CAPIS recently conducted its November research briefing, featuring Nicholas Colas and Jessica Rabe, Co-Founders of DataTrek Research. DataTrek is a New York-based independent research advisory service providing unbiased data analysis, helping investors make the investment process more profitable, robust, and efficient.
Click here for a video of the research call
Colas’ presentation addressed the following topics:
Midterm election recap (03:29)
- Colas opened by saying the midterm elections did not go as forecast, as the GOP failed to regain control of both the House and Senate. This was an “anomalous outcome” given President Biden’s approval rating in the low 40s. (3:40)
- The market now has certainty in the outcome, expecting the next two years will be fought with “a fair amount of gridlock” and few or no new policy initiatives. (5:06)
- The capital markets can now move forward and focus on the Federal Reserve interest rate schedule and earnings. (5:38)
Federal Reserve Targeting 5.00% Fed Funds Rate (5:42)
- Colas said that as of 11/17, Fed Funds futures projected with 81% certainty the FOMC would raise short-term interest rates another 50 bps at the December meeting. “This is baked into the cake” by the market. (5:55)
- While there is no January FOMC policy meeting, Fed Funds futures and DataTrek are projecting a 45% chance of another 50 bps hike while some are hoping for only a 25 bps increase. This would place Fed Funds in the target range of 4.75% to 5.00% – squarely where the FOMC has said it wants. (6:30)
- Looking into March, Fed Fund futures imply a 25% bps, if there is any hike at all. This would place the Fed Funds Future target range at 5.00% to 5.25% and signal to the capital markets the Federal Reserve is extremely serious, despite market doubt, about fighting inflation. (6:50)
- As universally thought, the Federal Reserve and Chairman Powell will not raise interest rates for the remainder of 2023. Colas said some pundits have suggested “a token” 25bps interest rate cut late based on Nov and Dec 2023 Fed Funds contracts. This school of thought subscribes to the thesis inflation continuing its slowdown and consumer demand is peaking. (7:20)
- Colas said the Federal Reserve will continue to be hawkish in its statements countering market sentiment the Fed is soft. Colas said the FOMC will stay hawkish and wait until 3-month rolling averages for economic indicators such as CPI, PPI, wage growth, and others move lower. (8:30)
Inflation – It Takes Two to Tango (10:35)
- To properly estimate where inflation is coming from, DataTrek said it relied on the New York Fed’s recent blog study on inflation which said inflation is composed of two components: supply chain constraints and aggregate consumer demand. The NY Fed said 33% of inflation is driven by the current supply chain issues while 66% is attributable to the consumer. Consumers remain flush with cash (either in the form of savings, wages, and/or stimulus monies – thus keeping the Federal Reserve hawkish and consumer demand focused. (10:41)
- Also, Colas follows the Global Supply Chain Pressure Index which is only one standard deviation from its historic mean – a good sign. In comparison, this same measure was 4 standard deviations back in 2022. (11:45)
- On a global scale, DataTrek looks at the Chinese Air Quality Index, using it as a barometer of industrial activity in the nation’s (and the world’s) industrial centers. Air quality in China’s four major industrial cities indicates less pollution overall – ergo less economic activity. This should help ease the global supply bottleneck further in the face of solid aggregate demand. (12:28)
- The view is the Federal Reserve’s previous rate hikes have yet to sufficiently cool aggregate demand (evidenced by the Oct Retail Sales data) – even for big-ticket items such as homes and automobiles. This will also keep the Fed skewed towards raising rates. (13:31)
U.S. Equity Fundamentals (15:46)
- The S&P earnings ratio is holding at 17.7 times earnings ($220 per share) and trading solidly in a range of 14 to 19, indicating the markets are confident there will be no earnings recession and a positive for U.S. companies and stocks. (15:50)
- The Federal Reserve has given companies a more than sufficient look at its interest rate game plan and has had adequate time to prepare, proceed, and navigate this “preprogrammed recession or slowdown” and keep earnings stable. No market shocks, like in the past, have happened, or are expected to happen. have occurred Stock prices (and earnings) should be stable – a plus for the market. (17:42)
Follow Three Indicators (20:25)
- Colas and DataTrek are telling clients to watch the VIX and that readings over 30 signal “a buy” while a drop to around 20 signals “sell.” (20:34)
- He also said the only favorable sectors now are Energy and Healthcare. Either go long or stay long and investors won’t be wrong. Watch for multiple expansion, growth, and safety, respectively.(21:36)
- Non-U.S. equities are purely a currency play. U.S. dollar weakness drives these trades, with Emerging Markets requiring more analysis than just currency analysis. (22:50)
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