A stock-market paradox, in which bad news about the economy is seen as good news for equities, may have run its course. If so, investors should expect bad news to be bad news for stocks heading into the new year — and there may be plenty of it. But first, why would good news be bad news? Investors have spent 2022 largely focused on the Federal Reserve and its rapid series of large rate hikes aimed at bringing inflation to heel. Economic news pointing to slower growth and less fuel for inflation could serve to lift stocks on the idea that the Fed could begin to slow the pace or even begin entertaining future rate cuts. Conversely, good news on the economy could be bad news for stocks.
So what’s changed? The past week saw a softer-than-expected November consumer-price index reading. While still running mighty hot, with prices rising more than 7% year over year, investors are increasingly confident that inflation likely peaked at a roughly four-decade high above 9% in June.
But the Federal Reserve and other major central banks indicated they intend to keep lifting rates, albeit at a slower pace, into 2023 and likely keep them elevated longer than investors had anticipated. That’s stoking fears that a recession is becoming more likely. Meanwhile, markets are behaving as if the worst of the inflation scare is in the rearview mirror, with recession fears now looming on the horizon, said Jim Baird, chief investment officer of Plante Moran Financial Advisors. That sentiment was reinforced by manufacturing data Wednesday and a weaker-than-expected retail sales reading on Thursday, Baird said, in a phone interview.
Markets are “probably headed back to a period where bad news is bad news not because rates will be driving concerns for investors, but because earnings growth will falter,” Baird said.
Keith Lerner, co-chief investment officer at Truist, argued that a mirror image of the backdrop that produced what became known as the “Tepper trade,” inspired by hedge-fund titan David Tepper in September 2010, may be forming. Unfortunately, while Tepper’s prescient call was for a “win/win scenario.” the “reverse Tepper trade” is shaping up as a lose/lose proposition, Lerner said, in a Friday note. Tepper’s argument was that the economy was either going to get better, which would be positive for stocks and asset prices. Or, the economy would weaken, with the Fed stepping in to support the market, which would also be positive for asset prices. The current setup is one in which the economy is going to weaken, taming inflation but also denting corporate profits and challenging asset prices, Lerner said. Or, instead, the economy remains strong, along with inflation, with the Fed and other central banks continuing to tighten policy, and challenging asset prices.
Recession jitters were on display Thursday, when November retail sales showed a 0.6% fall, exceeding forecasts for a 0.3% decline and the biggest drop in almost a year. Also, the Philadelphia Fed’s manufacturing index rose, but remained in negative territory, disappointing expectations, while the New York Fed’s Empire State index fell.
Stocks, which had posted moderate losses after the Fed a day earlier lifted interest rates by half a percentage point, tumbled sharply. Equities extended their decline Friday, with the S&P 500 SPX, -1.11% logging a 2.1% weekly loss, while the Dow Jones Industrial Average DJIA, -0.85% shed 1.7% and the Nasdaq Composite COMP, -0.97% dropped 2.7%. NN: I believe another epic stock market crash is coming and it will be a matter of a few quarters not years. HOPEFULLY we can survive the chop and have enough bullets in our ammo box.