- Welcome to 2022, we're in the aftermath of a global pandemic
war's broken out in Europe, leading to energy rationing
and inflation means my rent went up 55%.
Seriously, can it get any crazier?
Maybe.
That honestly wouldn't seem out of place, ever.
It would be quite the way to go today,
on my birthday of all days.
Despite this, stocks and crypto have begun peeking
their heads out from the rubble, leaving many
investors to assume that the downturn is over.
It's only up from here.
Or are they butting heads with
the cold, hard facts of reality?
Let's dive in.
Beyond the chaos I just outlined,
the S&P 500 has a little bit of a problem.
Historically, it's been incredibly strong, growing
in a mostly consistent upward trend.
But when we look to the last year,
things start to change.
Year-to-date and six-month tracking
has the market going south.
But last month it all flipped.
One-month, five-day and one-day prices all
show the market looking like it's jumping back.
People everywhere are suggesting we have
a rally on our hands.
This means if you're a smart investor,
get some deals on stocks that can only go up in value.
Well, like most things in investing,
the situation is trickier than that.
The last thing you want to do is invest all of
your cash, only to find out it's a false rally.
So to get a better understanding of today,
we need to look at some historical facts.
And let me tell you, in investing,
that answer is always yes.
Kind of.
It's like that quote, "History doesn't repeat itself, it rhymes"
This exact thing hasn't happened before, but we
have plenty of comparables to look to.
Ok. History.
If you've ever looked at a stock market graph
from any period in time, you'll immediately notice one thing:
it doesn't move in straight lines, at all.
The second thing you'll notice is that drawn out sell offs
often feature inspiring rallies that shoot up,
fizzle out and return to the sell off.
Despite this, our situation right now is kind of rare.
It isn't often that the S&P sees a 7.5% loss,
then gains it back one month later.
It's actually only happened a handful of times since
Europe was in an all-out war with this guy.
But it turns out these few
occasions were all fantastic buying opportunities.
Guess what the average return was for the S&P 500
just twelve months after those dips?
30%.
Yeah, like I said, a fantastic opportunity.
So it's an excellent time to buy, right?
Well, it's never that simple,
because false rallies also happen.
The Depression era saw a few that
would have been devastating times to buy.
Plus, if we look at the more recent turnarounds in history,
they've been in response to the Fed
aggressively slashing interest rates to stimulate the economy.
And here's the thing: the Fed just
increased rates, so there's no reason to
assume they'll cut rates again anytime soon.
So if the bottom is in and this bounce
back really is a full on bounce back, then
it's based heavily on faith in the Fed.
Can investors really be that confident?
Let's look at what's actually going on.
The Fed put an iron grip on monetary
policy to help battle some of the most
staggering inflation we've seen in decades.
But this same approach increases the odds
of a recession or a slowdown or
whatever term we're using these days.
Whatever it is, nobody wants it to happen.
But the head of the Fed himself, Jerome Powell,
has made it clear that he thinks controlling price stability
is far more important than avoiding a recession.
Still feeling confident?
Let's look at some other factors that
suggest the market won't keep rallying.
Then we'll talk about a game plan.
First, policy uncertainty.
To make decisions, the Fed needs reliable data.
And there's a hell of a lot
of unknowns floating around right now.
As I outlined at the start, 2022 has been insane,
and the market hasn't accurately reflected that uncertainty.
And second, policy lag.
The effects of Fed decisions take a long time
to reveal themselves, so we aren't going to feel
the tighter financial conditions for quite some time.
But it's also worth reiterating an earlier point.
Will it bounce back or keep tumbling?
Is there any evidence to suggest
things might be going well?
Now, take a look at this ISM graph.
It actually has some good news for inflation,
which, if you've been reading any headlines the last few months,
will come as a total shock.
The graph tracks a manufacturing survey that
monitors prices paid by purchasing managers.
Now, what's interesting about this is the survey
tracks pretty closely with producer price inflation.
So when it goes up, inflation tends to do the same.
When it goes down, inflation tends to do the same.
This brings us to right now.
At one point last year, the
ISM was tracking at around 90.
But after a massive fall last month,
it's back down to 60.
So if you want inflation to fall,
which you do, then this is good news.
