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  • Tessa MacDonald

The BIG Report: April 2023

The BIG Report: April 2023

You’re about to witness something historic. I say this without hyperbole or sensationalism. Now it might not be as exciting as the Moon Landing, the fall of the Berlin Wall, the 1980 U.S. Olympic Hockey team defeat of the Soviets, the advent of the Internet, or Cal Ripken Jr. breaking Lou Gehrig’s record (yes, I’m an Orioles fan). And it won’t likely be as gut-wrenching as some of the more negative history we have witnessed over the years, well at least not gut-wrenching for long. But history will be made and very few people will even notice.

Conflicting narratives have developed in the markets and economy that are unprecedented and something is going to give. There are three main points to be aware of:

1) There are economic indicators that have a 100% track record of predicting recession and they are boldly predicting an imminent recession. If a recession does NOT happen, it will be historic. It will impact the fundamental studies of the U.S. Economy forever as people will say “Every time these indicators have reached these levels, we’ve always had a recession EXCEPT for 2023.

2) The stock market has only bottomed prior to a recession once and that was in 1942. That particular market was much stronger and more robust than the one we have now. If a recession does come but the market does not fall to a lower low than October 2022 it will be historic. It will impact market expectations forever as people will say “The market has always bottomed in the midst of a recession and never prior EXCEPT for 1942 and 2023.

Now I think we can agree these first two points speak to more pain to come for the markets. If a recession is imminent and the stock market never bottoms prior then it would stand to reason there’s another round of painful declines yet to come. Ah.... not so fast.

3) The stock market, as measured by the S&P 500, has had technical achievements since the October low that no market has ever accomplished unless the “low was in” and the worst was behind us. If the market fails at this point and moves down to a lower low it will impact the technical studies of markets forever as people will say “The worst has always been behind us when the stock market has accomplished these things EXCEPT for 2023. And that’s where we find ourselves today. In the middle of two opposing narratives. A potential recession around the corner that should lead to another market decline and a market that suggests the worst is behind it. 

I know the idea that the market could be right is the most difficult to believe but that is exactly how new bull markets begin. The stock market makes significant moves off of its low point and no one believes in it because the news is still worsening. By the time the news cycle improves, the stock market is up 20% to 30% and investors have missed out on the recovery. 

The question can be asked, “How can that be the case if a recession is imminent?” Well, a couple of points on that as well. If it happens, this would be the most telegraphed recession in U.S. history. As such, the corporate community has been extremely proactive with many companies laying off employees even though their corporate earnings have been fine. All of this preparation could cause us to avert the recession altogether at worst make it very mild. The market could very well be looking past a mild recession and taking a place in history next to 1942.

All of that said, history could be made the other way. Maybe after accomplishing all the market has accomplished since October, it does fail and reach new lows. In that case, there’s another round of pain coming and believe me, it will be painful. The last leg of a bear market is usually the most gut-wrenching but also very short-lived. In that scenario, I expect the market to move down to a level of 3000 to 3200 on the S&P 500 which could mean as much as a 27% decline from the close of the first quarter.

So.... what to do? Well, if you’ve been watching your accounts, you will see we have made very big changes to the models over the last few weeks. Coming into 2023 we were expecting a big move lower before rebounding. We had all our models positioned with let’s call it, “aggressive defense”. Defense that would make a greater return if the market fell further. After the market clearly demonstrated the possibility that the worst could be behind us in early February, we changed course and looked for the first opportunity to remove the “aggressive defense” and add more traditional defense that would not work against us if the market continued to climb. We’re back to using bonds for that defense and we were able to add them on their most recent pullback in March. 

In addition to this change in defense, we’ve been buying. We have been adding to positions on dips in recent weeks. 

At this point, if the market fails, we expect bonds to do their job and perform quite well which would provide protection in the downturn and allows us to use those funds to buy stock at a lower level. If the market does not fail, the bonds will continue to pay interest and we can migrate funds from bonds to stocks as the market continues to improve.

It's easy to let feelings get in the way of facts. With fundamentals showing such strong signs of recession and the many other fears out there like bank failures, Russia/Ukraine, and China/Taiwan, being afraid is easy. Most everyone is aware of some of the fundamentals, hears the news and therefore most everyone, including market commentators and TV pundits are negative. Technicals however speak to the psychology of the market and the facts are, it has improved and improved greatly. This isn’t to say the market won’t fail and hit a lower level but it is to say that many others are not expecting or prepared for the market continuing to improve. We’re prepared for both potential outcomes.

I’m about out of room and haven’t addressed the recent banking scare. That’s because it isn’t

 that important. The whole issue has been over- hyped by the press. We see no reason to fear the safety of the banking system. This is NOT a systemic 2008/2009 issue. Our research indicates that this involves a couple of bad actors that deserved to fail. Their depositors were made whole by the FDIC fund, but the banks were allowed to fail and rightly so. We see no systemic risk at this time.

In closing, something is going to give, and it will be historic. For most, it might be as obscure as when American, William Walker became president of Nicaragua in 1856 but it will be historic and we’ll be ready for it either way.

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