stocks, bonds, ETFs, straight out of downtown Chicago. This is Zach's Market Edge. Welcome to Zach's Market Edge, the podcast about investing in your life. I'm your host, Tracy Brinek.
And this week I'm joined by Zach's chief equity strategist and economist, John Blank, to talk about what's going on in the economy. Are we in a recession? Is one coming? This is our usual topic that I always have John on for.
You think it never really gets old though, and we are in a more interesting time period with the Fed raising those rates. So John, welcome. Can you begin again? Yeah, this is a key one, I feel, because we did just have the Fed do the 75 basis points.
So that was pretty dramatic. And they seem intent on continuing forward, at least somewhat aggressively again in July, depending on the data. And then we'll see in September, because they're going to take a little bit of breather there in August to let everything kind of gel. And then we'll see in September.
But all I keep hearing about is some people saying, oh, we're not even going to get to September. We're not going to have raises in September, because we're already in a recession. And the Fed won't have the guts to continue raising rates in the face of actual recessionary data that will be coming in. So what do you make of all this action going on?
And what is happening about a recession? Tracy, what level is the Fed funds right now? I want to see how much reality you're aware of. It's at 175.
Right. 1.75% of the federal funds rate. What is the tenure treasury at today? Um, the less I saw, was that like three, three or thereabouts?
3.3%. Okay. So let's, the end game of all the Fed funds raised will be the 10 year effectively in a proxy. So 3.3%.
Right. 1.75%. Now today, this morning, June the 21st, I was on a conference call with capital economics, which is a non US largely, you know, London, you know, Toronto, Sydney kind of place, and they have 70 economists and they looked into this. So in all countries, not just our 81 instances of Fed tightening has happened or something like a Fed tightening in a different country.
And those instances where the tightening went up to 200 basis points, but not beyond it, there were no instances of recession, none. Period. Right. So I said, five, Tracy, what does that say?
Is there a chance we have this level? Zero zero zero. I want to be very strong about this. Zero.
There is a unemployment rate of 3.6%. There is no indication in the payrolls that there is a recession either in the unemployment claims. There is no also in the industrial production or in any of the final sales data. But let me just let me just inject real quick there.
But what do you say to the people who say, oh, we had negative GDP print in the first quarter, and now the Atlanta Fed tracker is showing, you know, flat to possibly negative for the second quarter. Doesn't that mean we're in a recession? Well, this is another point I want to make with people. One of the things that happens when you shut down supply in a COVID pandemic, when you shut something down, you stop working and you also stop building capital investment and stuff that goes on with building and running anything, you just shut it down.
When you open it up again, everybody opens up at the same time and everybody needs the same spare parts to start this or that or the other thing. The other thing that happens when you start up again is you order actually more inventory than you need, right? You restock, right? Right.
Yeah. So what happened in the GDP accounts during COVID is someone's called the IVA, the inventory valuation adjustment, IVA. This was a, you know, a rounding error during a normal trend oriented economy. Typically, I never even paid attention to it during and after the COVID pandemic, it became extraordinary.
Inflation was one of the outcomes because you had prices moving to, you know, I'll pay more for that thing because I want it. I want to stock it or I need it so I don't get caught in a area where I can't run something. So there was more supply shortage created by all this inflation and then people just literally built or decumulated lots of inventories to work around supply chain crops, right? What happened in the first quarter, we had the overcrowd thing, which set back a lot of the employment for at least January.
And then we also had this wave of people accounting for inventory during that thing that took the GDP growth right now. So this is what's happening. It's part of the, you know, we've talked about consumer price inflation is one of the elements of a COVID pandemic through the supply shortage. We don't actually also focus on inventory and how it plays out because when you sell an inventory, you have to account it in that GDP account when you sell it.
So if you sell it, then you count it. And this is like a life of a FIFO thing. And you know, you can get, as you know, in company reports, you can get a negative, you know, earnings report because someone had the life or FIFO, some kind of a justice, right? Same thing happens in GDP, it's in the, but the thing is different is again, it was extraordinary.
