For May, we had been anticipating more weakness than what was seen, we expected the low for the market to trade out around May 24- 26. Instead, we got a split market, which has been the major characteristic of trading in 2023. For the month, the S&P 500 and the Russell 2,000 spun their wheels with little result, while the Dow Jones and NYSE continue to underperform, as they have all year. Once again, as it has been for all of 2023, the NASDAQ, led by the technology sector, was the big winner.
It has been several years since we have seen a market that has been so bifurcated. The NASDAQ has raced out to a 30% return for the first five months of 2023, three times the return of the S&P 500 year to date and well ahead of the Russell 2,000 (-0.6%), Dow Jones Industrial Average (-0.5%), and NYSE (-1.96%).
Looking specifically at the S&P 500 through the end of May, the average individual stock return year to date is around 2.34%, with roughly half the companies held in the index posting positive price action for 2023. If you removed the top ten largest positions from the S&P 500, all technology companies outside of Berkshire Hathaway, the S&P 500 would barely be positive on the year. After last year, investors should be happy with any positive return, but we need to see market participation broaden quickly.
Since our expected May 24-26 market low, we have seen some improvement in participation, but we need more. In our May Outlook, we noted that while our Money Flow indicators had remained extremely strong, the weakness in our Relative Performance indicators was becoming concerning. Throughout most of May, there was zero improvements in these indicators, including Relative Strength, which reached a shallow level of 21.47% on the last day of the month. The positive side of these extremely low readings in Relative Performance is that these data points can only get stretched so far before it snaps back. Over the last few days of the month, our relative indicators, excluding relative strength, have all risen from extremely low levels. It’s essential that this trend continues and other names outside of the tech space start to do some heavy lifting.
Where is that Recession?
As expected, our great leaders settled the Debt Ceiling ‘crisis’ by kicking the can again down the road. So, with another ceiling crisis not a concern for the market until the second half of 2025, the market can now entirely focus on the crushing recession that the economic savants and financial media have been warning us about. Again, we believe many continue to underestimate the overall strength of the US economy.
To get technical, the National Bureau of Economic Research (NBER) uses six monthly measures of aggregate actual economic activity to determine the current position of the US Economy.
These measures include the following:
Real personal income less transfers
Non-farm payroll employment
Employment as measured by the household survey
Real personal consumption expenditures
Wholesale, retail sales adjusted for price changes
Industrial production
While the NBER has no fixed rule about which measures contribute information and weight to their decision-making process, real personal income less transfers and non-farm payroll employment have been the most critical data sets over the last few decades.
Below is a review of these two data sets over the last few decades:
Real Personal Income Less Transfers - This is personal income that is earned in some capacity and does not include transfer payments (social security, Medicare & Medicaid, unemployment assistance, and other government benefits). The chart below provides data for this measure back to 1980, with the areas highlighted in gray as recessionary periods in the US economy as classified by NBER. For April, actual personal income less transfers reached a new all-time high, not what you would expect if we were facing such a horrible recession. As history shows, we need to see some considerable weakness in real personal incomes to become concerned about a larger economic contraction.
Non-Farm Payrolls - Released by the Bureau of Labor Statistics on the first Friday of each month, non-farm payroll measures the number of workers in the US except for those in farming, proprietors, non-profit employees, and active military.
One statistical measure that has frustrated the Fed throughout its aggressive rate cycle over the last 15 months is non-farm payrolls, which, like personal incomes, are currently at a new all-time high. Typically, payroll data will roll over heading into a recessionary period, but since the Covid lows, and in the face of Fed tightening, payrolls have remained extremely strong. While this may change in the coming months, non-farm data currently says there is not much to be concerned about.
When we look at the other four measures that the NBER uses to determine the current position of the economy, three are also currently posting all-time high readings. Industrial Production has been improving since December of last year but has not made a new high since August of 2018.
Maybe it’s different this time; perhaps some of the changes that have taken place in the economy since Covid have caused these long relied-upon measures to not properly represent the broad US economy. While skepticism will always be a part of the market, maybe more so with all the external non-market issues, we still must trust what we see until it’s proven false. Perhaps in the months ahead, we will see all of these measures start to roll over and push us closer to a recession. But right now, from what we see, a recession should not be a concern for investors.
June Market Expectations
The bottom line remains the same for the market as stocks and bonds continue in the sideways patterns they have been in for most of the last year. After recovering from the fallout caused by the takeovers of Silicon Valley Bank and Signature Bank, stocks are currently testing the upside of their range, which is around 4,300 on the S&P. If we lived in a perfect world, the S&P would have enough strength to push through this resistance. But with the excessively overbought situation in the NASDAQ currently and if the potential positives that will come out of the June 14th FOMC meeting are priced in, there are few catalysts right now to give us the necessary strength to make a significant breakout.
For June, we expect a short-term market top that will occur after next week’s FOMC meeting, with a drop into the end of the month. It will be imperative to see how the internals of the market change on any weakness into the end of the month.
The most positive outcome would be for this drop to occur amongst the heavy-lifting tech stocks while the rest of the market shows relative strength improving. This should be the most likely outcome, given the decreased readings mentioned in our Relative Performance indicators. If we get a move lower, that is weak across the board, we will have to expect that there is a more significant liquidity issue that the market will have to work through. Again, our base assumption is that the market will continue this sideways chopping pattern into the early fall before finally breaking out to the upside.
We also expect a much more critical top in bond yields in late June or early July based on where commercial traders are positioned with specific futures contracts.
Specifically, we are looking for short-term bond yields to put in a significant top in the month ahead before they drop off sharply through the second half of the year. These short-term drop-in rates should signal to the Fed that they have been over-aggressive with their rate policies and relieve investors of additional rate hike fears. This top in bond yield should begin to reinvert the yield curve and make longer-duration bonds attractive for the first time in a long time.
“Successful investing is anticipating the anticipations of others.” - John Maynard Keynes