By: Jeff Anderson
|Close||Weekly return||YTD return|
|US Treasury 10yr Yield||3.494%|
Source: Wall St. Journal
Fed Governor Powell gave a speech on Wednesday laying out the current challenges in bringing inflation back down towards its 2% “ish” target (1). In general, the tone of the speech was hawkish (see the link below if you want to read it). However hawkish he appeared for the bulk of the speech, traders reacted very positively to his closing paragraph. Mr. Powell mentioned that given the full effects of the rapid increases in interest rates are yet to be felt in the economy. It was this sentence that got traders racing to press the buy button. “It makes sense to moderate the pace of our rate increases as we approach the level of restraint that will be sufficient to bring inflation down”.
The Nasdaq Composite rose nearly 5% on Wednesday alone. It kind of shows you how the market is desperate for some comfort that rate hikes are coming to an end. It wasn’t only the US equity markets that reacted positively. Credit Markets, specifically longer maturity bonds rallied, with the yield on the 10-year US treasury note dropping below 3.5%. It was over 4.2% less than a month ago. That may not seem like a lot, but it is. With that, the US dollar weakened, and international equities responded positively.
The employment data released Friday kind of confirmed what the Fed was saying about the full effects of rate increases still not fully reflected in the economy. Economists were predicting 200,000 jobs added for November. It came in at 263,000, signaling a pretty resilient labor market. (2)
Yet, on the corporate earnings side, analysts are sharpening their pencils and reducing their earnings targets for corporate America in Q4. According to FactSet, analysts have lowered their Q4 earnings for the S&P 500 by 5.6%. Historically, the average decline is around 2.1%. This decline was larger than the 5-year, 10-year, 15-year and 20-year average. Only two sectors had positive earnings growth estimates, with energy leading the way. (3)
What does this all mean? First and foremost, the economy is slowing. Inflation is lasting longer and straining household budgets. The stock market is not pricing in a recession. Economists are still all over the spectrum. Some see a recession coming in 2023 while others see the economy “just missing” a recession. Regardless, when earnings decline so do the multiples investors are willing to pay for those earnings. Investors love to pay high multiples for growing earnings. They pay less for slowing earnings, and even less for declining earnings. The weighted average forward (i.e., 2023) Price to Earnings multiple on the S&P 500 is around 17 times. If earnings start to really come down, the multiple could easily approach 15, if not lower. That could mean a tough year ahead for the markets, despite already enduring a tough time this year.
Chinese Protests Take a Bite out of Apple’s Stock Price:
China is still battling Covid-19. Lockdowns are still in place in many parts of the country. People are tired of it. Many have taken to the streets to protest the never-ending lockdowns. Apple relies on China for a large portion of their iPhone production. Q4 shipments could be down close to 15 million units. Some analysts have even mentioned the unthinkable; a potential revenue decline in 2023. Granted, Apple has had slight revenue declines in the recent past, but the stock wasn’t as richly priced as it is today. It currently trades for 24 times earnings. A pretty rich premium to the S&P. This premium has been warranted in the past. You can even argue that it may have been valued too cheaply in 2015. Apple is a large component of all three of the major US indices. It is owned and loved by many analysts and individuals. It has made many people very wealthy. Apple’s market cap is $2.35 trillion now. It was valued at nearly $3 trillion in early January. In January of 2106, it had a paltry (sarcasm noted) market cap of $570 billion. That is a ton of wealth creation. It’s been the largest component of the S&P 500 since 2011! That is a long time. Before that, Exxon Mobil was the largest, and held that post from 2005 until Apple took over the top spot.
We have been conditioned to believe that Apple will always be “Apple”. No company has every dominated corporate America indefinitely. Zero! The iPhone launched in 2006 when Apple had a market cap of roughly $60 billion. Since that launch, Apple remained a product innovative juggernaut. The new Mac laptop, the iPad, the Apple watch. All amazing products that have changed lives. That pace of innovation is likely finite. Apple will likely remain one of the larger Corporations in America for a while, but don’t expect the same share price growth that we’ve witnessed over the past 15 years.
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