It took me a long time to understand the quit ignoring the IVA just because I used to ignore the idea. Now, this gets to the second point is, you know, back to the Fed Fuzzray, when in those 81 instances, Tracy, in those 81 instances, when the Fed Fuzzray went between 200 and 400 basis points, which is by the way, back to your point in the tenure at 3.3% of the involvement right now that is within that range. There was 35% chance of a recession happening in hindsight, one out of three times, right? Yeah, it gets more than 400 basis points on Fed tightening, which is a possibility because they may well exceed the neutral rate because they want to crank down inflation.
So the other thing we need to understand here is there is a very strong case for recession. If the Fed does not get inflation under control because they will go over 400 basis points, they do that, Tracy. Here's the language. There is always a recession.
Okay, no, zero to 200, there is never a recession, 200 to 435%. The time there is one above 400, there will be a recession in the historic context, right? So that is a different framework than most people like because they want me to tell you what's going to happen. It's just the Fed is data dependent.
And they're carrying mostly about the consumer price inflation rate, both the broad and the core and the PCE and all the other things they're looking at, they will manage the Fed funds rate to whatever they need to do to take inflation down. Okay, yes, I definitely agree with that. So that would mean some kind of increase in September is likely still on the table unless we see inflation start to dramatically drop. Correct.
That is the correct language you spoke perfectly to it, which is they will raise rates unless the CPI definitively shows broad decreases inflation. It won't be category specific, it'll be like, okay, the broad of the core down one and a half to some of the supply chain charges are working out quicker than we thought the oil prices are falling, some of the transportation issues are improving, and therefore we don't have to move as best. They would do that. But only if the inflation rate does that from the rest of the broad changes, not narrow changes where they can look into it and say, oh, that's really showing the economy down.
So still a lot of uncertainty out there. And but it sounds like things aren't as gloomy as a lot of people are portraying, or even the stock market is portraying. Well, there's the other thing that I think Edgardany correctly drove in. Now, we've have a bear market at hand tracing, right?
Correct. Yes. So it is entirely possible the second quarter will print a negative GDP number on top of the first one for all the reasons we talked about as well as slowing down. And it's entirely possible the third quarter will be somewhat negative.
But it is entirely possible here that the markets are already accounting for a very shallow recession that's already in hand. That can be true. We can talk about there not being a recession. I could tell you in hindsight, there was one when we talked because the bear market was correctly getting it.
Right? Yes, it's entirely true too, because the other thing to understand here is in that 81 instances of data of that tightening back 60 years, there was no COVID pandemic. The last COVID pandemic was 1970, but pretty, pretty bad. So the other thing to understand here is it's entirely possible with what I've already told you that we're already in a recession.
It's a very shallow recession that comes out from all these things that are happening and that the markets already priced it. Yes, because they are forward looking and they already have anticipated over the last several months that we could be in one or we will be imminently in one. So where does that put the stock investor then? Because this has been going on 11 of the last 12 weeks, the S&P 500 has been down.
And it's been an unprecedented horrible start to the year. But maybe they're already pricing all the bad news in. That's it. That's the bull case.
The bull case is, so what happened in late February is the Russians invaded Ukraine, drove up 3% inflation globally from the higher oil prices that have been with us since then and will not go down until the oil situation resolves itself, which is global. And Fed Chair Powell at that point had a profile of much more moderate tracking of higher Fed funds rates, which are now off the table. He is going aggressively up. And in the data dependent Fed that saw the CPI cranking up had no other choice but to that.
And it's not doing that. So that's everything. And the asset allocators got out. The rest session warriors got out.
And frankly, in the mix of all that is this call that there already is a recession in it, but it might already be in hand, it might already be shallow. And it might end up being over by the fourth quarter of this year. And that would mean that everyone gets the column or session right in the stock market turns out by the second year. So where do I want to be in the stock market then?
Is there sectors that I would want to be in cash until September? Okay. So you still are thinking to just avoid the volatility that we're still apparently in for a couple more months. Yeah, I think the technicians and the people, all these camps out there, you can say, I want to know what waiting of the cancer, how big the cancer holiday dissipator just come together and really the market's pricing that until you get some bottoming, which is a process and get out of it on the other side.
