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LeveFields Weekly Newsletter 18 Dec 2022

Markets finally take Powell at his word. After yet another slow reaction, U.S. and U.K. stock indexes pulled back in the past week following last week's U.S. Fed and European Central Bank rate hike of .5%.

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Markets Get Macro

After yet another slow reaction, U.S. and U.K. stock indexes pulled back in the past week following last week's U.S. Fed and European Central Bank rate hike of .5%. The Fed followed with an announcement that the target Fed funds rate is 5%, which would be in place at the end of next year. This implies another .5% in rate hikes ahead and upended the theory that the Fed would reverse course and begin cutting rates in late 2023.

We've been saying for months to hold cash and trade events because the Fed is going to keep interest rates high for longer than the market believed. It seems the belief is creeping in like a bad hangover and holding a Santa Rally in a headlock for the time being.

So where does that leave the market? The best description we heard was that "we're in the eye of a hurricane, and getting out may be more painful than it was to get in."

That sounds super. The meaning of this: we have dealt with inflation's impact on the economy as we entered the hurricane. Now we have to deal with the impact of the Fed holding rates high as the economy and earnings compress.

The best technical analysts we follow believe the market will fall another 10% from where we are before correcting late 2023.  The graph does indicate that assessment looks spot on, as each bear rally has lead to lower highs and lower lows over the year.  This creates opportunity to short the S&P with puts or the SH ETF.

SPY 2023 projection lines

Now What?

We'll see "experts" arguing soon over whether or not to buy commodities given there are some supply-demand issues with oil and copper (bulls) driving prices up, but if the economy slows the demand will shrink (bears).

There's a lot of chatter about a shortage in copper that will leads stocks like Vale into a bull run, but it smells like it could be the big players trying to build up the hype to offload their commodities onto retail investors.

While reading closer into the details, we learned the copper shortage is projected at the end of the decade, though many outlets are running with headlines stating the shortage is today. This is exactly the type of BS we're trying to sanitize at LevelFields.

The silver and lithium shortages are real, but commodities tend to sell off in a deflationary environment which will create buying opportunities later.

Bond prices will rise for long-dated bonds as inflation talk will change to talk of deflation fears. So the TLT and IEF will become more attractive hiding places for money during this storm.

The housing market will continue to crumble and banks will begin seeing more loan defaults.  Carmakers will struggle given high rates for car loans will reduce demand. Healthcare stocks should do well and as deflation talks begin, we'll probably hear people touting growth tech stocks again as a hedge against it.

Layoffs will grow and start to look scarier and as it comes for the financial firms (Goldman just announced an 8% reduction), the industry will start freaking out and turn on the Fed aggressively in public.

We'll see M&A activity really pickup next year amidst all of the cash needs and market cap squeezing. Biotechs are particularly ripe for a lot of activity given the valuations of many pre-revenue firms are down 80%. The activity will fuel growth for the large companies with a lot of cash to throw around.  We'll break down how to plan for this in our Level 2 newsletter.

KNOWLEDGE CORNER: THE RECESSION PLAYBOOK

Wall St. wisdom dictates investors stock up on healthcare, utility, consumer staples, and REITs during recessions. It's also a time when long-dated bonds look safer and commodities sell off as bets of economic activity falling creates the expectation demand for commodities will fall. There may be exceptions in cases where supply is already low.

You can see these patterns emerging in our trends sections, where healthcare and utilities outperformed other sectors last week and the week before.

REITs have been hammered this year as the real estate market began sliding in step with interest rate increases, and Blackrock is in the midst of a controversy over limiting withdrawals from its REIT that may prove to be a bellwether for other funds.

Healthcare stocks were doing well this past month. PFE, MRK, AZN, ABV, SNY, NVS and the industry ETF (PPH) were all up big over the past month as asset managers rolled some profits out of energy and into "recession resistant" sectors. While not immune to recessions, healthcare stocks hold up well as spending for healthcare is a necessity.

Similarly, government contractors also hold up well in recessions. BAH, ICF, LMT, NOC, and SAIC have all done well this year. You can find this group inside the themes section of LevelFields. Valuations in this group are on the high side right now, so it's best to wait for pullbacks or sell puts on them to find lower entry points at lower risk.

Consumer staples perform the broader market during recessions. And we're starting to see them pull ahead. Campbell's shot up recently, as did General Mills and Proctor and Gamble.

LevelFields_event_driven_winners_10Jun2022

HIGHLIGHTS FROM LAST WEEK

Pfizer flexes its pipes

Pfizer showed off the size of its pipeline - of drugs - on the 12th. We noted it would likely get a boost from the event and the stock acted as expected - up almost 4% in a couple days. For those just joining us, Pfizer's RSV vaccine received Breakthrough Therapy status from the U.S. FDA back in March and is likely to get approval soon.  

