These 2020s sure are something, aren’t they? “Unprecedented” is a word seemingly used these days, dare I say, without precedent. But it’s pretty accurate. Things that were unthinkable a decade ago have become commonplace today. It’s like nothing surprises anymore. There’s so much going on, new and old, and it’s happening simultaneously. This connected world is tight but kinked in some areas and fraying in others. The pandemic exposed so many vulnerabilities on Planet Earth. Friends and enemies abound. Instability leads to angst. There’s a lot of that out there. Sentiment has seldom been this sour. Trust is a diminishing quality. That’s the backdrop for 2022. I wish it weren’t so. You just deal with it and try to control what’s controllable. Keep pushing forward. So how do you follow the worst first half of the year for stocks in 5 decades? July brought the best monthly gain since 2020. It’s a start.
I’m hard pressed to recall a more eventful week than what has just transpired. You just knew it was going to be big with the highly anticipated Federal Reserve meeting. The future course for rate hikes, inflation and the US Economy hung in the balance. There was also this: Companies representing half of the Stock Market’s total value reported their 2nd quarter earnings. Names like Amazon, Apple, Google and Coke were on deck. How Corporate America is dealing with the multiple pressures around the globe was on display, both quantitatively and qualitatively, for investors to review. Focusing on facts is so critical in an environment filled with hyperbole. Today’s news flow can be quite hyperbolic.
Headlines get fired off fast and furiously these days. The President got Covid. That’s 46. The former President got it too, early on, but is dealing with something else completely different which lacks any precedent. You’ve heard about that. That’s 45. There was a stern call between the White House and Beijing. The Superpowers warned each other about a rising confrontation over Taiwan, which has been exacerbated by a potential visit by the Speaker of the House. A Chip Bill passed Congress which is really big. America has been worried about its dependence on semiconductors made in Taiwan for years. The pandemic exacerbated the issue with supply chain strains affecting everything from cars and electronics to healthcare equipment and national defense. It’s no small deal. There’s also the continued issue with Russia, as war continues in Ukraine and energy flows slow to Europe. And if that wasn’t enough to move the needle for the Market, the Q2 report card for America’s Economy came this week too.
Things are much worse in Europe. They’re really feeling the recessionary pressures. Russia keeps cutting back on its gas supplies, raising overall economic risks for the whole continent. 40% of Europe’s gas has come from Russia. The key Nord Stream 1 pipeline is now pumping at only 20% of capacity. Seasonal maintenance issues and a turbine problem are the reported cause. This will clearly make it harder and more costly for Europeans to fill up ahead of the Winter. The EU has accused the Kremlin of energy blackmail. It seems pretty clear that’s what’s happening. Natural Gas prices jumped 17% this week and are 7X the price in the United States. Inflation is really, really bad in Europe.
Anticipation is key. As I mentioned last week, the Market is not about good or bad. It’s about better or worse. It’s a living, breathing animal that anticipates events and outcomes by pricing them in. The Market represents the wisdom of crowds. This week was like March Madness for Stocks. The crowd was going wild. For a Market geek like myself, it was stay disciplined, get your popcorn ready, hope for the best, prepare for the worst and juggle everything thrown our way. That’s pretty much how we roll.
Here’s my not-so-rapid rundown on what transpired:
America’s Economy shrunk for the second consecutive quarter. That met the simple and conventional definition of a recession, though most economists don’t agree. It doesn’t matter to the Market or American people what economists think. They don’t wait for a group of academics to declare a recession. They act. The US Economy has slowed big time. High prices and Fed tightening has gone a long way in taking it down. The hope was a smooth landing. The fear was a crash. This has been a turbulent ride for sure. But it doesn’t feel like it’s landed quite yet. Corporate America and the American people have been adjusting to high prices and slowing growth out of necessity. It builds upon itself.
It’s incredibly hard to find workers. That doesn’t happen during recessions. Since WWII, a recession has never been declared without a loss of employment. The unemployment rate remains at 5-decade lows. There are more job openings than people wanting to work. That trend seems set to change. Another sign of pending recession; The yield curve. It’s been inverted all month. There’s never been a recession without an inverted yield curve. However, there have been inverted yield curves without recession.
Fed Chair Powell made it clear that he doesn’t think the United States is currently in a recession. He said, “There are too many areas where the economy is performing too well.” Powell said that the day before Q2 GDP was reported. Q2 contracted by an annualized 0.9%. It was expected to rise, not fall. Q1 contracted 1.6%. One side of the aisle is complaining about the recession. The other side denies there is one. Politicians can’t seem to agree on anything. You can count on those in Washington arguing whether or not America is in a recession all the way to the midterms. It will be a loud and contentious path to November in our nation’s capital.
