Nolte Notes 12.6.21

December 6, 2021

“Well, here’s another nice mess you’ve gotten (us) into.” In describing the current economic conditions, Fed Chair Powell admitted what everyone has known for some time, inflation is not transitory and may require a bit more aggressive Fed policy. From a quicker tapering of the bond purchases to maybe raising rates quicker in 2022, the markets are reacting negatively to the thought that the very easy monetary policy that has been in place for the past 20+ months is coming to an end. The employment report on Friday was the exclamation point on the strong economic data. While the total number of “jobs created” came in at half of what was expected, the employment rate dropped to the lowest levels since the start of the pandemic. Wage growth remains well above 5% annually. The coming week we’ll get a read on consumer prices as well as how many folks are quitting jobs. With the money that has been pushed out by the government over the past two years, many, especially older workers, have decided to leave the workforce entirely. It is a Covid effect on the job market that is likely to have an impact for many years to come.

The change in tone from Chair Powell coincides with the economic data coming in “hotter” than expected and a huge boost to GDP estimates. Based upon the Atlanta GDP model, estimates are for over 8% economic growth in the fourth quarter. Much of the supply chain problems can be attributed not to the lack of workers (yes that is part of the issue) but the huge jump in demand for goods. Looking at retail sales, historic growth has generally moved between 3-7% growth vs. year ago levels. Even coming out the recession in ’08, retail sales briefly touched 10% annual growth. Today that growth has been over 10% nearly the entire year with the most recent reading at almost 15%. With demand so far above historic trends, even accounting for the economic shutdown of a year ago, it is little wonder that prices are rising. This will be the Fed’s biggest challenge over the coming year or two; how to cool the economy without pushing it into another recession.

The number of stocks making new yearly lows has expanded to a level last seen during the depths of last March’s decline. Volume has increased with the market decline. On the NYSE, three consecutive days of declining volume exceeding advancing volume by at least three times has usually marked at least a short-term bottom in prices as investors bail on the market. Some of the measures of momentum and selling pressure are at levels usually seen around market bounces as well. So, just maybe the Santa rally is still in place. Worries about the Covid variant is also having some impact on stocks as investors fear reinstatement of some forms of economic restrictions. Hopefully lessons have been learned over the past year as we deal with the residual impacts from the virus and shutdowns.

The bond market is signaling a slowing of economic activity in 2022. Whether that is driven by the Fed or just the ending of various government support programs, the market move is unmistakable. So too is the change in difference between junk yields and government bonds. The change in the bond market is worth watching over the coming weeks to confirm the signal and by extension, a deeper reaction from the stock market.

The recent decline in stocks has impacted the growth part of the market more than value. Having been the darlings since last March’s bottom, growth stocks have been all the rage. The valuation differences between growth and value in the largest stocks hasn’t been seen since the late ‘90s. During the years following the market top in 2000, value, small and international stocks all did well in both absolute terms as well as relative to the broad market averages. Whether the coming years will be a 20+ year reprise of the tech wreck we’ll only see in a few years. But investors should do well to focus on the neglected parts of the market that still have solid fundamentals and underappreciated growth prospects.

The harsh decline in growth stocks over the past few weeks that has bled into the broader market may be setting up for the highly anticipated Santa Claus rally. If coal gets delivered, 2022 could be a tough year.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 11.29.21

November 29, 2021

The “Nu” variant of the Covid virus is making the rounds in South Africa and has put the fear back into investors that we are once again heading for economic lock/shut down. Friday’s trading is usually very quiet with a few folks coming in to trade a bit and head back home to finish off the Thanksgiving leftovers. However, this year, trading was the worst in 70 years as investors sold anything that benefits from an open economy. Even energy prices fell 10%. The economic data from earlier in the week was solid, with the weekly jobless claims the lowest since 1969 and consumer spending still robust. That all got tossed out the window Friday. The weekend should provide some information that may help investors assess the economic and markets risks heading into December. As usual, technology did better, and bond prices rallied as investors warmed to working at home longer and a Fed that is not likely (now) to be raising rates. If the focus turns more toward the latest variant, then the economic data won’t matter as it will be considered “old news”.

