change in consumer prices. This would equate to a year-over-year rate of 6.6%.

Friday 01/12

  • 10:00 AM, Consumer Sentiment is expected to inch up to 60.0 in the first reading for January versus 59.7 in December.
  • 10:20 AM Philadelphia Fed President Patrick Harker will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the possibility of insight into how that member may have changed their leaning on policy.

What Else

Guess what, the stock market is closed again on Monday the 16th.  Below is a copy of the holidays along with Fed meetings and other important dates throughout the year. It was provided by the NYSE. Perhaps bookmark a link to this beginning of the year look forward so as to have on hand a snapshot of all of these market impactful dates.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.nyse.com/publicdocs/ICE_NYSE_2023_Yearly_Trading_Calendar.pdf?elqTrackId=16ec5f60c2d140d4babc3081b3d4cdd2&elq=00000000000000000000000000000000&elqaid=4274&elqat=2&elqCampaignId=&elqcst=272&elqcsid=1819

https://us.econoday.com/byweek.asp?cust=us

Innovation Works Best as a Freewheeling Process Not Grand Design

Posted on by phoffman@channelchek.com
Image credit: Marcus Herzberg (Pexels)

For Now, Innovation and Entrepreneurship Still Hold a High Place in the USA

Commentators worry that the United States might lose its dominance in innovation to Asian countries like China and Singapore. Many policymakers are intimidated by the R&D budgets of Asian countries and by their superior performance on international academic assessments. However, these concerns are misguided because the United States still dominates innovation.

The United States ranks second on the Global Innovation Index and scores the highest in the world on fifteen of eighty-one innovation indicators. The US innovation ecosystem continues to lead in the commercialization of research, and its universities are on the cutting edge of academic research. Other countries are expanding research budgets, but the United States’ genius is its ability to commercialize relevant innovations.

Innovations are only useful when they disrupt industries by transforming society and altering consumer preferences. Because innovations respond to market changes, anything can become an innovation, and the process is highly spontaneous. Unfortunately, too many countries are laboring under the assumption that government plans inevitably lead to innovation. Finding the next game changer is tremendously difficult due to the dynamism of consumer preferences.

US entrepreneurs appreciate that innovation is a freewheeling process rather than an object of grand design. That is why Silicon Valley, with its reverence for risk and failure, has been known for innovation. In her 2014 book, The Upside of Down: Why Failing Well is the Key to Success, Megan McArdle argues that the United States’ tolerance toward failure is a crucial pillar of prosperity because it promotes self-actualization, risk, and the continuous quest for innovation.

The United States’ rivals have eloquent five-year plans and extravagant budgets, but US innovation is undergirded by private institutions with a strong appetite for risk and iconoclastic thinking. Private venture-capital associations and research institutions searching for future pioneers are the primary players in US innovation. Government innovation plans are inherently conservative because they hinge on the success of targeted industries.

But, in the private sector, entrepreneurs are deliberately scouting for disruptors to undercut traditional industries by launching breakthrough products. The conformity of government bureaucracies is an enemy of the unorthodox thinking that spurs innovation. China is known for having a competent and meritocratic civil service, yet scholars contend that it lacks an innovative environment.

A key problem is that China focuses on competing with western rivals instead of developing new industries; innovation is perceived as a competition between China and its rivals rather than an activity pursued for its own sake. Consequently, US companies remain market leaders and are more adept at converting market information into innovative products than their Chinese counterparts. Unlike China, US entrepreneurship is not a function of geopolitics.

Meanwhile, some commentators suggest that the US education system is better at deploying talent due to its encouragement of unorthodox thinking. In contrast, Singapore and China have been criticized for emphasizing rote learning at the expense of critical thinking. For example, Singapore’s public sector is a model of excellence; however, despite government support, Singapore is yet to become an innovation hotbed.

Bryan Cheung, in an assessment of industrial policy in Singapore, comments on the failure of Singapore to translate research into innovation: “Even though Singapore ranks highly on global innovation indices, closer scrutiny reveals that it scores poorly on the sub-component of innovation efficiency.” A recent edition of the Global Innovation Index, using a global comparison, declared that “Singapore produces less innovation outputs relative to its level of innovation investments.”

Cheung explains that Singapore is heavily reliant on foreign talent to boost innovation: “Even the six ‘unicorns’ that Singapore has produced (Grab, SEA, Trax, Lazada, Patsnap, Razer) were all founded or co-founded by foreign entrepreneurs. In the Start-Up Genome (2021), Singapore also performed relatively poorly in ‘quality and access’ to tech talent, research impact of publications, and local market reach, which is unsurprising since innovation activity is concentrated in foreign hands.”

Asian countries are growing more competitive, but it will take decades before they develop the United States’ appetite for risk, market-driven innovations, and the uncanny ability to monetize anything. The United States’ spectacular economic performance and business acumen are based on its unique culture. Those who bet against the United States by downplaying its culture are bound to lose. The United States’ rivals are still catching up.

