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April 14, 2023 – A solid bounce yesterday in Technology and Discretionary stocks helped recoup the unexpected post CPI-report market weakness from Wednesday. Today’s movement will be dominated by Big Bank earnings. Going forward, jobs, availability, cost of capital and earnings expectations take center stage away from the improved CPI and PPI reports.

//  by Tower Bridge Advisors

Markets are always shifting. Over the past year, good news was bad and vice versa. Strong employment and robust earnings pushed up inflation which meant larger Fed rate hikes. Higher interest rates helped bring stocks down, substantially so for long-duration assets (growth). Solid economic news was actually bad for stocks. Finally, this rate hike cycle is nearing its end as inflation consistently moves lower and growth ratchets down. Bad news is starting to become a concern, as is normally the case. The shift today is from a fear of inflation towards the fear of how bad a recession will/could be.

Recent Fed official commentaries have been relatively consistent. Broadly speaking, they are expecting some slowdown to occur over the coming months as previous rate hikes cycle through the economy and tighter lending standards also assist in the battle against inflation. Many want to let the dust settle from the Fed’s rapid 450bps of hikes over the past 12 months. May’s Federal Reserve meeting could be the first in a while with some real dissension. Even if another 25bp rate hike is decided upon, it is beginning to look like the last of this tightening cycle, at least according to several dovish Fed official speeches this week.

In that vein, in-line and improved CPI reports are starting to lose some relevancy. Not many cared about monthly CPI updates for much of the past 5 decades. It would be great to get back to that posture. Following Wednesday’s lower than expected CPI release, futures spiked higher before all major averages finished in the red. Stocks have already priced in the end of inflation, at least the bulk of it. Any update, like the one we got this week, proves this outlook is not new news. Further, Core CPI was not as positive as the headline number. We, and the market, expect this to improve from here (decline further). Stocks, especially Technology and Growth, have already priced in the positive effects of lower interest rates. Fundamentals must follow suit.

The shift in focus is now towards GDP, earnings and jobs. First quarter earnings per share estimates have been chopped down by ~6% already. 2023 calendar year earnings have also been lowered. Today, we get a slew of reports from some behemoths in the eye of the banking storm: PNC, JPMorgan Chase#, Wells Fargo#, BlackRock#, Citigroup and a healthcare company to round out the day in UnitedHealth#. At first glance as I type this at 7:30am bank earnings are much better than feared. JPMorgan is jumping 5% pre-market. Discussions on withdrawal/deposit trends, money-market fund levels, lending standards, default risk, and most importantly, outlooks going forward, will be critical if this market rally is to continue. A healthy banking system is crucial for this economy to achieve its soft landing.

Jobs, Jobs, Jobs:

Employment levels are still in great shape. However, cracks are starting to emerge. Students of history understand that every time the unemployment rate rises by 1% or more, a recession ensues. While the Fed is focused on backward-looking jobs data as a reason to raise interest rates, they should start to shift their attention to what will/could happen over the coming months.

First up are those temporarily employed. When businesses are booming, they tend to hire from wherever they can get talent. If they begin to see slowness in orders or project tighter market conditions down the road, the first shoe to drop from a cost cutting perspective is temporary employees, especially in today’s talent starved labor pool. The past 3 recessions (and likely more, but this is the data we have access to) show a clear slowdown in temp- employees preceding a recession. Once a recession hits, they fall off a cliff. Focusing on backward-looking data, such at the elevated level of temp-help takes away from the forward-thinking outlook of issues ahead.

Even more concerning are projected hiring intentions. Before companies start laying off temporary employees, they slow their hiring plans. Small businesses are the first to see softness, so following their surveys gives a large clue on the future of the USA’s jobs market. Trailing employment numbers show massive gains in just three key areas: Government (taxpayer’s money), accommodation (travel catch-up) and Healthcare (reopening from Covid layoffs). However, small businesses are not participating as much and intend to outright stop hiring in the near future:

Availability and Cost of Credit:

As we have been noting ever since the yield curve inverted, lending conditions will tighten. Most economies depend on an open banking system where money flows from lenders to borrowers. Being able to access credit/cash and build a business is key to growth. When one channel gets shut off, a slowdown will occur. Throw in a few banks collapsing in the span of a few days and you have the recipe for a credit crunch.

Again, small businesses are the first to see this. Apple# can get capital whenever they want. John Doe’s home renovation company relies upon small bank relationships lending them money for their next job. Conditions have simply collapsed to levels not seen since the end of the Financial Crisis:

That does not mean that all businesses are ruined. Plenty have access to existing credit lines, liquid assets, and existing cash flow, or they just have to pay up for that new loan. Again, small businesses are now paying “up” for loans over and above market rates at levels not seen since the Financial Crisis. You can get cash, but at these interest rates, is it worth it?

Adrien Brody turns 50 today. MMA legend, Anderson Silva, is now 48. 80’s comedies star, Anthony Michael Hall, is 55. “It’s Always Sunny in Philadelphia” actor Rob McElhenney is now 46. Lastly, Happy Anniversary to my wife of 11 amazing years. This will serve as proof that I remembered! 😊

James Vogt, 610-260-2214

Additional information is available upon request.

