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Play the Cards in Front of You

| November 06, 2023

Last week I talked about the massive deficits and the extra-massive (is that an adjective?) debt the United States has accumulated. Those things are both true and both very disturbing, in my opinion.

And maybe from time to time in my weekly blog I can be accused of being too negative. And that may also be true. But like the turning of the leaves, the market has just turned as well and today we’ll take a positive look through the lens of some technical indicators. The charts and data get a bit complex, but the message they are sending is rather clear. Let’s explore.

First, let’s look at the simple reality of seasonality in the markets. As the calendar turns to November, so does the market turn from a seasonal headwind to a seasonal tailwind. November to the end of April is typically the strongest part of the year for the markets. Will this year be that way? Nobody knows. But let’s look at what happened last week and how that may impact the next six months.

No reminder is needed that I have discussed the odds of a recession in these blogs. And this week’s data doesn’t necessarily contradict what’s been said previously. Sometimes the market wants what the market wants, meaning despite the bad economic data, the market may want to go up.

At their meeting last week, FED chair Jerome Powell and the Open Market Committee held rates constant.

Why is that? We’ve pointed to some of the reasons the FED has been on hold since July, but let’s revisit a couple of them.

Last week was a very “bad” week for economic data, as most data came out weaker than expected, pointing to a greater likelihood of a recession. But a recession (or at least a slowdown) is what the Federal Reserve is looking for. A recession will keep the FED from raising interest rates any further and, in fact, will likely cause them to lower rates. Here are some of the numbers.

To explain a couple things above. When most of these indexes are released, they measure the strength of the economy in a particular area of the country. Anything above 50 is an expansion, anything below 50 is a contraction. Another word for contraction in economic terms is recession.

You can see the Chicago PMI and ISM reports above both signal recessionary type numbers. But just as important is that all of the numbers were weaker than economists expected. The bottom three numbers above were released on Friday. The FED made their announcement on Wednesday. Did they know the numbers ahead of the Friday release? Don’t know, but I would say they probably did.

Not only did the FED pause rate increases again during this meeting, but Powell’s comments were taken as more “dovish,” meaning more supportive of the economy getting where they want it to go, rather than still stepping on the brakes hard.

Powell with his rose-colored glasses on.

Of course, we have been saying that rose-colored glasses are not needed, as the economy is slowing quickly and if you take out the “lagged” shelter costs, inflation is already at its 2% target.

But now we are seeing the unemployment numbers start to confirm. Remember that the unemployment rate is a lagging indicator (it goes up after the economy has already slowed).

So, we’ve got a slowing economy which is leading to a FED that should be done raising interest rates. As a matter of fact, esteemed Professor Jeremy Siegel said the following this morning.

I love it! Hey Professor Siegel, don’t beat around the bush. Tell us how you really feel.

Here’s another clip from what he said.

It wouldn’t surprise me if we got to the mid-4% levels for unemployment. It also wouldn’t surprise me if we undershoot to the downside on inflation.

So, what did the markets do with these “bad” numbers? It went up, of course! Not only did it go up, it went up a lot for a week. So much so that it recorded a breadth thrust. Huh? What is that?

The Zweig Breadth Thrust model is a widely followed indicator that looks at the advancing stocks versus the declining stocks over a 10-day period. We haven’t had a thrust like we saw last week since 2019, so they don’t happen very often. In order to record one, it needs to come off oversold levels to hit a 61.5 level. See below.

You can see the previous three times didn’t hit on all required elements, either in level (late 2022) or time (in 2022 and earlier this year). Here is the market’s track record (% gain or loss) when we get a thrust after more than a year between thrusts.

Since 1950 there hasn’t been a negative outcome 6-12 months later. Pretty good track record. Will it play out that way this time? We will see.

The other important thing that happened last week from a technical perspective was the McClellan Oscillator crossed its 91% level. That has also had a very good track record for suggesting market strength.

So, while the economic numbers continue to come in weak and we will likely be seeing a slowdown (we’re already in one), whether we get a technical recession or not is probably not relevant at this point.

Likely the markets have discounted a slowdown and if the FED is done raising rates, it should lend some support to the market. Add to that the seasonal factors and valuations in most of the market that are either reasonable (most stocks except the large tech stocks) or very cheap (small and mid-cap stocks as well as value and high-quality stocks). Like Professor Seigel said, there are two-sided risks now and here are his thoughts on the direction of the next FED move.

That means bonds should do well, “long duration” stocks should do well, and the market overall should have already discounted further economic weakness. The one caveat is that if the FED continues to ignore the data, all bets are off.

Maybe they will be threading this needle just right for a change.

How’s that for an upbeat blog this week? Sometimes you need to play the cards in front of you, not the one you think you want. That’s it for me today. I hope you have a great day. If you have any comments or questions, please feel free to reach out to us.

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