In investing, as in life, we humans tell ourselves a lot of stories to make critical decisions. In financial matters, to the extent that these stories are emotional and not fact-based, they are fraught with danger. In this market, these stories may already have cost you a lot of money and sleepless nights. Disabuse yourself of them and reexamine them coolly. To help, here are six myths about this market and economy to reconsider.
1. The “Fed Put” is close
The Federal Reserve has bailed out the asset markets consistently post the Great Financial Crisis of 2008. Now, many believe we are close to just such a bail out called a Fed put. In my opinion this is wishful thinking. We now have 4 times the amount of inflation that we averaged over that period and the Fed is literally just starting (June 15) to chisel away at their historically bloated balance sheet. President Biden has visited with Fed Chair Powell and said “tag— your it on inflation”. If you want to watch this on a real time basis, follow something like the Goldman Sachs Financial Conditions Index (The Fed does). It measures stress in the markets by examining short-term bond yields, long-term corporate yields, exchange rates, and the stock market. They have calculated it since 1981. It’s still way too loose. Every tightening cycle since 1981 took the stress index higher than it is today. Let’s see where markets are when we hit the bunny slope of tightening (2019), the blue square trail of 2000, or, heaven forbid, the double black diamond of 1982-84. Then, talk to me about a Fed put.
2. The consumer is in good shape
People who say this certainly don’t ask consumers what shape they are in. But the University of Michigan has asked consumers this question since 1978. The May survey was an earthquake of pessimism and doubt about the economy and consumer finances. These were the worst numbers EVER. I might remind you that since 1978, we have had 15% mortgage rates, the 9/11 tragedy, a near depression, and a global pandemic that killed 1 million Americans. But May 2022 is the worst ever. Agree or disagree, but consumers who answer this way do not keep buying discretionary things. Right now, many are sadly working down savings and maxing out their credit cards to buy essentials. The consumer is in terrible shape and it’s right there to see.
3. Right now the market is cheap
This myth is clearly brought to you by people who thought stocks were valued fairly 50% higher. No. Stocks were insanely expensive. Now stocks are just really expensive. Ned Davis Research calculates a valuation line from six independent measures- price to dividends, earnings, cash flow, sales. They use a CPI-adjusted P/E and long-term trends. At the peak in May 2021, stocks were the most expensive ever going back to 1926. Today they are only 50% too expensive. It can take a decade to work through this overvaluation, as it did from May of 1999 to February of 2009. The market made a negative real return during that period. On a shorter-term basis, I personally do not believe those earnings reports showing positive earnings growth in the second half. Now Target
4. Everyone is bearish
If you believe this myth, you should be able to cite evidence that investors have sold out of their equities. Quite the contrary – As of March 31, the most comprehensive indicator of equity holdings, the Federal Reserve Flow
5. Inflation has peaked
This myth has been brought to you, most likely, by the same people who missed the rise in inflation 12 months ago, then called it ‘transitory’, and now are convinced it has peaked. When they tell you this is the peak, ask to see their predictions from one year ago or three months ago. Prepare for radio silence. Inflation at the current levels, long dormant, is notoriously hard to predict or eradicate. Here are some facts: The Cleveland Fed predicts June inflation, released on July 10, will exceed the May number that just shocked us. Moreover, the same Cleveland Fed, produces something called the median CPI to eliminate effects from big movers in either direction. It is still accelerating upwards. That march upwards is echoed in the Atlanta Fed’s “sticky CPI’, which attempts to measure the non-volatile sectors independently. The Fed is committed to a level of 2% inflation and neither a peaking nor a rate of change. So, let’s ponder if we peak at 9% and settle at 6% inflation, does the Fed stop tightening and declare victory? That will be yet another costly myth.
6. We will have a soft landing in the economy
Often cited as an analog by the rose-colored glasses crowd is the ‘soft landing of 1994’. Really? Inflation peaked in 1994 at 3.2% and unemployment was roughly 6.5%. How is that analogous to 8.6% inflation and 3.6% unemployment? No, a soft-landing dream this time is more analogous to the David Tyree “Helmet Catch” in Superbowl XLI
The equity markets historically go up about 75% of the time. It is for that other 25% of the time that we manage risk, stay diversified, and act rationally. The Federal Reserve is focused on tightening into an economic slowdown with stocks still expensive while people are still overinvested. Those are facts. This is the time for caution until some of these myths become reality. Better opportunities will present themselves.