# – This security is owned by the author of this report or accounts under his management at Tower Bridge Advisors.

Additional information on companies in this report is available on request. This report is not a complete analysis of every material fact representing company, industry or security mentioned herein. This firm or its officers, stockholders, employees and clients, in the normal course of business, may have or acquire a position including options, if any, in the securities mentioned. This communication shall not be deemed to constitute an offer, or solicitation on our part with respect to the sale or purchase of any securities. The information above has been obtained from sources believed reliable, but is not necessarily complete and is not guaranteed. This report is prepared for general information only. It does not have regard to the specific investment objectives, financial situation or the particular needs of any specific person who may receive this report. Investors should seek financial advice regarding the appropriateness of investing in any securities or investment strategies discussed in this report and should understand that statements regarding future prospects may not be realized. Opinions are subject to change without notice.

Filed Under: Market Commentary

Previous Post: « April 12, 2023 – This morning’s CPI report is likely to be market moving, but will it dissuade the Fed from raising rates again in three weeks? The Fed wants to see a clear trend. Inflation is coming down, but is the pace fast enough? I doubt one CPI rating will change minds. More financial turmoil, should it happen, might.
Next Post: April 17, 2023 – Despite a strong performance over the past month, stocks remain within a multi-month trading range. If a consensus forecast of recession ahead is correct, earnings season should lower future expectations. That should be a near-term headwind for stocks. Bull markets never start before a recession begins. This time could prove the exception, but some retracement is more likely. »

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  • June 7, 2023 – Stocks continue to march higher in defiance of market pundits’ forecasts for a looming economic downturn which most expect to begin this fall. Perhaps too many investors are defensively positioned, thereby making the path of least resistance higher for the time being.
  • June 5, 2023 – Last Friday’s unemployment market action surprised investors when the two employment surveys indicated opposite results. The more reliable of the two surveys, showed strong payroll employment, which could have sent the market worrying about the Fed’s reaction to the hot report. Instead, we saw a sharp rally and we suspect that there will be significantly more “soft landing” prognostications this week.
  • June 2, 2023 – Stocks traded higher yesterday following the passage of the Fiscal Responsibility Bill in the House as well as some dovish comments by a Fed Governor. Last night, the debt Bill was passed in a bi-partisan vote in the Senate. Now the Bill will go to President Biden to be signed, which will avert a much-feared debt default.
  • May 31, 2023 – Congress now has a week to pass the debt ceiling agreement. While there will be a lot of verbal whining and expressions of righteous indignation, the majority will pass a bill that is likely to have little long-term economic consequence. Once the bill is passed, attention will turn to the mid-June FOMC meeting and the increasing likelihood of yet another interest rate increase.
  • May 26, 2023 – Wednesday’s earnings announcement by Nvidia shocked markets with the speed at which generative AI is being adopted. Even regulators can’t slow it down. Every software developer now has to incorporate AI into everything. The race suddenly got a lot more heated. To win requires the fastest chips and the best software development tools. It is way too early to identify the best products that will evolve but markets yesterday were quick to identify those that have the best building blocks to get to the finish line.
  • May 24, 2023 – The latest version of the “Fast and Furious” movie series is off to a good start. But it doesn’t draw like it used too. We have seen this plot too many times. Sounds like a repeat of the debt ceiling crisis! We don’t know the exact ending but it is unlikely to be a bond default. That doesn’t mean a solution will be without consequences. Interest rates are starting to rise again and may continue after resolution as the Treasury floods the market with new bonds. This isn’t a great short-term backdrop for equities.
  • May 22, 2023 – As go debt ceiling negotiation talks, so goes the financial markets. So far, markets are sanguine, seeing the talks mostly as political theatrics. But that could change this week if no solution is in sight before we all leave for an extended Memorial Day weekend. Whether we leave Friday with a smile or a frown is anyone’s guess at the moment.
  • May 19, 2023 – As the debt ceiling concerns lessen, attention reverts back to earnings. Key retailers aren’t reporting stellar results but their stocks are taking weak guidance in stride, a sign much of the pending bad news is already discounted. That should put a floor underneath the stock market. At the same time, money keeps flowing toward the same technology names. Chasing momentum can be dangerous.
  • May 17, 2023 – Right now, stock and bond prices are slaves to the progress of efforts to extend the debt ceiling. Yesterday afternoon’s White House meeting was more productive than last week’s. Thus, futures are up this morning, but the job is far from done. An inevitable 11th hour moment lies ahead. Hopefully, a solution will emerge, but in this bifurcated Congress, risks of miscalculation are elevated.
  • May 15, 2023 – The debt ceiling approaches but markets don’t seem to care. Perhaps they are right, and a compromise solution is just around the corner. But while June 1 is only a bit over two weeks away, any compromise must pass Congress. That may not be a simple task. If no progress is apparent before Biden leaves for overseas, expect markets to start to show concern.

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