The Low Was More Than a Month Ago … But it Had Been Hard to Tell

DJIA:  32,530

The low was more than a month ago … but it had been hard to tell.  The averages are up some 10%, and the S&P is above its 50-day for the first time since April.  Moreover, more than 50% of S&P stocks are above their 50-day.  At the low that number was 2% – clearly the charts are improved.  However, what seemed to be leadership, pharma and the biotechs have stalled rather than lead.  When the leaders aren’t leading, it’s not much of a rally.  Being over the 50-day is like clearing an obstacle but no guarantee of success.  You’re over that prison wall, but still not in the clear.  For now there are many stocks still dancing around their 50-day averages.  Moving above that level may be no guarantee of success, but it does put the odds in your favor.

To the point “they have stopped going down,” the oil stocks provide an interesting example.  If you look at the Energy ETF (XLE-75), it peaked some 12 points above its 50-day, and for now seems to have bottomed 12 points below the 50-day.  We realize this is hardly in-depth analysis, and if were not above our pay grade percentages would be more appropriate.  Still, if only aesthetically you have to appreciate the symmetry.  Commodity types have suggested oil’s demise is more in the financial world, the futures market, then it is in the world of cash.  Most of us assumed it was about getting out ahead of the recession.  Cash suggests that may not be right.  Natural gas meanwhile is back to its highs.

When you get most people on the same side of the boat, it’s prime time for a little mean reversion.  And that’s pretty much what we have seen in investor sentiment, especially the all in Put buying by small options traders.  And now US consumers generally share that gloom.  The latest survey of households by the Conference Board showed that only 25% of consumers expect stock prices to rise over the next 12 months.  This reading is in the bottom 5% of all months since 1987.  Meanwhile, 46% of consumers expect stocks to drop, ranking it in the top 3% of all months, according to  The difference between Bulls and Bears is -21%, one of the worst readings in the survey’s history.  Even during some of the worst bear markets, the current level of pessimism has almost always preceded at least a multi-month relief rally

They say the only thing that goes up in a crisis is correlation.  It turns out that Bitcoin and other cryptos made that point. Their correlations to the stock market over the first months of the year have been striking. Despite the ambitious claims of crypto as a diversifying asset, Bloomberg’s John Authers points out it has been increasingly procyclical.  We have wondered in the stock market’s dark days of June, if there might not be a little causality to go with the correlation.  Consensus is the Cryptoverse is too small to have much impact, Bitcoin being only the market cap of a large US company and it would be ranked 10th in the S&P, between Nvidia (180) and Procter & Gamble (148).  According to Citi, most main stream financial firms are waiting for regulatory clarity and are only at early stages of exploring crypto investing, leaving it somewhat isolated from other financial markets.  If crypto’s troubles haven’t spilled over into other markets, it’s clear it’s not immune to those other markets and the factors driving them.

Good rallies don’t give you a good chance to get in, they get overbought and stay overbought, and all the other technical clichés.  This hasn’t been that kind of rally, at least so far.  On top of that, the best momentum typically comes early, not six weeks after a low.  Yet the Naz just had its best day in years and that on the “good news” of a 75 basis point Fed hike.  Or should we give credit where credit is due.  Phooey on FANG, it was Microsoft (276) to the rescue.  And looking at the stock’s action going into those numbers, the news was quite a surprise.  Of course one day is just that, which makes Thursday’s follow-through impressive, that and the positive A/Ds.  Meanwhile, though not the oils or biotechs in terms of numbers, the solar stocks have taken on a whole new and dynamic character.

Frank D. Gretz

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US Strategy Weekly: A Fed Primer

This is a week filled with potential market-moving events that include the July FOMC meeting, the first look at second quarter economic activity and 172 earnings results for companies in the S&P 500 index. Each of these events will have important implications for equity investors, but in our view, second quarter earnings results will be the most significant since these will help define where value is found in the equity market.

75-basis points and the Treasury Curve

In terms of monetary policy, the consensus is expecting a 75-basis point increase in the fed funds rate this week and we think this should prove accurate. In recent months the Fed has had a pattern of either matching consensus expectations for monetary policy changes or signaling its intentions well in advance of changes. In short, the Fed displays no desire to surprise, or stress, the financial markets and as a result, the expectation of a 75-basis point hike is probably discounted in current stock prices. However, we are less certain that the longer-term ramifications of a 75-basis point increase has been fully priced into equities, particularly if the economy slips into a recession.

The Treasury yield curve is currently flat, although it is technically inverted between the 6-month and 10-year Treasury note benchmarks. This makes a 75-basis point increase on the short end of the curve important since it is possible that the entire yield curve could invert shortly after the July Fed meeting. Keep in mind that a 75-basis point increase this week and the 75- or 50-basis point increase expected in September could raise the short end of the curve as much as 150 basis points. See page 3.

What makes the Treasury yield curve important at this juncture is that it has been better than most economists in terms of predicting a recession. A long history of the Treasury yield curve, focusing on the 1-year to 10-year curve, shows that in nine of the eleven inversions since 1956, an inverted yield curve has been followed by an economic recession, typically within eight months. (The range has been zero months (1957) to fourteen months (1978).) The only exceptions to this were in September 1966 — when a five-month inversion was not followed by a recession — and in September 1998 — when a four-month inversion did not result in a recession. Yet more recently, as in 2000, 2006 and 2019, inverted yield curves were followed by a recession within six to eight months. See page 4.

