December 4, 2023

“A great business at a fair price is superior to a fair business at a great price”

Charlie Munger

Vice Chairman Berkshire Hathaway

As we closed out a great month, I thought it was appropriate that I quote the great Charlie Munger who passed away last week. The bulls continued to run as the market posted its 5^th consecutive week of good news.

Here are the numbers: The S&P 500 rose 0.87% to a 2023 closing high. The Dow Jones Industrial Average gained 2.46%, wrapping up its fifth-straight week of good news, also closing at a 2023 high, The Nasdaq Composite, was up 0.38%. International stocks also joined in with the FSTE100 up .55% and the MSCI-EAFE adding .26% 2-Year Treasuries closed with a yield of 4.87% and the 10-year Treasury yield slid to 4.21%.

Significantly, the iShares MSCI EAFE ETF EFA, which tracks a range of companies in Europe, Australia, Asia, and the Far East, is up 8.4% in November, nearly keeping pace with the S&P 500’s 8.7% gain, while the iShares MSCI Emerging Market ETF EEM has rallied 1.7%.

It seems Ain’t nothing going to stop this rally now. The S&P 500 closed out November up 8.9%, for its best monthly performance since July 2022. The large-cap index is now up 19% on the year — and that’s with one of the index’s traditionally best months still on the way. Since 1928, the S&P 500 is up an average of 1.3% in December, according to Yardeni Research.

Dreams of disinflation sent bond prices soaring this month (yields move in the opposite direction of prices). The Bloomberg U.S. Aggregate Bond Index rose 4.9% in November, for its best monthly gain since May 1985. Gold also was up and oil prices fell to about $80 a barrel.

Why you ask?

The US. economy grew at a zippy 5.2% annual pace in the third quarter — faster than previously reported — but the surprisingly strong gain appears to have been a one-off.

Gross domestic product, the official scorecard for the economy, was revised up Wednesday from an initially reported 4.9% rate of growth. It was the biggest increase in a decade, if the pandemic years of 2020 and 2021 are excluded.

Black Friday spending was robust supporting consumer confidence, which rebounded in November from a 15-month low. However, worries about a recession persisted, a new survey showed. The closely followed index moved up to 102 from a revised 99.1 in October, the Conference Board said Tuesday. Economists polled by the Wall Street Journal had forecast the index to register 101. Consumer confidence tends to signal whether the economy is getting better or worse. Americans are grumpy about the economy despite the best job market in decades. The chief reason is a severe bout of inflation that has raised prices 18% in the past three years and eroded the standard of living. High interest rates have added to the misery and are expected to slow the economy. Consumer spending represents about 70% of the economy.

On the industrial side?

A barometer of business conditions at American factories was negative in November for the 13th month in a row, indicating little improvement in the industrial side of the economy.

The Institute for Supply Management’s manufacturing survey was unchanged at 46.7% last month. Numbers below 50% signal contraction.

The industrial side of the economy has shown signs of bottoming out, but conditions are likely to remain weak as long as interest rates stay high. High rates discourage consumer purchases of big-ticket items such as cars and curtail business investment. Heavy industry represents about 10% of gross domestic product.

And what does the Federal Reserve say?

Chairman Powell reiterated that the Federal Open Market Committee is prepared to raise rates further if it deems it appropriate. He also said it would be premature to speculate when rate cuts may start.  But, that didn’t stop traders from speculating on when rate cuts may start. Fed-fund futures now imply a 55.4% probability of a 25-basis point cut by the March FOMC meeting. That’s up from 41.5% on Thursday. So how did Powell’s cautious remarks spark such a shift?

The retreat in 10-year Treasury yields comes as traders increasingly anticipate rate cuts next year, which was reflected on Friday by the odds of a 25-basis point rate cut in March pegged at 60%, according to the CME FedWatch Tool. “I still think the Federal Reserve is going to be slow to cut rates,” said Kelly at J.P. Morgan The biggest headline of the day came from dovish remarks by a Federal Reserve official, but even that mostly confirmed the market’s optimism that the central bank is done raising interest rates.

