Stocks fell from early gains yesterday after Apple announced a hiring freeze. Earnings season is underway, and investors are getting a lesson in economics 101.
Poison apple. And just like that, the forces of economics swoop in and attempt to find equilibrium… which can come at a cost. As you are probably aware by now, controlling an economy is no simple feat. If inflation is high, there is no dial in the basement of one of those greyish buildings in Washington DC that can be tuned down to +2%. Likewise, there is no switch to turn on economic growth, nor is there a button under glass that reads “press only in an emergency.” No, there is nothing of the sort, but it would be pretty cool if there were.
Indeed, there is a greyish building, but its basement is lined with cubicles filled with budding economists and analysts. Those up-and-comers support the 12 voting members of Federal Open Market Committee, whose job it is to attempt to keep inflation under control while maintaining low unemployment. No switches and dials for them, just reems and reems of paper analysis… and a vote. That vote carries a big weight, however. It can either coax interest rates higher or quash them down lower, in essence slowing the economy so that inflation moderates, or speeding up the economy to avoid recession and high unemployment. Ok, ok you know this already. You also know that the Fed is in the process of attempting to slow economic growth by raising its key lending rate and by selling bonds in the open market. So, how does the Fed know when the job is done?
That is where things get complicated, really complicated. When you drive your car and press on the brakes you get instant feedback. You can feel your car decelerate and you can visually recognize that your vehicle is slowing. In the case of the economy, the feedback loop is delayed. Not only is it delayed, but its precise speed is rarely clear. Of course, the Fed could simply hike rates, watch, wait for the Consumer Price Index / CPI to get to +2%, and then stop hiking. You know, because you are a regular reader, that not only does the CPI lag by a month, but it rarely moves in a uniform direction. So, yes, it is quite possible that one morning we will wake up and the CPI will suddenly print a +2%, but we may already be in a recession. As I mentioned in yesterday's note, it could take us up to 4 months to determine that. I will help you with the math… 1 month lag to find out where inflation is and up to 4 months lag before we know if there is a recession… no, let’s skip the math.
Perhaps we can turn to private economists and see what their models are predicting. First things first, unfortunately, economists have a poor track record of forecasting economic growth. However, they happen to be really skilled at explaining what happened in the past, which is nice but not particularly useful when trying to engineer a soft landing. Using the same car analogy from above, imagine driving your car looking out the rear window instead of the windshield. Trust me, that has been attempted, with less than successful results. Ok, so now the median probability of recession projected by Wall Street’s top investment banks is 40%. If you have been paying attention, that it is higher by 7% in the past week. You can consult the following chart if you don’t believe me.
Now that we got that out of the way, we must ask ourselves if this really means that we will enter a recession. Perhaps, it would help if we looked at the same chart, but zoom out a bit to, say to 2008. Check it out.
Here, we can see that the median probability was only ever higher since 2008 when we were actually in the midst of recessions. This simply tells us that while these probabilities are important and that they should not be ignored, the probabilities themselves are likely not useful. So, that brings us back to the Fed and how it knows when it has raised rates sufficiently to put inflation on the right path without causing an outright recession. Remember that the bulk of GDP comes from consumer spending and corporate investment (spending). We have been monitoring consumers by following consumer sentiment, which is somewhat low but stable. Retail sales of big-ticket items is slowing down but they have hardly ground to a halt. On the corporate side of the equation, we are about to score an information haul in earnings announcements. We will learn about what impacts inflation and higher interest rates are having on corporate performance, but more importantly, what companies are planning in months ahead. Though Apple is set to announce its earnings next week, we learned yesterday from a Bloomberg report that it has adopted a policy to limit expenditures and slow hiring out of caution… in case of a recession. This follows similar admissions by other fellow tech giants Amazon.com, Microsoft, and Google. What that amounts to is, ultimately, less spending by corporations. We will see those direct effects in the numbers… possibly 4 months from now. The Fed governors will surely take note of these clear signs, that perhaps, its efforts are working.
WHAT’S SHAKIN’
International Business Machines Corp (IBM) shares are lower -4.94% in the premarket after it announced that it beat EPS and Revenue estimates by a scant +0.96% and +2.48%. The drop in the stock is in response to forward guidance of lower free cash flows related to the stronger US Dollar and loss of business in Russia. Dividend yield: 4.78%. Potential average analyst target upside: +3.0%.
Johnson & Johnson (JNJ) shares are off slightly after initially rising in the premarket after it announced that it beat EPS and Revenue estimates by +1.44% and +0.25% respectively. The company’s sales of COVID vaccines nearly doubled analysts’ estimates and it cautioned that the stronger US Dollar has and will continue to impair EPS estimates. Dividend yield: 2.59%. Potential average analyst target upside: +9.3%.
Halliburton Co (HAL) is trading higher by +2.98% in the premarket after it announce that it beat EPS and Revenue estimates by +9.24% and +7.62% respectively. The company’s forward P/E of 15.19 is cheaper than its peer median P/E of 20.57. Dividend yield: 1.66%. Potential average analyst target upside: +52.4%.
ALSO, THIS MORNING: Signature Bank (SBNY), Citizens Financial Group, and Silvergate Capital all beat on both EPS and Revenues. Truist Financial and Hasbro beat on EPS but missed the mark on revenues.
YESTERDAY’S MARKETS
Stocks started the day in the green but ultimately stumbled into loss territory after Apple reportedly slowed hiring. The S&P500 fell by -0.84%, the Dow Jones Industrial Average traded lower by -0.62%, the Nasdaq Composite Index was off by -0.81%, and the 0.81%, and the Russell 2000 Index pulled back by -0.34%. Bonds slipped and 10-year Treasury Note yields gained +7 basis points to 2.98%. Cryptos advanced by +8.63 and Bitcoin traded higher by +2.66%.
NXT UP