Quantitative Tightening and Money Supply

Yet as we focus on the fed funds rate and the yield curve, it is important to point out that rates are not the only tool in the Fed’s arsenal. While the Fed is expected to raise rates at each meeting this year, it also has indicated its intention to shrink its balance sheet. The $1.6 trillion increase in the Fed’s balance sheet between January 2021 and March 2022 was implemented during an expanding economy and it was a contributing factor to the stock market’s advance and current inflation. However, as of June 1, 2022, the Fed began reducing the reinvestment of principal payments in Treasury securities by $30 billion per month and will increase this amount to $60 billion per month beginning September 1st. For agency debt and agency mortgage-backed securities, the reinvestment reductions are $17.5 billion and $35 billion per month. In short, the liquidity balloon that has been propelling stock prices higher since early 2020 is slowly deflating. But this is important in terms of reducing money in circulation, or money supply.

Another part of the Fed’s stimulus program was the elimination of required reserves for banks. The removal of this requirement in March 2020 resulted in a huge jump in excess reserves in the banking system and a massive increase in money supply. See page 5. This was an unusual tool for the Fed since there are laws that require banks and other depository institutions to hold a certain fraction of their deposits in reserve, in very safe, secure assets. This has been a part of our nation’s banking history for many years and “required” reserves are designed to ensure the liquidity of bank notes and deposits, particularly during times of financial strains.*

Nevertheless, in March 2020 the banking system was suddenly awash in liquidity. The 6-month rate-of-change in M2 (i.e., M2 money stock – a measure of the amount of currency in circulation) jumped to 19.5% in July 2020, an all-time record. The linkage between money supply and inflation is well-known by economists and was surely known by Fed officials. Yet this was the quandary of 2020 and 2021 for economists, strategists, and investors. Money supply fuels inflation but it also fuels stock prices. It was a double-edged sword. However, as liquidity is now being withdrawn to temper inflation, the underlying booster for equities is gone. Unfortunately, the longer-term problem of inflation remains.

GDP and Housing

Second quarter GDP will be released this week and it may answer the question of whether the US is currently in a recession, or on the brink of one. We continue to focus on the housing sector since it represents 17% to 19% of GDP in any given quarter. Unfortunately, recent news releases have not been encouraging. New home sales were 590,000 in June, down 17.4% YOY and down from 642,000 units in May. The average price of a single-family home fell to $456,800 in June, the lowest price in 12 months, but still up 5.8% YOY. The NAR affordability index dropped to 105.2 in May, which was its worst level since August 2006. However, the June, July and August readings are apt to move lower as the impact of rising mortgage rates negatively impacts potential buyers. See page 7.

Earnings and Valuations

To date, second quarter earnings season has been mixed, but a clearer picture may be available by the end of the week, or once we pass the midpoint of earnings season. We are noticing that many companies are making or exceeding revenue forecasts but are missing estimates on the bottom line. This was to be expected due to the rising cost of labor, transportation, and raw materials, but it is not good for earnings overall. Last week, the S&P Dow Jones consensus earnings estimates for 2022 and 2023 fell $2.48 and $0.36, respectively. Refinitiv IBES consensus earnings forecasts rose $0.01 and fell $0.76, respectively. This disparity between S&P Dow Jones and IBES is typical in the second half of the year since S&P adjusts earnings for GAAP accounting while IBES simply aggregates estimates. We measure “value” in the equity market by the S&P Dow Jones data.

Following S&P’s cut in its 2022 forecast to $220.21 this estimate is now in line with our forecast of $220, a 5.7% YOY increase from $208.19 in 2021. This earnings quarter will be important, and we will be looking closely at margins and the impact margin pressure may have on our $220 forecast.

All in all, none of this changes our view that the equity market is bottoming but may not have found its ultimate low. We continue to emphasize that recession/inflation proof segments of the market like energy, staples, defense-related stocks, and utilities where earnings are most predictable in this difficult environment. *

Gail Dudack

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We Beseeched the Lord, We Summoned the Witches … and We Finally Got a 90% up Volume Day

DJIA:  32,036

We beseeched the Lord, we summoned the witches … and we finally got a 90% up volume day.  Let’s hope it’s not much ado about nothing.  To rain just a little bit on our own parade, some lows have involved a few of these 90% up days, interspersed with a couple of 90% down days.  Market bottoms can be a process.  Make no mistake, however, Tuesday’s 90% up day is a positive.  Two of the last three days actually have seen better than 87% up volume, and since 1962 that has resulted in double digit gains virtually every time.  Speaking of 1962, this year has its similarities.  Stocks were down almost 20% in the first half of that year, culminating in a similar pattern of 2% intraday declines.  Prices in 1962 went on to rally 15% in that year’s second half.  Even if this year does prove similar, you have to realize volatility is a given.

To go with Tuesday’s 90% day, the market indices were able to push through their respective 50-day averages where, as it often happens, they had stalled.  For the S&P it was its first time back above the 50-days since April.  A move through the 50-day by no means guarantees follow through, and several stocks including Microsoft (265) have danced around their own 50-day for a while now.  For the averages the move is another incremental sign of improvement.  Now it’s important to stay there – the 200-day is around 4350 which, speaking of no guarantees, the March rally briefly surpassed.  As we suggested above, expect plenty of dancing around, hopefully all of it above the 50-day.  Price objectives have never been one of our favorite endeavors.  We would rather go with the idea rallies end when they do something wrong, the obvious here would be lagging Advance/Decline figures against strength in the averages.

Tuesday’s 90% up day was made possible by those former leaders, the commodity stocks.  As measured by the Energy ETF (XLE-72) the peak here was early June, and relative to its 50-day it had become even more stretched to the downside than it had been to the upside.  Again, no guarantee, but something.  As measured by the Metals and Mining ETF (XME-45), commodities in general peaked in late April, found a temporary low in mid-May, and seem to have at least done so again.  What makes this important is that these commodity stocks are many.  It’s difficult to get a 90% up day while they’re going down.  There should be more to this commodity stock rally, if only because of what hopefully will be a rising tide.  Meanwhile, we don’t see commodities back to their leadership position which for now seems a role being played by Pharma and Biotechs.