Sometimes no big news is good news. Especially late in the year, when the investing world begins to focus on the outlook for the coming year. There’s more room for optimism, and it’s a seasonally strong period for the market. Fed Governor Christopher Waller said today that he sees the current level of interest rates slowing down the U.S. economy, which is helping to bring inflation toward the central bank’s 2% target.  But while that could mean higher short-term rates for longer, markets also will be keeping close watch on 10-year rates, since those more directly impact corporate earnings and can discourage consumer spending, a driver of the U.S. economy. To that end, Charles Schwab and Company bond guru Kathy Jones said the 10-year rate could fall as low as 3.5% next year, if a mild recession unfolds, which isn’t Schwab’s forecast. Do not expect the 10-year rate to fall below 4% without the economy first hitting a pothole that triggers recession scares, and several Fed rate cuts.

Looking at the rest of the world, while the past year’s unforeseen political, geopolitical, and market upheavals should have further dampened the world’s growth outlook, the global economy surprised on the upside.

Oil prices after the big OPEC meeting?

It’s a bit surprising to see oil prices decline sharply after major oil producers pledged additional production cuts for the first quarter of next year, but that’s exactly what happened last Thursday, following a much-anticipated OPEC+ meeting. Analysts said the voluntary nature of those added reductions had spawned skepticism over whether they will actually be delivered. “What the market was hoping for was a unified voice on agreed-upon cuts,” Stewart Glickman, energy equity analyst at CFRA Research, told MarketWatch. “It sounds like it will be up to each voluntary contributor, and that brings up the issue of discipline,” he said. The group of major oil producers, at first, did not mention additional reductions to production levels when it made its statement at the end of its ministerial meeting Thursday. Another press release followed, detailing voluntary cuts announced by OPEC+ members that would total more than 2 million barrels a day, or mbd, though that includes the extension of a 1 mbd cut by Saudi Arabia and a 300,000 barrels a day reduction in crude supplies by Russia. Russian fuel exports will also be reduced by 200,000 bpd starting in January.

The vast majority of developed economies defied expectations, successfully avoiding economic contraction. Developing countries, as a whole, avoided financial distress. Even China, despite its disappointing growth, showcased the resilience of its economy as the year drew to a close. These encouraging trends have prompted analysts to adopt an optimistic outlook for 2024. Instead of a recession, the consensus forecast now is that the U.S. economy is headed for a “soft landing,” with disinflation paving the way for interest-rate reductions. Europe, having bolstered its energy reserves and restructured supply chains, is projected to avoid a recession as well, although Germany’s economy may continue to lag. In China, a major stimulus package is set to boost GDP growth. And the combination of lower interest rates and falling energy prices is expected to shield most developing countries from economic and financial dislocations.

Back at home some concerns…

The number of people already collecting jobless benefits in the week ending Nov. 18 rose by 86,000 to 1.927 million. That’s the highest level since November 2021. Jobless claims are volatile around the holiday season and economists are cautious about reading too much into the data. The rise in continuing claims suggests it is harder for workers who have been laid off to find new jobs. That fits with the description of a softer labor market in the Fed’s Beige Book survey released last Wednesday.

Home prices in the 20 biggest U.S. metros rose for the seventh month in a row and hit a record high, reflecting a persistent shortage of properties for sale. After a brief pause, home prices have resumed their upward climb even with mortgage rates at the highest level in decades. While high interest rates have discouraged some buyers, there still is enough demand to keep home prices going up. Relatively few current owners — the beneficiaries of low locked-in rates — are listing their properties for sale and builders aren’t bringing enough new housing onto the market. Unfortunately for prospective buyers, these problems are unlikely to go away anytime soon.

So, as we start December, look forward to Santa bringing good things for your Christmas/Holiday celebrations and 2023 should end on a positive note and after a tough 2022, make me look forward to delivering your yearend performance statements in January.

Mike