-By Charles Brown, M.Brown Financial Advisors
-January 11, 2023
With 2022 behind us, Wall Street analysts and investors are doing their best to discern what will happen to markets in 2023. Markets are well off of their 2021 highs, but they also have bounced nicely off of the 2022 lows. Will we revisit the October lows in 2023? Or will we head back to all time highs? Everyone has an opinion and there is evidence in favor of both outcomes – bullish and bearish. Let’s take a look.
For the Bears: Recession!
Bears are sure that a recession is coming in 2023. This chart of the ten year US Treasury yield minus the 3 month US Treasury yield is part of the bears’ ammunition.
Typically, longer term interest rates yield more than short term interest rates due to the extra risk being taken by buying longer dated bonds. But that’s not what is happening today. The yield curve is “inverted” by almost 1% (100 basis points) which means that longer dated bonds yield LESS than shorter dated bonds. This happens rarely, but we can see on the chart that each time the yield curve “inverts” (less than “zero” on the chart) that there is a recession down the road which is represented on the chart as the dark shaded areas.
Recession means all sorts of bad stuff, but to stock market bears it means lower earnings and lower market multiples which translates to much lower stock prices in the future.
For the Bears: Inflation!
Why would we go into a recession? Well, this chart has a lot to do with it. Inflation.
Inflation has recently ticked up to its highest level in the last 40 years. It’s the Federal Reserves job to keep inflation under control, and they are raising interest rates to help combat high inflation. Higher interest rates raise the cost of capital for both consumers and businesses, which leaves them with less money to spend on other things. If consumers and businesses spend less, then that is bad for economic activity which will slow or contract. Slowing economic activity can lead to layoffs, which leads to consumers spending even less, which could lead to further economic contraction, which leads to more layoffs, which leads…you get the point. It’s bad.
If inflation stays stubbornly high, the Federal Reserve will keep hiking rates which will cause an eventual economic contraction. Just by looking at this chart we can see that almost every sharp uptick in inflation has been followed by a recession which is indicated by the dark shaded areas.
Bulls: The economy is fine!
The Bulls get two charts here. For all of the hemming and hawing about a recession in 2022 and 2023, the economy really looks fine. After amazing GDP growth in 2021, GDP contracted slightly in the first two quarters of 2022. However, the economy bounced back nicely in Q3 with 3% growth and Q4 GDP is predicted by the Atlanta Federal Reserve* to come in at a whopping 3.8% growth rate (as of 1/9/23)!
On top of that, nonfarm payrolls increased every month in 2022. Payroll increases held up extremely well towards the end of 2022, even with the Fed raising rates significantly. Bottom line: the US economy seems to be growing nicely and adding jobs – that doesn’t sound like an economy that is headed towards imminent recession.
Bulls: No one is bullish!
This is a chart of the American Association of Individual Investors Sentiment survey along with a chart of the S&P 500**. This institution sends out a survey to individual investors every week and asks them how they feel about where stocks will be six months from now. The percentage of those respondents that said they are “bullish” on stocks over the next six months recently went below 20% and stands at 26% as of 12/28/2022.
We can see that these investors get less bullish as stock prices fall and as the headlines get worse. Bullish sentiment has only touched a low of 20% a handful of times in the last 14 years. I can clearly pick out the sentiment lows, and corresponding stock market lows surrounding Covid (mid 2020), the Chinese Currency Devaluation (December 2018), Brexit (2016), all the way back to the depths of the financial crisis (March 2009).
When bulls were at a level near 20%, was it historically a good time to buy stocks? Yes. This chart is certainly evidence that it has historically been profitable to take risk in the stock market when others are fearful. Where are we today? The survey recently dropped below 20% bulls and hit its lowest point ever for the survey – we now stand at 26% bulls which is still historically low. Will history repeat? Will stocks start to rally just as investors are their most fearful? We shall see.
And who will win the market battle in 2023? The bears have a strong case, but so do the bulls. Like I said, there is something for everyone in 2023.
* As of 1/9/23 – https://www.atlantafed.org/cqer/research/gdpnow
**The S&P 500 is an index. You cannot invest directly in an index.
***The above article is informational in nature only and is not a recommendation to buy or sell securities. All information is gathered from sources believed to be reliable, but neither Charles Brown nor Ausdal Financial Partners, Inc guarantees the accuracy of the information. All investments carry a degree of risk. Individuals should consult with their tax and investment professionals before making changes to their investment portfolios.
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