This week’s positive price action comes against the backdrop of some extreme negativity on the part of traders and investors.  We pointed to the Citi Panic Euphoria Index and its reading of “panic,” and the panic of sorts in analysts’ downgrades.  And small option traders, among the worst market timers, are pretty much all in on a big leg down.  Anyone will tell you these measures of investor sentiment are not for market timing.  Still, if you’re buying put options chances are you have already sold a lot of stock, and it’s the selling that makes market lows.  To that point, the latest edition of Bank of America’s monthly survey of global fund managers finds they are now more underweight in stocks than at any time since March 2009, the month the stock market hit bottom after the financial crisis.

This Monday the market wiped out a 1% gain in the S&P, obviously annoying if not disconcerting.  Two weeks ago the S&P erased a 2% loss, meaningless like most intraday reversals.  It’s easy to be thrown off by the recent volatility, and it has been volatile.  The S&P has closed 1% or more above or below intraday levels the second most times in 40 years, according to  Sometimes it’s a wicked game the market plays, so when the real deal comes along it’s hard to trust.  This seems the case now.  When it comes to volatility certainly Amazon (125) and Tesla (815) come to mind, yet while positive they have been anything but volatile.  They act more like safe havens.  Meanwhile, many of those long-term uptrend stocks we often allude to have moved above their own 50-day averages, taking them out of the category of falling knives.  Long-term trends here are compelling, examples plentiful – Estee Lauder (263), Intuit (435), Dominos (406), Accenture (288), Zoetis (181), and Edward’s Life (104).  Get our list and check for the 50-day.

Frank D. Gretz

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US Strategy Weekly: 92% Up Day on Low Volume

The July 19, 2022 trading session was notable, not just for the 754-point gain in the Dow Jones Industrial Average, but because preliminary NYSE data shows that 92% of the day’s total volume was in advancing stocks. We have been waiting for a 90% up day to appear in breadth data which would show that downside risk is minimized. Yet while we are pleased for the near term, we are not impressed for the longer term.

This was the first “90% up-volume day” since the 92% up-volume day recorded on May 13. The May 13 session materialized right after the S&P 500 dropped below the 4000 level, which in our view, was a sign that value was returning once prices fell below the SPX 4000 mark. However, on both May 13 and July 19, total NYSE volume was average, or in the case of July 19, below the 10-day average. This is unfortunate since below-average volume weakens the signal in terms of defining a major bear market low. Nevertheless, the July 19 trading session is important since it denotes a return of buying pressure and it represents another step in the market’s bottoming process. We expect more follow-through to this rebound in prices.

In concert with the 90% up day, all the broad equity indices moved above their 50-day moving averages for the first time since April. It is quite normal for a bear market rebound to retest the 100-day or 200-day moving average. However, the 50-day moving averages have been a ceiling for prices in all the indices since early April. At this juncture, it would be normal for momentum to carry stock prices to at least the 100-day moving average lines. These averages equate to Dow Jones Industrial Average 32,840; S&P 500 4,148; Nasdaq Composite 12,470 and Russell 2000 1,890. See page 9.

Another technical indicator we will focus on in coming weeks is our 25-day up/down volume oscillator. It has amazed us that despite the substantial declines in prices this year, there have been few oversold readings in this indicator. But in the last two weeks the oscillator was oversold in six of eight consecutive trading sessions. The deepest oversold reading was on July 14 at negative 5.17, the most extreme oversold reading since March 27, 2020. At a classic bear market trough pattern, stock prices may fall to a new low in price, but this oscillator will have a less extreme oversold condition. This would be a sign of waning selling pressure and be favorable. So, in coming weeks, a new low, but a less severe oversold reading would be a positive sign.

The Week Ahead

The equity market is way overdue for a rebound; however, there are several land mines in the immediate future. Next week is the July FOMC meeting and there is a vigorous debate about whether the Fed will raise the fed funds rate 75 basis points or 100 basis points. Fed Chair Powell will be announcing the decision on July 27. A rate hike is widely expected; yet history has shown that when the Fed raises interest rates substantially, it increases the value of the dollar. Rising interest rates coupled with a strong dollar can have repercussions on global finances, particularly in subprime credit markets, in ways that are unexpected.

On July 28, the Bureau of Economic Analysis will release its preliminary estimate for second quarter GDP. As we have previously stated, we would not be surprised if it is a weak number, or a negative reading. A negative GDP number could ironically be a major plus for investors since it would confirm a recession — and stock markets tend to bottom in the second half of a recession. In short, the next few days should be interesting.

Inflation, the Fed, and the Consumer

Barring signs of an immediate recession, recent economic releases show the Fed is way behind the curve and has a lot of work ahead of it.

Inflation accelerated in June. Headline CPI rose 9.1% YOY, up from 8.5% in May and core CPI increased 5.9% YOY, in line with the 6% recorded a month earlier. Although the administration and many economists are highlighting the small decline seen in gasoline prices recently, the outlook for inflation is not good for the rest of the year. For example, homeowners’ equivalent rent increased 5.5% in June, up from 5.1% in May. Rent prices are apt to rise further since rents tend to lag the trend in home prices, and home prices are still rising at a double-digit rate. The median price of an existing single-family home rose 15% in June. See page 3.

Plus, there is plenty of inflation in the pipeline. The PPI for finished goods rose 18.6% YOY in June. Core PPI increased 8.8%. The PPI for final demand rose 11.2% in June, up from 10.8% in May. These price gains in the PPI indicate consumers face more price increases ahead or businesses face more margin pressure. One or both of these trends are likely in coming months. See page 4.

