Welcome to the March 2023 Newsletter. This month, we’re discussing the economy, employment, financial terminology, and more.
The inverted yield curve and the Leading Economic Indicators—two reliable recession indicators—remain bearish. Therefore, we believe we'll have a recession later in 2023 or early 2024. We believe this will not be a severe recession but a mild to moderate one.
Remember the stock market is always forward-looking which means it will hit bottom six to nine months before the economy bottoms. If the economy bottoms out in late 2023 to early 2024, we believe a stock market bottom will occur between April and August of this year. If we have a recession, we could see the S&P 500 Index go back down between 3,600 and 3,900. If we have a soft landing or no recession, we do not expect to retest the October lows of 3,580.
We expect the 2023 GDP to muddle through the rest of this year. We also expect the stock market to slowly—but not necessarily steadily—grind higher in 2023. As we approach next winter, sentiment will recognize 2024—after a potential recession—looks promising with expected S&P 500 profits to reach $245 per share. With a PE ratio of 18 to 20, the S&P 500 Index will reach new highs in 2024.
At this time, all portfolios are fully invested and based on each investor’s objectives, risk tolerance, and timeframe. We recommend employees continue to save every pay period in their employer’s retirement plan and in a Roth IRA for their spouse and themself.
Quote of the Day
“It’s not the employer who pays the wages. Employers only handle the money. It’s the customer who pays the wages.” Obviously, Henry Ford strongly believed in capitalism through innovation and putting customers first.
Henry Ford, 1863 to 1947, was an American industrialist, business magnate, and founder of the Ford Motor Company. Ford was the chief developer of the assembly line. This drove the cost of the assembly process down dramatically. The lower cost of production allowed Ford to create the first automobile that middle-Americans could afford.
In 1887, Ford built a four-cycle, single cylinder, internal combustion engine with a one-inch bore and a three-inch stroke. In 1890, he started working on a two-cylinder engine. He continued working during the 1890s to design a functioning four-cylinder engine and automobile. Then with $28,000 of capital on June 16, 1903, Henry Ford formed the Ford Motor Company. In 1908, Ford introduced the Model T with a price of $825.
The value of the U.S. stock market is what percent of the total world’s stock market?
The answer is at the bottom of the newsletter.
Total U.S. nonfarm payroll employment rose in January by a gigantic 517,000 while the official unemployment rate, U-3, decreased to 3.4%. The November 2022 and December 2022 combined employment numbers were revised up by 71,000.
The Job Openings & Labor Turnover Survey (JOLTS) increased to 11 million open jobs across the country as of the last business day in December. This compares to 10.5 million open jobs the month before.
The seasonally adjusted Total U.S. Unemployment Rate, U-6, increased in January to 6.6% vs 6.5% last month. There were 6.4 million people unemployed in January, age 16 and older, compared to 5.4 million last month. The increase in the unemployed can be attributed to more people who are able to work now looking for work.
The following chart is based on the Bureau of Labor Statistics' official unemployment rate, U-3.
Unemployment Rates by Education Level, January 2023
|Less Than High School Diploma||4.5%|
|High School Graduate, No College||3.7%|
|Some College or Associate's Degree||2.9%|
|Bachelor's Degree or Higher||2.0%|
Average hourly earnings of all employees on private nonfarm payrolls were up 4.4% compared to a year ago.
Leading Economic Indicators (LEI)
The LEI for January dropped by 0.3%. Below are the previous monthly LEI results:
- December -0.8%
- November -1.1%
- October -0.9%
- September -0.5%
- August -no change
- July -0.5%
- June -0.7%
- May -0.6%
- April -0.4%
While the LEI continues to signal recession in the near term, indicators related to the labor market—including employment and personal income—remain robust so far. Nonetheless, The Conference Board still expects high inflation, rising interest rates, and contracting consumer spending to tip the U.S. economy into recession in 2023.
Gross Domestic Product (GDP)
The Bureau of Economic Analysis said the second estimate for GDP in the fourth quarter of 2022 was 2.7%. The increase was due to increases in private inventories, consumer spending, and government spending. GDP results in 2022’s first three quarters were a decrease of 1.6% in the first quarter, a decrease of 0.6% in the second quarter, and an increase of 3.2% in the third quarter.
