The market’s reaction to last week’s inflation figure was disproportionate and out of the realm of plausibility. Let’s recall, the inflation reading testified to a moderation in the rate of inflation, more than the market forecasts, both in the core data and in the general data. How much moderation? We are still talking about high inflation of 7.7% at an annual rate, far above the central bank’s inflation target, and far beyond what is tolerable in a stable economy. The market reaction? A jump of over 7% that day and another 2% the next day. The feeling is that the market was just looking for a reason to jump, like an impatient child waiting to get candy, like a stretched spring that is constantly trying to release itself.
Another figure published this week, the producer price index, also showed the weakness of inflation and once again sent Wall Street to a day of gains (which moderated a little due to geopolitical events). Is this a good figure? No. This is an increase of 8%, a month before there was an increase of 8.5%, so it is an improvement, but not even close to what is desired. But the market treated it as if it were good news. Again it seems the market just wants to go up. It’s important to remember, just because he wants to doesn’t mean he will succeed. Weak data (mainly from the field of inflation), geopolitical events, Fed decisions or even hawkish statements by its representatives can still bring it down. We will also add that in the medium term the heavy clouds of recession fears may bring back the bearish trend, but as of this moment, it seems that as long as nothing unusual is announced, the market will continue to look for reasons to rise.
What is the reason for this extreme reaction, for the market’s desire to climb at any price, even in the face of mediocre data? It is possible that these are attempts to improve returns, mainly by portfolio managers and investment funds, towards the end of the year, which causes the phenomenon known as the “year-end rally” – increases that characterize trading in the months of November and December. Another possibility is that a spoiled generation of investors has grown up that is only used to increases or corrections that last only a few months and immediately after them a terrible correction is recorded, as we experienced in 2020 and 2008. If it is the first option it is still tolerable, if it is the second option it is bad, because in the end the economic data will speak and then it will hurt, and no amount of impatience will help.
The report season is weak – and the market is happy
This week, since no more important macro data or dramatic decisions by one or another governor are expected to be published, we can leave the governors, inflation and interest for a few moments and turn our attention to the report season of the third quarter which is coming to an end. So far this is an average weak reporting season. The growth in profits is for the first time in years at a single digit rate and yet the market, as mentioned, is reacting positively. Which again leads to the conclusion we wrote above – the market wants to rise. We will look at two interesting data from the report season that is about to end.
The market rewards good surprises more strongly, but also bad surprises
91% of the S&P500 companies have already reported their results for the third quarter of 2022, 69% of which beat the earnings per share forecasts. Sounds good? Not really. This is a much lower percentage than usual – the average of the last five years is 77% and the average of the last 10 years is 73%. The positive surprises are also not particularly impressive – the average profit of the companies that beat the forecasts is 1.8% higher than the forecast compared to a five-year average of 8.7% and a ten-year average of 6.5%. And perhaps the most important point that casts a dubious light on the aforementioned achievement: these are profit forecasts that have been lowered again and again in recent months. If you lower the bar so many times in the end you will also manage to pass it. Therefore, even the companies that beat the lowered forecasts should not impress anyone, And certainly not to cause over-enthusiasm. But in the market, which, as mentioned, seems to be only looking for reasons to go up, even beating the low forecasts is a reason to party.
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In the two days preceding the publication of the results and the two days after, the shares of the companies that beat the forecasts yielded an average of 2.4%, well above the five-year average for this figure of 0.9%. If these numbers hold, this will be the highest increase in shares following higher than forecast profits since the third quarter of 2014 (then the average was 2.6%).
The other side of the trend is that companies that missed forecasts fell more than before. In general, Wall Street really abhors forecast misses and punishes misses far more aggressively than it rewards a positive surprise. This tradition is being kept this year as well. The average loss in the two trading days preceding the reports and the two trading days following in companies that missed the profit forecast is 3.5% compared to a five-year average of a 2.2% decrease.
The two most prominent representatives of both parties are Netflix and Meta. While the first surprised positively and rose by 16.6% in the said time period, the second surprised negatively and was cut by 23.5% in this time period.
A record year for buyback – buying back shares
The year 2022 is on its way to be a record year in self-purchases of shares by the major companies. The year 2021 was already a record year in terms of the amounts invested in repurchases, over 900 billion dollars, but the year 2022 surpasses it, when according to estimates the amount will reach a trillion dollars.
An important point to note: the actual execution of the purchase of the shares comes many months and sometimes even years after the actual approval, therefore most of the purchases made in 2022 were actually approved in the merry 2021. In 2022, the flow of launching plans for repurchases will dry up, and this is precisely during a period of a bear market in which, apparently, it is more attractive for the companies to purchase shares since the prices are much cheaper. The reason for this may be the tax that will be imposed in January on the repurchase of shares at a rate of 1% which does not encourage the launch of new programs. This deadline, on the other hand, will likely encourage companies to implement their existing buyback plans as quickly as possible before the expected tax takes effect. This increases the chances of breaking the record of repeat purchases from 2021, and also encourages again a movement of purchases that will support share prices in the market in the month and a half remaining until the end of the year.
Repurchasing is not always a good idea. Let’s return again to the hapless headquarters company, which launched a massive buyback program in 2021 and by June 2022 had purchased $33.6 billion worth of its own stock at an average price of $342 per share. Now the stock price is around $100 and the company has wiped out tens of billions of dollars in these purchases.