The persuasive argument for a recession is directly linked to inflation because inflation has increased more than wages. See page 4. As a result, real wages are declining and so is purchasing power. The way to stall or reverse inflation is to raise interest rates, but that too, will hurt consumers through higher mortgage and loan rates. It will impact small businesses by weakening profit margins, making credit more expensive and in some cases unavailable. Unfortunately, the Fed allowed inflation to get too high before responding. The gap between inflation, now at 9.1% YOY, and fed funds, now at 1.75%, means the fed funds rate is 863 basis points below inflation, or the “neutral” level. The Fed’s forecasts show that they expect inflation to slowly decline in 2022 which would make this gap a bit smaller. But that may be wishful thinking.

While a weaker economy and therefore lower inflation is a possibility, it also means a recession is already here. We think there are signs of an imminent recession in recent retail sales data. Total retail and food service sales increased 8.4% YOY in June, which may sound like the consumer is strong and vibrant. However, once sales are adjusted for inflation, year-over-year real retail sales (measured in $1982-1984) have been negative for four consecutive months. See page 5. Negative year-over-year real retail sales have been highly correlated with recessions in the past.

Auto sales are a major part of retail sales, and though there was a pickup in June; the longer-term trend remains negative. Moreover, as interest rates and prices rise, we expect auto sales to remain sluggish in the second half of the year. Gas station sales have been a boost to retail sales, but these gains are due only to the high price of fuel and it is shutting out other areas of consumption. Housing is also weak. The National Association of Home Builders survey for July dropped from 67 to 55. Traffic of potential buyers fell from a weak reading of 48 in June to an even weaker reading of 37 in July. In sum, many areas of the economy are showing weakness and it may not all be factored into equities as yet.

Gail Dudack

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The S&P 500 declined 21% in the first half of 2022, the worst showing since 1970. More persistent inflation than the Federal Reserve had forecast is forcing it to tighten monetary policy into a slowing economy. Russia’s invasion of Ukraine has been an additive to inflationary pressures, especially in energy and agricultural commodities. COVID lockdowns and fiscal responses in the past two years distorted supply chains and consumption patterns throughout the global economy. The repercussions are profound. Workers left the energy and many services sectors. Durable goods consumption was pulled forward at a time factories remained supply constrained. These distortions lead to a lagged inventory build now present at precisely the wrong time as consumers are tightening belts in response to food, rent and energy inflation. With the Fed fighting to catch up to inflation, these stresses make it likely the US will experience a recession in the coming months, and indeed may already be in one. The actual timing and severity will only be known with hindsight.

Inflation is pressuring corporate margins and forcing consumers to curtail discretionary spending, reducing aggregate demand. This, in turn, will flow through to negatively impact corporate earnings. So far analysts’ estimates of forward earnings have remained resilient, and the market’s decline to date has been largely a compression of the multiple investors are willing to pay for those earnings. The final market lows will likely be accompanied by a reduction in earnings estimates.

Regardless of whether a recession occurs or not, the stock market is unwinding a liquidity-driven run-up from the extraordinary monetary policies enacted during the COVID crisis. Market bottoms are emotional and take time. While the tell-tale characteristics of a final market capitulation are not evident yet, we are well into the process of forming a bottom.

Investors should not lose hope, as there are some silver linings. Strong earnings and shareholder returns—in the form of dividends and buy-backs—have propelled the market in the past two and a half years. The S&P 500 finished the first half of 2022 17% higher than the end of 2019, before COVID, however second quarter trailing twelve-month S&P earnings are estimated to be 43% above pre-COVID levels. While the pace of growth should decelerate from current expectations—and may pause—growth will resume again. A variety of secular growth areas from batteries and electric vehicles, to hydrogen and solar, to genetics and big data (to name just a few) will continue to provide ample growth opportunities for companies in many industries.

Historically, markets bottom in the midst of recession, not at the end. The market is a discounting mechanism and the decline in the market to date has discounted a lot of the dour news cited above. This year marked the sixth time in history that the S&P 500 declined over 15% in the first half.  On each of those occasions the market rallied in the second half.  It is too early to say the low is altogether in, but we are significantly on the way.

                                                                                                                          July 2022

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You Can Summon the Witches of the Deep… But Will They Respond

DJIA:  30,630

You can summon the witches of the deep… but will they respond.  Shakespeare wondered, and we have begun to do so as well.  For a time now the market has seemed set up to rally, but no response.  The weakness this year has been about the contraction in P/Es, which some time ago we suggested would be temporary.  The contraction has been about the decline in prices, while earnings seemed sure to follow.  Wall Street analysts’ lowered price targets and earnings downgrades for stocks in the S&P jumped to over 500 in the past week, according to  Of course downgrades have been going on for months, but not to this degree.  Perhaps there’s a more acute fear of this earnings season.  There’s a limited sample size here, but similar period of analyst panic have coincided with market lows.  Yet another reason to expect the market to rally, but will it respond?

They say the market runs on greed and fear.  Actually the market runs on trends, greed and fear are important in recognizing when trends may change, and sometimes to what degree they might do so.  The end to downtrends has nothing to do with buying, it’s all about getting the sellers out of the way.  And when do sellers really sell, they sell when they’re scared, even panicked.  There is a relatively obscure measure for this called the Citi Panic Euphoria Index, and can be found in Barron’s.  While the calculation is not known, the composition includes the usual suspects, options trading, short selling, fund flows and the like.  In the early part of this year this measure reached a new high, even taking out the high of 20 years ago during the dot-com bubble.  The higher the model the more investors are euphoric, and lower returns can be expected.  Low values, particularly below zero, suggest panic and higher returns can be expected.  The recent reading was -0.07, a level which historically has resulted in higher prices over the next 3 to 12 months.

