CWG Investment Committee: Bear Hug!

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The S&P 500 continued its bearish trend in both April and May travelling from 4,604 on April 1st, to 3,810 on May 19th, before a 6% rally in the final week of May. At the lowest point of the year the index had dropped about 20% from January's 4,818.6 top, qualifying as a bear market.

 Semantics aside we have been in a bear market for some time now in many areas of the US stock market.

 The S&P 500 closed May -12.8%, the Russell 1000 growth ETF (IWF) -21.9%, and Russell 2000 -16.6% all year-to-date numbers. Meanwhile bond indexes have not fared well either. The TLT, a 20+ year US Treasury ETF is down -20.8%. The Aggregate Bond Index ETF (AGG) is down 8.8% and even a 1-3 Year Treasury bond ETF (SHY) is -2.4% this year. The popular Gold ETF IAU is barely positive at 0.9%.

So, with rates moving higher and Q1 earnings season complete - which was quite good - where do we go from here? Market sentiment will be swayed by the following:

  • The Putin - Ukraine war rages on, now near 100 days old
  • Inflation, which begun well before the incursion, stands at 8.3% as measured by the CPI. That number has decreased over the last two months
  • Supply chains have been further hampered by the Chinese lockdowns, but those are now ending
  • The Fed has stopped its massive bond buying program and is tightening financial conditions.
  • If the market continues to decline, it will do so anticipating a recession in the next six months which is not forecast by most economists.

    Jamie Dimon, the CEO of JP Morgan Chase, said yesterday he is preparing for a financial hurricane. He is not an economist but sits atop the largest US bank. Their strategist Mr. Dubravko still has a year-end 4,900 target on the S&P 500, that would be an 18% improvement from yesterday’s levels.

    There is certainly a bull-case scenario working its way through Wall Street, hence last week’s rally. Only very recently have a few brave analysts come out saying that declines have been overdone and valuations are now reasonable. The underbelly of this bull is the strong U.S. economy. If we see meaningful contraction in inflation over the summer, the bulls could make a run. 

    We have taken a more defensive posture this year as events unfolded. There is plenty of time to catch the upswing if the right conditions prevail. At 4,086 today's multiple of forward earnings pegged at $230 is 17.7 times. If a recession arrives earnings will decline. This is the key to future stock prices now that the reality of higher short/long term rates has taken its toll on growth socks and long-term bond prices. Energy is the leading sector this year, which has benefitted from much higher earnings, not higher P/E multiples. The current energy policy in Washington has slowed new capital investment in fossil fuels which has contributed mightily to higher gas prices and many other goods. 

     Europe’s relentless drive for green energy took priority over economic feasibility leading to their vulnerability to Putin. As we follow in their ambitious footsteps, we have begun to pay the price in inflationary trends. Even the famous electric car maker CEO Elon Musk conceded that the US needs to “…Increase oil and gas output immediately” and that “…sustainable energy solutions simply cannot react instantaneously to make up for Russian oil & gas exports."

    We shall soon see if the Fed is capable of putting the inflation genie back in her bottle without causing a recession.

    Enjoy the summer and stay well.