July 2024 Market update

In our June market update, we discussed the stock market’s fundamental valuation and analyzed the historical sustainability of investment returns when investing in the S&P500 at a 20 PE "twenty times price to earnings ratio", or higher. It is important to know what you own, why and how it could be affected through changes in the economy. Investors holding the S&P500 at a 20 PE or greater are taking on considerable valuation risk if the economy becomes weaker and the GDP growth rate declines. For this reason, we want to check in on the health of the labor market and consumers.

The unemployment rate for the month of June, reported in July, rose to 4.1%, up from 3.8% at the close of the first quarter in March. Looking at the charts below, courtesy of Mayur Thaker, Zacks Investment Research Analyst, the leading cyclical employment index declined -.09% year over year in June, its thirteen consecutive monthly decline. The U-3 unemployment rate (# of unemployed people actively seeking a job), rose above its 3-year moving average in June, for the first time ex-covid, since 2007. These leading indicators suggest the US labor market is gearing for recession.

In addition to the leading cyclical employment index and the U-3 unemployment rate triggering caution signs, the number of unemployed for 27 weeks or over is also sending a caution signal, which goes all the way back to 1948. These are not economic statistics investors holding the S&P500 at a valuation of 20 PE or greater should ignore. The sustainability of an economy’s growth rate is in large part what upholds investment valuations.

Furthermore, the personal saving rate has fallen to its lowest level since Q3 of 2022. Consumers expenses are up, savings are down, and employment is rolling over. This does not bode well for the health of consumers and has begun to be reflected in many companies’ Q2 earnings reports.

The stock market has gotten extremely excited about labor market deterioration and the unemployment rate rising, because the market wants interest rate cuts to support earnings growth and valuations. It seems odd that a market which appears to be doing so well, hitting new highs often, needs interest rate cuts, until we look under the hood.

According to the chart below provided by Goldman Sachs, there is little to no next twelve-month earnings revision growth for 495 of the 500 stocks in the S&P500. In fact, absent the top five stocks, Goldman Sachs is currently reporting that the other 495 stocks collectively have negative five percent earnings revision growth anticipated for 2024. This looks like a house of cards supporting a > 20 PE.

As the unemployment rate moves higher and the Fed inches closer to beginning an interest rate cutting cycle, recession risks are rising. The chart below from BCA research, depicts recessions often start after the Fed begins cutting interest rates. This happens because the Fed initially begins raising interest rates to combat inflation, which typically leads to an inverted yield curve. As the economy slows and labor market conditions deteriorate, short term interest rates decline faster than long term interest rates in anticipation of the Fed cutting interest rates. This is what the market is excited about. But the market should be careful what it wishes for. Interest rate cuts may not lead to lower average costs for borrowers, unless the Fed cuts back to zero, which they will not do unless the economy is struggling through a full blown recession.

The Fed cutting interest rates for savers to keep asset prices up is deteriorating the United States economy slowly, and over time. However individuals translate this politically, we hope they research and realize about what is happening to the countries standard of living. With the cost of living historically high for Americans, if the Fed cuts interest rates too early, the price of oil could act as a hedge against reaccelerating inflation. If this were to occur it could make the Fed quickly reverse course and damage their credibility along with market confidence and stock valuations.

We think the Fed will likely begin cutting interest rates in September, and with the unemployment rate on the rise, the GDP growth rate declining and expected inflation responding to government spending, the Fed may soon find itself in a box and unable to give the market what it wants.

For the reasons mentioned above, our recommendation since January of 2023 has been to position portfolios to endure a recession, in a defensive manor, risk off and in cash, T-bills, money market funds, fixed income duration extended in September 2023 from 0-5 year to 0-30-year U.S. Treasury bills and notes, 10-year minus 2-year yield curve re steepening and select low duration U.S. equities. Getting paid to wait for growth assets to be priced at discounts, while being positioned to benefit from bond price appreciation as interest rates decline from downward economic pressure, continues to be a profitable and rewarding strategy.

We remain patient and focused on managing risk through 2024.

Disclosure: Investing involves risk, including the possible loss of principal and fluctuation of value. Past performance is no guarantee of future results. This letter is not intended to be relied upon as forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date noted and may change as subsequent conditions vary. The information and opinions contained in this letter are derived from proprietary and nonproprietary sources deemed by Macrovex Capital, LLC to be reliable. The letter may contain “forward-looking” information that is not purely historical in nature. Such information may include, among other things, projection, and forecasts. There is no guarantee that any forecast made will materialize. Reliance upon the information in this letter is at the sole discretion of the reader. Please consult with a Macrovex Capital, LLC financial advisor to ensure that any contemplated transaction in any securities or investment strategy aligns with your overall investment goals, objectives, and tolerance for risk. Additional information about Macrovex Capital, LLC is available in its current disclosure documents, Form ADV and Form ADV Part 2A Brochure, which are accessible online via the SEC’s investment Adviser Public Disclosure (IAPD) database at www.adviserinfo.sec.gov, using CRD #300692. Macrovex Capital, LLC is neither an attorney nor an accountant, and no portion of this content should be interpreted as legal, accounting or tax advice