Even after yesterday’s solid gain, the S&P 500 was still officially in a correction. But, just how good of an indicator is the S&P 500? Is it really on track to forecast a U.S. or global recession in the near future? A look back at S&P 500 past track record suggests around a 1 in 3 chance of a U.S. recession at this point. The historical odds of the current correction turning into a bear market are also about 1 in 3.
First a quick review of definitions. A bear market is widely defined as a 20% or greater decline in the S&P 500. A correction is typically defined as a decline greater than 10% yet less than 20%. Based upon these definitions every bear market begins as a correction, but not every correction becomes a bear market. As of today, at its closing low on March 8 of 4170.70, S&P 500 was off 13.0%. To be in an official bear S&P 500 would need to close below 3837.25.
Since June 15, 1948, there have been 12 S&P 500 bear markets and 27 corrections. Excluding the current correction from the tally there have been 38 declines in excess of 10%. However, the National Bureau of Economic Research has only identified 12 recessions over the same time period. This works out to less than 1 recession for every 3 S&P 500 declines in excess of 10%. It is also interesting to note that even though there have been 12 S&P 500 bear markets and 12 U.S. recessions since 1948, four of the recessions did not line up with S&P 500 bear markets.
Clearly there are ample reasons to be pessimistic about the market and the economy. Even before Russia invaded Ukraine energy prices had been steadily climbing higher and inflation was running at multi-decade highs spurring the Fed to start to step on the monetary policy brake pedal. The Fed has been quickly bringing QE to an end and prepping the market for a series of rate increases. Russia’s invasion of Ukraine and the elevated uncertainty it adds to the overall outlook is only going to make the Fed’s task all that much more difficult.
There are also reasons to remain optimistic about the economy and the market. The U.S. labor market remains firm with more job openings available than there are people looking for work. Energy prices are finally pausing and have actually begun to retreat. Corporate earnings have held up well and estimates for 2022 S&P 500 stock buybacks are around $1 trillion. It is also worth pointing out that S&P 500 is about 13% off its all-time high after rallying nearly 115% off its March 2020 low.
As we noted way back in December in our
2022 Annual Forecast, volatility was expected this year. At that time Russia was not waging war with Ukraine and energy had not surged to multi-year highs. Our main concern then was the Fed, and it appears the market maybe drifting back toward that concern once again. When Treasury bond yields were climbing earlier this year, hi-grow technology stocks were getting hit. With the 10-year Treasury yield hitting 2% today, many of those familiar names are getting hit again today. One notable exception is Amazon as the market is initially reacting rather positively to Amazon’s announced stock split and buyback plan.
Next week we will hear from the Fed. They are widely expected to raise rates and revise their outlook lower. We also expect they will acknowledge the heightened level of uncertainty caused by Russia/Ukraine. Should they provide a clearer path to monetary policy normalization it could remove some uncertainty from the market, but trading is likely to remain choppy. We will continue to stick to our strategy while heeding stop losses and remaining vigilant for the next buying opportunity. Historically, in midterm years it has arrived in Q3 or early Q4.
Free Lunch Update
Per last month’s update, the last position from December’s Free Lunch basket of stocks was closed out. Core Laboratories (CLB) was exited using its average price on February 11 for a gain of 24.6% excluding any trading costs or dividends. More recently CLB has briskly rallied on speculation that higher energy prices could lead to increased demand for oil and gas equipment and services. Based upon the recent brisk retreat in crude, CLB’s recent rally could be short-lived. The Free Lunch section of the overall Almanac Investor Portfolio will be removed in the next update. The cash balance will return to where it came from, the overall portfolio.
Stock Portfolio Updates
Over the last four weeks since last update through yesterday’s close, S&P 500 dropped 6.7% while Russell 2000 slid 3.2% lower. Over the same time period the entire portfolio slipped 0.5% lower, excluding dividends and any fees. Small-Cap positions, on average, were the worst performing off 2% as two positions were stopped out. Large-Caps were second worst, off 1.0%. Mid-Caps advanced 1.4% on average. In total, across all segments only two positions were stopped in the second half of February and early March.
Both positions that were stopped out were in the Small-cap portfolio. Broad market weakness combined with interest rate pressures appear to be the main reasons why both positions retreated. KB Home (KBH) was the first to be stopped out on February 22 followed by Customers Bancorp (CUBI) earlier this week. Both positions have bounced back modestly and did post gains today. In the near- and intermediate term, housing and banks could see continued pressure due to interest rates. Higher rates usually translate into higher mortgage rates which tend to weigh on housing demand while it appears likely that the yield curve will flatten instead of significantly steepen as the Fed raises its short-term rate.
Moving up to the Mid-cap portfolio, Pacira BioSciences (PCRX) was the driver behind this section of the total portfolio advancing over the last four weeks. Solid quarterly results that beat expectations on both the top and bottom lines appear to be the catalyst for PCRX’s solid recent gains. PCRX is on Hold.
Sharply rising fuel prices have prompted a tighter stop loss of $42.00 for Werner Enterprises (WERN). Shares have held up quite well, but it remains to be seen if WERN will be able to pass through costs to its customers as quickly as they are rising.
AT&T (T) is the sole open position that was in the red on the close on March 9. Despite some clarity on its dividend and its media properties, T’s struggles have continued. As a reminder, T intends to spin off Warner Media and merge it with Discovery Inc. while its dividend will be cut to $1.11 per share. When the spin off completes T shareholders will receive 0.24 shares of Warner Bros. Discovery for each share of T held. Hold shares of T as the spin off does appear it may be beneficial to both T and the new media company.
All other positions are on Hold. Please see the table below for updated stop losses and current advice for positions not covered above.