The markets have been trading poorly over the last two weeks, with only one day showing more stocks rising than falling. Friday was the culmination of a bad string, with nine times more declining volume than advancing on the NYSE. The last occurrence was back in September, just before the markets bottomed, resulting in a big October run. At least in the short-term, the selling may have peaked. That doesn’t mean stocks trade higher but expect more ragged trading as we get deeper in the Christmas season. Much of the trading next week will likely center on the path of the new Covid variant. If it is determined to be relatively mild, stocks could regain much of the losses. However, if it poses more risks, then stocks could trade lower still. The employment figures will end the week. The report should be very good and could bolster the markets. Although stocks may be once again beholden to the path of the virus.

As stocks declined, bonds rallied, and interest rates declined. Investors are now expecting the Fed to slow down their pace of tapering their bond purchases and are willing to keep interest rates low. The yield curve has continued to flatten and is now the flattest in eight months. One other concern is the high yield spreads, which are widening. This combination, were it to continue for a few more weeks, could put additional pressure on stocks. For bond investors, treasuries will likely also be a safe port in a storm. The decline in interest rates is likely to continue as commodity prices are showing more signs of rolling over as well. If demand for goods and services wanes in the coming months, prices (and inflation) are likely to moderate.

Friday’s decline was across the board and left few parts of the market unscathed. As mentioned above, the bond market is beginning to signal that stocks could be facing some headwinds in the coming months. Historically, when we see the difference in yields between high yield bonds and treasuries widen out, the stock market runs into trouble down the road. The lead time is anywhere between three months to over a year, so it makes sense to begin watching the markets a bit more closely. The final part of the “market signal” is the flatter yield curve. When the difference between the two- and ten-year yields on treasuries begins to narrow, it is a sign that financial conditions are beginning to tighten. Again, this is not a call for the end of the bull market but is worth keeping an eye on in the coming months. Whenever the markets decide they have had enough, there are likely to be a few hiding places. Better parts of the market will likely be those that have not really participated over the past year, like value and international holdings.

Whether the new variant is at the center of the markets concern or a Fed that may be making a policy mistake, the markets are beginning to pay attention. If things begin getting rougher, treasuries will be a good hiding place.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 9.20.21

September 20, 2021

It is way early to be getting ready for Halloween, but I’m hearing “I’ve got a spell on you” running around in my head when looking at the market action of the past few weeks. From monetary policy to fiscal policy, the continued rise in Covid cases and economic slowing as a result, the markets are struggling to figure out what to do next. This past week was the (now) much-anticipated consumer price index that came in below expectations. The higher product prices and lower consumer prices mean that corporate margins will likely be under some pressure in the coming quarters. Even as concerns over rising inflation show up near the top of consumer worry list, interest rates have remained very stable around current levels. This week we’ll hear from the Fed directly as they likely make their “ho-hum” announcement that their target for interest rates will not be changing. What will be more interesting is how Chair Powell discusses their plan to reduce the amount of bonds they are buying, which will also start the clock on when the Fed is likely to raise interest rates. Maybe less the spell and more the sound of silence.

We are smack in the middle of what has historically been the worst 12 weeks for the financial markets, yet the SP500 is slightly higher over the past six weeks. The economic data, as has been highlighted over the past month or so, has been coming in “worse than expected” and many attribute the weakness to the rise in the Delta variant. When checking out TSA daily “activity”, there is a noticeable decline in travel since early August vs. a “normal” 2019 that remained stable through the summer months. Consumer surveys are highlighting worries about rising inflation. Certainly, businesses are feeling the pinch. Many cannot get the stuff they need to sell to the end consumer or finish their products for sale. The reduced supply of goods is one of the key factors behind the higher inflation reports. Chair Powell will likely address some of those “transient” pieces at his press conference. However, supply chains do not look to be getting repaired soon and outages of various products will likely be a feature as we get closer to the holiday season.

The bond market is also under “the spell”, as it has moved very little over the past few weeks. The difference between short and long-term rates is also stuck. Worries about inflation, economic slowing, or robust growth do not show up in the bond market just yet. The bond model used to project interest rates over the short-term also indicates lower yields ahead with only commodity and utility prices showing up negative in the five-factor model. How much of the inflation fears are grounded in the transitory discussion or will be a long-term issue will not be known for at least the next six months, if not longer. By that time, we should have a better sense of what “transitory” really means.