Evidence of fear and panic is important.  That translates into selling, and we’ve seen evidence of that in the many 90% down volume days.  We’ve yet to see evidence that the selling is completed – a 90% up volume day.  Most of us think that’s important, and historically it has been.  However, we have begun to wonder just a bit.  There could be too many of us on the same side of that boat, and mechanically it’s simply difficult with the commodity stocks under the pressure they’re under.  Meanwhile, most stocks have stopped going down and areas like drugs and biotechs have performed quite well.  On the NYSE, Advance-Decline numbers have been lackluster, no doubt due to the commodity stock weakness.  Meanwhile, on the NASDAQ the A/D numbers have outperformed – commodities are lacking there while biotechs are plentiful.  This switch in the Advance-Decline numbers is relatively rare.  Whatever the reason, the poor NYSE A/D numbers are always a concern.

While even the good days haven’t been that good, a couple of areas have been.  Standing out there has been Pharma, a term typically preceded by BIG.  However, it cuts a pretty broad swath these days, as evidenced by the Small Cap Healthcare ETF (PSCH-142).  And the Healthcare Provider ETF (IHF-258) also has moved above its 50-day.  Humana (473) more than the obvious United Healthcare (502) stands out there.  Many food stocks also have improved, thank you General Mills (75), though that can be taken as just defensive and not such a good sign.  Still, we’ll take any improving charts, especially in a market which seems unable to get out of its own way.  We often mention the 50-day moving average which seems particularly important since so few ETFs are above that measure.  However, it’s certainly no guarantee of success.  Microsoft (254) recently nudged above the 50-day and took a particularly hard hit on Tuesday to fall back again.  The same was true of Thermo Fisher (526).  Both are among those stocks in long-term trends, making the action disappointing.

This market has been about correcting the excesses of the bull market.  When it comes to excesses/bubbles there have been several, but our favorite remains giving money to someone to do whatever – the SPACS.  The real poster child for excess, however, might be Cathie Wood and her ARK ETF (ARKK-43), which is about growth/innovation at any price.  And it may be the poster child for the market now.  ARKK put in a low in mid-May, tested that low in mid-June and in recent days even has managed to move back above its own 50-day.  A look at the chart, however, says at all – it has stopped going down, but it’s not going up.  We believe in two types of “stops,” price and time.  Even when the price doesn’t go against you, given enough time it probably will.  This market may need another washout phase of sorts and a break in ARKK should be predictive.  Or did the CPI selloff serve that purpose?

Frank D. Gretz

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US Strategy Weekly: Hunkering Down

Downside Volume

We believe it is likely that equities are on the verge of establishing a new low. The good news is this may be an important part of a defining low in this bear market. The main reason for our near-term concern is the action of our NYSE 25-day up/down volume oscillator. The 25-day up/down volume oscillator declined to negative 3.7 this week, recording its third oversold day in the last five trading sessions. The decline was sudden and the pattern in the oscillator suggests downside volume is gaining momentum. In fact, the July 6 reading of minus 4.09 was the most oversold reading recorded since April 1, 2020. And though some might think that an oversold reading is positive, we would point out that in March and April of 2020, the market dropped to oversold and remained in oversold territory for 25 of 28 consecutive trading sessions. See page 12. Sometimes negative momentum begets more negative momentum.


This acceleration in downside volume is coming just ahead of the releases of June CPI and PPI data. And it may reflect the concern investors now have regarding inflation. Unfortunately, we believe the consensus may be disappointed in the results. To be specific, the May headline CPI release showed prices rising 8.5% YOY, the highest pace in 40 years. See page 9. What we believe is important is that if the CPI were to remain unchanged in June, the pace of inflation would still remain high at 7.6% YOY. However, an unchanged CPI seems unlikely since even at the lower prices for WTI crude oil (CLc1 – $95.84) seen currently, WTI is up 29% YOY.

And as previously noted, housing represents 42% of the CPI’s weighting and housing rose 6.9% YOY in May. The median price of an existing single-family home rose nearly 15% YOY in May, and while 15% YOY is down from a peak rate of 26% YOY a year earlier, housing will still add to inflationary pressure. Meanwhile, rents, which represent nearly 24% of the CPI weighting, tend to follow the trend in home prices, but with a sizable lag. Given this backdrop, it is difficult to see inflation falling much in June. We have also pointed out that medical care prices have been offsetting some of the larger increases seen in transportation costs. Medical care rose a “modest” 3.7% in May, but health insurance pricing is seasonal, and we expect medical insurance, and the medical care segment of the CPI, will add to inflation in coming months.

The PPI represents the pricing pressure in the pipeline that will eventually shift to consumer prices. The PPI for final demand rose 10.7% YOY in May. If prices were unchanged in June, the year-over-year pace only falls to 9.8%. In short, there is some simple math behind the CPI and PPI data that suggests the June inflation data will not soothe investors’ nerves.

Earnings Season

Moreover, second quarter earnings season begins in earnest this week, and this could be a market moving event. A number of brokerage houses are bringing their 2022 earnings estimate for the S&P 500 index down to our $220 forecast and that is a plus. But as we noted in our March 9, 2022 (“A Bear is a Bear is a Bear”) “higher commodity costs are likely to pressure profit margins and lower revenues for many companies and could make our $220 earnings estimate too optimistic.” We still believe this is true. Our $220 estimate represents a 5.7% YOY increase from 2021, and we feel it is conservative considering that earnings for the energy sector are expected to increase between 120% YOY (IBES) and 137% YOY (S&P Dow Jones) this year. Excluding the energy and perhaps the materials sectors, we expect earnings will decline in 2022. In a week or so, investors will have a better idea of second quarter earnings results.

