With February now over, and it took an extra day this year, equities have now risen for four consecutive months. Year-to-date both the S&P50 and the NASDAQ Composite are up 7%. Interestingly, four of the so-call Magnificent Seven are up anywhere from 10% to 60% while three are actually down. Interest rates are higher, normally a headwind for stocks, as inflation is slowing less rapidly than some had hoped. GDP rose steadily in the back half of 2023 and, so far in 2024, the trend looks to same.
March is normally a slow time for data, both corporate and economic. There is always a flurry in the first week as investors get a read on February activity. The most watched data report, the employment survey, won’t come out until next Friday. But perhaps the most watched number in March will be the CPI report to come out Tuesday March 12 before the market opens. The January report spooked investors and sent interest rates higher. Services inflation doesn’t look contained yet. Yesterday’s PCE report had few surprises and there was little market reaction. But the report confirmed that services costs are still rising at an uncomfortable pace. While inflation trends are moving in the right direction, the Fed’s 2% target isn’t in sight yet. Until it is, expect monetary policy to remain tight. Recent data provides little support for lower rates imminently. Favorable trends in the February report later this month may change the mood but one month does not constitute a trend.
Because of constant focus on inflation and interest rates, perhaps the biggest emerging theme now is the rise in speculative fever. We are even starting to see a SPAC deal or two again, a sure sign that speculation is increasing. But there can be no better sign than the surge in bitcoin. February was the best month for bitcoin in four years. Many point to recent ETF approvals by the SEC and resultant money flows into those funds. One can call bitcoin a store of value, a hedge against whatever, or an alternative currency. But all those explanations resemble a leaking bucket. Right now, the sole attraction of bitcoin or any other cryptocurrency is the belief that someone will pay you more in the future than you pay for a bitcoin today. Unlike a stock that pays a dividend or a bond that pays interest, bitcoin doesn’t pay anything nor does it have any real use. Its value isn’t stable, despite its name, it isn’t a currency, and you can’t even hold it or look at it. It’s a speculative instrument. If you plot the price of bitcoin, it correlates well with increases and decreases in speculative activity across all financial markets.
Speculation isn’t a bad thing. But excessive speculation almost always ends badly. SPACs were a craze for a while. If one bought low and sold high, there was a brief time, measured in months, where money could be made. But many SPACs that found a company to buy are now trading closer to $1 than their $10 offering price. Many couldn’t find anything to buy and returned whatever money was left after fees and payments to founders back to original investors.
Speculation gets reinvented each cycle. I don’t expect SPACs to surface big-time again although one or two will try. Lately, there has been a spike in penny stocks. No serious investors take part, but the fever is symptomatic. One of the newer acronyms is FOMO, fear of missing out. That always happens at stock market peaks.
I am not labeling what I see today as a peak. Nor am I saying speculative fever has hit a crescendo. I have no way of knowing that. There is no IPO boom yet, no private equity unicorns, no serious surge in fever by larger more sophisticated investors. But there is rotation. That’s a good thing. I noted at the beginning that 3 of the 7 giants we all followed over the past year are actually down year-to-date, a sure sign that there is still a lot of sanity in the market. Sure, anything that hints it may be part of the artificial intelligence boom gets investors excited. But even in the worst of times, there is always some speculative fever.
With all that said, when markets are up 15-25% over four months, while growth is slowing and interest rates are rising, there should be some waving of the caution flag. Sometimes paying attention to valuation makes good sense. It isn’t illogical that so far this year, IBM has outperformed Microsoft#. Microsoft is growing faster and it is capturing a bigger part of the AI boom than IBM. But IBM sells at a much cheaper price and, finally, it is starting to meet or exceed expectations. Microsoft is doing great but it isn’t providing the kind of upside surprises anymore that lifted the stock over 50% last year.
While AI is still going to boom, there are more subtle ways to beat the market. Mortgage rates have probably peaked and there is still a shortage of good housing. Not only are the homebuilders still doing well but companies that feed into the housing market are doing better. Remember the trillion-dollar infrastructure bill? The money is finally starting to trickle out, benefiting a whole host of companies. On the other hand, while plenty of people still get Covid and some still die of complications, few are racing to get vaccinated or tests. The companies that thrived off of the pandemic are still struggling to find their footing in alternative endeavors. The moral, is to look ahead, not backwards. Find trends early, both up and down, and pay attention to valuation. The rise in speculation is going to make that more difficult, although over the short run, there may still be upside. The problem is that can change quickly. If you choose to chase four months into a strong rally, be prepared to be nimble. It may be hard to believe that a 3-7% correction is possible in this environment, but it is. When it happens, be prepared to pounce.
Today, Justin Bieber is 30. Roger Daltrey of The Who turns 80.
James M. Meyer, CFA 610-260-2220