Annual inflation increased in January to 5.4% as measured by the Personal Consumption Expenditures (PCE) index. The previous month was 5.3%. The core PCE index—which excludes food and energy—also rose to 4.7% in January from 4.6% in December.
Here is a bit of PCE core inflation history this cycle:
- December 4.6%
- November 4.8%
- October 5.1%
- September 5.2%
- August 4.9%
- July 4.7%
- June 5.0%
- May 4.9%
- April 5.0%
- March 5.2%
- February 5.3% (peak PCE core inflation this cycle)
- January 5.2%
January was definitely a setback in the fight against inflation even though it was just one data point. The most significant conclusion is the Fed will keep interest rates higher for longer.
Long-term inflation expectations can be estimated by calculating the differences between Treasury bond yields and TIPS (Treasury Inflation Protected Securities) real yields of the same maturities. Results are:
|Bond Maturities||Future Annual Inflation Expectations|
This month’s estimated annual inflation numbers above are 22 basis points higher on average compared to last month. That means Treasury buyers are expecting higher inflation in the future as compared to last month.
The Public Debt as Issued by the U.S. Treasury, February 28, 2023
Last month it was $31,457,247,000,000.
Important Dates in March
March 3 – The Missouri Compromise was passed by Congress in 1820.
March 8 – International Women’s Day.
March 12 – Spring ahead! Set your clocks ahead one hour.
March 15 – The Ides of March. On this day, Julius Caesar—leader of the Roman Republic—was stabbed to death in the Roman Senate in 44 BC by Brutus, and the Roman Empire began. With poetic license, Shakespeare suggested Caesar asked as he lay dying, “Et tu, Brute?” – “You too, Brutus?”
March 17 – St. Patrick’s Day observes the death of St. Patrick, the Patron Saint of Ireland.
March 17 – Quad Witching Day—when individual stock options, stock index options, stock index futures, and options on stock index futures all expire. Quad witching is on the third Friday of March, June, September, and December.
March 20 – The First Day of Spring—or the Spring Equinox for the northern hemisphere. An equinox is when the plane of the earth’s equator passes through the center of the Sun. The earth has two equinoxes: typically, March 20 and September 22.
March 21 & 22 – The second Federal Open Market Committee (FOMC) meeting of 2023.
March 25 – Medal of Honor Day.
March 29 – National Vietnam War Veteran’s Day.
State Tax Burden for 2023
Wow! Indiana is number 9. Which states are the biggest recipients of people moving out of the high-tax states? Florida, Texas, and Arizona. Americans are definitely moving south.
The Stock Market
This month we will hear from three Wall Street strategists.
Jan Hatzius is Head of the Global Investment Research Division for Goldman Sachs in New York City. He is also the firm’s Chief Economist.
Jan's bull case:
Jan said on February 12, “We lowered our 12-month recession probability to 25% versus the 65% consensus on Wall Street. Because of incoming data last week, we have strengthened the case for a soft landing.”
Mike Wilson is the Chief U.S. Equity Strategist and Chief Investment Officer for Morgan Stanley in New York City.
Mike's bear case:
Mike said on February 13, “Price action of stocks is not reflective of the deteriorating fundamentals. The fact that the Fed is hiking during an earnings recession should ultimately determine the lows for this bear market later this spring. Risk/reward is as poor as it's been in our view.”
Anastasia Amoroso is the iCapital Chief Investment Strategist based in New York City.
Anastasia's bull case:
Anastasia said on CNBC on February 13, “I think the market can rally into the second quarter because markets are embracing a soft-landing narrative. I see some legs to the soft-landing scenario. So, what might a soft-landing look like?
- The economy is growing but below its potential.
- The unemployment rate is not rising.
- The Fed is close to ending its hiking cycle.
- Inflation is easing.
When you add up all these things, this gives me hope in the near term.”
Stock Market Valuation
Mike Wilson is the Chief U.S. Equity Strategist and Chief Investment Officer of Morgan Stanley in New York City.
Quoting from his recent report, Mike said to Fortune magazine on February 20, “Investors have found themselves in the “thinnest air” since 2008 (meaning he thinks the stock market is over-priced).
In his report, Mike warned that optimism based on a pause in the Fed’s rate hike cycle and confidence around a soft landing for the U.S. economy will prove to be merely an illusion. Mike forecasts 2023 will finish the year at S&P 500 Index of 3,900 noting 2022 ended at 3,839. In the meantime, Mike says the S&P 500 Index can drop to 3200.