PepsiCo, Inc. (PEP – $169.50) released earnings results this week and its second quarter core earnings rose 8.1% YOY, but reported earnings fell 39.4% YOY due to a write-off related to the Russia-Ukraine conflict. A key takeaway from the company’s earnings call was that it planned price increases and cost management. A main part of our strategy for 2022 is to focus on companies and sectors that will be most immune to both inflation and recession. This includes necessities like food, staples, energy, utilities, and we also include the defense-related industrial stocks given the increase in funding of national defense by Western countries as a result of the Russian invasion of Ukraine.

Worrisome Economic Data

The June jobs report indicated an increase of 372,000 jobs and an unchanged unemployment rate of 3.6%. However, total employment in the US is yet to exceed its previous peak which is unusual for an expansion that is now over two years old. We think this is a weakness in the employment data that most economists have overlooked. See page 3. And employment gains have been a story of the haves and have-nots. Unemployment for those with less than a high school degree has risen in the last four months from 4.3% to 5.8%. Economists may be disregarding this factor since this segment represents only 6.4% of the workforce. However, the only group that has made significant gains in employment in the last two years has been those with a bachelor’s degree or higher, which represents 43% of the working public. The remaining 47% have not seen the same gains. See page 4.

Both the manufacturing and nonmanufacturing ISM indices fell in June, and were down 13% YOY and 9% YOY, respectively. However, take note that both surveys show their employment indices falling below the 50 neutral level, indicating a decline in employment. This could be a leading indicator for the BLS employment data. See page 5.

In June, the NFIB small business optimism index fell to 89.5, its lowest reading since the 88.8 seen in January 2013. The outlook for the next six months fell to negative 61, the lowest reading on record. All ten components fell in June, including plans to expand business, to increase capital expenditures, to increase employment, or to add to inventories. The only positive seen in June’s survey was that 50% of owners indicated they had unfilled job openings. See page 6.

A number of markets are trading as if a recession is approaching. As previously mentioned, the price of crude oil has collapsed from a high of $122.11 in early June to $95.84, this week. This appears to be due to a fear of a global recession. Nevertheless, oil is still up 29% from July 2021. Also falling is the 10-year Treasury note yield which had reached a high of 3.48% in June, before dropping to 2.95% this week. This decline is not a good sign since the Treasury yield curve is now inverted from the one-year note yield to the 10-year note yield. Keep in mind that the Fed expects to raise the fed funds rate to 3.5% or higher which would invert the entire yield curve in a classic sign of a recession. See page 7. Valuation can be deceiving when not put into perspective. The current trailing PE of 17.7 X looks low, relative to the 50-year and post-1947 averages, but the PE will rise if EPS forecasts are too high. Plus, the impact of inflation is best seen in the charts on page 9. When inflation moved above average (3.5% YOY) in the 1972-1982 period, PE multiples fell to single-digits and below the standard deviation range. Another way of measuring inflation is the Rule of 23, which sums inflation and PE multiples. The market has traded above 23 for the last two years and the sum is currently 24.8. Unfortunately, based on this historical benchmark, the market remains expensive. See page 9.

Gail Dudack

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US Strategy Weekly: On the Cusp of EPS Season

The Right Environment for a Low

Second quarter earnings season will begin in earnest in mid-July, and it could be a market-moving event. First quarter earnings results disappointed the consensus in April, and this setback contributed to a sharp decline in the averages. However, GDP was negative in the first quarter, therefore, poor earnings results for the S&P 500 stocks should not have been a surprise to investors.

This month, the start of second quarter earnings season will be quickly followed by the Bureau of Economic Analysis’s report of its first estimate for second quarter GDP growth, scheduled for release on July 28. This crucial combination of earnings and economic activity should be a meaningful time for investors.

Last week we noted that despite the perpendicular selloffs in the broad averages, to date, the equity market has been unable to sustain a significant or normal rebound. Unfortunately, this is a sign of weakness. Plus, our biggest concern is that analysts have not yet significantly lowered earnings forecasts for this year. And despite multiple signs of deteriorating economic activity, economists are yet to worry about a recession in 2022. It is possible that second quarter earnings results and the BEA’s estimate for second quarter GDP growth could be the catalyst that shifts attitudes and forecasts. If so, it would create the right environment for the stock market to establish a meaningful low.

As we noted last week, the bear market finale is likely to include the realization that earnings will be lower than expected for both 2022 and 2023, and this could happen in late July. From a simple technical perspective, it would be wise to wait for an impressive high-volume 90% up day before committing to equities in a major way. A 90% up day would confirm that buyers have returned to the equity market in earnest.

Hints of Recession

US economists may not be forecasting a recession, but global markets are indicating that recession fears are rising. This week the euro sank to its lowest level against the dollar in over 20 years. The global benchmark for Brent crude collapsed 9.5% in one day. Similarly, the WTI future fell 8.2%. The 10-year Treasury bond index lost nearly 400 basis points in the last four trading sessions. In the Euro zone, purchasing managers’ surveys for June show the manufacturing sector is in a decline and the service sector has suffered a major loss in momentum. China’s growth is becoming questionable after Shanghai said it would begin new rounds of mass testing of its 25 million residents over a three-day period. This is an effort to trace infections linked to an outbreak at a karaoke bar and it stokes fears of another potential lockdown of China’s largest city of 24.5 million people. In sum, we continue to believe the US economy may already be in a recession. The good news is that the equity market tends to find its low midway through a recession.

Real Disposable Income Tells the Story

For most of the last 60 years, personal income has been in a slow steady uptrend, dipping only slightly during recessionary periods. However, in the past two years, even though personal income has inched higher, disposable income has been flat as a result of increases in both personal taxes and government social insurance taxes. This creates financial pressure on many households, and as a result, the personal savings rate fell from a high of 10.5% in July 2021, to 5.4% in May. In April, the savings rate hit a cyclical low of 5.2%, matching its November 2009 level. The savings rates for March and April were revised fairly dramatically in the last release, from 5% to 5.3% and from 4.4% to 5.2%, respectively. Nevertheless, the newly revised savings rates remain the lowest since the 2008-2009 recession. See page 3.

