Stock Talk - From Doom to Boom: Analyzing Economic Predictions and Uncertainty in the Stock Market

Starting point is 00:00:00 Investors last summer and even into Thanksgiving of last year, many frequent purveyors of doom crashes and economic collapses were messaging that the American economic landscape was a looming disaster. I repeat, a stock market crash like 1987 was coming, an echo of the great financial crisis or even the second coming of the 1929 Depression was right around the corner. They were certain of a looming disaster to begin in the fourth quarter of 2003 or soon. sooner, and one should dump all their stocks. I would say that nearly half of the sell-side strategists and economists on Wall Street were parroting a looming recession in 2003. Possibly closer to 90% of the $99 a year newsletter writers were spewing their stories of doom and fear throughout the year. Investors, when he turned on CBC, Fox News, or Bloomberg, it was a frequent back-and-forth debate between a hard landing for the economy and stocks or a gentler soft landing outcome in the

Starting point is 00:00:59 economic terms. A hard landing is usually referred to by investors when, after a period of Federal Reserve interest rate increases to cool the inflation and cool the economy, the Fed goes too far and cracks something. They break something and cause a recession. The 1970s had numerous hard landings. More recently, the Post.com period in the late 2000 ushered in a hard landing, as did the period in late 2007 through early 2009 into the great financial crisis. Central banks aim for soft landing in the economy by raising interest rates to curb inflation. However, our Federal Reserve has a pretty bad track record of accomplishing soft landings during the last 10 or so hiking cycles. The classic example of a soft landing, that is, the Goldilocks outcome, was the monetary tightening

Starting point is 00:01:47 conducted under Allen Greenspan in the mid-1990s. During 1994, the Fed raised interest rates seven times, doubling the Fed funds rate from three to six percent. Then in 1995, they cut the Fed funds rate three times, when they saw the economy softening more than required to keep inflation from rising. Look at Investopedia's table of the last 60 years of Fed interest rate cycles and the hard versus soft landing outcomes. Why do investors care about these things? Why are we subjected to the back and forth of soft landing versus hard landing debates? Because history has shown that over time frames measured in 12 to 24 months, hard landings can be very negative for your stock returns. Looking back over history of hard landings and recessions,

Starting point is 00:02:32 it's quite normal for stock indexes to decline 30 to 40 percent in a run-of-the-mill recession. Minus 30 to minus 40 percent. That hurts. Stocks have declined even more in very bad economic periods like the great financial crisis of 2000 through mid-2009. Investors, recall that in the first half, 2002, under a relatively strong economy in the U.S., stock indexes such as the S&P 500 declined over minus 27.5% in nominal terms and minus 35% in real terms, as the U.S. stock market experienced an earnings recession for the first two quarters of 2022. Investors worry about these things because stocks anticipate both better outcomes and worse economic growth before the data is reported by lagging.

Starting point is 00:03:21 government sources. Into the noise of impending 1987 crash replays in the late third quarter of last year, our O'Carvis investment team was quite positive on equities into late October 2023 sell-off. Investors, before we proceed, if you're not already a subscriber, please click on the subscribe button, and if you would, send it on to friends and family as we're trying to get over the thousand subscriber marks for this channel. You'll find a link in the description below to our live stream with Troy, Charles, and myself, which took place on Thursday, October 26th, into it turned out to be the lows for 2023 in the last four months. For many of the same reasons, our investment team was confident last summer that we weren't

Starting point is 00:03:59 in an AI bubble yet. We were also confident that the U.S. economy was not, I repeat, not headed for a hard landing in the fourth quarter of the year or the first half at 2024. Our team was confident that the quite normal late fall, early winter sell-off was a buying opportunity for a rally in the S&P 500 to conservatively 5,000 in mid-to-late March of 2024, more optimistically, 5150 to 5200. Now that most negative Wall Street economic bears who have been forecasting a hard landing many times

Starting point is 00:04:32 over the last 12 to 18 months and lower stock prices have finally thrown in the towel and gotten bullish, where do the indicators we follow stand? What does it mean for mid-year and the rest of 2024? Where do these indicators stand versus calling for a hard or soft landing from here? So let's look at a few real-time charts. We don't need to wait around for government data. First, take a look at the U.S. Economic

Starting point is 00:04:56 Surprise Index, which we've talked about a number of times before. This is the index that sums economists forecasts for different data series and then plots whether the reported data exceeds or misses economists' expectations. As you can see, this data series exhibits quite a normal seasonal upturn in the first quarter as those cautious or dour economic forecasts have been bettered more often than not. However, note, the recent recent peak in the data series is both earlier and lower than previous first quarter peaks. That's a bit of a warning sign behind the scenes for second and third quarter economic growth. Is that a dire warning? No. It's just probably not as rosy of an outlook for summer as those

Starting point is 00:05:36 talking about it on TV. The second real-time chart is the market's expectation of inflation over the next 10 years. Inflation is the boogeyman the Federal Reserve has been trying to slay for the past 12 to 15 months by raising rates. As one can see from the chart, the 10-year expectation for inflation has dropped from a peak over three back to around 2.5%. This happens to be the upper bound for its range for the better part of the previous decade. The market believes the Fed will win the inflation flight over the coming few years. However, the third chart here is the market's expectation for inflation over the next year, over the next 12 months. This is the 12-month inflation break-even rate. As you can see, it's dropped from a peak of around 6 and a quarter percent