About the Author

Lipton Matthews is a researcher, business analyst, and contributor to Merion West, The Federalist, American Thinker, Intellectual Takeout, mises.org, and Imaginative Conservative. Visit his YouTube channel, here. He may be contacted at lo_matthews@yahoo.com or on Twitter (@matthewslipton)

Inflation, Interest Rates, and Economic Growth – Where are We Headed?

Posted on by phoffman@channelchek.com

Global Economy 2023 – Central Banks Face an Epic Battle Against Inflation Amid Political Obstacles

Where is the global economy heading in 2023?

After all the challenges of last year, it’s a question asked with concern. Just as the economy was dealing with the aftermath of the COVID-19 pandemic, Russia’s invasion of Ukraine added a little more impetus to global inflation.

Significant rises in the cost of vital items such as food and energy created a cost-of-living issue that needs to be addressed by households and businesses. Central banks reacted with a barrage of interest-rate hikes, while a wave of industrial action saw workers in many countries fighting for pay and conditions to keep pace with this more expensive economic era.

Now, as we begin 2023, these conditions are set to continue, and the IMF thinks that a third of the world will experience a recession in the coming months. This article discusses the weakening independence of central banks and the uncertainty and possible high costs the political influence brings.

This article takes a deep dive into the new interference the Federal Reserve and other central bankers are faced with. It was authored by Steve Schifferes, Honorary Research Fellow, City Political Economy Research Centre, City, University of London. Schifferes believes there are two key ways politics may interfere with central bank plans in 2023.

Some of the world’s biggest economies – and their central banks – face a tricky task this year taming inflation via higher interest rates without triggering a recession.

And whether they like it or not, the U.S. Federal Reserve, the Bank of England and other central banks are now being thrust into the center of a political debate that could threaten their independence as well as their ability to act decisively to curb rising prices.

I’ve been following and covering politics and finance for four decades as a reporter and now as an economics research fellow. I believe there are two key ways politics may interfere with central bank plans in 2023.

An Inflationary Challenge

High inflation is perhaps the biggest challenge facing the world economy over the coming year.

Inflation has rapidly accelerated and is now at or near its highest rate in decades in most developed economies like the U.S. and in Europe, causing living standards to stagnate or decline in many countries. This has particularly hurt the poorest people, who suffer a higher rate of inflation than the general population because they spend more of their income on food and energy.

The sharp rise in inflation caught central banks by surprise after two decades of low and stable inflation. They reacted by aggressively raising interest rates in the second half of 2022, with the Fed leading the way. The U.S. central bank lifted rates 4.25 percentage points over a six-month period, and the Bank of England, the European Central Bank, and others followed in its footsteps.

Their strategies seem to be working. Inflation in the U.S. has slowed, while in the U.K. and the eurozone, recent data suggest inflation may have peaked – although it’s still very high, at around 10% – and might start trending down.

But interest rate hikes – which are expected to continue in 2023, albeit at a slower pace – could further cloud the outlook for economic growth, which already looks grim for developed economies.

The Organization for Economic Cooperation and Development predicts that in 2023 both the U.S. and the eurozone will grow by only 0.5%, well below their historic averages, while Europe’s largest economy, Germany, will actually shrink by 0.3%. In the U.K., the Bank of England projects that the economy will continue to shrink until the middle of 2024.

Fiscal Spending and Inflation

That brings us to the first political problem that could upset central bank plans: government spending.

The politics is playing out in different ways. In the U.S., spending has increased substantially, most notably with the $1.2 trillion infrastructure bill signed into law in late 2021 and the $1.7 trillion budget bill passed in December.

This kind of expansionary fiscal policy, which may be in place for years, could undermine attempts by central banks like the Fed to fight inflation. As the central banks seek to reduce inflation by curbing demand, increased government spending has the opposite effect. This could force the Fed and other banks to raise rates even higher than they otherwise would have.

In Europe and the U.K., governments have been forced to spend billions to subsidize the energy bills of consumers and businesses, while the economic slowdown has reduced their tax revenue, leading to soaring government deficits

Nevertheless, in the U.K. the Conservative government has prioritized the fight against inflation, announcing cutbacks to consumer subsidies for energy, plus higher taxes and further cuts in public spending if it wins the next general election, which is expected to take place in 2024. While these actions are deflationary, they are politically unpopular.

The Bank of England is now split on whether or how fast to continue to raise rates.

Central Bank Independence Under Threat

The other political problem is more existential for central banks and makes their task all the more delicate.

For the past 20 years, their independence from government interference and the setting of public inflation targets at around 2% have helped them gain credibility in fighting inflation, which stayed at historic lows for much of the 21st century.

Now both their credibility and independence may be under threat.

Central bankers, especially in Europe, are acutely aware of public concerns about how higher interest rates might stifle growth, in part because their economies have been more severely affected than the U.S. by the Ukraine war. Meanwhile, consumers are being hit by higher mortgage payments, which may tank the housing market.

