The Compound and Friends - "Did the stock market top in March?" asked and answered by Nick Colas and Jessica Rabe (DataTrek Research)

Episode Date: April 23, 2024

On this TCAF Tuesday, Josh Brown is joined by Nick Colas and Jessica Rabe, co-founders of DataTrek Research, to discuss the energy market, inflation, and how to prepare for the next recession. This episode is brought to you by Rocket Money. Cancel your unwanted subscriptions by going to: https://www.rocketmoney.com/compound Buy your ticket for TCAF live in LA! Instagram: https://instagram.com/thecompoundnews Twitter: https://twitter.com/thecompoundnews Investing involves the risk of loss. This podcast is for informational purposes only and should not be or regarded as personalized investment advice or relied upon for investment decisions. Michael Batnick and Josh Brown are employees of Ritholtz Wealth Management and may maintain positions in the securities discussed in this video. All opinions expressed by them are solely their own opinion and do not reflect the opinion of Ritholtz Wealth Management. The Compound Media, Incorporated, an affiliate of Ritholtz Wealth Management, receives payment from various entities for advertisements in affiliated podcasts, blogs and emails. Inclusion of such advertisements does not constitute or imply endorsement, sponsorship or recommendation thereof, or any affiliation therewith, by the Content Creator or by Ritholtz Wealth Management or any of its employees. For additional advertisement disclaimers see here https://ritholtzwealth.com/advertising-disclaimers. Investments in securities involve the risk of loss. Any mention of a particular security and related performance data is not a recommendation to buy or sell that security. The information provided on this website (including any information that may be accessed through this website) is not directed at any investor or category of investors and is provided solely as general information. Obviously nothing on this channel should be considered as personalized financial advice or a solicitation to buy or sell any securities. See our disclosures here: https://ritholtzwealth.com/podcast-youtube-disclosures/ Learn more about your ad choices. Visit megaphone.fm/adchoices

Ladies and gentlemen, welcome to The Compound and friends. I want to remind everyone in the LA area, anywhere in Southern California, we will be doing our live episode taping on Tuesday, April 30th after work. It's a big networking event, investors from the area, financial advisors, traders, anyone who loves The Compound, anyone who loves investing in trading, that's who should be at the live taping. We announced two special guests. We have Matt Bellany of Puck and The Ringer, his podcast, The Town, is absolutely on fire.

We're going to talk about the biggest publicly traded media companies, Apple, Amazon, Netflix, Warner Brothers, Paramount, everything that's happening right now in entertainment business. And we just announced that Doug Allen, creator of HBO's Entourage, one of the most beloved shows, certainly of my lifetime, is coming on stage. And we're gonna talk about the creator economy and being an independent creator and

building a show and building a fan base and some of Doug's favorite memories from that time and Some of the new stuff that he's working on so I'm so excited for that event And if you're in the area we would love to see you there Those of you who are not in the area don't worry It's all gonna hit the the podcast feed. On today's show, we are talking to Nick and Jessica of Datatrek, and we're talking about some really timely stuff. So oil price spikes, how much of your portfolio should be in energy stocks as a hedge against that? Is gold an inflation hedge or is gold really a trade or an investment in geopolitical tension? Nick's got an interesting answer to that question. We take a look at

a whole lot of things about whether or not the S&P may have topped for the year, CPI, etc., etc. Nick and Jessica are amazing, as always. Can't wait for you to hear that segment. Outside of that, we will not be having a Compound and Friends on Friday of this week. As usual, I am on vacation. I'll be in the Caribbean. It's my first vacation of the year. So cut me some slack, guys. Even I need to take a break. Alright, thanks so much for listening. I'm going to send you the show right now. Welcome to The Compound and Friends. All opinions expressed by Josh Brown, Michael Batnick,

and their castmates are solely their own opinions and do not reflect the opinion of Ritholtz Wealth Management. This podcast is for informational purposes only and should not be relied upon for any investment decisions. Clients of Ritholtz Wealth Management Today's show is brought to you by Rocket Money. Rocket Money is a personal finance app that finds and cancels your unwanted subscriptions, monitors your spending, and helps lower your bills so that you can grow your savings.

