Weekly Market Update October 14, 2022, Dow Jones Industrial 29,643.67 +1.17%, S&P 500 3,584.01
-1.55%, Nasdaq Composite 10,321.39 -3.11%, US Ten Year 4.018%, West Texas Intermediate $85.82
Another volatile week in the financial markets, which have been occurring with mind-numbing regularity. Stocks rally hugely based on no more than a smidgen of positive news on inflation, leading to expectations that the Federal Reserve will ease its aggressive monetary stance in its fight against inflation. Equity prices surge upward and entice more investors to buy, fearful of missing the next bull market. Then a piece of negative inflation news appears that counters the short-lived optimism and stocks plunge. This is getting wearisome.
It is unlikely that the Fed will change course until interest rates reflect at least a 0% real return on bonds. That means a real return after inflation. The central bank uses the Personal Consumption Expenditures (PCE) Price Index when making monetary policy, not the more widely followed Consumer Price Index (CPI). August’s PCE number was 6.2%, and September’s is estimated to be 6.1%. Does that translate into a Fed Funds rate of over 6%? Not necessarily, if the economy slows further and we enter a full-blown recession. But higher rates are likely in the near term.
Investors can “hide” in short-term treasury securities. Highly liquid one-to-two-year treasury notes yield 4.5%. Not a bad return with no default risk and modest interest rate risk with maturity only a year or so away. For those even more cautious six-month treasuries yield 4.25%. Why risk a drop in stock prices during a period of high inflation, increasing interest rates and a slowing economy considering these bonds yields? Yields to maturity for various treasury maturities are below:
Within the Standard & Poor’s 500, only the energy sector has had a positive return in 2022, and with the current domestic and international political environment should continue to do so. But the health care, consumer staples and utility sectors have outdone the overall market. Health care stocks that have held up are Merck, Bristol-Myers, and Amgen, which pay substantial and secure dividends. Pepsi reported stellar quarterly earnings this week and leads among large cap consumer staples stocks. Utility stocks here-to-fore had been a “safe” place, but these are very tied to interest rates, so avoid them for now.
For the stock market itself, the question remains, when will the central bank pause monetary tightening? Or to use the currently popular term among financial pundits, when will the Fed “pivot” on its tightening policy?
In the summer blockbuster movie “Top Gun: Maverick,” after Captain Pete “Maverick” Mitchell destroys a test aircraft by exceeding its design limitations, Admiral Chester “Hammer” Cain, the head of the test program, summons him. He does not like Maverick’s methods, seeing him as a relic, out of place in a new Navy that will no longer need pilots. He says to Maverick “The future is coming and you’re not in it. The end is inevitable, Maverick. Your kind is heading for extinction.” Maverick responds” “Maybe so sir…but not today.” Paraphrasing that admonition, I believe it applies to the Fed’s “pivot.” Maybe soon…but not today.
Have a Great Week