The last few weeks of the third quarter should determine whether the broader market can regain its mojo. This quarter has been led by technology and surprisingly, utility companies, with the difference between large-cap growth and value, exceeding 5 percentage points. The “why” is likely due to the rising virus counts and overall weaker economic data that investors believe will be around for a while. If the economy struggles, technology has become the safe play. Valuations remain extremely high, however by themselves do not “make” the market decline. Once things get going on the downside, though, they are likely to end somewhere around “fair” value. Based upon today’s earnings, that would mean a 20-30% decline. That is not a “call” that the markets will do that over the next few weeks or even months, but something to watch for whenever the markets begin to unravel.

The short-term direction of the markets may be lower, but the Fed meeting this week should provide investors plenty to chew on as we start the fourth quarter soon. Bond should provide direction, so we will be watching their reaction to the press conference later this week.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 9.6.21

September 6, 2021

In what may be considered “Delta Dawn”, the current variation of Covid is beginning to show up in the economic data. Friday’s huge miss on employment (250k vs est of 750k) caused barely a ripple in the financial markets. After much head scratching, investor’s figured that the Fed would continue to keep rates lower for longer as well as postponing their tapering of bond buying. Bad news is good news when it comes to the financial markets today. The surprises continue to occur on the downside, from employment to the various assessments of economic activity. Employment in the “customer facing” portions of the economy were essentially flat from the prior month. Manufacturing added jobs and the employment rate fell again, getting close to 5%, as the total workforce is contracting with more retiring all together. This week will be light on economic data, save for the produce price report on Friday. The next focus for the markets is inflation, as worries are beginning to surface that growth is slowing with inflation not being as transitory as the Fed expects.

The markets continue to grind higher, making 50+ new all-time highs this year and pushing the valuation levels of the market to all-time highs as well. Why? Investors are back to the belief that there is no alternative to stocks. Bond yields are very low, money market rates are essentially zero and the Fed continues to support “risk taking” by keeping rates low. How long can it last? Longer than many currently believe. Yes, a correction of 3-5% is long overdue, however a larger decline is not yet on the horizon. At some point the markets will have enough of the debt creation and decline, but so far, the signs of a larger decline are not evident. The market internals remain less than stellar, with stocks making new all-time highs still lower than their peak in June. The number of stocks above their long-term average price has been falling since March, another indication that investors are focused on the largest of the large US stocks. The markets have shifted back toward growth and away from the “re opening” trades, fearing that Covid will continue to make any economic recovery very uneven. If inflationary pressures continue to build and economic activity slows further, investors may indeed decide that the Fed will have no alternative but to raise rates. That could drop the curtain on the advance, but that may be months away.

The bond market has reversed course a bit over the last few weeks as the difference between short and intermediate term treasuries is getting larger. The difference between high yield and treasuries is also contracting. Both conditions have been supportive of risk taking in the markets and has led to the recent rally in stocks. Until the markets believe that the Fed will be raising rates to combat inflation, the interest rate environment should support stocks. Worries about a larger decline in stocks are usually preceded by a flatter Treasury curve and widening spread between high yield and Treasuries, which is not the case today. The tipping point will likely occur when investors begin to worry more about the likelihood that inflation is not transitory. The Fed’s favorite indicators of inflation are all well above their 2% target and rising. So far, the markets are buying the transitory label on inflation.

The song remains the same in the equity markets, the largest US stocks are doing well, while the rest of the markets suffer. International stocks gained some traction with the decline in the US dollar. The dollar has been relatively strong as the US economy has performed better than many of their international competitors. Looking over the longer term, the dollar has been bouncing within a range since last July. A break lower could indicate better strength internationally, higher would mean a stronger US relative to others. A declining dollar would also mean that international holdings would fare well as those gains buy more of an ever-cheaper dollar. The international markets, especially emerging markets, are among the best long-term estimated returns. However, that is predicated upon a more normal functioning global economy.

