Shutdown, Inflation, Banking and More: October Stock Market State of the Union

Post the strong first half move in the overall stock market into mid-July, the overall markets have been trading, down in a very normal seasonal fashion just as our investment team laid out back in late June in our Oak Harvest video S&P500 4300+, “it’s summertime for a break”. Here’s a chart of the SP500 since last Octobers low.

Here’s a chart of the SP500 since last Octobers low.

You’ll see the overall market has gone nowhere since mid-June of this year.  Zooming out further the overall S&P500 is now flat for 2 and 3 months since June 2021.

We’ve covered much of our 4th quarter market outlook previously over the last 3 months during this normal summer stall and retreat in numerous YouTube videos, Livestreams, and weekly Market update pieces that the Oak Harvest investment team released.  Please take a moment to click on both the subscribe and notification bells so you will be alerted when our investment team uploads our latest content.  Or better yet, give our OHFG team a call at 877-896-0040 to speak to our team and set up an initial consultation with an OHFG advisor to discuss your personal financial situation.

During times with little fundamental company news flow, such as this, our investment team gets more questions on macro and news channel topics.  I want to briefly address a number of these issues and topics this week so I’m titling this episode “Quick Hits”.

The first quick hit, our investment team received numerous questions on the impact of the government shutdown on the markets. Believe it or not, historically these shutdowns have not mattered to markets much at all.  Recall, most of the time, markets perform better when members of Congress are NOT in session and are instead on “recess” or vacation.  Historically, the data says the same during government shutdowns. Since 1995, there have been 5 government shutdowns. The S&P 500 traded positive during each of those periods with an average return of +3.2%. The most recent government shutdown, from Dec 22, 2018, to Jan 25, 2019, which was the longest in the last 30 years, actually saw the S&P 500 trade higher by more than +10%.  It’s safe to say that stock markets universally like seeing less of politicians versus more of them.

Quick hit number two, inflation. Folks, inflation rates are falling fast from their peak rates in the 2nd quarter 2021.  Most metals like copper and steel have plunged.  Just last week grain and other soft commodities tanked.  Wheat, which last I checked was the basis for most breads in the world, fell another -8.5% last week, is down over -30% year to date, -60% from its Russian Black Sea embargo heights 18 months ago, is quickly approaching its pre-Covid pandemic levels.

10/01/2013 to 9/29/2023 Candle Chart

Even the Fed’s favorite lagging measurement of inflation, “Core PCE”, has moved down to 3.9%, the lowest since May 2021. The Fed Funds Rate is now 1.4 percentage points above core PCE. This is the most restrictive monetary policy we’ve seen since November 2007.

In fact, real inflation is likely closer to 1.5% than it is to 3.9%.  Why? Because shelter is the largest component of CPI at almost 35%, is being reported at near 7.5% year over year which is massively lagging and overstated.  Real time housing and rental costs using data from Redfin, Zillow, or other data sources show shelter costs at up -1 to +1 year to year, not well over 7%.  Here is a great chart from Duke Professor Campbell Harvey using real time rental data to adjust shelter CPI stats.

a great chart from Duke Professor Campbell Harvey using real time rental data to adjust shelter CPI stats

The more recent 3 month trailing, annualized inflation numbers are already well under 2.5%.  This might be why real time tradeable fixed income instruments such as 1 year and 2-year breakeven inflation rates are trading at 1.73% and 2.05% respectively. The same levels they traded at pre-Covid.  Here’s the chart of 2-year inflation.

Here’s the chart of 2-year inflation.

Investors, the Fed has done enough, probably more than enough to tame inflation here.  They just either 1- don’t see it due to their academic nature and data they look at, 2 – don’t believe it, or 3- don’t care.

Investor sentiment quick hit #3.  There’s nothing like a few down months to turn investors and traders from optimists to pessimists.  Back in late June we warned our clients and prospects that optimism was running too high, stocks were extended on AI hype, and the markets were set up for a summer, peak, stall, and downward move. And sure enough, that’s what happened. But here we sit 3 months later, with the S&P 500 -6.5% off its highs, investor sentiment as measured by AAII Bear and Bull surveys, and hedge fund positioning measured by short interest in Nasdaq stocks has turned from rainbows and butterflies’ optimism to Debbie Downer pessimism.  Which of course has historically been a good contrary indicator that it’s nearing a better buy time than sell time.  Here’s a chart of the rolling 2 month change in AAII bearish sentiment.  It’s tripled since the July highs in the S&P 500 and doubled in the last month.

Here’s a chart of the rolling 2 month change in AAII bearish sentiment

It has accelerated negatively as fast as it did during the XMAS 2018 market bottom, and close to the rate at the Covid lows in March 2020.  Smells like a better buy than sell.

A quick hit #4 on market seasonality.  Yes, investors, like it or not, it’s been a real thing in our markets for years and regardless of how much it advertised it continues to work most years.  I think it keeps working due to 2 reasons.  First, America is largely a consumer economy.  Around 70-75% of our economy is consumption of goods and services.  We tend to consume more seasonally around the 4th quarter and 1stquarter of the year taking the middle quarters off more for our jobs and fun.  Here’s the monthly seasonal returns for the S&P 500 from CFRA and the daily, yes daily average returns since 1945 from Merrill Lynch.

Chart on Average S&P 500 Performance by Month

S&P 500 Day of the Month Seasonality Returns: 1920 to present chart

So, the good news is, what we have experienced the last 2-3 months is seasonally very normal and should be nearing an end.  The bad news? I said nearing an end, not over and done with and we still have likely more time on the calendar to go before investors exhale and return to a quite normal yearend rally. Remember though past performance is not a guarantee of the future and nothing in the stock markets is ever perfectly accurate and precise.

Quick hit #5 and this is the final one. Banks and end of year banking concerns.  This is one our team does worry about.  Liquidity concerns approaching year end in the financial markets and more so around commercial and regional banks.  Remember what happened back in the 4th quarter of 2018 into XMAS when Chairmen Powell was aggressively hawkish as the economy was slowing into year end?  At this time, with interest rates haven rising over 500 basis points in 2 years our concerns over the Fed making a mistake into year-end are quite high given their nonstop hawkish talk.  U.S. banks are facing roughly $600 billion of unrealized losses which accounts for roughly 25% of total banking capital, near the highest levels in history. Here’s a chart from Alpine Macro showing the magnitude of that problem.

Chart of Banks' Unrealized Losses are Large

This as well as the ballooning Fed balance sheet losses bares monitoring and watching as it is a dicey problem from financial institutions balance sheets here and abroad. So that’s it for the week.  5 quick hits.  I hope you find this piece informative and our insights additive.

Oak Harvest Financial Group manages broadly diversified equity portfolios that balance risk and reward for our clients.  We don’t concentrate our clients’ funds in only one or two sectors, seeking to hit a grand slam.  We try to hit singles and doubles.  The investment tools our advisors and financial planners use are usually a combination of markets based and insurance-based tools to meet your retirement goals.

Our dedicated in-house investment team is busy working on some new, and highly unique equity models. Models and tools that few RIA advisor teams have access to, and few investment teams have the experience ours does.  One of these tools may even allow our investment team to express negative views on single stocks, sectors, or the overall markets if we so desire.  Stay tuned.  The future and stock markets are always uncertain and that is why our retirement planning teams plan for your retirement needs first, and your greed’s second.

Give us a call to speak to an advisor and let us help you craft a financial plan that helps you meet your retirement goals. Call us here at 877-896-0040 or click here to schedule an advisor consultation. We are here to help you on your financial journey into and through your retirement years.