You're from a long investor perspective, you're best to keep on dollar averaging it. I am overweight. I've never been in my people who look at my strategy for us to understand. I'm more overweight now than I was last year.
I really am because you're really getting good prices. You really should be in stocks and just regularly go at this. And then if you're trading, just forget it till you get a trend, a constructive trend on the back end of the Fed gets out of the way. But is there areas that you feel comes September?
People should start accumulating in and areas where they should stay away? So for instance, I've been watching the various retailers because I happen to like that sector and it's been getting killed, obviously, because if we're in a recession or we're going to go into a recession or everyone thinks the consumer's going to pull back on all their spending because of the inflationary pressures, then I don't want to own even the best of the retailers. But they've all sold off pretty sharply. And then even some of the recent earnings reports that we have gotten from some of the retailers are indicating so far, it's not that bad with what they're saying.
And some are actually seeing strong results, depending on what kind of retail that they're in. So should I still be waiting or should I look for deals in a more volatile area like a retailer or should I just stick with the sure thing type fang stocks, those have sold off big and they're pretty cheap now. Should I just go for them? They've got a lot of cash.
What areas should I be looking at even come September? Well, people understand consumption of retail sales, some of the same language. When people put the GDM together, the reason I got separated, I was invested but it was also interest sensitive. So you have fixed investment and non-residential fixed investment.
So those are the interest sensitive. Now, within consumption, obviously, one of the somewhat interest incentives is the auto. So I think in the Fed context, you want to be accurate, staying with things that are not intrasensitive in the retail space is going to work fine. It comes, we have very strong workforce.
People have a lot of savings and they're done dealing with this COVID pandemic and they're ready to move. So I think it's not as sensitive, it's going to be surprisingly up side. If it is interest sensitive, that's a different discussion. So yeah, you mentioned interest sensitive is definitely things like autos, but it could be like home renovations, right?
You might have to take out a loan to put in that new kitchen or something. So that would be a negative for a company like a Home Depot or a Lowe's, right? It may or may not be. You might decide, well, look, I can't afford to move.
So I'll start right of it. I think in the interest, it's basically going to be very careful with too much speculation without looking through the references of what people are telling you. And you saw a lot of the Lidar call this morning and you could speak to it now, but you were not that bearish after you got off it. No, and it was interesting.
They did give a lot of detail on their various markets and what was happening in each of those. And they reminded everybody on the call that even within those markets, there's certain communities that are doing better for whatever reason, location or price point than other communities. So you have to really drill down. But some of the areas where they are seeing slow down, so they're a national home builder, Lenartiger, Elian.
And so it's a good way to figure out or see kind of what is going on out there with these now 6% mortgage rates. Now, this was on their second quarter, which ended at the end of May, but rates jumped into the fives by May. So they have a pretty good indication on like what is happening in each of these markets. But it is so specific on the underlying economies in each of these.
So it's not even just the US economy as a whole. It's what is going on in your particular city and what kind of jobs are there even. So for instance, they talked about Raleigh and that's been one of the hottest markets. A lot of tech workers have moved there, the ones who can work from home.
They left the Bay Area, a lot of them moved to Raleigh. It's like a sister city. But Apple is opening up that second headquarters type place there. That's going to be a lot of jobs on the tech side.
And so they've been booming one of the big winners in the housing market, at least, for all the home builders. But they said that they've seen a significant slowdown here in June in Raleigh based on the 6% rates because of layoffs in the tech industry, which aren't even that big yet. But perhaps some of those working from home who are now living in Raleigh maybe have gotten some of these layoffs at some of these FinTech companies and whatnot that have started laying off even like Coinbase and some of those probably had big work from home. But so they focused on the tech industry, softness in Raleigh, which you wouldn't really think about.