The long-term key to the markets may lie in strength of inflation and investor’s fears that it is more than transitory. That is not likely to show up in the next inflation report or two, but persistence into yearend may concern investors.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 8.30.21

August 30, 2021

Everybody’s working for the weekend, or until Friday when Fed Chair Powell started his talk on policy. The Jackson Hole confab has been known to be a spot where new policies are rolled out, from the Bernanke tapering to Powell’s inflation target changes last year. Investors were concerned that another bombshell could be dropped. However, what was said was music to investors ears. Tapering but not raising rates for a looonngg time was the tune. Subsequently, Fridays “everything rally” put stocks again at new all-time highs and the delivered promise of lower rates for even longer. This could keep stocks rising. The economic data remains ok, while inflationary pressure continue to build. This time, however, inflation is due to supply problems that adjusting rates won’t fix. This week’s employment report comes ahead of a long weekend ending the summer doldrums. What happens next is likely to be driven by inflation and Covid, which is well out of the Fed’s purview. The markets have held up well during one of the poorer months in the calendar, but the next two historically have been just as poor.

Even after Friday’s rally, the markets are looking a bit ragged. The largest stocks are once again taking the performance lead. That in turn has meant the bulk of stocks are not following the indices to all-time highs. The shine has come off the “reopening” trade. The enthusiasm for a full economic recovery is following the slowdown in air travel and lower energy prices. The economic backdrop remains challenging as many locations are going back to masking mandates. Those steps “backwards” are keeping many companies from going back “full-time” and giving consumers pause before heading to the mall or other activities. The combination of stimulus rollback in a few weeks and increasing fear or the virus may put another kink in the road to recovery. The markets are not reacting to the economic data as much as to the still very easy monetary policy. The reason the markets rallied so strongly Friday was a clear indication that investors are hyper focused on the direction of monetary policy. Stocks are likely to continue to get bid for as long as the fed remains accommodative.

Chair Powell’s comments got the bond market going too. Unfortunately, there are more questions than answers. How long will tapering take? At what point do rates rise after tapering finishes? How will the path of the virus impact policy? Just how transitory is inflation? Will slowing economic data keep the fed involved in the financial markets longer than expected? The yield spread remains well below spring levels when it was anticipated the economy would be roaring back. Yet it has not collapsed to a point that would start investors worrying about a completely different set of outcomes. Investors also piled back into high yield bonds, supporting the dregs within the bond market world. Another indication of investor’s desire to take on risk, no matter the asset class.

The rotation back toward the largest companies also means a move toward technology. The momentum has been waning for the various sectors within the SP500 since May, with technology getting back up to the “very overbought” territory. Fridays everything rally may start a new leg higher for some forgotten parts of the market. Small and international stocks were among the big winners on Friday after underperforming the broad market for the last few months. From strictly a valuation perspective, companies outside of the US are much cheaper than similar ones inside the US. Better returns from international markets require better growth there vs. here and a weaker dollar to translate those returns to the dollar. The biggest knock-on international stocks are the lack of technology stocks. Domestic weights are around 30% and less than 20% overseas. After a decade of US dominance in the performance race, there should be a rotation to overseas, but until tech takes a back seat, it will remain a US-centric performance race.

The market continues to churn higher but is showing some signs of internal weakness that could (maybe?) push stocks lower over the next few months. At this point, nothing more than a much-needed rest/reset for investors. That said, even the 2+% decline of two weeks ago was seen as a buying opportunity. At some point the “buy the dip” will not be working as well as it has over the past 16 months

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 7.12.21

July 12, 2021

“We’re all mad here, I’m mad. You’re mad.” And so down the rabbit hole we go! Just when you think you have it all figured out, the economy and/or the markets throw you a curveball. Maddening, sometimes. But we are in a deranged time where everyone is a bit crazy. We celebrate huge employment gains, yet at the recent pace, it will take another seven months to regain the old employment peak. Job openings continue to grow as companies of all stripes can not find willing workers. Many “consumer-facing” businesses have shortened hours due to a lack of employees. The Federal Reserve believes easy money can solve this problem, so they keep rates at historically low levels while pumping over $100B into the markets every month. “When you have a hammer…”Goods are having a tough time getting to market and prices for nearly everything are rising. Many believe this will work itself out over the next year as companies fully staff up and supply chains are working properly again. Some wonder if the economy is permanently damaged. The coming week will have inflation, retail sales and sentiment indices released. The madness is not likely to get resolved this week!

