The Dividend Cafe - Monday - January 13, 2025

Episode Date: January 13, 2025

Today's Post - https://bahnsen.co/4ai49bd Monday Market Insights with David Bahnsen In this episode of Monday Dividend Cafe, David Bahnsen, Managing Partner at The Bahnsen Group, discusses the volatile market conditions one week before the inauguration of Trump's second term. Key topics include the recent market sell-off, sector performance, bond yields, and economic indicators. Bahnsen also delves into the potential impact of public policy changes, including tax alterations and the proposed Department of Government Efficiency. Additionally, he addresses the challenges of bipartisan legislation, updates on job creation, and the implications of rising mortgage rates. Finally, Bahnsen concludes with insights into midstream energy performance and the importance of capital expenditures in driving economic growth. 00:00 Welcome to Monday Dividend Cafe 00:18 Market Volatility and Post-Election Rally 01:19 Today's Market Action 03:05 Bond Yields and Inflation Expectations 04:49 Earnings Season and Market Valuation 06:27 International Diversification and U.S. Markets 08:48 Public Policy Updates 13:01 Economic Data and Indicators 15:07 Oil Prices and Midstream Energy 16:13 Capital Expenditures and Economic Growth 17:50 Conclusion and Final Thoughts Links mentioned in this episode: DividendCafe.com TheBahnsenGroup.com

Welcome to the Dividend Cafe, weekly market commentary focused on dividends in your portfolio and dividends in your understanding of economic life. Well, hello and welcome to the Monday Dividend Cafe. I am David Bonson, managing partner here at the Bonson Group with a lot of fun public policy things to talk about as we get very close to the inauguration, the official date of Trump 2.0, one week from today. And in the meantime, we're dealing with a very volatile market. It has, as of Friday with the big sell-off we had, given up all of its post-election rally. And we're now dealing with a much more normalized market, up and down days, the kind of thing you would expect when you get to a market

that has maybe gotten this far ahead of itself. So I'm gonna talk about all that and more today. First, the basic housekeeping, the Friday Dividend Cafe was the annual year behind, year ahead paper, 20 charts for your visual pleasure and all the commentary I could muster. I want to encourage you to go to DividendCafe.com to get that PDF of our annual paper and all of our themes and thoughts as we go into this new year, which we are now into the 13th day

of and already enjoying a very exciting market. Let me get the market stuff done first, and then we'll go into these other categories as we go around the horn. First, just in terms of today's market action, when I was up this morning, which again, you're talking about five or six hours before the opening bell, the Dow futures were down close to 200 points. And by about a half hour before the open, they were already starting to come back a bit. They were still down, but the NASDAQ was still down about 300 points in the pre-market. And then again, this is following what was a big down day on Friday, where the Dow had been down 700 and the Nasdaq down over 300. It was quite a sell-off. Well, what happened today was that the Dow ended up opening down a little bit and then went into

positive territory very shortly thereafter. But then throughout the day, all day long, just kind of rallied higher, slowly and steadily, but getting to a place of being up over 350 points by the close. Now, the NASDAQ was still down 0.38%, but it had been down nearly 2%. So it hadn't quite a comeback, even though it still ended negative. And then the S&P was barely above flat. So it was one of those kinds of days where the energy sector did real well. I don't want to say it was defensives that did well because actually utilities were the worst performer on the day, but materials, healthcare, real estate was all positive. Some of the cyclicals did okay. Industrials and financials were up. So yeah, there were a lot of things that were up pretty nicely, but technology communications were down and then utilities were down the worst. So

it was a weird day, actually, to be very honest with you. You don't see a ton of days with that sector composition. Look, the sell-off Friday is related to a spike in bond yields. The sell-off Friday is related to a spike in bond yields. You had strong economic data and the 10-year yield went higher. It closed today at 4.78, but that was flat on the day, which means it closed Friday at 4.78. And so we're talking about 100 basis points higher than it was when the Fed started cutting rates. And we're talking about 30 or 40 basis points higher than it had been just a matter of weeks ago. So it's a big sell-off in bonds, pushing yields higher.

But here is the data point that you have to know. The tip spreads are up 21 basis points. So implied inflation expectations are up 0.21, but the bond yield is up 1%, 100 basis points. That means largely this move higher as the yield curve is steepened is the market pricing in higher expectations for real GDP growth, that is net of inflation. Why would that be bad for markets? It is only bad in the sense of valuations that a high multiple gets threatened when it's competing against a higher bond yield. As a fundamental indicator goes, if you had a normally valued market, it's a very good thing. So all of that to say, we are dealing with some of the byproduct of stretched valuations and then it will create certain times of repricing. Now, what I don't know is if it will be a systemic repricing