It's hard to say exactly why this is happening.
It could be supply chain pressures are
finally easing up, or demand is evaporating.
But either way, it's one good sign that
things are making a turn for the better.
Positive. Right?
Well, let's also look at bonds.
Not that one, the boring ones.
What are they doing in all of this?
Well, if you look at the yield curve in the bond market,
it does seem like a recession is bearing down on us.
Check out this chart comparing the
two and ten year bond yields.
It doesn't go negative often, but when it
does, it means a recession is very likely.
The reason why
is the bond market is all supply and demand.
In normal times, a longer term bond pays
a higher rate than short term ones because
your money is locked away longer.
However, when investors think the economy is going down the
toilet in the immediate future, they want out of short
term bonds and dive into the long term ones.
Then, when it gets bad enough, the long
term bonds actually pay less than their short
term brethren because everyone thinks the short term
economy is on life support.
Now let's zoom in even closer than two years.
If we look at the three month, ten year yield curve,
we can get an even better idea as to whether the
recession is squatting over us threatening a tea bag.
Why?
Because the three month, ten year yield curve
really only inverts or goes negative when an
economic slowdown is beating down the door.
So how does that curve look?
It's not good and dangerously close to inverting.
Okay, so what about gas?
Well, aside from the fact that Europe is
rationing it, gasoline futures are floating around where
it was before Ukraine got invaded.
And this is good news because prices
are just now starting to settle down.
But that being said, gas is only
one piece of the economic puzzle.
It's not going to help your average Joe
with problems like raising rent 55%.
However, they might, if you're optimistic, improve
overall consumer mood, which we also need
for the economy to turn.
Now, I hear you saying, what about crypto?
What are digital currencies doing
during all this mayhem?
Well, two of the largest cryptocurrencies, Bitcoin and Ethereum, are
still down by 50% from their highs, but they both
had significant rallies in the past few weeks.
Does this mean for crypto that the bottom
is in and it's all out buying time?
Not exactly.
There was an idea in crypto for a while
that it's its own separate universe, unaffected
by traditional finance, and that's just not true.
The world inflation, stocks, interest rates, they all
influence crypto, whether we like it or not.
Sure, crypto has its own influences, like
Three Arrows Capital just completely collapsing.
But if inflation is skyrocketing and the S&P 500
is all over the place and consumer confidence is a mess.
It's not unreasonable to assume that crypto
will be a little uncertain as well.
So in these uncertain times, it makes sense to treat
crypto with even more caution and expect more volatility.
It looks like war, inflation and shifting
monetary policy aren't going anywhere anytime soon,
so we need to consider those.
Now, where does this leave us? Is the bottom end?
Is this a good time to buy?
And is a giant asteroid going to smash into Earth
and release a swarm of terrifying alien parasites?
Well, it's impossible to say for certain.
I can give you my overall feel of the markets.
In every bear market there are rallies.
Many of them are fake, though, and they look
a lot more enticing than they actually are.
Michael Burry recently tweeted about the Nasdaq rallying 20%
and how that doesn't mean we're in a bull market,
because that actually happened seven times
after the dot com bubble crash while continually falling
for an additional two years.
And here's why I'm skeptical about stocks,
we never saw amazing deals.
Every week I browsed the market looking
for value stocks that are underpriced.
And well, sure, prices did decrease a bit.
We just never saw a period where
there were spanking deals everywhere you look.
And that's what you would expect in a true
downturn where there's just absolute blood in the streets.
That says to me, at the very least,
fear in the stock market didn't hit bottom.
Now, crypto, to me that might be a different story.
Investors were literally labeling it garbage.
To me, that's a hallmark of an
oversold asset - blood in the streets.
But here's the thing I just can't stop thinking about.
Sure, maybe crypto hit bottom and stocks didn't.
However, if stocks are yet to hit bottom and
they eventually do, they will take crypto with them
as fear will eat up every market.
So the solution in my mind is to invest
slowly and patiently.
We're starting to see the light again in these markets.
People are getting up, dusting themselves off,
but it may be a little while
before we're completely in the clear.
A few metrics to keep an eye on for
the next bull market are consumer sentiment, those yield
curves we talked about earlier, and whether the Fed
begins letting up on interest rate hikes or not.
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