We hope you are prospering from the positive move in the markets recently and staying warm if you are in a cold area of the country. Bundle up. And with the markets, buckle up. We assure you that it won’t be straight up from here.

It was a good week with most of the economic news and certainly with the markets. But will it continue? We are not prognosticators, but as we pointed out last week, there are plenty of pros and cons.

As they often say on Wall Street, good news may be bad news. A few situations occurred this past week that may eventually lead to unexpected and unfavorable future actions. Let’s explore these together.

The Federal Reserve

It was Fed week. As expected, the FOMC (Federal Open Market Committee) pulled the trigger on yet another overnight lending hike of 25 basis points (0.25%), the smallest such hike in a year. As you recall, the last four hikes were all 75 basis points. This was largely expected.

This brings the rate up to 4.50% to 4.75%. Their published statement started off hawkish with the persistence of inflation and the need to get rates to the target of 5.25%, as outlined in previous Fed meetings. That equates to another two 25 bp rate hikes in the next few months.

The stock market’s initial reaction was negative. Then the post-announcement press conference by the Chairman began. His answers to probing and piercing questions about the slowing economy immediately softened his hawkishness. Words such as “we see a deceleration of inflation” were enough to send the stock market into an explosive move higher.

Our opinion: The Fed means business. We have often commented in these weekly updates that inflation is a punishing and insidious tax on Americans. Inflation has led to a huge increase in jobs, but not in the way that you think.

Since I was a young student taking economics classes in college, I learned that “you don’t fight the Fed.” We are in a non-accommodative monetary policy period. Also, investors need to remember that the Fed is reducing its multi-trillion bond portfolio. We look for rates to stay elevated for higher and for longer. We do not believe the Fed will pivot anytime soon.

Our own Director of Research and Market Analyst, Mish Schneider, often comments during her national TV appearances that when inflation gets as elevated as we have experienced the past few years, it usually takes years to bring it down.

We most likely will not see the 2.0% Fed target for some time. Therefore the Fed’s restrictive monetary policy will continue. It will adversely affect consumers, and it should continue to put pressure on earnings and the multiples that are used to price stocks. 

Good News? An Unprecedented January Jobs Report, But is it Real?

As we’ve pointed out, and the markets have confirmed, January can be volatile month for stock prices. As it turns out, January can be a predictably volatile month for employement data, too.

Some economists refer to the January payrolls report as the “January seasonal adjustment report,” and that description fits this year. The recent jobs announcement was a shocker. The majority of estimates were for growth of 190,000 jobs, but the report came out over 500,000.

However, for better or worse, the headline numbers could easily be described as “too good to be true.” Let’s look closer under the hood. Here was the announcement on CNBC, in case you missed it.

This blowout jobs report sent unemployment to 5.4%, the lowest in 54 years. Where did this job growth come from? Looking more closely, we can uncover that a few major and radical revisions occurred to the employment reporting.

First, the BLS (Bureau of Labor Statistics) unveiled a slew of data revisions which included updating the population controls. This has the mechanical effect of boosting the labor force and updating seasonal factors, which further distorted the January nonfarm payroll number.

All the revisions were to the upside. This made the Establishment survey data appear even stronger than it was. So strong, in fact, that there were upward revisions to all monthly payrolls reports since June 2022, as shown in the chart below.

The one place where the revisions were most significant was in the Household survey. This is used to calculate the actual number of employed workers. This showed a surge in employment in January. Jobs increased by 894,000 in January, and with December’s upward revision of 717,000, the grand total becomes a 1.6 million increase in employed workers in two months.

Despite these massive revisions, the BLS forgot to fix the distribution between full-time and part-time workers. This is a huge mistake, as shown in the chart below.

The number of full-time workers in March 2022 was 132,587,000. Fast-forward to January 2022, and the number of full-time workers is at 132,577,000.  Full-time workers during that period (10 months) dropped by 10,000 workers. Part-time workers soared from 25,908,000 to 27,400,000, an increase of 1,492,000.

