Panicked?  Here’s what I’m telling my clients

The market has tumbled over the past couple weeks.  Here’s what I’m telling my clients:

As of mid-April, the stock market was gaining ground, especially Small/Mid Caps.  But on the 19th, FED chairman Jay Powell stated the obvious, that FED fund rates would need to accelerate.  Since then, the stock market has been in a severe decline, but I think it’s unwarranted.  FED rates are already drastically behind market rates…a move in FED rates won’t necessarily drive Bond & Mortgage rates higher, the FED is just catching up to what the market has already priced in.

Additionally, the USA economy has mostly recovered from the COVID hangover, but Semiconductor Chips are still in short supply.  Global economic headwinds that are emanating from the Ukraine invasion are impacting three sectors: Agriculture, Energy & Defense.  Despite the negative headlines, I cynically believe the USA is strategically poised to economically take advantage of this global crisis.  The USA dominates the global economy in Agriculture, Energy, Defense & Chips, these sectors are among our largest exports.  The Ukraine crisis could be extremely profitable for the USA economy.

It’s lonely being an optimist in a down market, but there are a few others.  It was recently announced that Warren Buffett’s stock purchases during the first quarter were his largest since 2008.  Perhaps things aren’t as bleak as they’re being reported.

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INANE Market reaction to Interest Rates

As the world adjusts to the Ukrainian Invasion, the stock market was recovering and the Small-Mid Cap stocks were showing strong relative strength.  Until yesterday, when FED Chairman Jay Powell stated the obvious about raising the FED Funds Rate- “it is appropriate to be moving a little more quickly.”

In typical kneejerk reaction, the Markets closed out the week down significantly, NASDAQ ~3.85% & S&P 500 ~2.68%. 

My typical cynical response is:  So what?  The economy is no longer in an “emergency” situation and therefore, “normal” rates are justified.  The FED is just raising rates to catch up to where the Market already is.

As displayed in the below chart, the FED Funds Rate is significantly below the current 10 Year Treasury & 30 Year Mortgage.  Furthermore, the 10 & 30 are not at extreme levels, they’re at about a 20 year mid-range.  Something I would characterize as “healthy” not “scary”. 

Therefore, I remain cynically optimistic.

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PETRODOLLAR has limited economic impact

Markets remain volatile, but the S&P 500 is up well above the Ukraine Invasion low and it has recouped all the losses since the week before the invasion.

There’s always something to fear and right now a lot of people are concerned about the “petrodollar”.  As I’ve discussed years ago in the blog and just recently in a podcast, the petrodollar isn’t a “thing”, it’s simply a term to describe a category of Oil purchases.

I won’t belabor the point as to why the economic impact (if any) would be limited if oil is traded in a currency other than the US Dollar, because the facts won’t change anyone’s mind.  A country’s currency derives its strength from the country’s productivity (products & services).  The USA is extremely productive, the below chart highlights just one of the country’s many outputs- OIL.  Note how in recent years, the production of domestic oil far out paces imports.  This is essentially why the mythical petrodollar is irrelevant. 

The really good news is that the technology which enabled the USA to be the world’s LARGEST oil producer is also the technology that’s energizing the country’s entire economy.  Long term the future is very bright for the United States, North America, and most of the Western Hemisphere.

But don’t be too optimistic, always invest with caution.

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Houses have gotten CHEAPER

Continuing the theme that things aren’t as bad as everyone thinks…

Let’s look at the total cost of purchasing a home, which I’m defining as the cumulative mortgage payout over 30 years.  Note the below chart.

In 1984, the median sales price of a house was about $78k, and the interest rate for a 30 year mortgage was almost 14%…total cost of about $330k.  That same year, the median household income was about $22k, which means the average family was paying almost 15 years of wages to purchase a home.

Fast forward about 40 years…because interest rates have been in a long term decline, the average family in 2022 can purchase a house (if they can find one…that’s a subject for another day) for about 9 years of wages.

Yes there’s inflation, but a number of factors, primarily TECHNOLOGY has made our standard of living much better.  Things cost more in nominal terms but as a percent of hours worked (and specifically physical labor exerted) the true cost has actually declined.

Another lifestyle factor to consider is the bells and whistles that are available in today’s houses.  I don’t know about the house you lived in 1984, but mine didn’t have air conditioning, granite countertops, nor a theater room (it didn’t even have cable TV or a VCR).  Nothing like internet existed at any price. The major convenience and technology that it did have was a telephone, affixed to the wall, with a coiled cord that stretched about 25 feet.

Things have gotten better over the past 40 years and I’m expecting that trend to continue. 

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Oil Ratio is within normal range

The Markets are wildly volatile, with extreme daily switchbacks; however, I still find the underlying data to be relatively stable.  One of the metrics I like to watch is Oil’s ratio to other asset classes.  For example, Oil’s relationship to the S&P 500.  (see below chart)

The chart tracks the price of the S&P 500 in barrels of WTI Oil (rather than US Dollars) over the past 20 years.  The nominal value of the ratio is less important than the trend line.  From the DotCom Bubble to the Housing Bubble, the trend gradually moved lower from the mid 40s to 20, with an average of about 28.  During the recover period that followed the Great Recession, the ratio was very stable and tacked along at a rate of about 16.  Since the Commodities Crash of 2015-16, the ratio has been much more volatile, but with the exception of the Pandemic, the trend has been reliably range bound between 30-60.

While the headlines shriek panic of Oil hyperinflation, the current ratio is just under 40, only slightly more than the 20 year average.  From an equity’s perspective, Oil is within trend, and no more nor less expense.   

I’ll continue to monitor the situation, but for now, I remain cynically optimistic.

If you find these ALERTs informative, please share them with a likeminded friend AND reference this post on your website or social media channels.

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