There was a boost in personal income in 2020 and in 2021 due to two pandemic stimulus packages passed by Congress. The 2020 package was done during the pandemic shutdown and recession, but the second stimulus package was larger and implemented during the post-pandemic recovery in 2021. See page 4. This later package in our view, coupled with massive monetary stimulus, was the recipe for the historic inflationary cycle now impacting our economy.

And for the first time in 40 years, consumers and households are seeing inflation rise faster than their income. This results in a decline in purchasing power. To date, personal consumption expenditures remain positive on a year-over-year basis, but the trend is unsustainable and is declining. See page 5. Since the US economy is 70% consumption-driven, this decline in household purchasing power is not a good sign for economic activity in the second half of the year.

The ISM manufacturing index fell from 56.1 to 53.0 in June. Although this index has been steadily declining all year, it still remains slightly above the neutral 50 level. However, the ISM manufacturing employment index was 47.3 in June, its second monthly report below 50, and a sign that employment in manufacturing is shrinking. New orders also fell from 55.1 to 49.2. This fall below 50 indicates a slump in new orders and demonstrates weakness within the manufacturing sector. See page 6.  

Watching the Russell 2000 Again

The Russell 2000 index has dropped to a key support level that is the equivalent of the price peaks made in 2018 and 2020 at the 1700 area. The charts of the other broad indices are different from the Russell, and all the other indices are well above their 2020 peaks. However, for reference the levels equivalent to the 2020 peaks are 29,500 in the Dow Jones Industrial Average, 3,380 in the S&P 500, and 9,800 in the Nasdaq Composite index. See page 8. It will be important for the Russell 2000 to stabilize at the 1700 level and begin to build support. The 25-day up/down volume oscillator declined to negative 2.96 this week and is close to an oversold reading for the first time since mid-May. The lack of a deeply oversold reading in this indicator, like the ones seen in August 2015, February 2016, December 2018, or March 2020, is somewhat bewildering given the seven 90% down days recorded in recent months. However, it implies that the equities market may not yet have found its trough. See page 9. While we believe many stocks may have found their 2022 lows, as in most bear markets, the lows will get retested. For this reason, we remain cautious.

Gail Dudack

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Recession Proofing

Between March and June of this year, all three main market indices, the S&P 500 index, the Dow Jones Industrial Average, and the Nasdaq Composite index, recorded their worst 3-month declines since the first quarter of 2020. The S&P 500 suffered its worst first-half performance since 1970. But it is important to note that while these declines were steep, they had something else in common —  they took place during an economic recession. This is both the good news and the bad news for today’s investors.

Keep in mind that the Bureau of Economic Analysis (BEA) recently confirmed that the US economy, or GDP growth, declined 1.6% in the first quarter. And since the National Bureau of Economic Analysis defines an economic recession as two consecutive quarters of negative GDP growth, it is possible that the US economy is already in a recession. In line with this possibility is the fact that, aside from employment statistics, many economic data series have been in a decline all year.

On July 28, the BEA will release its initial estimate for second quarter GDP and with this release, economists will have a much clearer sense of the strength or weakness of the economy. But even if second quarter GDP growth is positive, the fact that the Federal Reserve plans to slow the economy by raising interest rates at each of this year’s upcoming FOMC meetings, means economic growth will remain at risk for most of 2022.  

Playing defense

Therefore, we should assume that the risk of recession will be high over the next twelve months. If so, it is important for investors to be defensive and insulate their portfolios against such weakness. This means emphasizing areas of the stock market that should have the most predictable consumer demand and reliable earnings. In short, we would focus on household necessities such as staples, utilities, and energy. Aerospace and defense are expected to see demand and earnings growth in the wake of Russia’s invasion of Ukraine. Ironically, these are the same areas of the stock market that we have been emphasizing in order to offset the impact of inflation. In short, these industries are both inflation and recession resistant.

We have been warning about the negative impact of inflation for over twelve months. High inflation is a destructive trend that acts like a massive tax increase on households, results in substantially higher interest rates, it pressures corporate margins, and it lowers the price-earnings multiples for stocks. Because of these factors, stock market leadership has made a massive shift from growth (including technology stocks where price-earnings multiples tend to be highest) to value (where price-earnings multiples tend to be low and dividend payouts high). We expect value stocks will continue to outperform growth stocks until inflation is under control, which may take a while. 

Recession Risk

There are a number of areas that suggest the economy is slowing, but the most important may be housing. The housing market represents 16% to 18% of GDP and it is showing signs of a weakness. The National Association of Realtors (NAR) publishes an affordability composite index and in April it fell to its lowest reading since the 2007 recession. The NAR housing market index has been falling all year, but in June the index measuring traffic of potential buyers fell to its lowest reading since June 2020. Unit sales of existing and new homes declined 8.6% YOY and 6% YOY, respectively. And new home sales are down 30% from its January 2021 peak. What is worrisome is that the median price of an existing home increased 15% YOY in May, but in the same period, personal income increased only 5.3% YOY. Moreover, disposable income rose 2.8% YOY and real disposable income fell 3.3% YOY. A combination of high prices, falling disposable income and soaring mortgage rates will have a negative impact on housing and the economy in coming months. The fact that on a year-over-year basis, real disposable income declined for twelve of the last thirteen months is not a good sign for the US economy which is 70% consumer-driven.

Consumer confidence levels are also giving warnings signs. Conference Board consumer confidence fell to 98.7 in June, its lowest level since February 2021 and expectations fell to its lowest point since October 2011. The University of Michigan consumer sentiment index fell to 50 in June, the lowest headline reading on record, and lower than any time during the recessions of 1980, 1982, 1990, 2001, 2008-2009, or 2020. Expectations fell to 47.5, the lowest reading since August 2011 (47.4) or May 1980 (45.3). In short, in both surveys, consumer confidence is at levels last seen during a recession.