Worries about the Fed “starting to think about thinking about” cutting back their bond purchases knocked down stocks for a day, but the “buy the dip” crowd piled back in on Friday, pushing stocks to yet another record and 14th weekly gain in the last 19 weeks. Yes, there are some chinks in the armor, but the easy monetary policy is what rules the day. Over those 19 weeks, 90% of the stocks within the SP500 remain above their long-term average price, however the last few weeks, barely 50% are above their short-term average price. Meaning stocks have rallied so strongly that any short-term pullback has done little to dent the long-term picture. Within the S&P500 industry groups, all but telecom are above their long-term average, so until the market “technical” begin to break down in a more meaningful way, the path of least resistance looks to be higher. Growth has been the big winner over the past few weeks as interest rates have declined. Could the rate decline be warning the markets that the best/fastest economic growth has passed? Potentially, however, we would like to see a few more indicators pointing that way before beginning to worry about the next downturn.

The yield curve flattening is a warning sign of slower economic growth. However, without a signification push higher in the yield differential between junk and treasury bonds, long-term worries are not yet heightened. Earnings season gets started this week, and there will be plenty of commentary about what companies are seeing in their “end markets” and their capacity to fill demand. Finally, comments regarding pricing and inflationary pressures could also impact bond yields, pushing them back up if investors believe those pressures are more than just “transitory” as the Fed currently believes.

The quick rotation between “growth” and “value” has been driven by changes in interest rates. As interest rates rise, value does well. As rates fall, growth does well. Both are tied to the re-opening of the economy. If investors believe that the re-opening is going well and pricing pressures are building, value does well. If investors believe the best of the economic growth is now behind us and we are heading back to the recent average growth of 2%ish, then growth will do well. From a long-term perspective, growth is very overvalued, with various companies selling at their highest price to earnings multiples going back to 2000. While value is also expensive in absolute terms, relative to growth, it is about as cheap as it has been going back to the late 1990s. We believe that over the next few years, the overall market will struggle to provide meaningful gains, but that value should shine relative to growth as the economy slowly works its way back to “normal”.

Interest rates have been driving the markets as well as various parts of the markets for the past nine months and that is not likely to change. Hence, we will be watching yield differences between various asset classes for clues as to when markets are likely to make a significant shift. Not yet in the cards but watching closely!

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 6.2.21

June 1, 2021

What was Hollywood’s six-million-dollar man is now Washington’s six-billion-dollar man. Inflation impacts everything! The new budget rollout late on Friday will be the starting point for wrangling about deficits (do they matter?), spending programs (remember shovel ready?) and initiatives the current administration would like to put forward. An interesting provision is an increase in capital gains tax rates that would be retroactive to April. While many are wringing their hands about the proposals, what gets passed, should make for some interesting beach reading this summer. Back at the economy, the inflationary figures continue to run “hot” as the economy continues to lurch toward a full re-opening. Supplies channels are still not operating correctly and are unlikely to get back to normal before year end. Employment is getting better as the weekly jobless claims’ numbers fell again last week. The coming data dump for the first week of June will include the “official” jobs report that should see some improvement over last month’s disappointing figures.

The markets continue to chug along, even in the face of data that historically would have had the markets falling. Higher inflation and large job gains are generally a recipe for hiking interest rates. However, looking at the bond market, you would have to shake a few traders to get them to move. Ten-year treasury rates remain below their March peak, and “risky” high yield bonds have traded well. Investors are amazingly comfortable with a Federal Reserve that has been buying large quantities of Treasury securities every week. Along with a commitment to keep interest rates lower for longer, investors have little choice but to buy equities to get any kind of return. That has pushed valuations of the equity markets to extremely high levels, rivaling those of 1929 and 2000. What is currently missing is a reason to sell. Until the Fed begins to discuss withdrawing from their purchase program, or we begin to see investors move out of risky portions of the markets, the momentum is still on the bull’s side and stocks can get pricier still. The warm sun calls and living is easy…for now.

After a very rough first quarter, bond investors have been rewarded with “staying the course” as returns have been positive in each of the last two months. Bonds have even given stocks a run for their money since late April, providing essentially the same return without the daily swings. If there are concerns in the bond market, it is that the bond model has swung negative, indicating the direction for interest rates may be higher in the coming weeks. The model has been negative much of this year and even as rates have moderated, they really have not dropped too far from their March peaks. Commodity prices are likely to be the key driver for interest rates going forward.