The Federal Reserve had to prove that they’re serious about reining in inflation. Consumer prices jumped 9% in June. That was the fastest rate in 4 decades. It had accelerated from 8.6% in May. Remember, the Fed wants inflation back down to 2%. That’s a tall order. The Fed was on the main stage Wednesday.
The Fed raised the overnight rate by three-quarters of a point for the second month in a row. It now sits at a range of 2.25% to 2.5%. It’s back to the levels reached in 2018 before the Fed was forced to start cutting in order to stem declines and stimulate growth after what’s referred to as the Christmas Massacre.
The Fed Chair said that rates are now “right in the range of neutral.” That’s defined as an interest rate that neither hinders nor fuels economic growth. Finding neutral is a delicate balancing act, particularly in this environment. Slowing growth is counterbalanced by the historic low unemployment. The Fed has a dual mandate of price stability with maximum employment. Since the employment situation remains stable, they’ve been going aggressively after prices. They’re trying to take down inflation without crashing the Economy. There isn’t a track record for success here.
The Market still anticipates another 1% of increases by year’s end. They still have that 9% inflation to beat. The recent decline in commodity prices and slowing GDP are the ingredients the Fed is looking for in order to pause its tight grip. The Market seems to be interpreting that the Fed tightening will slow for the rest of the year. It sees an end to this cycle. This triggered a powerful rally on Wednesday, which continued into the weekend.
Earnings Season is in full force. Earnings are the biggest drivers of stock prices. This was a massive week. 175 of the 500 S&P companies, accounting for half the value of the Stock Market, reported. The top 5 companies account for nearly one-quarter alone. They’re the Titans of Tech. It was guaranteed to be Market-moving. Heading into the week, 21% of the S&P 500 companies had already reported. 68% beat expectations. That’s below the 5-year average, which is 77%. The average beat has been by 3.6% so far. 8.8% is average. The earnings growth rate of 6% is improving but would be the slowest since Q4 2020. For a reality check, if you strip out the enormous earnings growth from the Energy sector, the rest of the S&P 500 would be near flat to down a touch on the quarter. Growth deceleration was inevitable after the record growth rates in 2021 from the 2020 abyss. That’s right, the 2020s…
The week started off with an unanticipated blast. Walmart torpedoed the terrain Monday when it preannounced a big earnings miss. This followed AT&T’s announcement last week that more of its customers are starting to fall behind on their bills. As they say, America shops at Walmart. This is a clear snapshot of consumption. The retail giant cut its Q2 and full-year profit outlook. Walmart traffic remains busy. Attracting customers is not the issue. American Dollars are being sucked up by higher food and gas prices. That’s forcing markdowns in other items like apparel which crushes their profitability. Groceries are low-margin items. It’s a big deal right now. Americans are paying more for less.
Gas prices have actually fallen quite a bit since the last time Walmart provided an outlook. Commodities, in general, have fallen from their peak prices. A case can be made that the company used high prices as an excuse for getting caught flat-footed on its clothing inventory. But if it is a symptom of a slowing consumer, how will that affect Fed thinking? They’ve gone a long way to slow things down. They can’t control supplies, so they target demand. The Federal Reserve is in a tough spot, as inflation is still troublesome. The continuation of quantitative tightening, which only began last month, remains a clear and present danger to the Market.
All eyes were on the “Real Thing” to start the week, as this global brand touches every region on Earth. The Coca-Cola Company delivered. It was a double beat. Coke raised its revenue outlook for the year and reported strong second-quarterly sales as demand for its beverages remained strong despite price increases. Coke’s organic revenue grew 16% in the period, as prices on average rose by 12% and the company’s global case volume increased 8%. Even the strong Dollar couldn’t slow Coke’s momentum. Coca-Cola has benefited from the reopening around the globe. Half of Coke’s business takes place away from home at venues like theme parks, ballparks, movie theaters and concerts. Have a Coke and a smile rings true this Summer.
