Week of April 10th, 2023

Key Points for the Week

• Stocks have now risen for two quarters in a row, which is consistent with potential stronger future returns.
• Market breadth isn’t as negative as many believe, which is another plus for stocks.
• The banking crisis, a recent softening in job openings, and higher unemployment claims have raised concerns of a labor market slowdown.
• The March employment report was strong, with 236,000 jobs created.
• The unemployment rate is 3.5%, near 50-plus year lows.
• Wage growth is simultaneously decelerating, which may be enough reason for the Fed to ease up on further rate hikes.

Economic Update

Current economic conditions can be interpreted in different ways, too. Recent economic data and a possible credit crunch, resulting from upheaval in the banking sector, suggest growth is slowing. After viewing the data, some say we’re heading for a soft landing, and others say a recession is coming. Here is the recent data:

• Consumer spending. This is the main driver of economic growth in the United States. While Americans are still buying, the pace of spending slowed in February, according to a late-March report from the Bureau of Economic Analysis. Less spending means lower demand for goods and services – and that effects production.
• Production of goods and services. Last week, the Institute for Supply Management reported that activity in the manufacturing sector – automakers, food producers, pharmaceutical companies and other companies that make products – shrank for the fifth consecutive month. Activity in the services sector – airlines, banks, building maintenance and other companies that provide services – continued to expand but at a slower pace.
• Employment. The employment report indicated the labor market in the U.S. remained resilient and jobs growth was solid in March. It’s notable that there were fewer job openings and more Americans returned to the workforce. The unemployment rate remained steady at 3.5 percent. In addition, average hourly earnings edged higher, according to the U.S. Bureau of Labor Statistics.

The solid employment report for March further raises the odds that the U.S. economy is headed for a proverbial soft landing. Not everyone agrees.

Randall Forsyth, Barron’s

Economist and former Treasury Secretary Lawrence Summers gives more weight to manufacturing and services data than employment data. He also pointed to the Dallas Federal Reserve’s Banking Conditions Survey, which showed lending volumes declined sharply in March.

Employment and unemployment are lagging indicators of what’s happening in the real economy…There is some substantial amount of constriction in credit. If you looked at the forward-looking numbers this week from the PMI surveys, those numbers were quite weak…Recession probabilities are going up at this point. The Fed has a very, very difficult decision ahead of it.

Treasury Secretary Lawrence Summers with David Westin, Wall Street Week

Major U.S. stock indices finished the week with mixed results, reported Carleton English of Barron’s. In the Treasury market, yields on many shorter-maturity increased, while yields on longer-maturities fell.

This Week in the Markets

Stocks were relatively flat last week in the face of weak economic data. Services, manufacturing, and job openings all were weak, but the monthly jobs data (more below) was a bright spot. Still, in the face of slowing economic reports, we were impressed stocks were able to hold onto some gains.

Many market watchers have been calling this a bear market rally, but history shows that consecutive 5% quarters rarely happen in the middle of bear markets. More often than not, they occur at the start of new bull markets. As the chart below shows, this rare signal suggests the potential for more strength, not the start of a new bear market. In fact, two quarters later stocks have been higher 21 out of the past 23 times after this bullish signal.

Some are raising concerns that only a few stocks are pulling the market higher, saying this indicates poor market breadth, which could signal cracks in the armor and a potential fall. However, this is not true as many stocks have been advancing.

In fact, more than 93% of all stocks tracked by Ned Davis Research recently climbed above their 10-day moving averages. This rare sign of strength has led to higher prices for the S&P 500 23 out of 24 times one year later and an average return of 18.4% on average.

The Labor Market Remains Strong

Prior to the release of the March payroll report, there were several indications that the labor market was headed for a slowdown. January and February payrolls were well above expectations, leading to concerns that the strength was due to seasonal factors that would reverse. Then Silicon Valley Bank crashed in early March, raising fears the economy would buckle if a widespread banking crisis followed.

Then, last week, the Bureau of Labor Statistics (BLS) released data that showed job openings fell below 10 million in February, the lowest level since May 2021. Despite being well above the near-7 million openings pre-pandemic, it indicated labor demand was softening. (We would like to note this is precisely what Federal Reserve officials were hoping to see.) In addition, the BLS revised all unemployment benefit claims data going back to 2018. This is typically a leading indicator for the labor market, and the news wasn’t good. Claims for unemployment benefits have been steadily rising since October — not by enough for a recession to be imminent but enough to raise concerns.

So, the March payroll release had a lot riding on it as investors and economists wondered if the data would corroborate these concerns.

Instead, we got yet another solid payroll report, with 236,000 jobs created in March. While below the 346,000 average of the prior three months, this is very strong. The economy was creating about 180,000 jobs a month prior to the pandemic and needs 100,000 or so to keep up with population growth. It is currently more than doubling that amount.

Moreover, the unemployment rate fell to 3.5% and is just a tick above its lowest rate in 50-plus years. And that happened despite almost 500,000 more people entering the labor force. This belies concerns that the labor market is “supply-constrained” and the Fed must somehow force demand lower to match supply. Instead, we have a strong job market in which employers want to continue hiring, and that is making workers and potential workers more confident to start looking for jobs.