The markets have been swinging back and forth between growth and value for much of the past six months, however value has been the “winner” overall, as it has been two steps forward, one step back for value stocks. These are the parts of the markets that will benefit from the continued opening of the economy as we go from virtual meetings to in person, from FaceTime to face-to-face. There have been and will be plenty of bumps along the way, however the differences in valuations between these two asset classes tends to favor value ahead of growth. Comparing technology’s performance vs. nearly every other S&P500 sector shows technology’s performance peaking in the third quarter of last year and underperforming since. Even comparing technology to international, shows a similar relationship. The rotation away from technology is hard for investors to do, as the allure of high growth keeps them from moving. However, the valuation on technology stocks in general is well ahead of their historical norms, while valuations of other sectors and asset classes remain near or below historical norms.

“Sell in May and go away” is a Wall Street adage that historically shows the markets doing poorly in the summer. However, the last few years it would be better to hold the stocks and just go away. Will this year be any different? Or will the Fed keep the good times rolling with as easy monetary policy? Stay tuned.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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Nolte Notes 5.10.21

May 10, 2021

“Jobs, jobs everywhere and not one to be had”. With apologies to Samuel Coleridge, the jobs report on Friday was in stark contrast to the news earlier in the week of large drops in weekly jobless claims. Employment reports embedded in various survey data also indicated that payroll gains would be close to 1 million, not just a quarter of that guess. Given the huge whiff, it would not be a surprise to see stocks take a header and drop a few percentages. However, they rose nearly 1% as investors feel the monetary spigots will remain wide open, fueling further stock gains and potentially higher inflation along the way. Excuses for the miss abound, from lingering fears about covid while heading back to work, schools still in hybrid and parents needing to hang around the house while kids are home. Finally, some point to the generous unemployment programs that are keeping potential employees at home until at least September, when the benefits are set to expire. Of course, the weaker report emboldened others to push for even more benefits.

The economy is in a strange place. Manufacturing is running full out and having trouble finding “stuff” needed to make their “stuff” (hence the rising prices on various inputs like steel, copper, grains, etc.). Services are beginning to come online as restrictions ease. Yet they are having trouble finding workers and still have capacity restrictions and higher prices for their needs (like jet fuel and foodstuffs). Housing is booming as many are leaving the larger cities and heading to the ‘burbs. Lack of building (and higher lumber/copper prices) has pushed up home prices at a pace last seen in ’07. GDP growth was over 6%, yet the calls for more stimulus and keeping the Fed’s rate policy in place were heard following the report. The key question is whether the combination of the enormous stimulus package (as well as the one proposed) and higher input prices for all sorts of goods will indeed be “transitory” or much more lasting than is presently assumed. Inflation in the financial markets have been deemed a good thing, however now that it is spilling over into the “real economy”, it could pose problems for officials.

Bond investors cheered the poor employment report, as they believe the easy monetary policy will continue for longer than expected. Since hitting 1.74% in mid-March, the 10-year Treasury yield has eased to 1.60%, trading in a very narrow range. If the bond market is indeed worried about inflation, it is not yet showing up in yields. Even the spread between short and long-term bonds has contracted when it would be expected to expand as the economy heats up. Investors in low-grade corporate bonds are not worried either, as high yield rates are their closest to Treasury yields ever, meaning the margin of default risk has never been lower.

Even with the much lower-than-expected job growth last month, the “re-opening” trade in the market continues to lead the way. Small US stocks and large US value have been out in front much of the year and have regained their leadership roll over the past two weeks. The dollar has weakened as well, allowing international investments to lead their US counterparts. A concentrated portfolio of US technology stocks has been the big winner over the past decade, starting in the depths of the financial crises of 2008 and (likely) culminating with the rollout of the vaccine late last year. Investors are paying a hefty premium for growth, as the average price to earnings for growth is 30x, 50% higher than that for value stocks. Both are at historically high levels, but for those that need to always be fully invested, the near historical difference between the two would argue that investors should be buying value and selling growth. The “reversion to the mean” trade would help investors who have a diversified portfolio of large/small/international holdings perform better than the averages, which are still dominated by large growth names.