The Good News

The good news is that while the stock market tends to be the best predictor of an economic recession, it usually bottoms halfway through a recession. This means that if second quarter GDP is negative, it suggests that the stock market would have been at, or close to, a bottom at its June 16th low in the S&P 500 index of 3666.77.

In addition, a recent poll by the American Association of Individual Investors’ showed only 18.2% of small investors are bullish and 59.3% are bearish. This was the fourth weekly poll with less than 20% bulls and more than 50% bears since end of April. The 8-week bearish reading of 50.9% on May 18 was the highest bearish percentage since the March 12, 2009 peak. According to the AAII, equity prices tend to be higher in the next six and/or twelve months following such extreme readings.

In sum, while the first half of the year has been a challenging period, it is clearly not the time to be bearish. In fact, several factors suggest that the slowdown the Fed has set as its goal may be materializing faster than expected. Ironically, this would be the good news. The one concern we have is that earnings forecasts are still too high in many cases, and this could make second quarter earnings season in late July a time of weakness. Volatility is likely to continue but investors should maintain a long-term view and adjust portfolios accordingly. The third quarter could produce opportunities to buy equities at attractive prices.

Disclosure: The information herein has been prepared by Dudack Research Group (“DRG”), a division of Wellington Shields & Co. The material is based on data from sources considered to be reliable; however, DRG does not guarantee or warrant the accuracy or completeness of the information. It is published for informational purposes only and should not be used as the primary basis of investment decisions. Neither the information nor any opinion expressed constitutes an offer, or the solicitation of an offer, to buy or sell any security. The opinions and estimates expressed reflect the current judgement of DRG and are subject to change without notice. Actual results may differ from any forward-looking statements. This letter is not intended to provide personal investment advice and it does not consider the specific investment objectives, financial situation and the specific needs of any person or entity.

Gail Dudack, Chief Strategist

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Oh Lord, We Beseech You… Send Now A 90% Up Volume Day.

DJIA:  30,779

Oh Lord, we beseech you… send now a 90% up volume day.  The Psalm gets right to the point – “send now prosperity,” we’re going with the idea that’s where a 90% up volume day will lead.  This up one day, even when up big, down the next isn’t getting it done.  The numbers say most stocks have bottomed, but not going down isn’t the same as going up.  With only one percent of stocks above their 10-day average recently, the backdrop would seem auspicious.  Stocks above their 50-day average are around 2% versus 1.2% at the lows of March 2020 and December 2018.  NYSE stocks above their 200-day reached 13%, a level from which prices were higher 12 months later almost every time.  We are not anticipating an end to the overall bear market, more a summer vacation.  Meanwhile, we need a couple of those show me the money days.

Prices are compressed, but there seems no consistent buying.  Beneath the surface, however, there are some positive signs.  Looking at stocks above their 50-day average, from the low of 2%, one of the lowest in 70 years, the number has move to above 20%.  In recent years going from 2% to 20% has meant the end of important declines.  Going back to 1950, of the 13 occurrences only one didn’t lead to higher returns a year later, according to  So stocks not only have stopped going down, to some degree they’ve started to turn up.  It often happens that many stocks bottom before the averages, just as they peak before the averages.  So this part is encouraging.  A perhaps more esoteric positive is the better performance of growth versus value, with the ratio of growth to value at a recent 30-day high.  When growth out performs value it suggests a higher level of investor confidence.  Again encouraging, but no substitute for that 90% up volume day.

Nike (103) shares fell in Tuesday’s particular weak session, this after it reported what most judged to be strong earnings.  Even taking into account a stronger dollar, global sales rose 3%.  The problem was China, where sales fell 20% and the Company gave a downbeat forecast.  Sales in the region made up 19% of revenue last year.  One might think Covid-related lockdowns there are not forever, and the market might have given the stock a pass, but it’s a bear market and Tuesday was a bad day.  Somewhat ironically, Chinese stocks have acted much better.  Stocks there bottomed in March, tested the lows in May and most are at their best levels since February.  A top executive at indicated Tech regulation is getting more “rational,” and charts like KWEB (32) show it.  It will be interesting to see how quickly Nike might recover from the setback, particularly given what remains an excellent long term chart.

One of the best acting areas is big Pharma.  Lilly (324) probably leads, but Bristol-Myers (77) which has frustrated everyone for, let us count the years, has come out of a multiyear base.  They all pretty much now have good patterns, ironically better than the XLV ETF (128) which includes most of them.  The XPH ETF (42) is a bit better here.  Humana (468), the healthcare insurer, broke out this week, while United Health (514) has lagged but is above its 50-day.  Both are in big long term uptrends.  McKesson (326) is another potentially interesting chart, though it’s yet to break out of its three month base pattern which would occur around 340.  It’s part of IBD’s wholesale drug and supply group, which ranks 14 among 197 groups.  The stock rates above 90 on IBD‘s EPS and relative strength ratings, and the Company has recorded a three year EPS growth rate of 22%.

They say volatility occurs at tops and bottoms.  Over the past five weeks the S&P has swung by 5% more than four times.  That makes this the second most volatile period since 1928, according to  Indeed, volatility is a hallmark of market lows, but it’s no 90% up volume day.  We are looking for a summer rally and obviously that’s frustrating.  We find ourselves trading our opinion, and that’s never good.  Best to trade what you see and not what you want to see or think you see.  The market for now is barely worth the effort, but just as you think that things often change.  Meanwhile, keep thou beseeching, and just say yes to drugs.

Frank D. Gretz

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