Investing involves risk - one of the truest statements, but one which most investors find very hard to fathom (or stomach). As we find ourselves at market highs, any data point that even slightly suggests a recession is on the horizon is slapped across major financial media these days.
This week's musings are inspired by Summer film/album/song "Purple Rain". The album was actually released in 1983, but the film came out in July of 1984. The movie/album/song were all wildly successful. Here's some trivia about "Purple Rain":
The movie, almost exclusively shot in Prince's home state of Minnesota, was filmed on a $7 million budget and grossed $70 million at the box office. The album was certified 13x platinum and sold more than 25 million copies worldwide. The album, which reached #1 on the Billboard charts, contained two #1 hits ("When Doves Cry" and "Let's Go Crazy") and two other hits ("Purple Rain" and "I Would Die 4 U") landed in the top ten on the Billboard charts.
The film was truly the inspiration of Prince himself. After the success of his album "1999," Prince told his manager, Robert Cavallo, he would not renew his contract unless Cavallo got him a starring role in a film. Prince spent months writing down specific plot points and the project finally landed with Albert Magnoli, who edited the original script and directed the movie.
Prince required all of the musicians in the movie to take acting lessons, since none of them had much experience in the movies. Morris Day was supposedly kicked out of the classes for "clowning around."
The film actually won an Academy Award for "Best Original Song Score." It was also selected by the Library of Congress for preservation in the United States National Film Registry.
Here are some lyrics from the four major hits of that album:
"How can you just leave me standing?
Alone in a world that's so cold? (So cold)
Maybe I'm just too demanding
Maybe I'm just like my father too bold
Maybe you're just like my mother
She's never satisfied (she's never satisfied)
Why do we scream at each other?
This is what it sounds like
When doves cry"
"Let's go crazy
Are we gonna let de-elevator bring us down?
Oh, no let's go
Go crazy (woo)"
"You say you want a leader
But you can't seem to make up your mind
I think you better close it
And let me guide you to the Purple Rain"
"I'll never beat you
I'll never lie
And if you're evil I'll forgive you by and by
'Cause you, I would die for you, yeah
Darling if you want me to
You, I would die for you"
Here's what we've seen so far this week...
When The Bears Cry. Markets continue to go through a rotation phase, which in the long run is a good thing for market health. Small caps, Mid-caps, and "value" names are in-vogue for the moment, while "momentum" and Magnificent 7 stocks are normalizing.
Since July 8th, the market has ceased rewarding Mag 7 stocks and has shifted to names that were significantly under-valued by comparison. The Dow Jones Industrial Average, The Russell 2000 Index, and the Russell Mid-cap Index are all positive from the 8th through the 25th of this month.
The VIX Index, however, has popped higher, getting the bears all hot-and-bothered. Yes - volatility is something that we watch all the time, however, a lot of the recent increase in the VIX has more to do with which stocks are selling off, rather than which stocks are moving higher.
The "heat map" for the market over the past 30 days shows that while the big, Mega-cap names are down (red), most names in the market are higher (green). The problem is that those Mega-cap names, as the their category suggests, have a much greater market capitalization than the average stock, so their decline has affected the market more so than the rise in most other stocks.
Wednesday was the first 2% down day for the S&P 500 Index in almost a year. However, market health was still strong. While the index was down 2% on that day, nearly one-third of the index had stocks that moved higher on the day. That's not something that we typically see in a bear market. For example, as the market was making new lows in 2022, the number of stocks that moved higher never got above 100, while yesterday saw at least 165 stocks move higher.
All this to say, when markets have finished rotating, we may not have yet seen the last all-time-high for the year. How can we suggest this? Well, we've only had 9 days this year with single-day losses greater than 3% (shoutout to Ben Waltman for his help with this table). We're on pace for about 15 such total days this year. In looking at historical down days for the S&P 500 Index, when the total down days greater than at least 3% is 15 or less, the average return for the market is higher than 20%. The S&P 500 is up about 14% so far this year. That means we could see another 6% return from here by year-end if history holds true.
Let Me Guide You...To The Solid Economy. The first measurement of 2nd quarter GDP (Gross Domestic Product) came out this morning and it was anything but a suggestion of a looming recession.
Second quarter GDP came in at +2.8% growth, versus +2.0% expected and higher than the +1.4% reading from the first quarter. We typically don't see a rebound in quarter-over-quarter GDP when heading into a recession. In addition, GDP usually slows to at or below +1.0% the closer we get to recession. This would suggest that the economy, despite higher interest rates and sticky inflation at the beginning of the year is churning along nicely.
Another sore spot for bears is the state of the housing market. To be clear, the housing market is in dire need of a rate cut. However, if we look at the current supply of Existing Homes for Sale, while elevated, it's no where near the levels that were seen in 2007 and 2008 in the lead up to the Financial Crisis.
The claims numbers improved this week. Initial Claims declined by 10,000 week-over-week to just 235,000 and came in below expectations. Continuing Claims (those who have filed for unemployment and have stayed unemployed for at least 4 weeks, also dropped week-over-week and came in below expectations. As a reminder, we typically see claims jump into the 300,000 or 400,000 range before recessions, historically.
Credit Spreads tend to give us a signal of an approaching recession. So far, we're not seeing warning signs on that front, either. The BofA High Yield Option-Adjusted Spread Index typically jumps higher prior to a recession. Currently, that index is not even half the level it was in 2000 and at least 38% lower than 2007 and 2020 just prior to those recessions.
The PCE Index, the Fed's preferred data point of inflation, came in as expected for June at +0.1%. On a year-over-year basis, the index was lower for the 2nd consecutive month. This has Fed Futures moving to a 100% chance of a rate cut in September. So much so, that now the probability of a 50 basis point cut in September has climbed from just 5% one month ago to 12% today. The data is always subject to change, but the reality is we're experiencing some seasonal softness in equities, compounded by a rotation among sector and asset-style leaders. Until there is more convincing evidence of an imminent recession ahead, investors should stay the course for now.
Ladies and gentleman, the Revolution...
Disclosures
The information contained herein is for informational purposes only and is developed from sources believed to be providing accurate information. The opinions expressed are those of the author, are for general information, and should not be considered a solicitation for the purchase or sale of any security. The decision to review or consider the purchase or sell of any security should not be undertaken without consideration of your personal financial information, investment objectives and risk tolerance with your financial professional.
Forecasts or forward-looking statements are based on assumptions, may not materialize, and are subject to revision without notice.
Any market indexes discussed are unmanaged, and generally, considered representative of their respective markets. Index performance is not indicative of the past performance of a particular investment. Indexes do not incur management fees, costs, and expenses. Individuals cannot directly invest in unmanaged indexes. The S&P 500 Composite Index is an unmanaged group of securities that are considered to be representative of the stock market in general.
Past Performance does not guarantee future results.
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