Thursday, December 8, 2022

Being Vigilant of the 7 Benchmarks to end 2022

By on November 22, 2022

We are just about to end the fourth quarter of 2022, and the year has not turned out to be as economically expansive as most hoped; with that in mind, we are updating our expectations for the year-end 2022.  Following the U.S. midterm election results and a lower CPI reading is providing investors with ammunition to feel at least “Cautiously Optimistic” about how 2022 will end, we aim to provide you with seven benchmarks to examine to end the year on a high note. 

Moreover, suppose the current U.S. economic forecasts of a GDP of 4% for the fourth quarter, as projected by the GDPNow, are realized, investors may take the markets for a good ride. With the year-end focus, we look at the seven benchmarks of the economy to raise or lower expectations as 2022 ends.

  1. The Fed’s Changing Monetary Policy: 2022 began with interest rates at 0.25%; however, the CPI was already at 7.48%, and the Fed did not start to act until March 22, when it finally began to increase rates by 25 basis points, so far it has taken rates to 4.00%. It has raised rates as follows:
  • March 25 basis points.
  • May 50 basis points.
  • June 75 basis points.
  • July 75 basis points.
  • September 75 basis points.
  • November 75 basis points.  

Since the Fed was quite late in its fight to tame inflation, the FOMC began an aggressive catch-up campaign to fight inflation, to the surprise of most market observers. 

Two critical statements from FOMC members have clearly stated their plans; first, Fed Vice Chair Lael Brainard alluded that the FOMC could slow the aggressive pace of interest rate increases soon. During an interview, Mrs. Brainard stated, “I think it will probably be appropriate soon to move to a slower pace of rate increases.”

The second statement came via St. Louis Fed President Bullard, who, during a speech, said that the interest rates are not yet sufficiently restrictive, the monetary policy has had only limited effects on inflation, and market pricing suggests disinflation in 2023″.

The speech made the U.S. Treasury 2-year yield jump to close at 4.43% We must remember that it took six consecutive rate increases to lower inflation, finally and only marginally. While it seems possible that the Fed will slow its rate increases to 25 to 50 basis points at the December FOMC meeting, it will not veer from its 2% inflation target.

2. 2022 GDP Economic growth: as the year began, the expectation was that the economic growth rate would continue and the global supply chain disruptions and temporary inflation would dissipate; it did not. The US GDP growth projection for 2022 was 2.3%, and during the first two quarters of 2022, the economy contracted for Q1; the result was -1.60%, and for Q2 was -0.60%. The GDP for the 3Q came at 2.60%, increasing 11.53% above the 2.3% projection. The latest GDPNow estimate for the fourth quarter of 2022 is a healthy 4.20%; should it materialize, it would be a critical development.

3. Robust Labor Markets: the labor markets had performed relatively well during the year; as 2022 began, the unemployment rate stood at 4%, and it gradually fell month after month until July, when it matched the pre-pandemic rate of 3.50%, and it rose back to 3.70% in October. Slightly ahead of the 50-year low of 3.50%. However, we must comment that an odd occurrence has prevented unemployment from falling further: the total nonfarm job openings stand at 10.72 million, and the total job seekers stand at just 5.083 million, a 52.58% deficit. 

Usually, during a period of increasing interest rates, the jobs market tends to moderate, and we expect some of that to happen. However, with 10.72 million job openings, the labor market remains healthy. 

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4. Out of Control Inflation has impacted everyone: the narrative since 2021 from the Fed was that inflation was a temporary occurrence from global supply chain disruptions and pent-up demand from the pandemic; the Fed did not begin to increase rates until March 2022; by then, the CPI was at 8.54% some 327% above the Fed target rate of 2%. The CPI finally fell to 7.75% in October, ahead of expectations, and the most recent CPI estimate for November is 7.60%; should it occur, it would be welcomed news. The Russia-Ukraine war made inflation worse on two fronts: food and energy prices further complicated the scenario. So far, we have seen some relief in pricing that will surely help moderate inflation.

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The data we have reviewed indicated that inflation has peaked and will gradually begin its downward trend, allowing for much-needed price relief. 

5. Wall Street’s lofty expectations for 2022 did not materialize: even with cautiously optimistic expectations, especially following 2021, which was an excellent year for markets.

The Markets began the year 2022 as follows:

  • Dow Jones Industrial Average was at 36,338.30. 
  • S&P 500 was at 4,766.18. 
  • Nasdaq Composite was at 15,644.97. 
  • Birling Puerto Rico Stock Index was at 2,879.13. 

At the close of November 18, 2022, these were the results when compared to January 2022: 

  • Dow Jones Industrial Average closed at 33,745.69 points, down -2,592.61 points and a return YTD of -7.13%.
  • S&P 500 was at 3,965.34 points, down -800.64 points, and a return YTD of -16.80% 
  • Nasdaq Composite was at 11,146.06 points, losing -4,498.91 points and return YTD -28.76%.
  • Birling Puerto Rico Stock Index was at 2,667.07 points, losing -211.06 points, and a return YTD of -7.37%.

The strong asset rotation and correction experienced so far began early in the year. The market’s peaks and valleys with out-of-control inflation, high energy prices, and aggressive changes in monetary policy have created a perfect storm scenario, taking equities to bear market territory more than once. We see a market that has priced a good amount of pessimism. Also, the market has bottomed and could perform a u-shape recovery to finish the year in the black. We state this since the U.S. economy is performing exceptionally well, despite many bumps on the road.

6. The recovering looks more like a “U” than a “V.”

The latest GDPNow Update for the Fourth Quarter forecast is 4.20% GDP, and the most robust evidence following the third quarter’s 2.60% GDP is that the U.S. economy is on track for a solid end to 2022. The data we have studied suggests that a “U” shape recovery is more likely to occur; however, be mindful that volatility will continue while the inflation data become a trend rather than a monthly occurrence. Moreover, the Fed has made a solid effort to take inflation to its 2% target, so we do not foresee the Fed altering its path until it feels that inflation is headed toward its target.

7. Shift focus from Defensive toward Growth

For the past few weeks, we have stated that this is the right time to change investment focus from defensive towards growth. 

A good tool is to review the top economic sectors and their performance year to date; these results allow us to gauge upside potential.

  • Basic Materials -11.72%.
  • Comunication Services -36.24%.
  • Consumer Cyclical -31.04%.
  • Consumer Defensive -3.15%.
  • Energy 65.10%.
  • Financial Services -9.42%.
  • Healthcare -4.49%.
  • Industrials -6.02%.
  • Real Estate -26.56%.
  • Technology -24.03%.
  • Utilities -3.81%.

As markets shift into growth mode, we start to see lower yields on bonds and an increase in gains on most equities, and given the lower prices, we are seeing that create a compelling opportunity for growth. The investment opportunities with the most upside are within the current all sectors; we see most upside opportunities in the financial services and industrials sector to end well in 2022 and begin 2023 on solid footing. Additionally, there is increased value creation in the Pharma and Biotech sector following the vaccinee’s success in using CRISPR DNA sequencing and mRNA technology to fight Cancer Blindness, AIDS, and many others.

The current market turmoil and reduced stock prices are due to rampant pessimism. We now have the ideal environment to make money and add value to your portfolio because the costs are much reduced. What’s required from interested investors is forward-thinking, risk tolerance, and a dose of patience.