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Cancel your unwanted subscriptions by going to rocketmoney.com slash compound. That's rocketmoney.com slash compound. Hello, everyone. It's me, Josh Brown. We're checking in with Nick Colas and Jessica Rabe as we do each month. Nick and Jessica are the co-founders of Datatreq research and the authors of Datatreq's morning briefing newsletter, which goes out to 1000 institutional and retail clients. Nick and Jessica also have their own YouTube channel, which you can find

a link to in the description below. Hey guys. Hello. Hello, how are you? How's everything? Very good. They also have their own YouTube channel, which you can find a link to in the description below. Hey guys. Hello. How are you? How's everything? Very good. Yes?

All right. Is it spring? I can't tell by the weather. It is so not spring in New York. It's not the spring like this. We're going to talk about energy first. And this was not planned necessarily, but we are recording this on Friday. Obviously last night, there were some events in the Middle East.

I really feel like right now, the question of what's the right weighting to energy stocks in a diversified portfolio is a hot button topic for investors. Even though the strikes that we're referring to were well telegraphed, this is just the kind of reminder that investors should be thinking about how much exposure they have to US oil producers or global energy stocks. What do you guys think broadly on that topic? Yes, you're right. It is a big hot button topic. We've been talking a lot about it a lot with clients. And the most important thing to understand is that there's not a lot of

energy waiting in most of the broad indices around the world. So for the S&P, it's like 4%. For the Russell, it's a little higher. It's like 8%. But outside the US, EFA, EM, it's 4% to 5.5%. There's not a lot of energy in these broad diversified indices because over time, tech has taken over so much of these indices that energy has been squashed down towards the bottom. Apple and Microsoft both have more weighting in the S&P than the entire energy sector. So there's not a lot of hedge in these indices anymore. And that's why it's important for investors to at the very, very least be equal weight,

consciously equal weight energy in a portfolio. And in the current environment, we're telling people be two to three points overweight. You're still not even at 10%. So you're not super exposed to these names, but you do want this protection in case of an oil shock. There hasn't been one since 1990, but we could get one this year and you don't want to be underexposed energy in that environment.

You've talked about before, your only real hedge in a portfolio against an oil price shock is energy stocks. There's really no other great way to do it. I suppose if someone is skilled, they could, for example, repeatedly roll a commodity futures contract but that's not 99% of individual investors or even most institutions are not

going to be doing that. So your next best thing is own energy stocks for that potential occurrence. For other reasons too but yeah. Yeah, no, that's exactly, that is the entire picture. I mean, the last big energy shock was 1990, August 2nd, 1990, Iraq invades Kuwait, kind of out of the blue, and oil prices spike, and the S&P and stocks know we're gonna have a recession

because of that. Whenever oil prices spike double in a year, you get a recession. And if you look at how the energy stocks traded in the first week, the first month after that shock in August 1990, it was the only group that went up in the first five days after that shock. The S&P went down, these names went up, and they outperformed for roughly 35 trading days afterward as the markets were trying to figure out what's the next step, what's going to happen. Oil prices have doubled, we're going to have a recession, this is the only

group that's going to make more money. So the stocks work really well over the near term, what's going to happen? Oil prices have doubled, we're going to have a recession. This is the only group that's going to make more money. So the stocks work really well over the near term. It's an important component to kind of staying in the game. And it's even more so important now because we're only at a 5% waiting on the S&P. Back in 1990, we were like 10, 15% waiting. So there's even a little bit more of a hedge for an index investor. There's much less of that now. So I wanted to not push back, but maybe ask a follow up. It's pretty clear that as a percentage, the average household spend on energy is lower than what it used to be. Does that mean that we are less susceptible to a recession if there is an energy price spike then we had been in for example