At the same time, central bank efforts to persuade workers not to ask for higher wages to compensate for inflation, which would help reduce the need for more interest rate hikes, have spectacularly backfired, especially in Britain, where a wave of strikes by public-sector workers shows no sign of abating.

Long-standing political tensions over the role of the European Central Bank have been exacerbated by the election of right-wing governments in several eurozone countries.

Traditionally, under the influence of Germany’s Bundesbank, the European Central Bank has worried about inflation more than other central banks. Under competing political pressures, it has moved more slowly than some other central banks to unwind its policy of low – and even negative – interest rates.

In the States, where Fed Chief Jerome Powell has rejected any attempt to mitigate his focus on inflation, political pressures may grow from both left and right, particularly if Donald Trump becomes the Republican presidential nominee. This ultimately may lead Congress or a new administration to try to change the central bank’s approach, its leadership, and even its mandate.

Uncharted Waters

None of this might be a problem if central bank projections of a sharp fall in inflation by the end of 2023 come to pass. But these projections are based on the belief that energy prices will continue to remain below their peak or even fall further in the coming year.

Just as in 2022, when central banks failed to grasp the inflationary threat early enough, other risks beyond their control, as well as political developments, may derail their hopes. These include an escalation of the war in Ukraine, which could raise energy prices further, more supply chain disruptions from China, and domestic pushes for higher wages.

With the cost-of-living crisis now at the top of the public’s agenda in many developed countries, the setting of interest rates has ceased to be just a technical matter and has instead become highly political. Both governments and central banks are entering uncharted waters in their attempt to curb inflation without stifling growth. If their projections prove overly optimistic, the political as well as the economic costs could be high.

All this means that the outlook for inflation is highly uncertain. And fears of 1970s-style stagflation – high inflation and stagnant economic growth – could become a reality.

Newly Released FOMC Minutes Cause Concern

Posted on by phoffman@channelchek.com
Image Credit: Donkey Hotey (Flickr)

New Year, Same Old Fed – A Synopsis of the Last FOMC Meeting

Interest rate moves orchestrated by the Federal Reserve or, more specifically, monetary policy as formed at each Federal Open Market Committee (FOMC) meeting have recently taken a front seat in driving markets. This includes the stock market, real estate prices, and more directly, bond values. In what direction is the FOMC likely to push rates in 2023, and at what pace? Some hints have been uncovered in the just-released December meeting minutes. The minutes describe the views expressed by policymakers and explain the reasons for the Committee’s decisions. While voting member thinking can change from one meeting to the next, it is seldom dramatic. This new set of minutes offered only subtle clues as to whether change is in store.

Fed Minutes Present a Case for Continued Rate Hikes

The minutes from the December 2022 Federal Open Market Committee (FOMC) meeting showed that the Fed remains committed to bringing inflation back to its defined 2% target. But the pace of rate hikes should taper in 2023. There was no discussion at all as to whether rates may be cut during 2023.

On the progression of the economy, the Committee members noted that GDP was increasing at a modest pace in the fourth quarter after expanding strongly in the third quarter. Labor markets had eased but remained tight enough to be trouble from an inflation point of view. Both Consumer Price Inflation (CPI) and Personal Consumption Expenditures (PCE) readings moved lower, but continued well above the target inflation range.

Jobs increased at a slower pace in October and November. Both the labor force participation rate and the employment-to-population ratio declined a little over the period of time between meetings. The private-sector job openings rate, as measured by the Job Openings and Labor Turnover Survey, moved back down in October but remained higher than would seem consistent with dramatically lower inflation. 

Wage growth continued higher than a pace expected to be consistent with the the two percent monetary policy target.  Average hourly earnings rose 5.1% over the 12 months ending in November. Compensation per hour (CPH) in the business sector rose 4.0 percent over the four quarters ending in the third quarter, but the reported increase likely understated the true pace of increase in CPH, as the lower second-quarter employment data from the Quarterly Census of Employment and Wages had not yet been incorporated in the CPH measure.

Foreign economic activity grew in the third quarter, but some recent data point to weakening growth, weighed down by the economic fallout of Russia’s war with Ukraine and a COVID-19-related slowdown in China. High inflation continued to contribute to a decline in real disposable incomes, which, together with disruptions to energy supplies, depressed economic activity, especially overseas. In China, authorities began to ease social restrictions even as COVID cases surged, raising the prospect of significant disruptions to economic activity in the near term but also a faster reopening. Weaker global demand and high interest rates also weighed on activity in emerging market economies. Despite tentative signs of easing in foreign headline inflation, core inflationary pressures remained elevated in many countries. In response to high inflation, many central banks further tightened monetary policy.

