No Panic Yet

September 27, 2022

This is just a short post to highlight some issues regarding the current stock market rout. For those that are used to the pessimism that occurs here regularly, there is little end in sight. In the global scheme of things, investors are now perhaps ‘anxious’, perhaps going through some denial, but the typical investor has not reached a point of fear. Still, markets are showing signs of significant weakening and the outcome of all of the policy and structural changes to economies is not clear.

Over the past week a number of very significant events have taken place, and the outlook from those events increases the odds of negative reactions on asset prices. Remember investment decisions are typically made to accommodate economic events, and often lead the economic events themselves.

Here are some major issues that have progressed in the past week:

  • the Federal Reserve has raised interest rates again and highlighted that they are not done, and will continue until inflation is under two percent as long as employment is strong. They have stated that their target range for next year is about 4.4% and the current range is about 3.25%. Interest rates will rise another 20% or so and that is a lot, particularly for those who have substantial debt.
Interest Rates have risen quickly and are expected to go higher
  • The UK has put out a mini-budget under new prime minister Liz Truss. The content of that budget harken back to last decade when free money, lower taxes and massive deficits were a valid response to a slowing economy. Unfortunately as the rest of the world starts to understand the consequences of such actions, market participants have sent a strong message. UK equity markets are collapsing, the British Pound is collapsing and interest rates will be forced up. The UK labour force and exports will be far more competitive at least.
The British Pound is at an all time low to the US dollar
  • Italy has elected a far right, populist leader. It is difficult to understand the outcome of this, but given Italy’s excessive debts, a negative economic outcome is certainly a possibility. If it were to go the way of Greece, the follow-on impact for the EU could be very, very negative.
  • Along those lines, the Euro currency is now below par with the US dollar and further weakening is expected. Perhaps it would be a great time to take a vacation in Europe, but costs for food and fuel are rising rapidly while Russia continues to threaten Eastern Europe!
The Euro currency is collapsing
  • The US dollar is rising substantially as investors seek safe havens. Of course the average American may find this to be a wonderful thing, but about 29% of the revenue for the S&P 500 comes from foreign sources. That number will almost certainly be lower in coming quarters. Profitability will be hampered in the current quarter as well.
The US dollar is racing higher
  • Russia continues to threaten nuclear war. If this were to happen, the outcome wouldn’t just be a human tragedy, it would cause a vast negative response on world markets and dramatically raise risks around the world.

Markets look ahead to the future and the current data suggests that a recession is coming. From a technical perspective, the S&P just broke through the recent lows from June. In the world of technical analysis, this is considered a ‘breakdown’, although it isn’t a significant one yet. But these sorts of things typically lead to lower prices in the future. The S&P 500 is also below the 50 and 200 day moving average which also bodes poorly for the near term. A move to 3,300 is probably in the cards.

S&P 500 breakdown just extended downward

With this backdrop it is difficult to forget the environmental damage that is occurring as well. With hurricane Ian about to hit Florida, another massive impact on human lives is about to take shape. But this is a follow on to a difficult year in many parts of the world due to drought.

Another important issue is that many key analysts are also (finally!) starting to talk about a recession being unavoidable.

With so many changes to the economic, political and investing environment, standing aside makes the most sense for all but the bravest and most risk tolerant traders. Average investors are just beginning to worry, to think about how this will affect them, and the real panic may be a few months away still. In the chart below, we are perhaps passing through the denial phase into the fear phase. Asset prices tend to bottom out during the despondency phase and that could be many months away still.

We are somewhere between ‘anxiety’ and ‘fear’. Markets have a long way to fall still.


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