The Weekend Edition # 75

Welcome to another issue of the Weekend Edition. 

Thank you to all who’ve read and welcome to all the new subscribers this week!

Here’s what we cover:

• Market Recap - Changing market

• Macro - CPI Changes

• Earnings - Earnings Scorecard

• Premium Article - Oil Earnings and Outlook

• The Week Ahead - Economic & Earnings Calendar

• Closing Thoughts - Buybacks are back

Let’s dive in ⬇️

Market Recap - 06 Feb - 10 Feb, 2023 📉📈

We just closed out the second “red” week of the year. As far as the technicals go, there’s still some strength left in this market rally. The broad market indices all still remain above the major moving averages, including the 200-day. But, we have the CPI being released next week and that will definitely be something to watch.

The past week still saw the market moving enormous volumes of options but, this time more on the put side, i.e., the view is the market going down. As with the calls, the level of put buying is one factor that can push the market down.

A look at rotation shows us that the last five days saw the market sentiment shift slightly - from risk on to risk off. The defensives show an improving trail while the tech and communication sector showed deterioration. ⤵

The job numbers last Friday seemed to have set off this wave of selling. The unemployment rate came in at 3.4%, the lowest in 54 years, while average hourly earnings inched up - giving people the idea that this tight job market may spark another wave of inflation or at least, cause it to remain sticky. This quite likely true.

This was reinforced by Fed Chair Powell’s discussion on Tuesday, where he suggested that they were not going to be cutting rates any time soon and that their job wasn’t done (again!). It’s not like he said anything he hadn’t said before but, this time the market seemed to have taken notice. Add to that Fed speakers reinforcing the message - the mantra of the market is now “higher for longer”. And this isn’t just about the Fed Speak, the market is actually pricing in higher rates once again. The orange line below is the Fed Funds Curve as of this Thursday, 09 Feb 2023. ⤵

Commodities

We had some drama in commodities land as well. Oil has been quite volatile throughout the week, ending on a higher note after Russia announced plans to reduce oil production by 500,000 bpd next month after the West imposed price caps on the country's oil and oil products.

Precious and base metals didn’t perform very well. The correlation of gold to the USD is at -0.90 which means as the Dollar goes up, Gold goes down. This is what we saw last week. I will cover this in more detail during the week in a full-length post and look at opportunities in Gold. 

Macro of the Week - Update on the CPI

The BLS released changes to the CPI calculation that will go into effect as of 2023. This will affect the January data release we will see this Tuesday, 14 Feb 2023. They released two changes:

1. Seasonal adjustments to the CPI data

2. Changes to the weights of CPI data that will be updated annually (this was done every two years previously)

Seasonal Adjustments

The seasonal adjustments are done every year with the release of the January CPI. These revisions could mean an adjustment to the calculation for the last 5 years.

The Bottom Line: Seasonally adjusted inflation may look stronger both on core and headline inflation.

Changes to CPI Weights

BLS is celebrating Valentine’s Day with changes that they hope we will love. That’s exactly what they said on their website! These changes to the weights will now be done annually, instead of every two years and they will change the weight based on the more important factors.

Housing will have a larger relative weight now at almost 44.4% from 42.4% and transportation namely, used and new cars will have a lower weight at 16.7% from 18.2%.

Bottom Line: The broad categories that had higher inflation last year had increases in their relative importance between 2022 and 2023 and vice versa. So, if we presume that the more inflationary items from last year remain stickier, we’re likely to see a higher level of inflation based on CPI calculation going forward.

We know housing has been relatively sticky and the decline in used car prices has been helping the decline in CPI. Therefore, we may see higher numbers going forward.

Earnings

FactSet Earnings Scorecard: 

Earnings showed a decline of-4.9% for the S&P500 companies that have reported. Last week, this number was at -5.3%. So, this week we saw a relative uptick in the number, presumably from the oil earnings. The energy sector has a blended growth of 57.6% till date. This has given earnings a massive boost.

However, comparisons are getting tougher. Q1, 2023 will be compared to Q1, 2022 and this will lead to the companies booking not just a quarterly decline in most cases but also a YoY decline. As of now, forward earnings for the next two quarters have turned negative at -5.16% for Q1, 2023 and -3.13% for Q2, 2023.

Moreover, the beats and misses score seems to be coming under pressure as well. Even though analyst estimates have been taken down, we’re still experiencing a higher level of misses.

Premium Articles of the Week

Premium membership is $10/month or $100/year

The Week Ahead

Earnings Calendar 

Economic Calendar

Closing Thoughts - Buyback season is back

We’ve recently launched a new publication called MacroVisor for more deep dives into big picture macro concepts. This week I wrote about the earnings recession, again! I can’t help it. I don’t think people appreciate the gravity of the situation enough and that an earnings recession can actually be quite devastating for the market’s valuation.

The bottom line is that my valuation on the SPX comes out to be around $3200 - $3400. Of course, I could be completely wrong, but the math seems to suggest these levels.

A major factor in the intrinsic valuation calculation remains the level of rates and the level of buybacks. This is something we need to pay attention to. We need to remember however that a buyback authorization doesn’t necessarily mean that buybacks will be done for the total amount. The average amount returned to shareholders on the S&P over the last few years has been 89% of cash flows. I assume 85% which is still quite high. Let’s keep an eye on this.

Here’s wishing you safe investing.

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Sincerely yours,

Ayesha Tariq, CFA

There’s always a story behind the numbers.

None of the above is Investment Advice. I may or may not have positions in any of the stocks or asset classes mentioned. I have no affiliation with any of the companies other than explicitly mentioned.

Full disclaimer: https://ayeshatariq.substack.com/about

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