If companies that bought their own shares in 2021 turned out ridiculous and lost big, it is possible that companies that engage in own purchases in 2022 turned out to be the big winners next year. In any case, the fact that the self-buying continues in full force indicates that at least the companies themselves believe that they are trading at a low price, which can be a bullish indicator. The problem with this indicator: they thought the same last year.
One final worrying statistic
In recent weeks, we have repeated the assessment that the market is looking for reasons to increase in the short term, but if we look around the corner a few months ahead, the data from the real economy continue to be worrying and we may be predicting the return of the bear market next year.
This week, JP Morgan analyst Marko Kolanovic published a similar assessment: “We remain in our view that stocks will continue to be squeezed upwards into December, but we see increasing challenges to growth in the background in 2023, assuming that the central bank’s policy will remain restrictive. On the demand side, the tightening of conditions The finances in the United States, the real decrease in wages, the strengthening of the US dollar, the weakening of the housing market and the continuation of the tight policy of the central banks around the world is deflationary. The deflationary wave can be much faster and stronger if the economic slowdown deepens, which will make earnings per share much lower due to demand, profit margins and weaker pricing power.” That is, the story does not end when inflation drops and the Fed finally starts the long-awaited pivot, it is possible that it will only start there.
More data being released this week adds to this concern. The claim heard many times by the Fed in recent months that the economy is strong relies, among other things, on the high consumption figures. It seems that nothing stands in the way of the American consumer to the credit card ironing stations, and the private consumption figures, the main engine of the American economy, continue to gallop forward. This thing is puzzling. The interest rate does not affect? Rising prices are not an obstacle to the never-ending shopping binge? How is it possible that after almost a year of inflation at a height of more than 8% the American consumer continues to consume as if there is no tomorrow?
The worrisome answer may be that the American consumer has indeed forgotten that there is tomorrow, that is, the time when he will have to pay for this consumption, because the American consumer does not need only the cash in the bank account but a large part of the deficit in the bank, or more precisely, the credit cards. The debt of the American households is being cultivated in a frightening way and at an extremely fast pace.
The data published this week show that the debt of American households has increased at the fastest rate in the last 15 years, mainly thanks to mortgage debt and the use of credit cards. In nominal terms, the debt rose in the third quarter by $351 billion, the largest increase since 2007. This debt now stands at $16.5 trillion, an increase of 2.2% from the previous quarter and 8.3% from a year ago. Mortgage debt has increased by a trillion dollars in the past year and is now at 11.7 trillion dollars, credit card debt has grown to 930 billion dollars. Debts from loans for the purchase of a car also continue to climb.
These data also somewhat contradict the Fed’s assumption that households still enjoy large savings balances thanks to the injections of funds during the Corona period. The rise in debt indicates that the savings may no longer be as large as they think, and the consumer is turning to loans because they have run out of savings from which they could take.
This situation obviously cannot last forever, and the collapse of many households that will not be able to meet the increasing interest payments is just around the corner. Today the default rate is still relatively low in historical terms, which shows that the debt is increasing but still under control. However, since we are likely facing an increase of at least one percent and possibly even more before we reach the interest rate peak, the Americans have not yet actually faced the full force of the interest rate increase, as well as the first signs of the weakening of the labor market and the damage to real wages due to inflation, in the end there may be too much .
Micro: Toro – a conglomerate in the field of home and professional equipment
Sea freight prices are in sharp and consistent decline. This week the maritime transport price index fell by another 9% and completed week number 37 in a row of declines. In total, the price today is 70% lower than the price in the corresponding week a year ago, 73% lower than the peak in September, and 26% lower than the multi-year average for the last five years. While companies like Zim lose from this, the price drop has a positive effect on companies that have been affected by the high shipping prices and the problems in the supply chains that are showing signs of relief.
Another point worth paying attention to: the plummeting apartment prices in the United States together with the soaring interest rates cause a sharp drop in house sales. Many who thought of selling their home change their mind and decide to stay in it in the end. In such a situation, many homeowners compensate themselves for not having the opportunity to upgrade to a new apartment by renovating and renewing the current apartment, and thus the renovation and home care business thrives.
Toro {TORO CO THE} which operates from Minnesota and is traded on the New York Stock Exchange is expected to benefit from these two trends. First, the company beat analysts’ forecasts in the previous quarter, but missed the revenue line, and attributed this to supply chain difficulties that did not allow it to meet the demand for its products. That is, the strong demand allows it to improve margins and show higher profits, but the company cannot satisfy all the demand due to the state of the supply chains. In this case, improving supply chains and lowering transportation prices can certainly help further improve performance.
The company is engaged in the production of products for household equipment such as products for lawn and garden care, snow treatment, tools for home work and more, as well as for the professional sector with products such as tractor engines and more, and has become, over the course of more than a hundred years of its existence (founded in 1914), a conglomerate with a wide range of products. It sells to private customers but also to municipalities and companies.
Demand for the company’s products, as mentioned, is relatively strong. It is among the few companies that has listed on it since the beginning of the year, which has amounted to 13% so far. The company’s market value is 11.6 billion dollars, the profit margin is 30 and the dividend yield is 1.1%.