The 70s or the 80s or or even the 90s? Yeah, it's interesting if you look at these CPI weightings on energy gasoline in particular. It's not that different now from the 1970s 1980s It's roughly three and a half percent now It was six percent back then obviously energy prices that kind of inflated ahead of a lot of things But it's still an important enough marginal contributor to a kind of inflated ahead of a lot of things, but it's still an important enough marginal contributor to a household budget that if all of a sudden you're going to the gas pump, it's five bucks a gallon

instead of 350, 450, you're gonna end up spending less on other things. And so it is the most important marginal driver of consumption in most US households. It's a super important part of how people budget week to week. Okay, I wanted to throw this chart up, John, if you would. The good news is that the United States is now out producing every other country on earth according to the EIA. This is as

of 2023. And I'll just read this crude oil production in the United States, including condensate averaged 12.9 million barrels per day in 2023, breaking the previous US and global record of 12.3 million barrels a day set in 2019. Actually December for the month was 13.3 million, which is a monthly record high. We are out producing Saudi Arabia. We're out producing Russia. What is the read through to, chart off please, what is the read through for investors given that that's the new reality and maybe something that most people aren't even aware of?

Yes, it is definitely a positive. Look, there's two components to an energy shock and oil shock. The first is just price. For example, 73 prices go from a buck a barrel to four bucks a barrel, massive price shock. And that creates a recession. But what's more important is access to energy, access to oil. The problem with 79 and the Iranian Revolution was we actually had a physical shortage on top of high prices. I can recall here in New York State having to go odds and evens on license plates to fill up your gas tank at the gas station.

So if you had an odd number plate, you can only fill up on odd number days. That was a whole nother level of a problem. So you're right, the availability is not really the issue, but price can still create the recession. Okay, I want to move on to the general stock market. Jessica, you asked the question, was the end of March the top for stocks this year? And you have some really good historical data that looks at the likelihood of us having seen the top for the year. Yes, thank you.

We've heard this a lot from clients. And the upshot is that if March was the top for the S&P this year, that would be extremely unusual. Stocks don't just randomly peak across a given year. So, for example, during positive years for the S&P, it usually peaks in Q4 because stocks have been rallying throughout the year. So the S&P has actually peaked in Q4 70% of the time back to 1980, and it was up 21% on average on a total return basis. Now during bad years, the S&P usually peaks in January. So the S&P has peaked in January 11% of the time since 1980, down an average of 19% during

this year. But it's really- I want to pause right there. So just to recap what you're saying, 82% of the time, the stock market peaks for the year either in January or in Q4. That's right. That's pretty extraordinary. Yeah, it is extraordinary.

It's super rare for the S&P to peak for the year during any given month between February and September. It's done so at most twice in September and just once or no times in the other months. And when it does peak for the year from February through September, the S&P is only up or down small for the year. Okay. But you also mentioned that something really bad is usually the cause of a peak happening

March through September. So can you talk a little bit more about that? Yeah, absolutely. That's very true. So if March were the peak for the S&P this year, it would require a powerful negative catalyst to develop from here. So for example, there's only been three years where the S&P has fallen for the year and did not peak in January like it usually does.

These are July 1990, right before, as Nick just mentioned earlier, Iraq invaded Kuwait, spiked oil prices, and it led to the Gulf War. Number two is March 2000, bursting of the dot com bubble. Then lastly, September 2018, when Chair Powell made a Fed policy mistake and overestimated the neutral rate of interest. History says stocks may have peaked only if we get an economic surprise like Fed rate hikes or a Fed policy mistake, or we get a geopolitical shock that spikes oil prices and causes recession. So I wanted to mention that in the three occurrences that you list as times when the S&P topped outside of the normal window, in all three of those occurrences, the Fed had just recently

tightened interest rates by a lot. And that's where the similarities are with today. So I brought a chart. This is via the World Economic Forum and Visual Capitalist. And what I would add to the conversation is the 2022 hiking cycle was extremely fast, as we know. It was twice as fast as the 1988 to 1989 cycle, which preceded your 1990 example. And I know we're saying the proximate cause of the market topping was Iraq invading Kuwait, but I just point out, this is also a factor that was common between now and then, also in 2000, also in September 2018. Do we need to seriously consider the fact that because this tightening is also part of the mix, it's a higher likelihood that March could have been the top of the year?