In summary, the headline seasonally adjusted payrolls report showed a shocking increase of over 500,000. However, the unadjusted number was a negative 2.5 million. So, with massive seasonal distortions and all the growth coming from part-time jobs, we don’t think it was anything to celebrate.

Plus, why are so many people taking part-time jobs? This could be due to inflation and many Americans (most) not being able to keep up with the cost of consumer goods, food, and energy.

Our opinion is that this does not bode well for the long-term economic health of the country. No growth of full-time jobs over the last year is a poor reflection on the pressures of inflation on the country. This will eventually show up in stock prices. It may be hard to avoid a recession with these types of employment numbers. 

The good news, however, is that the stock market has been exploding higher, especially the Nasdaq and small-caps. Given the interpretation of good news as amplified above, the market reacted much more positively than negatively. The stock market’s positive momentum sought out what it needed to hear in order to stay on a positive trajectory.

The Nasdaq continued on its winning ways with its fifth positive week in a row. Small-caps were an even bigger winner this week, up almost 4%. The Nasdaq (QQQ) and small-cap index (IWM) are both up well over 10% year-to-date. This is one of the best starts for the stock market in many years.

We uncovered some great charts this week that we want to share with you. The expression that a picture tells a thousand words continues to hold true. These charts portray a favorable and positive backdrop for the stock market in the near-term.

January 2023

We have often referred to the January Trifecta and its positive projected impact for the following 11 months.. Below is the January Trifecta, factoring in the month January and the fact that all three indicators that make up the Trifecta were positive.

There is also an interesting statistical edge demonstrated by being up so much in the first 20 days of January.

Look at the stocks that were most beaten-up in 2022. Illustrated below are their returns through Jan. 31, 2023. Are these companies and their businesses making that much more money? Have their earnings expectations and profitability gone up enough to justify the explosion in their stock prices? We don’t think so.

Most of these stocks are in the Nasdaq, which is part of the reason the tech-heavy index has exploded higher.

We just experienced a golden cross on the S&P 500. This is a positive long-term indicator whereby the 50-day moving average goes up through the 200-day moving average. When used correctly, this can be a very helpful indicator. It is particularly noteworthy right now because it indicates a bullish intermediate-term trend in a market that still has a bearish longer-term trend (as measured by the 200-day average).

Our co-founder, Geoff Bysshe, believes this current golden cross, combined with other important inflection points, is worthy of special attention. Some of the important inflection points Geoff is watching are shown in the charts below.

Watch the US Dollar

On Friday, the US dollar reversed course and found strength on the back of the jobs report and the possibility that the Fed does not pivot later this year (as it is often said, good news is bad news). This is our opinion, as well.

However, if you consider the trend of the US dollar since October, you’ll see that it has been in a steady decline. It is not a coincidence that the stock market has been going up in tandem with the dollar’s decline. You can even refer to some of our 2022 articles where we talked about how the US dollar strength led to lower earnings in large, multinational, US-headquartered companies.

Also, AAII (American Association of Individual Investors) sentiment shows that the bullish sentiment has edged up slightly. However, bearish sentiment remains elevated and greater than the bullish sentiment. As we have shown in the past, this may be a positive contrarian indicator.

The result of this bearish sentiment is an enormous amount of assets sitting on the sidelines. Most 401k providers have reported that there is an overabundance of capital sitting in conservative stable value and bond funds, therefore signaling that individual investors are “nervous” and “reluctant” to get invested in the stock market now.

Injured by 2022, many of these individual investors could be “late to the game,” and some of this explosive move upward is due to the “FOMO: Fear of Missing Out” crowd wanting to get in.

The fear of missing out is a motivation and driving force for many of the speculators that are getting invested in this market after a sharp upward move in the markets. However, as suggested above, there are many that are not yet invested. It reminds me of the Marty Zweig commentary from years ago.

Our opinion is to be careful. We may not be out of the woods yet. The stock markets have a wonderful way of sucking in money only to correct and disappoint. And, the market may have gone up too far, too fast.