"Tires is what wins a race"

Titan International announced a monster buyback which spun up a 17% one day gain for the tire maker. We sent out an alert notice at market open noting the stock was about to pop big after the AI alert arrived in our inbox. The event did not disappoint and we hope you got the chance to jump on it as well.

Options traders: we hope you caught the triple digit gains! please let us know if you did. We love hearing about the wins.

If you didn't get in, the company has a low P/E, strong earnings growth last quarter, and still provides a product people need during recessions, regardless of whether they buy a new car or not. The buyback is a strong signal from management there that they think the company is in a good financial situation.

Tesla Stock Hasn't Been This Cheap in Years

A string of public relations blunders by Elon Musk paired with his own divesting of Tesla shares to pay for Twitter has caused a real bleed out in Tesla shares. It's trading at a P/E ratio of 47 - the lowest since the company became profitable.

GM and Ford both trade at P/E ratios below 8, but neither have the solar, charging, and self-driving technologies to rival Tesla...yet.  And backorders on the Cybertruck are a staggering $80 billion strong. If they're able to actually make some of them next year as planned, they might not lose as many of the back orders as angry customers demand refunds.

Sachs is Sacking

Goldman Sachs is laying off 8% of its workforce. A previous layoff announcement a few days earlier set the stage for the stock to drop 30 points last week. The financial sector experienced a Goldilocks moment in 2021 spurred by huge IPOs, high trading volumes, and cheap money. The layoff announcement is a reminder that the party always has to end sometime.

Solar Powering the S&P 500

Solar power cell manufacturer First Solar was added the S&P 500 index last week. Solar has benefited this year from rising oil and gas prices, an energy crisis in Europe caused by the invasion of Ukraine, and major tax breaks given to clean energy producers. FSLR stock rose 10 points on the event before settling up 5 points as show below.

As part of the S&P 500 index, it will be swept up more in broad market selloffs, as ETFs that track the index buy and sell shares to keep the target weighting.

Keystone Pipeline Back Online

A key pipeline carrying oil from Canada to the U.S. was shut down for a week, following a horrible oil spill that shed 600,000 gallons of tar oil into the Kansas ecosystem. Its shutdown, paired with China reopening following a spate of protests against draconian COVID lockdowns, sent oil prices higher last week. The pipeline carries 26 million gallons of oil daily.

U.S. Congress Passed an $858 Billion Defense Spending Bill

The funding includes $10B in spending to help Taiwan combat any attacks from China, nearly $1B more in weapons for Ukraine, and $5 Billion more for new naval ships, along with constant funding to "replenish" weapons sent around the world. It's a boon for defense contractors whose stocks have soared this year as countries around the world stocked up on defenses in response to Putin's war and China's tough talk over one day reclaiming Taiwan.

We're planning to dive deeper into major winners of this funding in a special analysis this week as President Biden gets ready to sign the bill.

First Solar stock price

Overcome by Debt

Avaya Holdings filed for bankruptcy protection last week and the stock cratered -54% on the news. It wasn't in great shape before then, having fallen like a cryptocurrency this year.

The company isn't making enough money to cover its debt payments, and is looking to restructure the debt in a bankruptcy.

While this is bad news today, bankruptcies can be a pivot point for companies. If you look at the Bankruptcy scenario, you can see some companies emerged from bankruptcy and crushed it thereafter, e.g. Hertz and Diamond Offshore Drilling. It's a very high risk, high reward trade akin to a bet at the casino, but many have made money off it before.

Hertz (HTZ) bankruptcy

Key Earnings Announcements This Week

December 19 - Heico (HEI)

December 20

  • Nike - litmus test for consumer strength, excess inventory, and currency exchange losses
  • General Mills - guidance will show if prices for farm products are deflating
  • FedEx - bellwether for global economic activity. Their last earnings announcement was a disaster for the stock and stock market. Their data is viewed as more real-time data on economic activity than the lagging indicators which come from government reports. One to watch for sure.


Wednesday, December 21

  • Micron Technology - will show demand for semiconductors and electronic devices
  • Rite Aid
  • Carnival Cruise Lines - is revenge travel over?


Thursday, December 22

  • Paychex - earnings will show the state of small businesses and hiring
  • CarMax - will show just how much has demand for cars and car prices dropped?

Economic Reports Due:

  • Monday
  • U.S. Housing Index (11am EST)
  • Tuesday
  • U.S. Housing starts (930am EST)
  • Wednesday
  • U.S. Mortgage Applications (8am EST)
  • U.S. Oil & Gas Inventories (1130am EST)
  • Thursday
  • U.S. GDP
  • U.S. Corporate Profits

Disclaimer Required

This is not financial advice. Past performance does not necessarily predict future performance. Information above are opinions expressed only by our team and should not be taken as specific direction.

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