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February Economic Update

Market Summary

The stock market started the new year on a positive note as inflation continued to moderate and hopes increased that the Federal Reserve may stop raising interest rates. The Dow Jones Industrial Average gained 2.83%, the S&P 500 retraced higher by 6.18%, and the tech-heavy Nasdaq outperformed gaining 10.68%. (1)

Economic Developments

The stock market opened the year the way it ended the previous year, moving lower with high-growth names bearing the brunt of selling during the first week of trading. Particularly troublesome was the continued strength of the labor market, which heightened worries that the Fed would hike rates higher for longer to bring inflation to its target rate of 2.0%. The market then took a sharp U-turn in anticipation the latest inflation data would show continued progress which was confirmed by mid-month. (2)


Last month was also the beginning of earnings season, which in spite of the market moving higher, has thus far netted below average results. Analysts have been lowering earnings estimates for the past several quarters and while the percentage of companies beating estimates remains high, actual earnings are declining on a year-over-year basis. When adjusted for inflation, earnings growth has been slowing at a significant rate.


Of the 50% of S&P companies who have reported earnings to date, only 0.6% are reporting earnings above estimates, which is well below the 5-year average of 8.6%, and lower than the 10-year average of 6.4%. Analysts are now projecting earnings declines of -4.2% for Q1 and -2.9% for Q2 before earnings potentially begin to rebound after summer. For all of 2023, analysts are predicting earnings growth of 3.0% which is lower than the projected rate of inflation year-over-year. (3)


The Federal Reserve

After the end of last month, the Federal Reserve released their policy statement on February 1st. They acknowledged inflation has been declining for several months but the trend is not enough for them to change their policy course. They raised interest rates by another 0.25% and stated another “couple” of interest rate increases may be necessary due to a strengthening job market. This was in stark contrast to their December statement where they intended to cease interest rate hikes by March and now could set the stage for rates to move above 5.25% which was their previous target. The also Fed reiterated they do not intend to lower interest rates at any time this year. (4)


What to Watch this Month...

After coming out of a volatile year in the markets in 2022, the January relief rally was welcomed by investors. However, it is important to note the markets remain within the same trading ranges since May of last year and there are reasons for caution after the January rally.


The Federal Reserve has not indicated when they intend to stop raising interest rates. If the labor market remains strong, we believe there is a chance the Fed raises interest rates as high as 6%-6.25%. Another important factor to consider is each rate increase that went into effect last year has approximately a 9–12 month lag before both the economy and stock market feels the constraint of each individual rate increase, which is one reason why analysts continue to lower earnings guidance for the first half of this year. Also of note are Manufacturing Purchasing Managers Index readings, which is a leading economic indicator and continues to decline toward recessionary levels.


There are reasons to be optimistic as well. The stock market typically bottoms months before corporate earnings bottom. If we do see earnings contraction through the first half of the year, followed by earnings growing during the second half, then the market could remain within these ranges through that time before eventually breaking out to the upside. There will likely be several periods during the course of this year where the stock market will appear disconnected from economic data as investors and analysts attempt to spot the light at the end of the tunnel to gauge when the next growth cycle will begin.


 

Monthly Financial Tip:

If you’re financing a new car, look for the best interest rate before setting foot in the dealership. It could be to your advantage to take a cash rebate and get a loan elsewhere.

 

Citations:

1. WSJ.com, January 31, 2023

2. CNBC.com, January 12, 2023

3. Insight.FactSet.com, February 03, 2023

4. WSJ.com, January 4, 2023


Disclaimers:

This post has been derived from sources believed to be accurate. Please note - investing involves risk, and past performance is no guarantee of future results. Bob Lawson is not engaged in rendering legal or accounting services. If assistance is needed, the reader is advised to engage the services of a competent professional. This information should not be construed as investment, tax or legal advice and may not be relied on for the purpose of avoiding any Federal tax penalty. This is neither a solicitation nor recommendation to purchase or sell any investment or insurance product or service, and should not be relied upon as such. All indices are unmanaged and are not illustrative of any particular investment.



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