I recently spent the 4th of July week in Michigan with Julie and the kids (Hank, our little Yorkie, came along too), which has become a family tradition every summer. If you’ve never been “Up North”, as Michiganders call anything above the middle of the mitten, you are truly missing out on some of Americas most beautiful scenery and perfectly temperate weather this time of year.
Among my favorite places to visit is the UP (Michigan’s Upper Peninsula). Getting to the UP requires crossing the Straits of Mackinac via the Mackinac Bridge. The bridge spans a beautiful body of emerald-green water connecting Lake Michigan and Lake Huron. It is the world’s longest suspension bridge between anchorages in the Western Hemisphere at just shy of five miles and stands 552 feet tall at its highest point. Gorgeous views surround you but it’s not exactly the most comfortable place to be stuck in a traffic jam for those who don’t like heights.
Heading north, toll booth traffic stretched the entire span of the bridge. It took an hour and a half to cross The Nighty Mac this trip and that gave me time to reflect on things while trying not to have a panic attack hoovering over the cold waters. Of course, my thoughts turned to the economy and markets.
For the past year or so, economists have been screaming that we are heading for a recession that just hasn’t come. The stock market had wavered between gains and losses for much of the past year but a few months ago, a wave of buying began taking place in a select few technology companies surrounding Artificial Intelligence. That buying stampede centered around 7 or so stocks started pushing a few indices higher and higher. When just a few very large companies catch a bid, their “weight” in the S&P and NASDAQ indices can make it look like the entire market is doing well when, under the surface, the average stock is just muddling around or even declining as was the case until very recently.
Over the past few weeks, the doom and gloom economic reports of the past year have begun to show signs of improvement. Inflation metrics have come down while the labor market has remained strong and economic growth positive, a condition being referred to as “Immaculate Disinflation”. My previous writings this year talk a lot about recessions, soft and hard landings, and the role of the Federal Reserve. The message I’ve been telegraphing all year has been that markets are responding to economic data that points to whether we will avoid a recession all together, enter into a mild recession or have to endure another painful downturn to pay for the COVID era social and fiscal policy repercussions. It’s been a tricky year to navigate the markets with what appeared to be a weak macroeconomic backdrop slowly improving while markets became very disconnected with one another offering no sign of guidance. Immaculate Disinflation is an incredibly tough thing to pull off, but at the present time, it appears the Fed’s historic tightening campaign is doing just that. In my opinion, the odds favor “No Landing” or a “Soft Landing” at the present time and the markets are beginning to see broader participation upward as the data continues to reinforce this thesis.
Currently, the “Pain Trade” is higher. Wall Street calls it the Pain Trade as it produces the most pain amongst investors who are late to the new trend and have to chase the market higher. Having studied the markets for decades, I’ve learned to appreciate the fact that momentum continues as long as the macro environment is favorable, until some catalyst emerges that changes the overall sentiment. I must admit that sentiment has shifted to extremely positive levels, and valuations are fair at this point. This could potentially lead to increased volatility in stocks that have already experienced significant growth, however, there are certain segments of the market that are historically undervalued and should begin to play catch up. These segments, namely cyclical sectors and value stocks, also exhibit attractive technical attributes at this time which adds further confirmation to the theory of what “should” happen.
At this point in time, the naysayers are being forced to reevaluate their bearish theses and money managers are being forced to chase higher prices. This is evident in our first Dow Theory Buy Signal since the 2022 downturn having occurred last week. Charles Dow, the godfather of technical market analysis, opined that when the Dow Jones Industrial Average and the Transportation Average both have a series of higher highs and lows, this confirms an uptrend is underway. Last week, the DJIA finally broke out of the top of its long-term trading range on a closing basis and confirmed the bull market the transports were signaling.
Over the past few days and weeks, our managed portfolio allocations have been shifted to align with our current, data driven forecasts. Our allocations have shifted from being more defensive to focusing on those areas of the market we believe have the most potential to play catch up given the improving economic backdrop. We maintain a neutral weight to our growthier holdings that have already moved up and will continue to monitor these as valuations have gotten a little stretched in the short run. On the fixed income side of the portfolios, we continue to favor short term and interest-rate hedged bonds to reduce volatility and capture higher yields but recognize there might be a case for adding duration in the near future.
The AI revolution has brought our first positive sentiment catalyst and that is being reinforced by a strong consumer, a resilient labor force, continued growth, signs of declining inflation, and a Fed that is telegraphing we are close to the end of this rate hiking cycle. I believe economic conditions have crested the proverbial bridge, markets have paid their economic tolls at this point and the road north will continue to be the path of least resistance in the coming months with minor detours for construction along the way.
Should you wish to discuss the current markets, our strategy, or just touch base to see how things are going, please don’t hesitate to reach out to our office @ 843-651-2030. Also, feel free to share these newsletters with your friends and family via email and visit us on our website at www.sabowealth.com or www.facebook.com/sabowealth.
Important Disclosures: Past performance is not a guarantee of future results. The statements contained herein are solely based upon the opinions of Edward J. Sabo and the data available at the time of publication of this report, and there is no assurance that any predicted or implied results will actually occur. Information was obtained from third-party sources, which are believed to be reliable, but are not guaranteed as to their accuracy or completeness.