Perhaps the best indicator is the employment-population ratio for prime-age workers (25-55 years). In a sense the opposite of unemployment, this indicator measures employment for people in their prime working years as a percentage of the civilian working-age population. It also avoids issues related to an aging population and people who the BLS considers not part of the labor force for various reasons, such as lack of childcare. The measure rose to 80.7%, which is the highest level since 2001 and a sign that this is a strong labor market.

Good News for the Fed

What’s most positive is the unemployment rate is near historic lows even as wage growth is decelerating. Over the past three months, average hourly earnings for private sector workers rose at an annualized pace of 3.2%, which is barely above pre-pandemic levels.

Fed officials have tied inflation, especially services excluding housing, to wage growth. Decelerating wage growth should give them enough reason to pause on further interest rate hikes, as inflation is likely to continue trending lower over the rest of 2023. Given their aggressive pace of rate hikes over the past year, and their most recent hike, which they implemented despite being within two weeks of a banking crisis, we believe there is enough justification for a pause.

We also believe the employment data implies the economy is still positioned to avoid a recession this year. That means it’s highly unlikely the Fed will cut rates, as Fed officials themselves continue to stress. However, markets are expecting the Fed to cut rates by at least 0.75% by the end of this year. So, expect some volatility in bond markets as investors’ views converge with the Fed’s.

Investors vs. The Federal Reserve

In the 1970s, Martin Zweig cautioned investors: Don’t fight the Fed. He believed there was a correlation between Federal Reserve monetary policy and the direction of stock markets, reported Steve Sosnick of Barron’s. Here’s generally how it worked:

• The Fed makes more money available – pursuing loose or expansionary monetary policy – during economic downturns or recessions. It adjusts the money supply by moving the federal funds rate lower so companies can borrow inexpensively and hire workers. In turn, workers spend more, and the economy grows. Stock markets tend to rise when the Fed is pursuing loose monetary policy.
• The Fed makes less money available – pursuing tight or restrictive monetary policy – during periods when the economy is overheating, and inflation swings higher. It adjusts the money supply by moving the federal funds rate higher, making borrowing more expensive for companies, which can lead to layoffs. Workers have less to spend, and the economy slows or enters a recession. Stock markets tend to fall when the Fed is pursuing tight monetary policy.

Ultimately, Zweig’s advice meant that investors should be more aggressive when the Fed was pursuing loose monetary policy, and more conservative when it was pursuing tight monetary policy.

Investors understood this dynamic during the recovery from the bursting of the U.S. housing bubble, buying stocks in droves while the Fed held interest rates near zero…The central bank’s loose policies helped bring about the second longest bull market in the S&P 500’s history, between Mar. 9, 2009, and the COVID-19–induced bear market of 2020…

Will Daniel, Fortune

Today, the Federal Reserve is pursuing tight monetary policy, and has indicated that lower rates are not on the table for 2023. Investors seem to think otherwise, though. The Fed raised the federal funds rate in March, but not all Treasury yields followed suit. Yields on longer-dated Treasuries moved lower, suggesting investors think rate cuts are ahead.

Homestead Tax Credit

If you are a resident of Montgomery County, Maryland, use the link below to determine if you have filed a homestead application and are eligible to receive the tax credit.

montgomerycountymd.gov/Finance/homestead.html

Per the Montgomery County Department of Finance, over 85,000 properties do not currently have a Homestead application on file and are at risk of losing the credit.

If you have questions, please contact us.

2022 IRA and Roth IRA Contribution Reminder

The deadline to make 2022 contributions to your IRA or Roth IRA is April 18, 2023. The total contributions that you can make annually to these accounts cannot be more than the following:

• 2022 maximum allowable IRA and Roth IRA contribution for those 49 and under: $6,000
• 2022 catch up contributions for those 50 and older: $1,000

If you have already contributed the maximum amount allowed for 2022, the total contributions that can be made in 2023 are:

• 2023 maximum allowable IRA and Roth IRA contribution for those 49 and under: $6,500
• 2023 catch up contributions for those 50 and older: $1,000

If you are unsure of how much you have contributed to your IRA or Roth IRA for the year 2022, or would like assistance in opening one of these accounts, please contact us.

Did you Know? This Week in History

April 11, 1921: First Live Sporting Event Broadcast on Radio

On April 11, 1921, KDKA in Pittsburgh broadcast the first live sporting event on the radio, a boxing match between Johnny Ray and Johnny Dundee. Pittsburgh Daily Post sports editor Florent Gibson called the event, about four months before KDKA's Harold Arlin announced the first Major League Baseball game broadcast on radio.

The lightweight bout pitted Dundee, who was inducted into the International Boxing Hall of Fame in 1991, against Ray, who would later train and manage famed boxer Billy Conn. In the early part of the 20th century, radio had been used primarily for two-way communication. The medium's popularity took a nosedive during World War I, when the U.S. military took over all airwaves, but in 1920, KDKA became the first licensed radio station and put its live-event broadcasting to the test six months later.

Ray, who fought "like a master," according to the Pittsburgh Daily Post, won the 10-round fight.

Within three months, the second fight broadcast on radio took place, a title bout between heavyweight champ Jack Dempsey and Georges Carpentier.

Weekly Focus

Be fearful when others are greedy, and greedy when others are fearful.

Warren Buffett, Investor

Power without love is reckless and abusive, and love without power is sentimental and anemic.

Martin Luther King, Jr., Baptist Minister and Activist