Market Outlook

November 1, 2021

Investors Should Look Past Supply-Chain Disruptions

John Bonnanzio ♫ I read the news today, oh boy ♫

With apologies to Messrs. Lennon and McCarthy, there’s a considerable gulf between the gosh-awful news emanating from the mainstream media and what corporate America has actually been reporting about its bottom line.

Keeping in mind that fall (in particular, October) has historically hosted some pretty scary market corrections, the "nattering nabobs of negativism" (thank you Spiro Agnew) seemed convinced that another Black Monday was a certainty. How could it not? The evidence is everywhere, they say!

Granted, there’s plenty to worry about — though that’s always the case. Ships are backed up in America’s ports; containers can’t be unloaded fast enough. Christmas sales may be a bust.

There’s a shortage of workers; those darn Generation X, Y and Zers have grown too comfortable working from their parents’ basements. And if they found the motivation to help with the shopping, they’d find that the price of everything is going through the roof. Inflation, at 5.4%, is now at its fastest pace since Ronald Reagan slayed the Misery Index. Thanksgiving dinner, shout some of TV’s talking heads, will only be affordable to Facebook’s (er, Meta’s) Mark Zuckerberg.

Is Stagflation Returning?

Stagflation is not a term that even Millennials remember. But preliminary third quarter GDP has been clocked at a tepid 2.0%, down from an unsustainable 6.3% and 6.7% in the first and second quarters. Why was that unsustainable? Partly because the federal government has been winding down trillions of dollars in pandemic-relief money. Also, Hurricane Ida knocked out offshore oil and gas production in August, and that also weighed on economic growth.

In the 1970’s and early ’80s, slow economic growth and high inflation created an unhealthy environment for everyone — including stock investors. But the worry now is that the slowdown in U.S. industrial production and a 1.6% drop in housing starts may be harbingers of more economic malaise.

At the same time, everything seems more expensive. Mortgage interest rates are ticking higher (though a 30-year fixed is only 3.2%). And if you’re concerned about your kids buying a home and winding up with negative equity, the Case-Shiller home index provides a sound reason to be worried: in the past year, home prices have surged nearly 20% in and around major U.S. cities. (Though in the good news/bad news department, there are recent signs of prices beginning to moderate.)

Is There Any Good News?

Yes, there’s been plenty, with most of it called "earnings growth." But let’s first get some much-needed perspective.

When on October 28 the Commerce Department reported the economic slowdown, the tech-rich Nasdaq Composite responded by jumping 1.4%. While Wall Street’s eyes were fixated on earnings, some investors were also mindful that the ongoing wave of earning "beats" had occurred while everything was supposedly going wrong with the U.S. global economy.

Through the third quarter the Delta variant rapidly spread, once again filling hospital beds and morgues in some parts of the country. Though many were spooked by Covid’s resurgence, the hospitality and airline industries were rebounding. Consumer confidence at first waned, but later jumped to pre-pandemic levels. Moreover, says the Conference Board, though Americans are increasingly concerned about inflation, they’re still prepared to ramp up spending on big-ticket items like cars, trips and appliances.

Separately, daily vaccinations have bounced back to 800,000; relatively small numbers of employees are opting to be fired rather than roll up their sleeves. Plus, mix-and-match boosters have been approved, as have vaccines for most school-age children.

Perhaps the Covid dragon will be slayed after all.

Earnings, And More Earnings

And corporate earnings season is still shaping up to be boffo. While earnings beats are common (they averaged about 8.4% over the past five years, according to FactSet), this quarter a bigger percentage (13.4%) have so far surprised Wall Street analysts.

Bank earnings were blockbuster. Big gains from their asset management and brokerage units were sizeable. But it was especially encouraging that in the broader economy default rates on loans, credit cards, and mortgages were lower than expected. That allowed banks to redirect billions in cash reserves straight to their bottom lines.

Of the nearly 100 companies in the S&P 500 reporting earnings, 84% have beaten expectations. And in four of the 11 sectors, all companies have so far outperformed: communication services, health care, materials, real estate and utilities. Eighty-nine percent of tech companies have done the same.

On that note, U.S. companies with the biggest foreign revenue have so far fared better at growing earnings. So amid the possibility of higher market volatility, we’re sticking with our strategy of emphasizing U.S.-oriented growth funds with considerable stakes in technology.

 — John Bonnanzio