But the Bay Area, which is all mostly tech, is not seeing as significant of the slowdown for whatever reason. And some of the others that are also seeing a bigger slowdown, it's tied to they said the stock market decline. So Austin and Seattle are both seeing some pretty good weakness here based on stock market declining and also on stock compensation. And I've been tweeting out about the compensation issue only because I was working in Silicon Valley and San Francisco during the dot com boom and bust.
So I saw what happened out there when those startups go under or lay off people, but really when they go under or even the big tech companies, you know, see an 80% drop in the stock price. A lot of compensation at those companies are all based on the stock options. And when those, you know, slide like that, it is a real wealth destruction in that particular town or city and metro area. And so I think you're starting to see some of that again with the stock market decline, especially in like the recent IPOs and the SPACs and all that.
And that's really going to start to hit the housing markets because they were using it for their down payment most likely in these, you know, really hot housing markets and I gave them an advantage, but that advantage is now gone. So it was really interesting to listen to Lenar. They also set a couple other areas that are just kind of stable. They're not seeing as much of an impact included cities like Indianapolis and Chicago, like Midwest, where we didn't see so huge gains, you know, the home prices were not up 40 or 50% year over year, like in some of these other markets.
So they're not quite as rate sensitive in those cities. So it's, I feel like the rest of the economy as it slows with these fed increases is going to be similar to what Lenar was telling us because it's not going to hit every city the same way. It's going to depend on how diverse, you know, the economy is in those particular cities. And, you know, because even with the Fed trying to slow everything, there's just going to be certain areas that don't slow.
So, you know, Dallas was on the list, I believe, of the areas that are not saying much impact, but they have huge oil and natural gas, you know, huge energy industry and the jobs there. And now those stocks are still holding up well. So the stock compensation is working in that regard. The same with Houston.
I don't think they've even mentioned Houston, but I'd be surprised if we see much slowing because what's happening with commodities in the energy complex, same with agriculture. You might not see as much slowing in a city like St. Louis that has Monsanto and Bungee or Chicago because of our big food and agriculture industry here. So yeah, I think it's very difficult for, you know, not just the Fed, but even stock investors to kind of figure out what's going on out there and how or what's going to happen as these rates rise.
Yeah, you did a good job of basically pointing out if we get 200 or 40 basic points of 10 times, which is what the 10 years projecting is crap shoot. Yeah, it's not like it's not happened, but it's not like it might be already priced in it. It might not be affecting you at all. Right.
Right. That's exactly the way you got to look at it. It's going to be a Fed driven market until we get towards whatever they get to. And as soon as they stop raising it for data-dependent reasons, the bull is going to rally like you wouldn't believe it.
You're by the way, you're not going to know that. They're not going to tell you, I'm not going to tell you, we're going to do another one of these podcasts late after they did that. Right. For sure.
For sure. But what happens if say that CPI starts to drop finally? We don't, you know, what happens when we get that first CPI and it's under eight. Won't we see like a huge rally off of something like that?
Yeah, I would think there'll be plenty of people who want to cover shorts first. Yeah. We've seen some record short, you know, the shorting, when you get 10, 11 weeks down in a row, the shorting is going to be, you know, really easy. So the short covering will be really quick and the short bear rallies out in short carving are going to be fierce all summer.
So the only thing to realize is we can get a bull market in a bear rally for two months here because we get sold off so badly. And that won't be an indication this is over either. Right. Right.
Right. Right. Right. Right.
Right. Right. Bitch answers will not get in. The short covers will get out, but the big investors will not get in until this whole inflation thing gets put to bed because the fed gets out.
What do you make of the banks here? We've talked about the banks many times on this podcast when we talked about what the Fed is doing recessions, all of that. And I'm still waiting for the banks to do something, but they just keep getting cheaper. They keep selling off.
Is this a real buying opportunity in the banks with these rates rising? Here's that. So this is the recession problem is the rates are making more profits for the banks, but they're the recession idea is creating more loss reserves for the banks, right? Right.
Right. So the latter is dominating the former until it doesn't. So again, if you want to buy the banks, it depends on your recession call. If you think they're going to do a deep recession, then forget what the Fed does it or what that doesn't matter.