Marko Kolanovic is the Head of Quantitative Research at JP Morgan in New York City.
Marko has a PhD in Theoretical Physics from New York University but has switched his focus to studying financial markets.
Marko said on CNBC on February 21, “We do think we’ll get a sell-off now (in the short-term) in the stock market and perhaps we will retest the October lows. Then perhaps the Fed will get the message and start cutting rates, or signaling rate cuts, and only at that point, we think we’re going to have a more sustained rally.”
We're now very early into 2023. Lorenz Financial believes the market will end 2023 between 4,200 and 4,500 on the S&P 500 Index. We might retest the October lows of 3,577 to 3,588 but only if a moderate recession or worse begins later this year.
The S&P 500 Index closed February 28, 2023, at 3970.15.
Monthly Performance of the S&P 500 Index
Recommended Action for Your Stock Portfolio
We at Lorenz Financial have always recommended an investor have a diversified portfolio. A category that is frequently overlooked is small cap funds. Small cap stocks represent 10% of the total U.S. stock market. Small-cap funds were hit hard in 2022 but we believe small cap funds now represent an above-average opportunity. See the chart.
Our favorite category within the small cap sector is small cap value. Here are some great small cap value funds in alphabetical order:
The data above was as of February 28, 2023.
We recommend 5% to 7% of a diversified portfolio be invested, if possible, in one of these or similar small cap value funds.
PAST PERFORMANCE IS NOT A GUARANTEE OF FUTURE RESULTS.
Financial Markets Vocabulary
What is the Securities and Exchange Commission Regulation D?
A private company or an entrepreneur has a choice on how to raise money. The first is a public offering of a registered security. The security can be a stock or bond offering. This is how publicly-owned companies raise money.
The second path for a private company to raise money is through the process outlined in the SEC’s Regulation D. With this process, there are FEWER safeguards for the investor. This process is also known as “private placement of an unregistered security.” One defense for the investor is every private placement must offer a “Private Placement Memorandum (PPM). This is not exactly like an ETF or mutual fund prospectus, but it does disclose some things an investor needs to make an informed decision.
So, do disasters happen to investors who buy private placements? Unfortunately, it happens way too often. Here are two examples:
Jeff Temeyer, 64 years old, is a semi-retired farmer in Independence, Iowa. In 2016, he invested in the private debt and equity of a Texas cancer-treatment facility offered by a local broker, Dana Vietor. Mr. Temeyer, who says he was told he would earn at least 8% annually, invested more than $900,000—only to learn after he made the purchases the securities were near-worthless. His broker, Dana Vietor, has since been barred for life from the financial services industry by the SEC.
Jill Jester, 79, of Muncie, Indiana inherited a basket of private offerings in her husband’s IRA after he died in 2020. They too have turned out to be worthless.
Because Regulation D companies aren’t obligated to issue current financial statements, investors can remain in the dark even as they sink deeper and deeper into the hole. What can an investor do to protect themself? Buy nothing whose fees are not explicitly disclosed upfront and in writing. Buy nothing without a prospectus or offering a memorandum that discloses financial data, risks, and conflicts of interest. And be very wary of anyone suggesting putting a private placement (unregistered) security in your IRA.
With so many opportunities to invest for the long-term using registered securities, why add risk to a portfolio by purchasing an unregistered security?
Lorenz Financial recommends an investor NEVER consider purchasing an unregistered security as this is the path used not only by unlawful brokers but also frequently used by fraudsters and criminals.
OK, Now What Do I Do?
This is the second part of a four-part series on, “Know Your Financial Numbers.” Here are questions six through ten for you and your spouse. You both should know these numbers. If you don’t—Lorenz Financial suggests that you spend some time and research your numbers!
Annual Savings, Emergency Fund, and Net Worth
6. If still working, how much money will you save this year?
7. How much money is in your Emergency Fund? Is it enough? We recommend six months of a family’s monthly expenses as a minimum.
8. What is your net worth today? (That is all your assets minus all your liabilities. This should be a positive number.)
9. What is your net worth goal in five years? What is your net worth goal at retirement?
10. What are your top four financial goals this year? (Ideas: savings target per pay period, big bills that will be paid off this year, end-of-year emergency fund target in dollars, how much will you raise your FICO score this year, how much will you be donating to charities this year, etc.)
