Which way are the stock market winds blowing?

The last Market Watch article, published in June 2022, concluded: “It is hard to fathom any set of circumstances in the next 12-24 months that mitigate other than a continuously depressed market pushing stocks well below present values.” At that time the market was 33,000 points. It is now 34,000 points, so no significant change, yet.

While the market has gone nowhere in the last 6 months, a look at the chart entitled “Federal Reserve Forecasts vs Reality” is telling: every positive statement that the Federal Reserve made just over a year ago has turned out to be wrong; mortgage rates are much higher; inflation is higher; the housing business is suffering a significant slowdown; we are officially in a recession. 

An increase in credit card debt, a sure sign of times when cash is tight, is now higher than the last recession in 2008. Both Wall Street and the Federal Reserve System have done everything they can to mislead the public into believing we are looking at a “soft landing” as a worst-case scenario (see chart). Market contractions represent 29% of the stock market’s time. Bull markets dominate 71% of the time. Historically it takes 19 months for a market to recover from a bear plunge. In the last downturn of 2018, it only took 5 months because the Fed started “Quantitative Easing” (QE*) earlier than during recessions in the last century.

Federal Reserve forecasts vs. reality

Forecasts from 14 months ago versus reality in November 2022

1. Interest rates will not rise until 2024
2. Inflation is transitory, will fall to 2% in 2022
3. Don’t worry, we are expecting a soft landing
4. A recession is highly unlikely
5. The housing market is not in a bubble.
   Every statement is wrong.

1. Average rate on a 30-year mortgage is now 7.3%, the highest since 2020
2. Mortgage demand is at a 25-year low
3. Wells Fargo's mortgage business down 90%
4. Credit card debt hits $930B, higher than 2008
5. Average Americans' savings are declining.

We are in a recession.

Is this new “easing” strategy going to work, or will inflation, mountains of government debt and high interest rates finally create a serious market crash?

A market selloff is imminent, but the depth of it we don’t yet know. We are currently faced with what is known as a “debt yoke.” The government owes $33 trillion, $8 trillion more than our GDP. A sign of imminent governmental fiscal disaster is when government debt exceeds GDP. Ours exceeds GDP by 32%. It is “third world government behavior,” and it always results in bankruptcy. 

Current interest costs for the government are now 4.5%, or theoretically $1.49 trillion over the next 12 months. Most U.S. government securities mature in the next two-and-a-half years and will need to be refinanced at much higher interest costs, almost a four-fold increase in the cost of interest between this year and last year, and double our military budget of $722 billion dollars. This is called a “debt trap” because the bulk of our taxes go toward paying interest on debt that was created for nothing that is sustaining. No long-term assets to produce cash were created by this debt. The entirety of our debt trap is a result of the growth of the welfare state, which continues to drain our resources. We are clearly in store for a market selloff, but a serious market crash is impossible to predict.

Results of 14 Fed rate hiking cycles since WWII

This is pretty gloomy. What is the end game? 

The end game is bankruptcy, which has happened to this country a handful of times in the past, or inflate our way out of debt. We are technically already bankrupt and have only avoided a terrible crash in the value of the dollar because the dollar, unbelievably, still represents the world’s most stable currency. The entire free world settles accounts in dollars. Our inflation at home, and large build-up of debt, terribly harms people in countries allied to America. They didn’t create the high interest rates or the inflation — we exported it to them. This ultimately puts them in an uncompetitive position economically in world markets. 

So far, both international and domestic investors have been burned by bets that 2021’s inflation surge was not “temporary” as promised by our government. Since the founding of the Federal Reserve in 1913, the Fed has given us four serious inflations, 18 recessions, and two depressions. That kind of record does not inspire one to believe the Fed can provide another “soft landing” or any meaningful, or dependable, actionable advice. 

Knowing that government statistics are calculated to make the government look good, when can we really expect this bear market to fully express itself? 

Bear markets usually start off slow and end up with a bang. In this bear market we have had an initial significant selloff, coupled with a reflexive rebound where many investors feel that nothing more insidious will happen. These rebounds lure people back into the market at exactly the wrong time because we are still in a bear market. The last two bear markets, both in this century from 2000-2002, and 2007-2009, fooled investors. 

From March 2000 to March 2001 the S&P declined 19%. Subsequent to March 2001, the S&P, and the NASDAQ, ended in a bloodbath, down again, substantially more than 19%. In October 2007 through September 2008 the S&P declined by 20%, and at the bottom by March 2009, the S&P experienced an overall decline of 50%. Usually, bear markets start off slowly and are fought by Wall Street, and the Fed, before a huge decrease in value, frequently after having lured investors back into the market. This bear market will make itself known as long as consumer spending continues to go down. Consumer spending is 67% of GDP, and it’s the key to an expanding economy. 

Are there any good signs out there that bode well for investments? 

Economists note that commodity prices are down 30% from their 2022 highs, energy prices have backed off about 35%, base metals are down more than 25%, soft commodities like cotton are down 45+%, and textile prices are off 17%. That favorably affects inflation; however, this “good news” is offset by the following: increasing interest rates, inflation is more than 8%, and profit margins across the S&P 500 are declining. Interest rates are taking a toll on housing, consumer spending, and business decisions concerning hiring and capital investments. Cautious investors can see that the short term and intermediate term economic outlook bodes poorly. That usually means the stock market will continue to underperform and seek lower levels. 

While stock market performance may reflect these difficulties, underlying productive elements in this country are exceedingly well managed and aggressive in their markets. America remains amazingly innovative with thousands of small highly technical businesses that continue to make a huge difference in this country’s efficiency: in agriculture, manufacturing, electronics, and management systems. 

Conclusion 

There are many good things going on in this economy, although recent statistics indicate broadening weakness indicated by a second consecutive quarterly decline. Price increases and interest rate movements have dampened consumer spending. Retail sales are declining; single-family home sales are falling month after month; home construction is receding; job claims continue to be higher; and Congress has lost control of the budget. 

The new $1.7 trillion budget will drive the Fed into even more destructive policies, the most significant of which is financing another huge federal deficit. With all those negative variables, it’s wise to do nothing other than put as much of one’s assets in cash as reasonably possible. Very good long-term bond yields are becoming available and might be more attractive in 6-12 months. If a significant market crash occurs as twice earlier in this century, an investor with cash can purchase stocks on sale, the  best scenario for the stock market investor. 

The winds of the market are blowing south. 

Caveat Emptor. 

George Rauch, of Longboat Key, is CEO of Bradenton-based General Propeller and a former Wall Street investment banker.