Perhaps, but I think it's much more likely that, history shows it's much more likely that stocks will peak in Q4 as opposed to March. It's happened 70% of the time in Q4 as opposed to just 2% of the time in March. Even though the S&P was up 10% through the March peak, History says there's still plenty of room for the S&P to run because when it does peak in Q4, it's up an average of 21%. It's usually up double digits. Going back to your point, I think stocks have absorbed the tightening cycle we just went through pretty well. I think it really comes down now to having, like I said earlier, an economic surprise, probably Fed-related or geopolitical shock. Okay.

When you tell people that, I was very surprised seeing your data. When you tell people the statistical likelihood of there having been a top in March being that low, are they surprised? I think it just goes to show that momentum is so powerful. It's a really powerful factor. Yeah, I agree. Nick, I want to talk about CPI and gasoline. And I know you have something for us on the gold rally as well, which ties into the inflation story.

At least I think it does. What would you say? What would you say about the rally in gold? You say it's not an inflation story, although a lot of people think that it is. So tell us what you're looking at. Yes. The gold story has been conflated with the inflation story for the past six months or so,

because gold's had this big rip and inflation's been higher. The reality is gold is a much bigger macro story and the story is this. When Russia invaded Ukraine it became clear that the US government wants to at least partially weaponize the dollar and that's concerned a lot of different countries particularly China but other countries around the world. Sanctions. Yes exactly. When you get sanctions involved, you begin to think, okay, my assets are not dollar good if I'm a foreign country that may have a problem with U.S. policy at some point.

And what do you do? There's very few assets that are priced in dollars and that can be physically stored, and the biggest one is gold. Gold's priced in dollars everywhere in the world. You want to buy gold in India? You're buying buying dollars first whether even if you know it or not So gold is a dollar hedge its dollar exposure But once you have it in your country in your vaults you do not have any worry about it being Confiscated or in otherwise encumbered so gold's become this secondary global non-us central bank reserve

Item it always has been but it's become a lot more. So pre-2020, central banks were roughly 10% of global gold demand. There's roughly 5,000 tons of gold mined every year. Central banks bought 10% of it. Oh, wow. How many numbers like 20%? What, last, normally they buy 10% of it? Before 2020, they bought 10%.

They bought roughly, call it 500 tons of gold a year. Now that number is running over a thousand tons of gold a year on a supply base of 5,000. So you're basically double the amount of demand from global central banks. And even now, only about 5% of China's foreign reserves are in gold. The rest are in treasuries. They don't want to own any more treasuries. They're comfortable owning gold because once it's in their country, it can't be subject to sanctions and it's a liquid asset. So they have to defend the currency in a crisis, they can sell gold very easily.

You can also sell it to anyone for any currency, which is what makes it a get out of jail free card if the US is freezing US dollar reserves in banks that are held by a country. This is why when you say it's liquid, it's not really as liquid as moving money through the banking system, which you could do instantly, but it's liquid in the sense that when you need to tap that wealth, you can because other people will buy gold from you. Exactly. And because you physically hold it, you know, you don't have to worry about it being somewhere in a ledger and electronic ledger. You physically have the assets. Okay. So you so you don't see this rally then as really having much to do with CPI or PC or inflation expectations, you really see this more as the rest of the world getting a wake up call that they need to have their wealth stored in something other than dollars.

Yes. And it's not that liquid a market relative to treasuries or relative to other currencies. So it's a little bit chunky. Central banks have pulled back on buying over the past couple of months because the prices have spiked so much, but they have to come back. They have to keep buying. And I think the rally that we've seen is basically front running central bank purchases over the rest of this year and into the next couple of years because geopolitical tensions are

not going down. They're probably going to go up and central banks understand they need a second item on their reserve sheet and that is going to end up being gold. People conflate gold and inflation because of the 1970s, right? Yeah. The trouble with that comp is that we came off the dollar, the gold standard in 71 with Nixon's decision. And so gold had not been available for purchase in the U S before then.