Implications

The December 2022 minutes confirmed that reining in inflation remains the principal concern of the Fed. No members spoke of a scenario where they may lower rates this year, there is concern that the cost of money is getting easier despite the Fed’s tightening efforts. The expected path of the federal funds rate implied by financial market quotes ended, showing the market anticipates lower rates. This is likely reflective of the larger-than-expected moderation in inflation. Medium-to-longer-term nominal Treasury yields declined substantially over the intermeeting period. This was driven primarily by lower-than-expected inflation data releases, which appeared to prompt a substantial reduction in investors’ concerns about the possibility that inflation would remain high for a long period.

What Do the Minutes Say About Stocks?

Broad stock price indexes increased. This likely reflected reduced concerns about the inflation outlook and the associated implications for the future path of policy. On balance, the one-month option-implied volatility on the S&P 500 (VIX) decreased and was around the middle of its range since mid-2020. This makes sense because of reduced investor concerns about the inflation outlook, spreads of interest rates on corporate debt, mortgage-backed securities, and municipal bonds to comparable-duration Treasury yields, which all narrowed since the last meeting.

Inflation Worries Deflated

With inflation still well above the Committee’s longer-run goal of two percent, participants agreed that inflation was unacceptably high. Participants agreed that the inflation data received for October and November showed welcome reductions in the monthly pace of price increases, but they stressed that it would take substantially more evidence of progress to be confident that inflation was on a sustained downward path.

Participants noted that core goods prices declined in the October and November CPI data, consistent with easing supply bottlenecks. Some participants also noted that, by some measures, firms’ markups were still elevated and that a continued subdued expansion in aggregate demand would likely be needed to reduce the remaining upward pressure on inflation. Regarding housing services inflation, many participants observed that measures of rent based on new leases indicated a deceleration, which would be reflected in the measures of shelter inflation with some lag. Participants noted that, in the latest inflation data, the pace of increase for prices of core services excluding shelter—which represents the largest component of core PCE price inflation—was high. They also remarked that this component of inflation has tended to be closely linked to nominal wage growth and, therefore would likely remain persistently elevated if the labor market remained very tight. Consequently, while there were few signs of adverse wage-price dynamics at present, they assessed that bringing down this component of inflation to mandate-consistent levels would require some softening in the growth of labor demand to bring the labor market back into better balance.

Rates Moving Forward

In discussing the policy outlook, participants continued to anticipate that ongoing increases in the target range for the federal funds rate is appropriate to achieve the Committee’s objectives. In determining the pace of future increases in the target range, participants judged that it would be appropriate to take into account the cumulative tightening of monetary policy, the lags with which monetary policy affects economic activity and inflation, and economic and financial developments.

With inflation staying above the Committee’s two percent goal and the labor market remaining very tight, all participants had raised their assessment of the appropriate path of the federal funds rate relative to their assessment at the time of the September meeting. No participants anticipated that it would be appropriate to begin reducing the federal funds rate target in 2023. Participants generally observed that a restrictive policy stance would need to be maintained until the incoming data provided confidence that inflation was on a sustained downward path to two percent. Which would likely take some time.

In view of the persistent and unacceptably high level of inflation, several participants commented that historical experience cautioned against prematurely loosening monetary policy.

In light of the heightened uncertainty regarding the outlooks for both inflation and real economic activity, most participants emphasized the need to retain flexibility and optionality when moving policy to a more restrictive stance. Participants generally noted that the Committee’s future decisions regarding policy would continue to be informed by the incoming data and their implications for the outlook for economic activity and inflation and that the Committee would continue to make decisions meeting by meeting.

Take Away

It’s a new year, it’s the same Fed, inflation is still quite elevated, policymakers are surprised at how quickly some inflation measures did drop, but the drop wasn’t enough for them to reverse course.

The FOMC reserves the right to be data-dependent and change its pace or direction when the data changes. Until then, they still have more rate hikes they expect to unleash early this year.

Scheduled FOMC Meetings in 2023

January/February 31-1

March 21-22

May 2-3

June 13-14

July 25-26

September 19-20

October/November 31-1

December 12-13

The Policy announcements have been at PM on the second meeting date after they have adjourned.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.federalreserve.gov/monetarypolicy/fomcminutes20221214.htm

https://www.federalreserve.gov/faqs/minutes-federal-open-market-committee-fomc.htm

Michael Burry Expects Huge Swings in 2023

Posted on by phoffman@channelchek.com
Image: Michael Burry on the Set of “The Big Short” (Twitter, @michaeljburry)

Washington’s Economic Playbook According to Michael Burry

One benefit to Elon Musk purchasing Twitter and ridding the platform of many of the auto posts on well-followed accounts is that the well-followed Michael Burry is no longer deleting his tweets the same day as posted. Burry, who began the new year tweeting with a very clear economic roadmap, said less than a month ago that he trusts Elon. As far as the hedge fund manager’s 2023 economic roadmap, his expectations show that he is critical of all those in Washington that have a hand on the economic steering wheel and continue to resist oversteering.