Starting point is 00:06:17 in late first quarter of 2022 to around 1.5 percent in the second quarter of last. year. Our team had previously forecast inflation readings to rise in the first quarter of 2024 as readings are very seasonal in the U.S. As one can see, it has risen sharply since that low, around one and a half and it's now approaching around 4% again. Ouch! That's bad news if the Fed is watching this shorter-term data. However, the good news is that this should be near its peak once again in both price and time for short-term inflation readings. That would be a positive checkmark. on the ledger for continued soft landing economic and stock action in 2024.

Starting point is 00:06:56 Finally, investors, I'm going to go back to look at our old friend, real interest rates. This is the one that strategists on TV finally started to discuss is important and is a big part of the higher for longer, bearish outlook they had parroted for the second half of 2023. Recall all those academic discussions around R-Star. Remember with all those debates on TV, right, as it turned out to be a positive tailwind for stocks? Remember, investors, this is the component of treasury yields that goes a long way in determining the PE ratio of stocks and the overall risk premium than investors pay. A lower trending real rate is initially a good sign for PEs in the market, particularly

Starting point is 00:07:37 for higher growth stocks. Investors, it's not a coincidence that gross stocks bottomed in late 2023 and have rocketed higher as real rates broke. It's 15-month uptrend and headed lower. Take a look at the two-year real rate here. It's headed down and to the right as well, which is initially good for growth stocks. The one-year rate has a similar pattern to the longer-term ones. However, it's now becoming a concern to me.

Starting point is 00:08:03 See, the one-year real-time rate has fallen from 4% in the late third quarter of 2023 to under 1% currently. To me, that says the market sees a dramatic slowdown in real economic growth coming in mid-2020. To me, that says the long and variable lags that economists talk about, when they talk about the Fed, are finally coming to the U.S. and the Federal Reserve is not too loose with monetary policy, but rather too tight. In fact, this chart of real growth slowdown is another economic chart that, yes, happens to be mirroring the path of the dot-com internet buildout from late 1998 through mid-2000. And we know what happened in that economic period and how that ended as the Fed turned the screws

Starting point is 00:08:47 tighter on the economy right as it was already slowing. The Fed helped cause a very hard landing in 2021. Take a look at the 10-year real rate chart into the economic top in the first half of 2000 and its subsequent path over the next year as the economy slowed and the Fed stayed too tight for too long and caused a hard landing in the late 2000 and in 2001. Investors, we are in a soft landing and have been for over a year now. That's exactly why stocks have wrapped. to make new all-time highs as our team had expected. The $65 trillion question now is, how long will this soft landing last?

Starting point is 00:09:26 And are there early signs that are predictive behind the scenes that we can see as investors that were closer to an economic top and rollover, which would inevitably lead us to a recession, a recession that will cause stocks to drop over 30%? Because, yes, investors, it's safe to say that Janet Yellen will be proven wrong, and that we will eventually have another

Starting point is 00:09:47 recession in the United States and that we will have some sort of financial crisis over the coming decade. Right now, though, our team doesn't have any definitive thoughts on when or how recession comes. So we're sticking with picking stocks for our clients and our single stock accounts. I can say the math I see behind the scenes, the same math that said 5150 to 5200 on cash S&P 500, optimistically into mid-March 2024, well over a year ago, says that should the Fed guide the plane to a gentle landing later this year, the S&P 500 could hit over 6,000 in the first half of 2025. At the same time, that math also says a hard landing in late 2024 or 2025, like the dot-com bubble bursting puts the S&P 500 back at 3,500 or lower.

Starting point is 00:10:39 I know that's not very comforting or a great look, but as Tom Cruise said in this movie, Maverick, it's the only look I got for investors or retirees who are uncomfortable with the wide range of possible outcomes, the Oak Harvest team has launched a new strategy that retains the ability to go long stocks, short stocks, as well as buy partial hedges for a stock portfolio. Information on this new strategy of ours can be found at oakharvestfunds.com. For myself, from Charles, from James, the whole team here at Oak Harvest, have a blessed weekend. All content contained with an Oak Harvest podcast expresses the views of the speaker and is for informational purposes only. It is based on information believed to be reliable when

Starting point is 00:11:17 created, but any cited data, indicators, statistics, or other sources are not guaranteed. The views and opinions expressed herein may change without notice. Strategies and ideas discussed may not be right for you, and nothing in this podcast should be considered as personalized investment, tax or legal advice, or an offer or solicitation to buy or sell securities. Indexes such as the S&P 500 are not available for direct investment, and your investment results may differ when compared to an index. Specific portfolio actions or strategies discussed will not apply to all client portfolios. Investing involves the risk of loss, and past performance

Starting point is 00:11:59 is not indicative of future results.

Stock Talk - From Doom to Boom: Analyzing Economic Predictions and Uncertainty in the Stock Market

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