or if it will just be little spurts of it like we saw Friday, sell-offs here and there. But this is a valuation story, not an economic one. Earnings season kicks off this week. So then we'll see if we get an earnings story, either for good or for bad. I would imagine that there's a better chance of there being a good earnings impact to market than a bad one, but you never know for sure. Expectations are for full year 2024, meaning once the fourth quarter that's about to report comes in that we would see 4.1% year-over-year revenue growth and 9.5% year-over-year earnings growth when the entirety of 2024 is calculated. And then again, the expectations are for 13% to 15% earnings growth in 2025. Again, that's assuming if we hit the higher end of that, $273 of S&P 500 earnings. And at the current S&P value, if we hit that level, the forward multiple would be 21.3 times. And that's

after the S&P has sold off a couple percent this year. So we're still dealing with a very expensive market, most of that frothiness and high valuation in the tech communication side of things. Only 17% of S&P companies right now are above their 50-day moving average. So the breadth of the recent sell-off has been quite substantial. You also look at a very high move in the put-call

ratio, which basically is a way of saying more people buying protection in the option market. And you start getting a couple contrarian indicators that I like a little bit. More and more talk, by the way, about diversifying in international markets. The U.S. has had such a big run. All of it, I understand. All of it, I get. But it does still feel to me like such a 1990s conversation about the beauty of diversifying U.S. equity portfolios with international portfolios for the sake of doing so,

divorced from macroeconomics, divorced from bottom-up fundamentals, and also divorced from the reality that 41% of S&P 500 company revenue comes from countries outside the United States. So yes, American markets have outperformed China, Japan, Europe, emerging, but that's because a lot of the international business is embedded in American companies. I just want to continually remind you of that. So as far as the news goes, I'll leave markets there.

We're aware of the really most significant story in the country being the just absolutely horrific fires in Los Angeles County. The IRS today did announce that all Los Angeles County residents will have their tax deadline pushed off to October 15th, including payment requirements. But again, at a more important level, just from a human basis, the fires still have to be put out and the recovery will be among the most expensive of any natural disaster in American history. And so we're watching all that closely. And for those who are so inclined, deep in prayer for those who have been affected and had their lives offended. Just by the way, because of the really wonderful care and concern for so many of you that know

the Bonson Group's main office in New Newport Beach. We in down in Orange County have been reason, I've been in New York through this whole thing, but obviously Jolene and I own a home in Newport Beach and our main company headquarters in Newport. It's a good hour south. So everyone in Southern California knows the geography of it. But for those around the country wondering, we have clients that we're praying for and concerned and watching and others that we have relationships with that have been affected, but everyone at Bonson Group has been safe and sound. And I appreciate the substantial amount of you who have reached out with concern. It does mean a great deal to me. Okay, so on the public policy front, 16 Republican members of the House, all from New Jersey, New York, California, went to Mar-a-Lago this weekend to meet with President Trump to make the pitch on raising

the salt deduction cap. They would like to see it substantially increased. I believe indexing the cap to inflation is on the table. President Trump said he's all on board, but they need to find a number that can make sense, that can get passed, that can then be part of a reconciliation bill that will work with the rest of it. They need the votes of these Republicans in these blue states to get it done, but then they can't lose any votes from Republicans in other red states. So this is a little tricky politically, and my best guess, reading the political tea leaves, I talked about it on Varney's show on Fox Business this morning. My best guess is that they're going to raise it to 20,000 from 10,000 and perhaps index it to inflation from there. But President Trump basically did what he does, which is say,

yeah, look, I'm not against this. I'll go along, but you guys got to go figure it out. You have to come up with a number and build the path and the consensus to get this done. Another thing I want to bring up just for those that like getting more granular here is the AMT relief that was a part of the 2017 tax bill, which helped offset the impact of losing the SALT deduction for a lot of people, that is set to sunset. So in addition to dealing with SALT, they need to deal with AMT as well. Now, if they just do a holistic extension of all sunsetting provisions of the 2017 tax bill, then that would just be dealt with. But some of those things may end up having to get dealt with piecemeal and AMT is one. If they end up raising the SALT limit but losing the AMT relief,

you'll have a lot of these taxpayers that end up having one part of their tax bill go down and another part go higher and net-net an increase. So there's a lot to watch there. I think this part is fascinating that at the president's inauguration in 2017, after the 2016 election, he had filled 25 appointments so far out of thousands that needed to be filled. Going into next week's election, they have filled 2,000 appointments. So that's how further ahead of the game they are versus Trump 1.0. 25 appointments then, 2,000 appointments filled now, and obviously still many more to go. But a very significant approach to personnel this time around. I do have a whole paragraph at Dividend Cafe today about the Department of Government Efficiency,

so-called DOGE. I'm supposed to be putting it with a small D in department because it's not a real or official department. It has not been instituted by Congress. It'll be an extension of the executive branch. It's a volunteer. It's advisory. They cannot set budgets, but they can expose budget things and make recommendations. And that's what I expect they will do. The folks working in it will be what's called special government employees. They're not allowed to work over half the year, and they don't require approval by Congress, and they will not be paid.