Source: Twitter (@michaeljburry)

While it can be frustrating for someone like Burry or any investor to forecast missteps by those that most impact the economy, especially if the official entities continue to repeat their behaviors, there is some consolation in the idea that patient investors can use these repeated actions to enhance their account’s performance.

Burry’s New Year’s Message

In 50 words, Dr. Burry, the investor made famous by Christian Bale’s portrayal of him in the 2015 movie The Big Short, said that he expects that inflation for this part of the interest rate, or market cycle, has already passed its high. In fact, he expects that it will be unmistakable, as the year progresses, that the US has fallen into a recession. A recession that can’t be denied or redefined because it will be that deep.

With this economic weakness, the hedge fund manager expects that we will not only see lower CPI readings but by the second half of this year, inflation may even turn negative – deflationary readings.

Burry then goes on to say that this will cause stimulus from both the fed and fiscal policy. This stimulus will be overdone if keeping inflation at bay is the goal. He expects we will have an inflationary period that may outdo the one we are coming off., Burry tweeted. “Fed will cut and government will stimulate. And we will have another inflation spike.”

Source: Twitter (@michaeljburry)

Take Away

If you ask ten experts what will happen over the next 12 months, you will get ten or more conflicting projections. The Scion Asset Management CIO is often correct on what will eventually occur but just as often as he is right, he is far off on the timing. The scenarios that seem obvious to him have in the past played out a lot slower in the economy and marketplace.

His first tweet in 2023 said that he expects more of the same from the folks in Washington, including the Federal Reserve and the US Treasury. The fed is now pushing hard on the economic brake pedal, which will could cause activity to reach recessionary levels. He expects that this will be followed by a panic move to the gas pedal that will create shortages, increased demand, and consumer price increases.

If he is correct, this means different things to investors with different time horizons. But it appears that Burry expects the tightening cycle to end soon.

Paul Hoffman

Managing Editor, Channelchek

Source

Burry New Year’s tweet

https://nypost.com/2022/12/09/michael-burry-deletes-twitter-account-despite-declaring-elon-musk-has-his-trust/

The Week Ahead – FOMC Minutes, January Effect, Fed Focus

Posted on by phoffman@channelchek.com

Investors Watching for a Bounce in January

Have you become accustomed to a four-day workweek? Fortunately, we all will be slowly weened off of four days on and three days off. Next week (beginning January 8) is a full five-day trading week; then, we get another three-day weekend for MLK Jr. Day (January 16). This is followed by four weeks until President’s Day, which is a national holiday. So we should all acclimate to reality without shocking the system too much.

Stocks are far cheaper than they were at the start of last year. The current P/E ratio of the S&P 500 is 18.59. A year ago, that stat stood at 29.33. The last time a year ended with P/Es this low was December 2018.

A popular new year stock market axiom is the January Effect. This suggests there is a tendency for stock prices to rise in the first month of the year following a year-end sell-off. With some light number crunching, it would seem there has actually been a slight upward bias in January, but it is barely higher than that of a coin toss. Market conditions and fundamentals are probably a better focus for traders and investors. On Wednesday, the FOMC minutes for the December FOMC will be released. This may have more impact on the market’s tone to begin the new year than any market axiom.

Monday 1/2

  • Markets and Government Offices closed.
  • The Kuna is out as Croatia’s currency, and the Euro is in. Croatia, which has been an EU member since 2013, becomes part of the eurozone to start 2023. The integration provides open borders within the Schengen visa-free zone and the adoption of the Euro as its national currency.

Tuesday 1/3

  • Treasuries that would have settled on the 31st, settle on this first business day since month end.
  • 9:45 AM, PMI Manufacturing Index for December is expected to come in unchanged from the mid-month report at 46.2. This reading would indicate a contraction in manufacturing.
  • 10:00 AM, Construction Spending is expected to report another weak number. After slipping 0.3 percent in October, construction spending in November is expected to fall 0.4 percent as residential building remains weak.

Wednesday 1/4

  • 10:00 AM, the JOLTS report, an indicator of job openings,  has shown declines since August. It is expected to show a reduction again to 10.1 million in November versus 10.3 million in October.
  • 10:00 AM, the ISM Manufacturing Index is likely to confirm slowing in the sector. After gradually decelerating through the year and then entering a sub-50 contraction in November at 49.0, the ISM manufacturing index for December is expected to print at 48.0, and show a worsening decline.
  • 2:00 PM, Federal Open Market Committee minutes for December. We know how this story ended; they pushed overnight rates up by 0.50%. But, the details of the issues, debates, and how much consensus there was among FOMC members three weeks later lends insight into whether the hawkish stance is fading or likely to increase. The minutes are a possible market mood changer as investors and fed watchers measure each word. The minutes will include the complete economic analysis compiled by Fed officials and opinions at odds with the consensus.