It became available for purchase in 76 under Ford, but then had this huge run going into the inflationary top in 1980. And there's a little bit of correlation there as well as causation. So I'm always hesitant to say gold and inflation hedge because our data set is not very long on this, but it is a central currency, a central bank play right now. Okay. I want to also get into the CPI stuff. I think we were talking about oil before. Let's talk a little bit about gasoline. You have a chart here talking about the correlation between CPI and the gasoline component of CPI, which

is not a large component. And I think this is important because when regular people are talking about inflation, one of the things they most they are most likely to cite from their own life is what they just paid at the pump. Yes, exactly. All the academic work on this topic says inflation expectations in the population are primarily set by food and gasoline things that are purchased very frequently and The interesting dynamic is that even though as you said gas is only call it 5% of CPI

It's got a correlation of point seven one to point seven three. I think it's in that chart Can you explain to can you explain what we're looking at here? Sure. The chart shows gasoline CPI and then the CPI, the headline CPI number. And the two lines obviously track very closely. When inflation goes up, it's usually correlated to gasoline prices going up. When gas prices come down, overall inflation comes down, even though 95% of the CPI is not gasoline. And if you broke it down into two segments, the earliest segment, 70 to 2000, the correlation is 0.74. And then the correlation since 2001 is 0.73, so it hasn't changed. That correlation is still extremely tight.

This chart is why essentially the US government is so focused on gasoline prices right now because it is the driver. If one goes up the other one goes up. If gas prices go up overall inflation is not coming down and inflation is still the hot button issue going to the election, still the hot button issue for the Fed and so we can't see gas prices go up. That is the political reality of the situation. That so we can't see gas prices go up. That is the political reality of the situation. That's why Lale Brainer was actually just out saying yesterday, if gas prices spike, we'll do more out of the SPR. It's a super important issue because

that correlation is extremely tight. If you want to predict in CPI, look at gas prices because the R square is over 50%. Yeah. So one of one of the economists I was reading this week was saying, just because WTI crude or gasoline are not a big part of the headline inflation statistics, or we screen them out and we look at core, don't worry about that. What you need to worry about is expectations, because inflation expectations have the power

to drive actual inflation. And this is the kind of thing that drives inflation expectations. So it almost seems like I don't know if either way thing to say is it's a leading indicator because it's actually not just indicating it's causing I think in some cases, what would you say to that? I think it's entirely fair. I mean, there's two elements here. There's the psychology of inflation,

which is what you just outlined, entirely true. It is gas price and food price based. And then there's the underlying reality of if gasoline costs more, most every business uses gasoline in some form, particularly to deliver physical goods. If gas prices are going up, diesel prices are going up, overall prices will go up as well.

It's gonna show up everywhere, right It's going to show up everywhere. It's going to show up everywhere. Yep. Okay. Jen Z. So, Jessica, I think you do a really good job speaking to some of our and some of your younger fans and listeners and followers. So you asked the question, should millennials and Gen Z be worried about Mideast geopolitical tensions? The sarcastic Long Islander in me wants to say, you could

worry all you want. They've been here before you were born and they'll be here long after you're gone. But how would you answer that question? And I'm sure you got asked it from people in that cohort. Yeah, that's so true, Josh. What we do think is that it's super important to keep updated on Middle East tensions because geopolitics can have painful economic consequences for Americans. So I'm a millennial. My cohort has never really lived through a recession caused by an oil price shock.

The last one was in 1990 when the oldest millennial was nine years old. Right. So of course, we hope that tensions in the Middle East resolve quickly and that is our base case at Data Trek. But we still think it's prudent to prepare for an adverse outcome just because that will almost certainly spike oil prices and could even cause a recession. Okay. When young people worry about recessions, it's for different reasons than when older

people worry about recessions. I think with older people, of course, they worry about job security. But on top of it, they're also really worried about their portfolios and what will this mean for my stocks and what will this mean for my stocks and what will this mean for my retirement. Younger people don't have that concern and I would argue they are actually well served by recessions when we're thinking about their investing situation. It's not great when it comes to their job situation, but from an investing standpoint,

this is probably how they're going to build their wealth, accumulating assets while prices are lower. So could you speak to that dichotomy and how difficult it is for people to wrap their heads around? Sure. Yeah, I think I have two thoughts on this topic that I think is important for millennials and Gen Z to be aware of. Number one, it's just that if we do get a recession caused by an oil price shock, it will not be like they experienced in 2020.