Tuesday afternoon debuted the first of the Tech Titans. Microsoft and Google both reported a double miss. Their stocks responded favorably despite the shortcoming. Market interpretation: Less bad. The reports were better than feared. Google is a big barometer for advertising. The company benefited from travel and retail tailwinds and highlighted the format’s resilience in the face of a broader advertising downturn. Microsoft maintained its guidance for the rest of the year. The company said it expected double-digit growth in sales and operating income in fiscal 2023, led by its cloud-based Azure business, which is still growing over 40%. The Market liked Microsoft’s strength and stability in this challenging environment. Google demonstrated responsibility as management is controlling what it can control. Google plans to slow hiring and increase expense control to balance growth with profitability. The results will flow more to the bottom line. Both companies are executing. The Market liked it, with a sigh of relief.
The company formerly known as Facebook didn’t fare as well. Meta posted its first revenue decline as a public company. That came on the heels of its first-ever decline in users just 3 months ago. A full-year forecast also showed that current-quarter revenues will fall well short of expectations as corporate marketing departments shrink their budgets. The Market didn’t like what it saw and sank the Meta stock. There was a clear distinction this Earnings Season as to what qualifies as a Tech Titan. Facebook used to be the 5th largest company in America. Today, it’s no longer top 10.
Amazon reported a mixed Q2, but similar to that of Microsoft and Google, it was better than expected. Less bad is a theme. The company lost money in Q2, but revenues exceeded Street expectations. It was clear that Amazon’s retail business was feeling pressure. Walmart tipped that already. But the Market knew it and looked past it. There was definitely lots to like here. Revenue from Amazon Web Services, its cloud segment, grew 33%. That beat the Street. Advertising revenue reached $8.7 Billion, growing 18% from a year ago. That’s an indication that Amazon is taking market share from its mega-cap tech rivals. Meta seems to be the obvious victim here, amongst others. Amazon also indicated it would manage costs more effectively and reduce its excessive headcount built-up during the pandemic. This was a shift for Amazon and its stock.
Cupertino delivered impressive news on Thursday. Apple reported a double beat. The company sold over $40 Billion worth of iPhones in the 3-month period ending in June. That was much better than the $38 Billion expected. Revenue in China declined just 1%, despite the series of lockdowns across the country. Revenue in Europe actually grew. Equally, if not more importantly, management said that sales should accelerate in the current quarter despite the economic slowdown. This is a really challenging environment. Apple is exposed to pretty much every aspect: Slowing global Economy, supply chain strains, China lockdowns, high inflation, and War in Ukraine. 20% of Apple’s revenue comes from China. 25% comes from Europe. Tim Cook and crew threaded the needle masterfully. Despite its size and might, Apple is not immune to an economic slowdown. But the company is sitting on a $179 Billion pile of cash. There’s a new iPhone coming this Fall. Demand will be measured with increasing expectations. Apple is navigating through the challenges and executing.
These 4 Tech Titans had not all had their stocks respond favorably to an earnings report since 2015. They did this week. It was definitely Market moving.
The Tech-heavy NASDAQ had its best day in 2 years on Wednesday. It continued its strength through Friday. The NAS fell 30% at the lows. It carved back 12% of it in July. 2022 has been a tough go for Tech. Sentiment got so sour as declines mounted. What is clear, there was a lot of bad stuff already priced into the Market. Today, Less Bad = Better. That’s where rallies begin. There’s nothing like price to change sentiment.
We head to August with some serious momentum. The Stock Market just completed its strongest month in the last 21. Heading into Earnings Season, peak inflation and peak Fed rate hikes had been a catalyst for this July rally. That doesn’t mean high prices and further hikes won’t continue. They will. It’s just likely that 9% inflation and 3/4-point hikes are likely behind us. The biggest numbers could very well have passed. We are definitely not out of the woods yet. Inflation is still an issue and the Fed reminded everyone this week of its commitment to taming it, whatever it takes. The Market may be too aggressive in its expectations for a Fed pivot. Remember that inverted yield curve. It says: proceed with caution. The Fed continues to guide to more rate hikes next year. The Market doesn’t believe it. The Market is now assigning just a 28% probability of 75 basis point rate hike in September. It was 50% prior to this week’s meeting. Looking further out, forget more hikes, the Market is now pricing in interest rate cuts in 2023. A lot will happen between now and then. There is very little visibility a year out. Ain’t that just like the 2020s?
20/20 is a measure of clear and normal vision. The 2020s have been anything but. The path to 2023 won’t be smooth or clear either. You can count on that. There are still so many issues without resolution that will tether the Market a while longer. But there was a lot to like this week. There was a lot to build on. What a week in July 2022 it was. Don’t forget, that road to success is always under construction.
Have a nice weekend. We’ll be back, dark and early on Monday.