You don't want on the banks at all. Go lower. If you think this is going to be a shallow recession or not one that affects the banks that much, and they can really get through the Fed funds rate, either for all their customers or flossers, cash blinks are lower, then you want to buy them. So again, it's a story of you thinking about this, and in general, you thinking about this is going to be worthless.
So you got to wait till the banks are out. Should we be looking at the largest banks still, like a JP Morgan or Bank of America? Should we look at? Sure.
Sure. Sure. Okay. Yeah.
I think if I were just, at the end of the day, if you can pick up a JP Morgan with a good dividend payment or a really strong read or something in this environment, pick up a dividend payment, write it out for an income investor, just do it over two, three months by a little bit of your JP Morgan in June, a little in July, a little August, that's probably way to go. Okay. That sounds like having a good plan is important. Yeah.
And also just being really agnostic about how smart you are. I mean, looking at it, I'm a little bit of a June on the 15th, I'm going to buy a little bit on the 15th, July, a little bit on the 15th, I do not care what the market's doing on that day. Okay. Now you haven't mentioned it all, the fang stocks that I mentioned earlier.
Should investors be diving in here or is that now over? I mean, we have some of them down 50% or more. Yeah. I love getting to this.
I've been working on some podcasting for YouTube on this whole you know, style change from largest to small to mid and what happened. And really, what's interesting is over 25 years, you were way better off holding big and small cat stocks. Over the last 12 years, you were not profitably get a crew to the bigger stocks and it really was no gains owning small stocks in that last nine or 12 years over. You had a better risk and a better return profile out of large cat stocks the last 12 years.
Now, the question that also remains to be answered here is in a post COVID environment, when all this internet stuff got a final surge and everybody pulled forward five years of sales, is it now the end? Maybe the true end of the 20-year internet bubble, right? And these days are basically over and I again, I don't want to make that call. But the first thing it's going to learn is that going to small caps, if there's recession going to not work, because they're going to go down even more.
But then on the back end, if there is growth in a different environment, then the small caps will and the mid caps may well be the spot of all because, you know, four or five billion market cap companies that have good niches and are well capitalized are maybe the spot to be. Yeah, the small caps are getting, you know, real battered here as well, along with everything else, but it could be a real buying opportunity in some of those is what you're saying. Absolutely. I mean, again, if you want to buy broad indices and again, you want to have a long horizon and you want to allocate it over multiple months because no one's going to get this right.
But the value is there for you. And again, I need to be bullish when everybody thinks I should be bearish. That's exactly the advice I should give. That's hard to hear for most investors, though, because we all base are investing on what has worked for us in the past.
And a lot of investors, you know, have entered into the fangs or the fang men stocks in the last, you know, five to eight years, and it's been great. And now they don't want to see it ever end. You know, so it's hard psychologically to think that it has ended. Yeah, I also don't think there is a visibility to a better trade, you know, right?
I just cannot tell you with any great, you know, residents that I got the next play. I really don't. I mean, I think it could happen. Like, again, it depends on getting a lot of things out of the way, like the Fed and the growth rate and all this stuff.
And more or less, I think you build cash to the fall on any of this because we need to see the play and we can need to see the institution investors getting on it. And then we got a follow-up in. So commodities have been running, as you know, for the last 18 months, is that trade over? I'm thinking it is.
It just ran too far. I wouldn't certainly do bad energy stock. We see the distribution going on. Everybody's getting out and taking the profit off for the last few weeks.
For sure. For sure. And I was just telling you, you just got to understand institutions already have already booked their profits and forgetting them. They're going to turn it's already in for them as far as they're concerned.
Yeah, I mean, I don't play anyone taking their profits in this type of market conditions, though. Yeah, exactly. You take the profits out of whatever's working and then go to cash and let this thing play out. I think they're not rotating back in if they're just building cash reserves out of their guwanwinners.
Any other advice? Yeah, I would tell you, you know, look, in the SAC 100, it's been beating up first and early, a big NASDAQ stocks and the NASDAQ 100 in general, are probably box. They turn first, the bottoming process works in a weird ways and you buy them now and again, you buy them now because you're hearing 400 terrible stories and you know, you can all send me your 500 tell stories and I'll say, yeah, I know. That's why I want you to buy them.