Thursday 1/5

  • 7:30 AM, The Challenger Job-Cut Report is not widely followed as it includes much of the same measures as the weekly Jobless Claims. It counts and categorizes announcements of corporate layoffs based on mass layoff data from state departments of labor. Unlike most economic data, this series is not adjusted for seasonal variations; holiday layoffs could create big changes in the reading. The prior level for November was 76.84.
  • 8:30 AM, Jobless Claims for the week ended December 31st are expected to creep up to 228,000 versus 225,000 the prior week. Any large variation from this expectation could be market moving as the fed closely watches the employment situation.
  • 9:20 AM, the President of the Atlanta Fed, Raphael Bostic, will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the possibility of insight into how that member may have recently changed their leaning on policy. Atlanta Fed events are often broadcast live on this YouTube channel.
  • 4:30 PM, Fed’s Balance Sheet. This report has, in recent months, garnered more attention. This is because the weekly report of the Fed’s balance sheet provides details as to whether the pace of reductions ($95 billion monthly) is being adhered to. This represents the other tightening (QT) outlined in the current monetary policy. They are securities (treasuries and mortgaged-backed securities) that are maturing off the Fed’s balance sheet and not being replaced. This real money comes out of the economy and represents fewer dollars to hold longer-term interest rates down.

Friday 1/6

  • 8:30 AM, the Employment Situation is a very closely watched economic indicator. It provides measures that both include and exclude government workers. The expected 200,000 rise for nonfarm payroll growth in December is well below the 263,000 reported in November. For each of the last seven months, this report has exceeded the consensus of economists’ projections.
  • 10:00 AM, Factory Orders are a true leading indicator. They are expected to have fallen  0.6% in November.
  • 11:15 AM and 3:30 PM, the President of the Atlanta Fed, Raphael Bostic, will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the possibility of insight into how that member may have changed their leaning on policy. Atlanta Fed events are often broadcast live on this YouTube channel.
  • 12:15 PM, the President of the Richmond Fed, Thomas Barkin, will be speaking. Any time a voting member of the FOMC is speaking publicly, there is the possibility of insight into how that member may have changed their leaning on policy.

What Else

We all have to grow accustomed to writing and typing “2023” this week. The residents of Croatia have a larger challenge, they have to convert all of their payments and transactions into euros.

The first half of the year will likely be a test of Fed Chair Jay Powell as all attention is being paid to whether monetary policy can be navigated in a way that provides for the Fed mandate of low inflation while at the same time maintaining an acceptable level of unemployment. Full employment is the Fed’s other mandate. Stock market performance usually hinges on how well the market thinks the Fed is navigating to calmer waters. December’s price action suggests room for improvement.

Paul Hoffman

Managing Editor, Channelchek

Two Non-Wall Street Economists Share Their 2023 Projections

Posted on by phoffman@channelchek.com

Image Credit: Engin Akyurt (Pexels)

Inflation, Unemployment, the Housing Crisis, and a Possible Recession: Two Economists Forecast What’s Ahead in 2023

With the current U.S. inflation rate at 7.1%, interest rates rising and housing costs up, many Americans are wondering if a recession is looming.

Two economists discussed that and more in a recent wide-ranging and exclusive interview for The Conversation. Brian Blank is a finance professor at Mississippi State University who specializes in the study of corporations and how they respond to economic downturns. Rodney Ramcharan is an economist at the University of Southern California who previously held posts with the Federal Reserve and the International Monetary Fund.

Both were interviewed by Bryan Keogh, deputy managing editor and senior editor of economy and business for The Conversation.

Are we headed for a recession in 2023?

Brian Blank: The consensus view among most forecasters is that there is a recession coming at some point, maybe in the middle of next year. I’m a little bit more optimistic than that consensus.

People have been calling for a recession for months now, and this seems to be the most anticipated recession on record. I think that it could still be a ways off. Consumer balance sheets are still relatively strong, stronger than we’ve seen them for most periods.

I think that the labor market is going to remain hotter than people have expected. Right now, over the last eight months, the labor market has added more jobs than anticipated, which is one of the strongest streaks on record. And I think that until consumer balance sheets weaken considerably, we can expect consumer spending, which is the largest part of the economy, to continue to grow quickly.

[But this] doesn’t mean that a recession is not coming. There’s always a recession somewhere down the road.

Rodney Ramcharan: Indeed, yes, there’s a likelihood that the economy is going to contract in the next nine months. The president of the New York Fed expects the unemployment rate to go up from 3.5% currently to somewhere between 4% to 5% in the next year. And I think that will be consistent with a recession.

In terms of how much worse it can be beyond that, it’s going to depend on a number of things. It could depend on whether the Fed is going to accept a higher inflation rate over the medium term or whether it’s really committed to getting the inflation rate down to the 2% rate. So I think that’s the trade-off.

Will unemployment go up?

Blank: [Unemployment] hasn’t risen much, and maybe it’ll pick up to somewhere close to 4%. Many are expecting something like four and a half percent. And I think that’s certainly possible. And I think that we can see small upticks in the coming months.

But I don’t think it’s going to rise as quickly as some people are expecting, in part because what we’ve seen so far is a lack of labor force participation. Until more people enter the labor market, I think there are going to be plenty of jobs to go around.