They're not gonna see stimulus checks. They're not gonna see a strong labor market where they can negotiate higher pay and switch jobs. Higher prices will crimp Americans' budgets, dampen consumer spending, and companies will look to cut costs by laying off workers. So higher unemployment means higher chances of you losing your job and having a difficult time finding another one quickly. So my second point that I would say to that is for millennials in Gen Z, now is the time to make sure you have three to six months worth of living expenses in the bank account.

So if you don't have that right now, get it as quickly as possible. And if your entire safety net is in your trading account, whether that be crypto or stocks, again, make sure you have that three to six months worth of living expenses in cash rather than invested. I think that's a great message. And then one of the things I wanted to add to that, and Nick, I'd love to get your take, having seen a lot of recessions, mental preparation is probably after you've put away several months of salary as an emergency, after that, mental preparation is probably

the best thing that you can do. If you don't have a huge portfolio yet and you don't have very high cost of living yet and knock on wood, you don't have dependents or liabilities that are written in stone, it's better to go through these things young than middle-aged because not only do recessions end, as you mentioned, Jessica, they provide amazing opportunities to reinvent ourselves, to try new things, to take risks that we otherwise wouldn't, to learn how to adapt and to discover hidden abilities that we didn't even know we had.

My own career, I'm a pretty good example of that. I made a career change in 2010 Basically, it was forced on me And I think a lot of people have stories like that So I'd love to hear what you guys just think about that silver lining when we talk about the potential for recession Yeah, I think it's a great point. I don't mean to sound too dire Like you just said if we do get a recession, know that they always end. If you lose your job, you will get another one.

When it comes to your investment portfolio, if anything, the pandemic taught us that bear markets do offer attractive entry points for stocks. If your portfolio does get hit, you do have a long time horizon and things like index funds you're invested in and things like the S&P and NASDAQ do recover. I would just say for this time around, it could be a bit more volatile should we get a bear market just because from a geopolitical shock, just because a solution will probably take longer than the recovery we saw in the pandemic crisis because we had such a fast fiscal and monetary policy response. I think that's a really good point. They don't all look the same. Nick, what do you think?

Yeah. So I started my Wall Street analytical career in 1991, literally 18 months after the oil shock we were discussing. And it was a very tough time to convince investors to buy anything. I covered the auto industry. The first deal I did was selling Chrysler stock at $5 a share in November of 1991. And people just did not want to hear about it. We had to cart Liayya Coca to New York and put him up at the Waldorf and rent out the entire ballroom and then show every single car the company was going to

launch over the next five years, just to give investors enough comfort to take a shot on Chrysler because it was absolutely bankrupt at the time. Yeah. And we ended up that ended up being a fantastic deal. Stock went to 10, then to 20, and then Mercedes bought it in the late nineties for forty eight dollars a share so was a ten bag over the course of a decade which tells you the kind of opportunities you get as an investor in a downturn. I'm but it's not easy at the time it was a cruciatingly hard to convince investors. Vince investors to buy a bankrupt car company that only sold in the US and had a CEO that was charismatic, but had basically endangered the entire firm over the course of the 80s by not saving any cash.

So there are huge opportunities at the lows, but you have to prepare to actually take the risk, do the work, find the names and then buy and hold. Yeah. And even from the standpoint of starting businesses, famously Uber started in 2008 at the depths of the pandemic or 2009. You had this huge available pool of unemployed people who were happy to pick up a gig doing some driving here and there, and that turned into a hundred billion dollar plus business. Airbnb also started during that same recession and I know you guys have done

some research on this and we can definitely do this in a subsequent show. I want to say thank you guys so much for joining us and I want to make sure the viewers know how they can find out more about your thoughts on an ongoing basis. Guys, there is a link to Nick and Jessica's video channel for Datatrek on YouTube, which is in the description below and in the show notes. And of course you can subscribe to Datatrek research at datatrekresearch.com. Am I missing anything? That is it.

Got it all? All right. You guys are the best. I look forward to these monthly check-ins with you. I know the audience does as well. Thank you so much and we'll talk soon. Thank you. Thank you so much and we'll talk soon. Thank you. Whether you're just getting started as an investor or you're managing a multimillion

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