Right now, they're working on a SpaceX offices in Washington, D.C. My understanding is they'll be moving into the Office of Management and Budget after the inauguration. So there's a lot out of this structure that I'm going to be watching. I'm optimistic some good things can happen. I'm realistic about some of the limitations. There are three states, by the way, right now, which is the lowest in Senate history that have one Republican and one Democrat senator. It's Maine, Wisconsin, and Pennsylvania, in case you're wondering. The reason I bring that up, 47 states being aligned with two senators of the same party, is it speaks to the complexity of getting things done on a partisan basis, because getting things

done on a bipartisan basis is getting things done on a bipartisan basis is so much harder than it's ever been. I think everyone knows that, but I'm trying to provide some data to back it up. Okay, economic data. The jobs report was big on Friday. 256,000 jobs were created, almost 100,000 more than expected.

Pretty broad. It was mostly all private sector, but again, across education, healthcare, hospitality, retail, professional services were all meaningfully higher. The retail sales number last week was strong. The ISM services number prices paid was strong. Restaurant bookings are the highest since COVID. Bankruptcy filings are extremely low and new business formation continues to be very high. So you have a lot of economic indicators going up. And the American Economic Optimism Index is the highest level it's been in three and a half years.

So all of these economic data points are quite strong. Of course, as I mentioned earlier, some people believe that's bad news for markets. Okay. Mortgage rates, speaking of bad news, back above 7%. They were at 7. The Fed began cutting rates in September. They went down to 6. They've come all the way back to where they were before the Fed began cutting rates. So again, you still have the majority of American homeowners paying below 4%. You have a very high amount paying, even higher amount paying below 5%. And so with this kind of spread between what people are paying on their current home and what they would have to pay if they sold and bought a new home, you just are still in a frozen housing market for the most part. The Fed has got right

now in the futures market basically a 0% chance of moving interest rates at all at the end of the month. The FOMC meets January 29th. There's a 34% chance, by the way, in the futures market that there's no change in interest rates at all between now and the end of the year. Now, there is still a 40% chance of one rate cut and a 25% chance of two rate cuts. So again, that's a 65% chance of either one or two cuts. But my point being, that's a really substantial repricing of expectations for what interest rates will do between now and the end of the year. Oil was up almost 3% in the day.

It's up almost 13% in the last three or four weeks. New sanctions put in against Russia are making it harder for ships to move oil, which China and India don't care about our sanctions against Russia. But if the ships that move it are in the sanctions and they're having a harder time getting oil from Russia, therefore it's pushing prices higher. There is a lot of complexity with what's going on there, but it's mostly supply oriented. I don't see any evidence of a big push higher in demand. Midstream off to a great start on the year. The S&P was down 2% last week and midstream

was up about half a percent. It's up about 2.5% since the new year began. I love this quote, by the way, Howard Hines is a midstream analyst I follow every week. I followed him for over 10 years now. He said at various points in this four-year run for midstream, it's been a growth trade, it's been a value trade, it's been a scarcity trade, and now a safety trade. And I think that's true. It's been very all-weather for where midstream energy has done well.

A great TBG question about CapEx today, and can the S&P 500 and its earnings continue doing so well when capital expenditures have been so muted since the financial crisis, and that ratio has really been distorted quite a bit? Look, I have been a loud proponent that what we need is more CapEx, more business investment to drive more productivity, to drive more growth for a long time. And I've been a big critic of the fact that it's hard to incentivize more CapEx with the excessive government indebtedness, downward pressure from fiscal policy and the monetary policy that accompanies such, incentivizing people to take advantage of low interest rates

by using leverage as opposed to investment into new capital expenditures. But I should point out that relationship between CapEx and earnings is not linear. It never has been. But there is a greater portion of earnings and profit growth from less capital intensive business. And that does allow for a change in that ratio over time. Research and development, by the way, drives productivity and growth. And that does allow for a change in that ratio over time. Research and development, by the way, drives productivity and growth. And that isn't the same as investment in capital goods. But research and development is vital in technology, but it's particularly vital in pharmaceuticals,

healthcare, other elements of the different sectors in the S&P. Yes, I would be basically sensitive to the idea that you need more capital expenditures to drive more productivity. But what you really need is capital investment, capital formation and risk taking and a productivity that all drives economic growth. So it's a nuanced answer to a thoughtful question. Thank you very much. I'm going to leave it there. I will encourage you to reach out questions at thebonsongroup.com. And I would like to say that that white paper is waiting for you.

You're behind, you're ahead. Available for download, dividendcafe.com. Thank you, as always, for listening, watching, and reading The Dividend Cafe. Have a wonderful Monday night. process is free of risk, there is no guarantee that the investment process or investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors. All data and information referenced herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary and does not constitute investment advice.

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