Are we in a recession? If not, when will we be?

Is it the right time to go back into the stock market? Have interest rates stopped increasing for now?

Will my food costs continue to climb?

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These are just a few frightening questions confronting Americans and investors today.

The leading economic indicators are all over the place.

Daily, forecasters claim that we have probably started a recession (NOT) and that Energy prices will continue to climb (while they’ve declined over 10% in the past few weeks).

What to make of all the noise? There are a host of different and conflicting narratives playing out through the media, economic publications, newsletters, talking heads, and stock market pundits?

After two weeks of a market rebound and a rally in the fixed income markets, we have kicked off the mid-year start in a more positive, more profitable way.

This shouldn’t surprise followers of our January and July seasonal (or Calendar) range indicators.

Is the selling over?

Is it safe to go back into the stock and bond markets? Is there a real and sustainable pause regarding food and commodity prices?

The answer is unequivocally, NOBODY KNOWS.

More importantly, the markets are acting in a quick, volatile, and anticipatory manner considering the fact that markets are a discounting mechanism that looks 6 to12 months into the future.

As a result, good news is bad news and vice versa.

This is normal in a changing economic environment with a non-accommodative Federal Reserve. Expect the unexpected.

However, we DO NOT think the stock market has reversed modes and is now, all of a sudden, in a new bull market.

Corrective rallies like the current run-up happen often and quickly in bear markets.

So heed caution.

Rallies like this one can and will turn on a dime.

Until there is clarity in the future economic forecasts, stock market rallies are suspect, and there are still plenty of economic clouds on the horizon.

Fixed income securities ended the week with a reversal. The decline in interest rates over the past few weeks turned around and headed higher.

This was prompted by a better-than-expected jobs report on Friday morning indicating that employers are still hiring in large numbers. The market’s tick-up in long-term rates supports our feeling that if we were already in a recession or about to begin one, we would NOT have seen such a big increase in the payrolls number.

Although unemployment (and first-time claims) is a lagging indicator, we do not believe employers would be not hiring at this fast pace if they believed that economic conditions were in or about to decline. Employers also understand the worker shortage and cannot afford to let more job openings occur.

Examining the employment situation more deeply.

It’s important to look at facts and data more closely.

The establishment survey came in with new employment at 372,000. This was 100,000 over the estimates of 268,000. At first, the market did not like this hot number, and markets indicated that the Fed would continue to be aggressive and that a 75 bp rise was baked in the cake. See the steady employment picture below:

But upon further review, the Household survey (monitors who is working and the hours they are putting in) showed a considerable decline in employment from April to June with the latest month showing a drop of 315,000 workers.

This Household data propped up the market on Friday and began the narrative that perhaps the slowdown is happening, and that the Fed needs only raise 50 basis points in July. (See household employment graph below)

The household survey includes a closer look at the labor participation rate (LPR is how many people are working) and clearly showed that new job creation was heavily driven by people who are taking a 2^nd or 3^rd job. (For example, someone who may take a second part-time retail job, or someone who drives an UBER after their normal working hours). This is more evident in the LPR graph below which shows NO ADDITIONAL people are entering the workforce.

The conclusion to draw is that we ARE seeing a slowdown in the economy already.

The stock market is a forward-looking indicator, and the brutal selloff from April to June (2^nd quarter) anticipated much of the data that’s now coming to light.

While consumer spending has also waned in recent weeks, (along with retail sales turning soft) certain parts of the economy are still doing quite well.

For example, oil companies, along with energy supply companies, continue to be the bright industry sector in 2022, mainly due to higher commodity prices,

After a brutal selloff these past few months, this week’s rally in technology and semiconductor stocks conveys strength in specific industries which had gotten quite cheap during the 2^nd quarter’s market selloff.

At the end of the day, a stock’s valuation (and the general market’s valuation) is made up of several components, inflation, interest rates, and earnings (expectations).

Let’s examine each briefly:

#1. Inflation is currently elevated but appears to be coming down even slightly.

#2, After spiking earlier in the Spring, interest rates too have come down and leveled off suggesting a slowdown in the economy.

#3. Earnings, one of the most important indicators, continue to hold steady. Estimates from Wall Street analysts see corporate earnings growth of somewhere between 4-5% this quarter. That is not indicative that a recession has begun. (These estimates are showing 15%-18% over the next 12 months, a far cry from recessionary periods).

However, if earnings expectations begin to be ratcheted down to adjust for higher costs and an expected slowdown in business, it will soon be reflected in earnings announcements and conference calls.

Stay tuned-in, as earnings season begins in earnest with JP Morgan’s earnings announcement this coming week.

So, we have a mixed bag. One that may surprise those expecting the worst or best of times.

The strength of the jobs report may well have solidified the next move by the Federal Reserve to hike 75 bp again at their upcoming July meeting. The futures market has it priced in at a 97% probability.

Certainly, we should expect that the Fed will continue to raise interest rates as they’ve suggested.

So, if you’re a believer in the mantra of “don’t fight the Fed,” then this may create a dilemma for your stock market allocation.

