Market Note – November 14, 2022

By Hightower Great Lakes on November 14, 2022

Inflation Data Generates Market Rally

CPI fell from 8.2% to 7.7% y/y in October, creating a 5.5% market rally on Thursday, last week. Core CPI, which excludes food and energy, also retreated – from 6.6% to 6.3% y/y.

These CPI readings were better than anticipated and highlighted lower inflation across food, energy, and goods. Used vehicle prices, airline fares and medical care services prices all decreased in October.

Services is 73% of Core CPI and remains elevated, growing nearly 5% in the reading. That said, rents are a big part of Core CPI, and the Owners’ Equivalent Rent appears to be moderating (yet still high).

There is a lag effect in the rental market, which tends to lag housing prices by 9-12 months. Home prices appear to have peaked around May/June.

Chart 1: Monthly Change in Key CPI Categories¹

Price inflation continues to be driven by a lack of energy investment and a tight labor market that creates wage-cost pressures.

We have likely reached peak inflation levels, yet the story remains consistent that inflation is still elevated, and the Fed will continue to enact restrictive monetary policy amid tight labor market conditions.

Importantly, we receive PPI inflation data and retail sales figures for October later this week. This will offer an additional perspective on company costs and consumer spending trends.

Midterms Elections: Dems Control Senate, House Uncertain

Democrats are poised to, once again, control the Senate by a slim majority. Republicans are more likely to control the House, with a similar, slim majority.

This is considered by most political pundits to be a huge win for President Biden’s presidency, with a strong divergence from the historical trend of presidents losing far more seats during their first term, especially amid a low presidential approval rating.

With a tight Democratic majority in the Senate and still uncertain outcome in the House, excessive fiscal spending will probably remain controlled.

Nevertheless, Democrats are likely to pursue much of their spending agenda – particularly as applies to tax credits and Medicaid expansion, as well as continued infrastructure and other social spending programs.

Anti-fossil fuel policy is also likely to continue. Companies hoping to benefit from lower taxes in a Republican sweep scenario are less likely to see that unfold.

U.S. dollar futures have weakened somewhat in recent periods, on the basis of less fiscal policy and a slower pace of Fed hikes.

However, the more serious restriction on fiscal spending and lower taxes that would have resulted from a Republican sweep in the midterms is now less likely. This provides some support for continued strength in the U.S. dollar.

Chart 2: U.S. Dollar Has Weakened Due to Fiscal and Fed Policy Expectations, China Reopening Anticipation²

China Policy Pivot

China re-opening their economy has been a wild card all year, with significant anticipation, often met by continued restrictions and steady enforcement of “zero-COVID policy” by President Xi.

However, we’ve been closely following indications of easing restrictions over the past few weeks. China is the world’s largest economy and a significant source of revenues for major U.S. companies.

A China re-opening would likely have massive implications (positive) for companies like Starbucks (SBUX), Nike (NKE), Estée Lauder (EL) and Boeing (BA). It also has implications for energy prices, as a re-opening China increases demand for travel and energy production.

President Biden recently met with President Xi to discuss competitive relations.

President Biden has remained tough in his anti-China policy when it comes to data security, climate and certain human rights questions.

This all lends to increasingly bipartisan U.S. policy that encourages companies to diversify supply chains away from China by investing in the U.S.

Q3 Margin Pressure Meeting Price Resilience

In Q3, sales growth (+11.5% y/y), driven by price increases, continued to outpace earnings growth (+4.1% y/y), impacted by elevated costs.

More than 90% of companies have reported, yet we anticipate an important week of retail earnings this week, which will highlight inventory stability and discretionary goods pricing power.

As of Friday, energy, industrials and REITs are the only three sectors within the S&P 500 that expanded Q3 margins y/y.

Value names continue to outpace growth names for both revenue acceleration (+17% vs. +11% y/y) and earnings expansion (+8% vs. -1% y/y).

Right now, expectations are for consumer discretionary, industrials and financials to see the largest earnings growth in 2023. Energy and materials are expected to see the weakest growth in earnings – largely due to the record 2022 comps.

Yield Curves Remain Inverted

Yields moved lower across most of the curve during the shortened week for fixed income. The lower-than-anticipated CPI print triggered a strong rally across Treasuries (ex: 3-month bill).

Following the release, the 2- and 10-year yields each rallied 40 bps, while the 3-month yield largely held its position moving 1 bp lower by Thursdays close.

This move has further inverted the 3M/10YR spread to -36 bps, which is a gauge many investors believe precedes a recession.

Municipal yields saw similar, albeit less drastic, rallies as yields moved 11-23 bps lower, with the largest moves seen on the longer end. Both high yield and investment grade spreads widened into the CPI release, then tightened by 7 and 10 bps respectively.

The Week Ahead

Earnings – Tuesday: WMT, HD. Wednesday: TGT, TJX, CSCO, NVDA. Thursday: AMAT.

Economics – Tuesday: PPI (October). Wednesday: Retail Sales, Industrial Production (October). Thursday: Housing Starts (October), Philadelphia Fed Index, Kansas City Fed Manufacturing Index (November)

Return for Selected Indices³

Click here to read last week’s Market Note (11/7).

Disclosures

OCIO is a group of investment professionals registered with Hightower Securities, LLC, member FINRA and SIPC, and with Hightower Advisors, LLC, a registered investment advisor with the SEC. Securities are offered through Hightower Securities, LLC; advisory services are offered through Hightower Advisors, LLC.

This is not an offer to buy or sell securities. No investment process is free of risk, and there is no guarantee that the investment process or the investment opportunities referenced herein will be profitable. Past performance is not indicative of current or future performance and is not a guarantee. The investment opportunities referenced herein may not be suitable for all investors.

All data and information reference herein are from sources believed to be reliable. Any opinions, news, research, analyses, prices, or other information contained in this research is provided as general market commentary, it does not constitute investment advice. OCIO and Hightower shall not in any way be liable for claims, and make no expressed or implied representations or warranties as to the accuracy or completeness of the data and other information, or for statements or errors contained in or omissions from the obtained data and information referenced herein. The data and information are provided as of the date referenced. Such data and information are subject to change without notice.

This document was created for informational purposes only; the opinions expressed are solely those of OCIO and do not represent those of Hightower Advisors, LLC, or any of its affiliates.

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¹ Source: Bloomberg

2 Source: FactSet (chart). Data as of November 14, 2022

3 Source: FactSet (chart). Data as of November 14, 2022