What is your outlook on interest rates?

Ramcharan: As people find it more and more difficult to find jobs, or to get jobs as they begin to lose jobs, I think that’s going to dampen spending. And we’re seeing that now as the cost of borrowing has gone up sharply, and the Fed is expecting that.

The expectation is the federal funds rate will go up to 5% by next year. If you tack on another couple of points, because of the risk involved, then the cost to borrow to buy a home could potentially get up to 8% for some people. And that could be very expensive.

And the flip side of this for businesses is there’s potentially going to be a slowdown in cash flow. If consumers are not spending, then the revenues that businesses depend on to make investments might not be there.

The additional piece in this puzzle is what the banks will then do. I think banks are going to begin to curtail the extension of credit. So not only will interest rates go up for the typical consumer and the typical business, it’s also likely that they are more likely to experience denial of credit, and so that should together begin to slow spending quite a bit.

After massive increases in housing prices, what caused them to suddenly drop?

Ramcharan: As the Fed lowered interest rates, there was a massive shift among the population for various reasons. They decided that housing was the right investment or the right thing. And so when 50 million people all collectively decide to buy homes, the supply of homes is reasonably constrained in the short run. And so that led to this massive increase in house prices and in rents.

In the last three months, the housing market has cooled sharply. We’re now seeing house prices beginning to fall. I would imagine, going forward, the housing market cooling is going to be a major driver behind the slowdown in the inflation rate and in real estate investment trusts. So that’s positive.

Our recent election just changed the composition of Congress. How will that affect the economy?

Blank: Certainly, when we have a divided Congress, we’re less likely to see decisions made that involve passing legislation that might support the economy. And I think it’s likely the Republican House is going to become a little bit more conservative with spending.

And so if we do start to see a downturn, I think you’re less likely to see legislation that might help support an economy that could be in need of it. That is going to make the job of the Federal Reserve more important.

How certain are these predictions?

Ramcharan: I just want to be careful here and let your viewers know that we’re making these statements based on theory, because the inflation that we’re experiencing now comes about from a pandemic, and there really is no evidence, there’s no data available, that people can look to to say, “What happens to an economy after a pandemic?” That data does not exist.

So we’re trying to piece together the data we do have with the theories we do have, but there’s a huge band of uncertainty about what’s going to happen.

Watch the full interview here.

Investment Entry and Allocation Thoughts for 2023

Posted on by phoffman@channelchek.com
Image Credit: Elena Penkova (Flickr)

As the Bear Market Melts Down, Where Will the Grass Be Greenest?

Bear Markets and snowmen have one thing in common; they don’t last forever.

The entry point into an investment can have a huge impact on performance. Exits tend to be more critical when the stock has shown that it is not performing as planned. While this kind of exit may result in a loss, it allows the investor to preserve capital, liquid assets they can deploy if another good entry presents itself. The major stock market indices for 2022 are down 20% and more. Has this sell-off provided for performance-producing entry points in some stocks? Let’s look where we are as the countdown to 2023 has already begun.

About this Bear Market

Bear markets end – they always have. Pinpointing an exact bottom is not possible, so trying to be the first in for that great entry point may include a few false starts and some unhoped-for exits. The current slide in the stock market started around January 1, 2022. This was because some doubted whether inflation was transient at the time; by March, most understood the Fed was concerned that price increases were pervasive.

Fed Chair Powell, along with many Fed Presidents, began speaking hawkishly to not unduly surprise and unsettle markets as the central bank unwound the liquidity used in response to the novel coronavirus. What followed was unprecedented. Overnight lending rates went from an effective 0.08% to an effective 4.33% during the course of the year. This is more than 52 times the base lending rate at the start of the year. With these increases, no wonder the bear market continued.

Where Are We Now?

Expectations of overnight rate hikes in 2023 are for another 0.50%-0.75% increase leaving the target at, or just north of, 5%. This increase in the cost of money is small (.17 times) compared to the massive (52 times) rocking the markets in 2022. 

So rate hikes are expected to be much lower as a percentage of current rates next year. And after the last FOMC meeting, markets have seemingly repriced lower with this expectation. If all goes as it is thought it will, the market is already priced for the worst. This is a bullish sign.

Source: Koyfin

Put another way; most believe that with Fed funds beginning 2022 around zero, we’re likely much closer to the end of the Fed Funds tightening than to the beginning.

Inflation (CPI) for December won’t be reported until January 12, 2023. The latest CPI numbers show YoY up 7.1% in November, a slowing from 7.7% in October, which tapered from 8.2% the month before. The November reading of 7.1% taken by itself is a long way away from the Fed’s 2% target. But the trend in the CPI and PCE deflator also suggest the Fed is likely to monitor previous hikes to see if they will have the desired impact.

