The Market was the story last week. The Market is the story again this week. Let’s face it, the Market has been a primary story for 20 months now, since the Covid crash.
Inflation continues to run hot. That was expected. November CPI came in at 6.8%, the highest level since 1982. Ronald Reagan was in his second year at the White House then. You may recall the Fed, led by Paul Volcker, had declared war on inflation. Interest rates were much higher then. The 10-Year Treasury yield hit a whopping 15%. Rates remain very low today. That 10-Year Treasury is below 1.5%. Treasury yields aren’t moving much at all off this report, an indication that it was already priced in. They actually fell Friday. Contributing to the surge in prices are resilient demand and unprecedented stimulus, as well as transportation logjams and shortages of both supplies and labor. The front-end of the curve has already moved up. The Fed is expected to speed up the taper at their meeting next week.
Stocks are in a much better place than they were just a week ago. The big bounce can be chalked up to several factors. Investors appear more comfortable with the ability to deal with Omicron. The Market seems to have come to grips with expectations the Fed will accelerate its tapering pace at its meeting next week. The recent decline in Crude and Natural Gas prices has dented the runaway inflation fears, though prices remain elevated elsewhere. Gasoline prices are up 58% this year. The Economy continues to be on solid footing as Americans keep spending ahead of the Holidays. What a difference a week made.
Last week brought a lot of fear; Like Covid crash levels. The percentage of Bulls fell to just 26%. It was 20% at the March 2020 lows. Bullish sentiment approached 50% just 3 of weeks prior, when the Stock Market hit fresh, all-time highs. The average, over the decades is 38%. You can see how this is a contrarian indicator. Investors throughout history have notoriously chased gains and proved to get greedy at highs while panicking and selling at lows. The simple strategy of buying low and selling high seldom happens. It’s usually the opposite. It happened again.
Of significance, it appears that there was actual, fresh buying in place to drive the rally this week, rather than merely short-covering. It all started Monday, with the best day for stocks in 9 months. Small Caps led. Crude and Bitcoin jumped too. It was back to risk-on. The 3-day rally erased a lot of losses from the week prior. Friday built on Thursday’s breather. There is no question the Omicron variant keeps spreading. But early indications suggest that even though it is considered more transmissible, it’s also believed to be less deadly. Delta is still the bigger problem in America. New York City is the first city to mandate the vaccine for private business. Mandate has become such a controversial word. We’re continuing to learn to live with Covid.
The snap-back higher has been very constructive in our work. The depth of the declines didn’t make sense considering the environment. It became apparent that there was significant deleveraging at play from hedge funds. Goldman Sachs reported there was the largest net selling over the past 10 days since the Spring of 2020. Over 20% of the NASDAQ hit a 52-week low last week. The last time that happened was March of 2020, during the Covid crash. A lot of back-filling is in order now. It would be nice to see some slow and boring days. The Volatility Index (VIX), also known as the Fear Index, has settled down back below 20 after spiking to 35 last week. It will take a series of slow and boring sessions to keep it contained.
While individual investors hit the panic button, Corporate money was flowing back into the Market. Bank of America/Merrill said its corporate clients repurchased $3.4 Billion of their own stock last week. That is twice as much as the previous week and the highest level since March. Corporate buybacks accounted for almost half the total purchases. BofA said it had not previously seen any evidence of companies boosting buybacks into year-end given the tax reform risk. Goldman also pointed out that since Earnings Season is over, ~99% of the S&P 500 is in the open window period for transacting. That window will close soon, as Q4 and 2021 are nearing an end.
The path of least resistance keeps switching, which creates heightened volatility. The uptrend had been pretty firm all year, with bouts of corrective price action in the Spring and Summer. It happened again in the Fall. That trend decisively switched to the downside last week with Covid back on the radar from a risk perspective and Fed pivot. That said, throughout the better part of the pandemic, the Market has tended to focus on vaccines over variants and broader economic traction and expansion.
The Street is now looking for the Fed to reduce purchases by $30 Billion per month, double the pace it announced at the last meeting. The Market is now pricing in the Fed to announce its first interest rate hike in May or June of 2022. The high inflation reading should accelerate the taper of its $120 Billion monthly bond-buying program, possibly ending it in March. When it comes to rate hikes, it’s now looking like there will be two hikes in 2022 and three in both 2023 and 2024. However, there has been some discussion about the risk that expectations for 2022 could ramp to three hikes.
Despite the taper and ultimate increase in interest rates, Fed policy is expected to remain very accommodative. Real rates remain firmly in negative territory. Bonds are simply not attracting investors, which has the TINA (There Is No Alternative) attitude still intact. There is a solid likelihood that the lows from last week are it for now and a Santa Rally with slowing volume takes over to close out the year. We can definitely see that playing out. But last week was a wake-up call. This week was a soothing agent. The Market will continue to be a story. Keep those belts buckled. 2022 looks like a bumpy path for investors.
Have a nice weekend. We’ll be back, dark and early on Monday.
Mike