After the type of damage done to many good companies’ stock prices last year, and with the kinds of earnings misses we were seeing this past week (Google, Amazon, Apple, Ford, etc.), we remain in the camp that believes we are in a trading range.

Here are a few other charts to show why caution is warranted:

This brings to mind the last four times the market had significant rallies back to its trendline. Yes, we have broken through, but there are still some lingering thoughts that we could fall back below the trendline.

Again, our caution is filtered by the old adage: “Don’t Fight The Fed,” including these other factors:

1. Institutional investors have moved assets to fixed income, which presents a potential 4-6% low-risk positive return at the moment.
2. These same investors believe the stock market, given its earnings expectations, may remain overvalued.
3. Speculation fervor ('FOMO') and buying memes stocks do not make a recipe for long-term bull markets.
4. High-yield bonds versus corporate bond performance gives us pause about quality debt versus junk.
5. Pending layoffs by Big Tech will reverberate through the economy, and we are not sure what that effect might be.
6. Americans are struggling, and if they pull their wallets in further, this could have a dramatic effect on 70+% of GDP.
7. We are not yet sold that we will avoid a recession. If that were to occur, the stock market would have to reprice that sort of downturn.
8. Geopolitical risk is heightened. The 'China Balloon' and Russia rhetoric are just two of several ongoing geopolitical risks in place now. Additionally, we believe America may be in a heightened state of fear of a possible terrorist attack. Any adverse actions such as these may send the stock market into another tailspin.

Here is additional market analysis.

Risk-On

• This week, we saw strong performance across 3 of the 4 key indices, excluding the 'diamonds' (DIA), with SPY, QQQ, and IWM all taking out their December swing highs.
• Volume patterns improved week-over-week for all 4 key indices and are confirming positive price action, with the Russel 2000 showing the strongest volume, as it saw no distribution days over the past two weeks.
• The large majority of sectors performed well on the week, with the exception of energy (XLE) at -5.7% and utilities (XLU) at -1.4%. This is a strong risk-on indication, especially while speculative sectors like retail (XRT) +6.9% and transportation (IYT) were the top performers.
• Hard commodities, including gold miners (GDX), at -6.2%, and silver (SLV), at -5.1%, as well as oil (USO), at -7.3%, and natural gas (UNG), at -16.5%, were the worst global performing assets this week. This is another strong risk-on indicator.
• The New High/New Low ratio is in solid bullish territory, and it remains at its highest levels in well over a year for both the S&P 500 and the Nasdaq Composite.
• Risk gauges have improved to a fully risk-on reading across the board.
• High yield corporate debt (HYG) finally flipped to risk-on based on its relative performance against the rest of the market.
• The one-month versus the three-month volatility ratio improved this week.
• There has been a significant shift into small- and mid-cap stocks (MDY), while large-cap safety plays are stagnating.
• Growth stocks (VUG) continue to outperform value stocks (VTV) on both short-term and long-term timeframes, according to the triple play indicator.
• Gold (GLD) gave up -2.5% on Friday and is in freefall. This may continue until it potentially finds support at its 50-day moving average. However, it is also currently sitting at long-term support already in its ratio of relative performance against the market, according to the triple play indicator.

Neutral

• According to real motion and price, QQQ, SPY, and IWM appear overbought and may be subject to mean reversion, which could be either downward or sideways price action.
• US natural gas has gotten crushed, as it is -71% over the past six months and down -16.5% this week alone.
• Market internals, according to the McClellan Oscillator, continue to digest and have thus far failed to confirm the new highs on price for both the S&P 500 and Nasdaq Composite.
• According to the number of components above key moving averages for the SPY and IWM indices, IWM continues to build strength while SPY looks a bit 'toppy.'
• Even with another 25 bps hike this Wednesday, Treasury bonds (TLT) really haven’t changed since last week as they are still positioned in between the key 50 and 200-day moving averages.
• Foreign equities (EEM and EFA) appear to be backing off from their leadership over the US, but they remain in a bullish mode.

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