Eddies and Turbulence
Happy Halloween! It’s all about eddies this week. Eddie Munster because it’s Halloween and eddy currents because the water we’re in is very swirly.
Evidence of churning, swirling market water abounds. Mega cap tech stocks suffered a $370 billion selloff this week as industry heavyweights cited various well-known issues hurting earnings: a strong U.S. dollar versus virtually all other currencies, untamed inflation, continuing supply-chain snafus and weaker demand pointing to a questionable economic growth outlook. The hit to the mega caps hides a notable counter current: the advance that most tech stocks made during the week. In fact, 84 of the NASDAQ-100 Index posted gains for the week, while only 18 lost ground during the week. (Yes, there are currently 102 issues in the NASDAQ-100 Index.) Cross current signals like this seem to be appearing more frequently.
The biggest U.S. online retailer predicted this week a glum holiday season. The market interpreted this bad news as bad news, sending the company’s shares down. The eddy current here is the most popular U.S. smartphone and computer maker announced a slight earnings beat that the market interpreted as good news, sending shares higher. On one hand, we have a consumer-oriented company losing ground, while on the other hand, we have a technology-based consumer-oriented company gaining ground. Swirly indeed.
Market leadership in 2020-2021 was dominated by mega cap stocks. This dominance has shifted, rather dramatically. Evidence of mega cap leadership erosion shows up in small caps stocks. For the week, the Russell 2000 Small Cap Index gained 6.02%, well ahead of the S&P 500’s 3.97% rise and 51 basis points ahead of the S&P 500 Equal Weighted Index. This should not be surprising as David Ruff has pointed out that small cap stocks typically outperform in high-inflation environments.
Source: Bloomberg
As Dr. Feeney pointed out last week (https://acmwealth.com/article-video/earnings-the-other-shoe-to-drop/), bad news is sometimes taken as good news. It depends on whether the news has been priced in or not. This week, a major U.S. homebuilder announced a surprising -4.17% earnings miss, but the stock reacted with a gain of +4.19%. Clearly, kernels of good were in with the bad.
On the subject of housing, affordability is providing its own unique cross currents. The U.S. 30-year mortgage rate topped 7% this week for the first time in 20 years, more than double what mortgages were going for a year ago. At the same time, home prices have declined only modestly, off from their peak in June but still well ahead of year-ago prices.
Market surprises can go the other way, too. As already noted, the biggest online retailer in the country suffered a big down day, despite its +63% earnings beat. Good news here was overpowered by a bad outlook. Similarly, a major global minerals and mining company posted a very strong earnings beat, and the market rewarded its shareholders with a price decline of -4.75%. Good is bad. Swirl and rinse.
Natural gas provided another confusing data point when the Waha (Texas) Hub Index turned negative for two days this week. While not unprecedented, it is highly unusual for gas to sell at a negative rate. Due to pipeline constraints (planned and unplanned maintenance) producers without takeaway agreements in place are forced to pay firms to take their gas in order to keep their oil flowing (gas is frequently a byproduct of oil production). Negative energy prices are confusing.
Source: Bloomberg
When rivers flood and jump their banks it takes time for a new sustainable course to be set. We’re in the adjustment phase now. As a reminder, the Global Financial Crisis 14 years ago saw a peak-to-trough market decline of 58% over 352 days. The current environment has seen a peak-to-trough decline of 28% over 195 days. Multiple cross currents and squirrely data point simultaneously to potentially divergent paths: to sustained recovery and to further deterioration. These eddies are the defining characteristic of the current environment. At ACM, we select companies that demonstrate management’s ability to negotiate uncertain environments. This gives us confidence that our portfolios are constructed to weather the sometimes choppy and murky water.
More turbulence is almost certain as investors look to upcoming economic and political events: the Federal Reserve meeting on November 2, the October jobs report on November 4, mid-term elections on November 8 and the next reading of consumer inflation on November 10. Regardless of the potential for positive or negative surprises, we believe the management teams heading the companies in our portfolios are skilled, adept and capable of negotiating the swirling waters.
Mind your Eddies.
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