Next month, we'll have six more numbers everyone should know. Our category will be, Retirement, Social Security & Medicare.
Our Financial Bad Boy This Month
Investors are Missing Out on Higher Yields
Source: The Wall Street Journal, February 6, 2023, pages R1
The U.S. stock and bond market had a very bad year in 2022, but one bright spot was as interest rates went up, so did the rate paid on money market mutual funds. In December 2022, the average money market mutual fund rate rose to 4.0%—the highest in 15 years.
For all investors who use a brokerage service for their investments, every account must have what is known as a “sweep account.” When a security is sold, where does the money go? To the sweep account. When a security is bought, where does the money come from? The sweep account.
Formerly, sweep accounts were money market mutual funds. But lately, at large brokerage houses, the sweep accounts have become “bank cash sweep accounts.” They have also become major sources of income for brokerage houses as these accounts pay almost no interest to the investor.
At Morgan Stanley, their cash sweep program pays 0.01% annually for uninvested cash amounts under $500,000.
See the annual yield of Morgan Stanley bank sweep accounts below:
Many brokerage houses will have a similar yield schedule for their bank sweep account. For investors who hold almost no cash in their brokerage accounts, this is not an issue. But for investors who do hold a fair amount of cash month after month, what should they do? Those investors should consider investing at least a portion of their cash in a very conservative ETF or mutual fund such as a:
- Very short-term investment-grade bond fund
- Short-term investment-grade bond fund
Ask your investment advisor what the best options are for your risk tolerance and timeframe.
The Bond Market
Our 2023 economic forecast is for below-trend real GDP growth with an elevated risk of a mild recession. Although the pace of inflation is decelerating, it remains too high and the labor market is very strong. These conditions provide the Fed with an easy backdrop to tighten monetary policy. Keep in mind the Fed only focuses on their mandate from Congress, “maximum employment with stable prices.” The Fed does not consider how the stock or bond markets might react to Fed policy.
The Federal Reserve and its Federal Open Market Committee (FOMC)
We believe the FOMC will raise the federal funds rate another 25 basis points at the next committee meeting on March 21-22. This would put the funds' target rate between 4.75% and 5.0%. We believe the FOMC will continue to raise interest rates at EVERY meeting so long as the federal government spending remains unrestrained, unemployment remains low, and PCE CORE inflation remains high.
The Fed is also fighting inflation by selling off (or letting mature on their own) U.S. Treasury bills, notes and bonds, and some mortgage-backed securities to the tune of $95 billion a month. This will eventually cause long-term rates to go up or at least stay up instead of dropping as inflation drops.
The U.S. Treasury
The U.S. Treasury yield curve remains inverted. Our preferred yield curve measure is the 10-year versus the 3-month spread. Today the measure is -96 basis points, and the curve has been inverted since October 2022. As the FOMC continues to raise the federal funds rate to fight inflation, we expect short-term rates to move higher at a moderate pace.
Recommended Action for Your Bond Portfolio
This month for an investor’s safe money, we have added back the category, Very Short-Term
bond funds. In order, our recommendations include:
- Very Short-Term Investment-Grade bond fund
- Short-Term U.S. Corporate or Securitized bond funds
- Certificates of Deposit (only if FDIC or NCUA insured)
- U.S. Savings I-Bonds (max savings is $10,000 per account per year)
- Cash (in a money market mutual fund paying 4.00% to 4.7% per year)
PAST PERFORMANCE IS NOT A GUARANTEE OF FUTURE RESULTS.
Pop Quiz Answer
The value of the U.S. stock market is what percent of the total world’s stock market?
Keep in mind that even if your stock portfolio is only invested in the U.S., there are many U.S.-based companies that raise a substantial amount of revenue with their overseas operations, thus adding to your international exposure which increases your portfolio’s diversification. A short list of some of these U.S. companies in alphabetical order are:
- Apple – smartphones and other electronic consumer products
- Boeing – aircraft manufacturing
- Caterpillar – heavy equipment and engines
- Coca-Cola – beverage
- Exxon Mobil – energy
- General Electric – medical devices, aircraft engines, power products
- IBM – mainframe computers and information technology
- JPMorgan – banking
- McDonald's – casual dining
- Nike – shoes
- Pfizer - pharmaceuticals
- Proctor & Gamble – household & personal products