But just find a big one. The strong one in the good industries. So what does that mean? Is that like Microsoft or?
Right. Like the NASDAQ figure out where you buy something in the NASDAQ 100. But they don't, the index committee does want to stick it in the 100 you shouldn't be putting in your call. Okay, that's that's a good advice.
All right. One other thing we didn't discuss, what about cryptocurrencies? What's going to happen there? And will that be?
I'll tell you my view on cryptocurrencies. I think cryptocurrencies were a compliment to Fed money printing. So when there was more fed, think of it as like a dam. You put up a dam and you create all this backlog, a reservoir of money, right?
And if any dam goes back as far as the engineers planted as high as they thought, and then it goes in surprising ways down ravines and in the back bays and other things, right? Right. Basically in an environment of zero interest rates and look massive trillions of fed liquidity, there was a back bay that was created to basically run up some of the speculation and collect it in a crypto bay, right? Yeah.
So now that the Fed's letting the water go over the dam and lowering the whole whole liquidity environment, that back bay gets drained first, right? And if you're down with the Fed, I think the real massive misinvertergration of crypto is it was some kind of competitive alternative to crypto to the Fed and to alternative assets and everything. And in fact, it was the back bay that was highly beta correlated to whatever the Fed money credit did. Yeah, tightening is the worst environment for any crypto waters going down any speculator will any leverage any problems that people over that I will get bigger and it will drain first.
So you would stay out of that. Unless the Fed does, and the Fed is going to, by the way, the Fed is going to somehow tap down rates at some point in time when that happens, you might get a crypto bill. Yeah, a lot of people think it's going to happen by the fall. I mean, again, I mean, if the Fed is everything for crypto, then well, then I'll get back to the game once they get a quick push.
Okay, so we'll keep that on the back burner for now. The crypto's. Yeah. Okay.
I guess that covers just about everything that's going on right now. So let me recap some of the tickers we did talk about today. So I did bring up one hour and we didn't really talk about investing in Linar, but that fits into the interest sensitive type of companies right here. And it clearly is shares are well down on all the home builders, including one hour, but I would not be a buyer here.
I don't think they've bottomed out and I would be waiting to see what's going to happen over the next couple of months for sure over the summer and with the home buyers and all that, we're only at the first stages of the slowdown, I feel in home buying. But there's Lenar, LEN, and Home Depot, we mentioned Lowe's, Home Depot is HD, Lowe's is LOW. That's on the home renovation side, which is John pointed out, made you better, even in the rising rate environment, because you won't want to move, you won't want to give up your 3% mortgage rate, but you still maybe need a new bathroom or a bigger kitchen or you might add on somehow. So you're going to stay there and you're going to do the renovations.
So they may still do better. We talked a bit about the banks in a deeper session you don't want to buy, in a shallow recession you might want to buy dollar cost average into these. There's the big ones, it's not rocket science to know who those are. JP Morgan is JPM Bank of America's BAC.
And then we talked about the kind of sure thing, bank stocks, we didn't really mention those, but you know who they are like Amazon down almost 50% now if it's high, AMZN is the ticker there, might want to take a look at some of those. And then I guess we just mentioned NASDAQ 100, well that's a triple Q's, doesn't hurt to dollar cost average into some of the indexes. And you could take a look at stocks in it because those are the bigger companies that are more likely to survive everything that's going on right now. Because that is a risk, John, isn't it?
That some of these recent IPOs and the SPACs, they're not going to make it. So those are the ones investors might want to get out of. Or if you're in one of those IPO ETFs that are out there, you might want to rethink that. If you already haven't rethought that and stay on the sidelines.
Also, we were seeing almost like a record low number of IPOs and SPACs this year, not surprising given these environments. So the pipeline is very small at the moment in that area. So those are just a few of the stocks we mentioned, but dollar cost averaging may be your friend. I've talked about it before on the podcast.
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