09 Jan Happy New Year 2023
Happy New Year! I don’t think anyone invested in the markets are upset to say goodbye to 2022, which when viewed from both stocks and bonds was one of the worst we’ve seen in the last century. The month of December was no different with stocks closing the month deep in the red across the board. Mega-caps (-8%) were hit the hardest as the giants of the tech sector suffered huge losses, with mid-caps (-6.4%), nano-caps (-5.8%), and small-caps (-5.7%) faring only slightly better. Large-caps (-4.6%) and micro-caps (-4.1%) showed the most promise, but even the best-performing groups were far from breaking even.
January usually brings heavy trading across financial markets, and given the tense geopolitical situation, the energy market imbalances, and December’s risk selloff, we are likely in for a very busy month on Wall Street. All eyes will be on the 4% level in the benchmark 10-year yield, and large-cap earnings announcements in the coming week. We are not optimistic that Q4 2022 earnings will be all that good as November U.S. Retail Sales data saw a 1.3 decline. As we have mentioned in previous quarterly Cypress Reports, stocks are entering what were the third phase of this bear market. In the third phase corporate profits decline and go negative, followed by credit event cycle (corporations struggle to pay their debts), and their share prices go lower.
U.S. December ISM Manufacturing decelerated to 48.4 (contractionary), from 49.0 in November
New orders had a major decline to 45.2, from 47.2, which is not a great gauge of future demand
On the positive for inflation, prices paid declined for the 3rd straight month . . .
November U.S. JOLTS Job Openings declined slightly to 10.45MM, from 10.51MM . . . but continue to suggest a healthy labor market
While JOLTS has come down from the peak of ~12MM in May of 2022, it is still well above the pre-pandemic peak of just under 8MM job openings
The current number of rate hikes priced into Fed Funds Futures until May 2023 are +2.46 hikes
Challenger Job Cuts for December were 43.7K, which was an improvement over November at 76.8K -> they remain in an upward trend from the start of the year
ADP Employment accelerated in December to +235K, versus +127K in the prior month and well ahead of expectations
Initial Jobless Claims for the last week in December slowed to +204K, versus +223k in the prior week
Finally, Continuing Claims for the week ending December 24th declined marginally to 1.69MM, from 1.718MM
Friday morning December Non-Farm Payrolls came in at +223K, which was better than expectations but slowed from November at +256K
This is also the lowest number of job additions in more than twelve months . . .
Interestingly, the Household Survey, which had been negative for the past two months (i.e. job losses), printed a massive +717K
Although subject to denominator effects, the unemployment rate printed a fresh 50-year low at 3.5%
Average Hourly Earnings slowed to +4.6% Y/Y, which is the lowest level since August 2021
As it relates to early indicators, Temporary Employment fell for the 5th straight month and dropped -35K in December
Temporary Employment is more cyclical and typically responds first to slowing growth
Net-net, the labor market is slowing, but continues to support the idea of “higher for longer” monetary policy
December U.S. ISM Services dropped sharply to a contractionary 49.6, which was well below November’s report of 56.5 (chart below for historical context)
Notably, New Orders (a gauge for future demand) fell close to -20% to 45.2
The Employment component also dropped into contraction . . . another leading indicator for NFP?
Commentary from respondents was what you would expect: “slowing business conditions, continuing inflationary pressures, and headwinds from higher rates”
There wasn’t a lot of company-specific data released this week, so we’ll move into our 2023 prediction for the markets. As previously mentioned, we are entering the phase of the bear market where corporate profits decline and, in many cases, go negative. This phase is more of a “traditional” bear market where companies that produce little to no free cash flow will underperform while defensive, value-driven companies will shine. We are referring to companies in the sectors of Consumer Staples, Utilities, and Healthcare. Precious metals and U.S. Treasury Bonds will outperform as well. We anticipate positioning our accounts “defensively” through the first two quarters of the year, and at that point the economic data comparables get a lot easier, and we are expecting a strong rally in stocks to close out 2023. If we are correct in our prediction we will be transitioning out of defensive sectors and into more growth-oriented sectors like technology, consumer discretionary, and energy around the beginning of the third quarter to capture the anticipated rally.