MarketGauge doesn’t fight the Fed because there are many trends that do well when the Fed needs to tighten. We follow them.

Five Indicators to Watch for Signs of When it is Safer to Invest

1. Fixed Income: Currently Watch for signs of a steepening yield curve. Right now, it is extremely flat with 2- and 5-year US Treasury rates above the 10-year rates. This inversion suggests a recession because short-term rates are rising faster (Federal Reserve will influence these) than the longer-term rates, which project the long-term economic picture which is driven by the open market.
2. High Yield Bonds (junk bonds): Currently negative. This portion of the fixed income market acts very much like stocks as they have an equity component in their pricing. This tranche of fixed income securities has accurately predicted past slowdowns as high yield debt gets hurt during economic recessions. However, right now High Yield Debt is giving a mixed read and outperforming the US long Bond on a short-term basis according to our Triple Play indicator
3. Small-Cap Equities: Currently neutral but could turn positive. Most impacted by rising commodity prices (including oil) and interest rates, small-caps have been hit the hardest in 2022. Watch for this segment of the market, currently in a bear phase, to rise above its 50-day moving average and maintain some stability before entering back riskier equity plays.
4. Commodity prices: Currently negative. This includes energy (oil & natural gas), lumbar, copper, and agricultural commodities (corn, sugar, wheat, coffee, etc.). In oil, we are dwindling our energy reserves quickly and having a tough time getting wheat and other staples due to the Russian-Ukraine war. This is an area we are concerned about, and it continues to have a negative impact on the investment climate.
5. Federal Reserve policy: Currently negative. So long as the Federal Reserve continues with a restrictive posture which includes raising short-term interest rates, you do not want to over-commit to any part of the stock or bond markets. Over the past 40 years, the Fed has been an investor’s best friend. Right now, they are NOT your friend as they are reigning in liquidity in the markets as they hike Fed Fund short-term interest rates frequently. This is a very big reason to minimize your investment thesis at the moment.

Risk-On

• There was strong price performance across the market this week, with QQQ paused just below the 50-day moving average and an inside day to end the week. (+)
• Volume definitely improved for the key indices with the exception of the Dow Industrials (DIA) which is considered a safety play. (+)
• Speculative Sectors including Consumer Discretionary (XLY) +4.5% and Semiconductors (SMH) +6.5% led while Utilities (XLU) -0.4% and Consumer Staples (XLP) -0.4% were the big losers over the past 5 trading days, a clear risk-on theme. (+)
• Clean Energy (PBW) +8.8% and Solar (TAN) +7.4% led the rally in energy this week while Silver (SLV) -4.6% and Gold Miners (GDX) -3.9% led the way down for commodities. (+)
• There was a marginal improvement in the slope of the New High / New Low ratio for the Nasdaq Composite, potentially indicating growth stocks leading value for the short-term. (+)
• Risk Gauges have moved to 100% bullish for all major indices. (+) with High Yield Debt (HYG)firming against the US Long Bond (TLT)
• Short vs. Long-term volatility definitely improved and is potentially on the verge of giving a buy signal. (+)
• The number of stocks in the S&P 500 that are above their respective 50-day moving average significantly improved this week, although, the number of stocks above their respective 10-day moving average paused, indicating a marginal improvement from oversold levels on a shorter-term basis. (+)
• We got further confirmation from last week that Growth stocks (VUG) are outperforming Value (VTV), with VUG poised to break out above its 50-day moving average. (+)
• Biotech (IBB) exploded to the upside as we pointed out the past 2 weeks, while Semiconductors (SMH) also mean reverted to the upside, showing 2 speculative sectors leading Mish’s Modern Family. (+)
• Foreign Equities (EEM & EFA) are underperforming US Equities according to the Triple Play indicator, indicating a shift back into US Growth. (+)
• Outside of the US, the Asian country ETFs were top performers on this week. (+)
• Despite the major selloff, Gold (GLD) is deeply oversold and is looking to find long-term support on its ratio against US Equities, and seasonally is running into a strong period. (+)
• The US Dollar (UUP) hit 20-year highs and is now nearly 1:1 with the Euro but is running extremely rich and could see a fast reset in the near future. (+)

Risk-Off

• Despite the bounce, the New High / New Low ratio for SPY did not improve this week. (-)
• Interest Rates (TLT) failed their attempted mean reversion and broke back below the 50-day moving average in bear phases across all ends of the yield curve. (-)
• The Yield Curve either flattened or inverted a bit more this week, a Risk-Off and potentially recessionary indication. (-)
• Oil (USO) is still in a weak warning phase and looks to be mean reverting from oversold territory. (-)

Neutral

• To fully confirm a more bullish market environment, the IWM needs to take out its 200-week moving average next week. (=)
• Market internals improved on strength in price action this week, with the exception of the cumulative advance / decline line which was actually flat. (=)
• The Nasdaq Composite’s market internals are actually running a bit rich according to Up / Down Volume and the McClellan Oscillator. (=)
• Soft Commodities (DBA) and Copper (COPX) are both mean reverting, with DBA bouncing off of its long-term ratio vs. US Equities according to the Triple Play indicator. (=)

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