The Fed Has Been Transparent

The Fed lowered rates in line with what they promised during the pandemic. Then after some transient talk, they raised rates as they expressed they would in 2022. Following the December FOMC meeting, they suggested they were not at the end, but the voting members’ expectations for where they will settle is an average of 5.40%. The forward-looking stock market, if they believe the Fed will again do as promised, should recognize this is a much lower increase. It is perhaps near the time to begin to build on positions. This could be the entry point many investors have been waiting for.

Small Cap Phenomenon

The chart below shows how much small cap stocks outperformed during the 12- months following the pandemic plunge. While small cap outperformance has been experienced during the past century of stocks’ post-sell-off periods, one only has to look back to the pandemic plunge to remember that it was small-caps (depicted below as IWM) that had been beaten down the most and by far outran the other major indices for the next year from the low of 2021.

Source: Koyfin

Could this small cap phenomenon occur again after markets reach the bottom? Data demonstrates that small cap stocks tend to lead following a period of economic dislocation. One reason is US small caps have more of their business within the states and as a bonus, do well with a rising dollar. Current conditions suggest exploring smaller stocks. They have outperformed large caps following nearly every bear market of the last century. And today, the dollar has risen above its six-month high and is trending higher. While past movement comparisons don’t always include all the crosscurrents of the future, a strong argument could be made that a turnaround is near and small caps may again be the leaders by a wide margin.

Some Disclosure

Channelchek, the investment information platform you’re now reding has small cap stocks as its primary focus. The deep platform provides data on over 6000 stocks, with quality research updated regularly on many of them. Channelchek also provides videos and articles that may inspire informed stock selection. Stock selection, rather than just plowing investment dollars into an indexed ETF, may be preferable as indexed ETFs include sectors and stocks that may not be worthy of your portfolio.

Diversification across asset classes, sectors, and market capitalizations is considered prudent for long-term portfolios; individual allocations can be built on depending on where we are in the business and interest rate cycle. This includes an allocation to small cap equities, which perhaps should be expanded if the Fed is near the end of its tightening cycle. It could always be reduced later if the economy is deep into a growth cycle.

Take Away

Although we do not have a crystal ball to know exactly when the best entry point in any company stock is, if a century’s worth of data is any guide, the period following the end of a market downturn has been a good time to increase exposure to the small cap sector.

Register here for daily emails of research and ideas from Channelchek.

Paul Hoffman

Managing Editor, Channelchek

Sources

https://www.bls.gov/news.release/cpi.nr0.htm

https://www.newyorklifeinvestments.com/insights/investing-in-small-caps-following-a-market-downturn

https://tradingeconomics.com/united-states/interest-rate

How Inflation Clips Age Groups Differently

Posted on by phoffman@channelchek.com
Image Credit: Rodnae (Pexels)

Inflation for Americans at Each Age

According to the Bureau of Labor Statistics, consumer prices rose 9.1% from June 2021 to June 2022, the highest rate since 1981. That figure is an average of price increases for bananas, electricity, haircuts, and more than 200 other categories of goods and services. But households in different age groups spend money differently, so inflation rates vary by age, too. The diagrams below show average spending for households at different ages, in the categories that make up the inflation index.

25 Year-Olds / Full Interactive Graphic

Young households spend more of their budgets on gasoline, where prices rose 60% in the last year. Gasoline has been the largest single-category driver of inflation since March 2021, accounting for nearly 25% of inflation by itself. Gas has had an outsized impact considering that the category is 4.8% of Consumer Price Index spending. (Gasoline prices began falling in mid-June.)

40 Year-Olds / Full Interactive Graphic

Measured in dollars, gasoline spending peaks around age 40, according to government surveys.

Source:
US Bureau of Labor Statistics

But, as a percentage of spending, gasoline spending is highest for the youngest households.

Sources:
US Bureau of Labor Statistics
Consumer Expenditure Survey
Consumer Price Index

Taking an average of all categories, as the inflation index does, shows that inflation is currently highest for younger households. It is about 2 percentage points higher for households headed by 21-year-olds as it is for octogenarians who live at home. That has not been true for most of the last 40 years. Inflation rates calculated in this way were higher for older households as recently as early 2021, when medical care costs were rising faster than gasoline prices.

Sources:
US Bureau of Labor Statistics
Consumer Expenditure Survey
Consumer Price Index

67 Year-Olds / Full Interactive Graphic

These estimates are imperfect. The Bureau of Labor Statistics notes in its estimate of inflation for elderly households that different age groups may buy different items within each category or buy them from different types of stores. They may also live in locations with costs of living so dissimilar that national changes in prices are not relevant. Over the past 12 months, inflation was 6.7% in the New York City metropolitan area and 12.3 in the Phoenix metropolitan area, due in part to different housing markets.

The above was adapted from USAFacts and is the intellectual property of USAFacts protected by copyrights and similar rights. USAFacts grants a license to use this Original Content under the Creative Commons Attribution-ShareAlike 4.0 (or higher) International Public License (the “CC BY-SA 4.0 License”).