The circular argument of “why are stocks going up? Because people are buying. Why are they buying? Cause stocks are going up”, will come to an end at some point. There are not yet any hints that stocks are going to do much more than correct their torrid run this year. A large “wow” drop is not yet in the cards. Still scanning the horizon for signs though…

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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SVP Paul Nolte Interviewed on Global Banking and Finance 4.6.21

Kingsview SVP Paul Nolte discusses employment, economically sensitive cyclicals and small caps.

Click here to read the interview

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Nolte Notes 3.22.21

March 22, 2021

The days are longer than the nights and the weather is beginning to warm up. Baseball starts in 10 days! Summer is just around the corner. The economic “issue” is that inflation is beginning to heat up as well. Getting lumber or copper for homebuilding or gas for your car is costing a whole lot more than a year ago. As a result, interest rates are rising and pushing the Fed to recognize that an ill wind that blows does nobody good. Inflation, in the words of the Fed, may be transitory, but for how long? Expectations are for an economy to be blowing hot during the summer as economies open around the world. With all the stimulus and people going back to work with extra money in their wallets, inflation may be around for something more than a transitory period. To be fair, the Fed has pulled the punch bowl from the party well ahead of things getting out of hand, but this time wants to wait until they start seeing the party really rolling before raising rates.

Last week’s economic data was less than stellar, but the key report will not be showing up until April’s jobs report. The weekly jobless data is stuck in low gear, without much change since Halloween. However, the continuing claims are about double that of early 2019 and about two-thirds of the peak in 2008/09. Other data points are indicating the economy is healing, albeit very slowly. The coming jobs report will be informative as to the type of jobs coming back. In early March, the jobs report showed a large pick-up in hospitality jobs, restaurant, hotel, and bars. The trend is expected to continue as various states are loosening the restrictions of the past six months or so. Commodity prices are beginning to roll over a bit, energy prices have dropped from their recent highs and agriculture prices are down for March. So, while inflation indices could continue to rise in the months ahead, some prices are beginning to decline. As vaccinations increase and economies open, the main debate is how much pent-up demand is out there. Many are hungry to get out, others remain cautious. Trying to guess human behavior after this year is a fool’s errand. We will watch how things unfold rather than trying to guess.

The direction of interest rates has been the focus of investors over the past month as rates on the 10-year bond is now at the highest level in over a year. However, looking back at the 10-year yield, rates have been in a range between 1.50% and 3% since mid-2011. Before collapsing to under 0.60% last summer, the yield on 10-year bonds was near 2%. The concern today is that inflation is going to spike, and the Fed will have to step in to raise rates. The Fed has stepped in early, anticipating the inflation that never came. Today, they want to see inflation before beginning to tighten rates. They should be on the sidelines until sometime in 2022.

The battle between growth and value continues to rage during March and has been dependent upon the direction of interest rates. When rates rise, growth stocks falter. When rates ease, growth races higher. Growth stocks are all about future expectations for earnings that get discounted back to a price today. As rates increase, that discount rate also increases, pushing today’s value lower. More cyclical stocks that are tied to economic growth benefit from a better economy. They tend to be very leveraged to economic growth, doing very well as the economy recovers and booms, and collapsing when the economy hits a recession. We have been concerned that growth stocks have “discounted” every possible bit of good news in their price, so any change could mean much lower prices if those expectations are not met. While not necessarily as egregiously priced as the tech bubble in 2000, many growth stocks are still priced for perfection and could fall dramatically if those expectations are not met. Meanwhile, little is expected of the consumer related stocks in the face of the pandemic. As the economy opens, many will do very well as consumers return and spend money. That rotation from growth to value is likely to continue in the weeks/months ahead as people start to feel better about mingling with others.

Interest rates are likely to continue to rise as economic growth should also rise dramatically over the summer months. While that growth may be temporary, investors will still fret about potentially higher inflation and a Fed that may begin to tighten monetary policy and push interest rates higher still.

The opinions expressed in the Investment Newsletter are those of the author and are based upon information that is believed to be accurate and reliable but are opinions and do not constitute a guarantee of present or future financial market conditions.

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