Having spent most of my career working on the institutional and corporate side of asset management, organization and focus have been handy skills. However, since I’ve come into a more retail setting, I’ve observed another skill, monetizing the hook. The hook is the one idea to hang the direction of the capital markets on, for a single day. I’ve also observed that this skill has created a bit of a quandary lately. Strong indicators of economic growth, employment growth, wage growth and consumption growth all suggest, in my opinion, the Fed isn’t finished raising interest rates. So why have the broad indexes started the year in a rallying mode, and can it continue?
A commonly heard narrative is the markets are overbought and need to correct. This is currently true, in my opinion, however it’s important to stay focused on what that means. At this moment in time, a welcome start to the year is where some correction is being correlated. But where is the cause of that correlation within the broad indexes, is the Dow Jones correlating, yes, the S&P500, yes, the Nasdaq, not so much? First of all, last year the most beloved stocks helped the Dow Index perform substantially better than both the S&P500 and the Nasdaq. And the S&P 500 finished last year 10% better than the Nasdaq. So, what does this mean? In my opinion it means that the Dow needs to correct more than the S&P, and the S&P needs to correct more than the Nasdaq. And because the S&P500 and the Nasdaq share a number of influential stocks in the Technology Sector, and the Nasdaq has been the best performer starting 2023, its strength won’t keep the S&P from a necessary correction, but, in my opinion, it will keep it from collapsing, the probable hook the narrative is looking for.
The usual mixture of data that has been released recently suggests the economy is slowing, but not the entire economy. For example, the U.S. Manufacturing Purchasing Managers Index (PMI) and the U.S. Services Purchasing Managers Index both came in at 46.6 and 46.8 respectively. I focus on any number below 50, which suggests a contracting sector of the economy. In the case of these two indicators, both have been below 50 since November 2022, a condition last observed in 2008. In addition, recent releases in Retail Sales falling 1.1% and Industrial Production falling .07%, in December, there is definitely some economic moderation taking place, and this explains, to some extent, why the markets interpret inflation as having peaked already. I agree with this interpretation, but I also need more proof. Today the Unemployment data for January showed very strong growth in Non-Farm Payrolls (517K) and the Unemployment Rate declined (3.4%) and naturally this was the hook for the opening day’s narrative. And while the numbers are concerning, wage growth, Average Hourly Earnings and Average Weekly Hours all came in static from the previous month. Another interestingly favorable outcome was the U6 Unemployment Rate, which includes a wider range of the unemployed that includes underemployed and discouraged participants, which came in slightly higher (6.6%). While a number of economists view the U6 data and more comprehensive, my takeaway is, it tells us the story isn’t over.
In the past few weeks, the new majority in Congress has engaged its political agenda and the first legislation on the docket will likely be the Debt Ceiling. For now, In my opinion, the Debt Ceiling will likely be raised, but with some concessions, namely the promise of no further spending packages that got us into this problem in the first place. This week, the Federal Reserve raised interest rates again and the speech given by Chairman Powell reiterated that inflation is moderating but still too high and the Fed is intent to keep raising rates. While he gave no hint of today’s Unemployment report, I take the Feds actions and statements at face value. And for now, that’s my proverbial hook to hang my strategy on.