This Week in Review:
Tech Slump Chokes Rally
Either way, the long-term prognosis for growth in economic activity—and, hence, corporate sales and profits—is good. After two quarters of mild contraction, the U.S. economy expanded at a 2.6% annualized rate in the third quarter, according to Thursday’s preliminary GDP data. That doesn’t necessarily translate to an all-clear on profits, though. So far, corporate earnings have been a mixed bag, with the big tech companies disappointing this week.
Here’s a more detailed account of what we’re focused on this week and why it matters:
- It’s widely expected that Federal Reserve policymakers will hike the fed funds rate by 0.75% at their meeting next week. We’ll be watching to see what the Fed signals about future rate hikes. Wall Street opinion is split on how aggressive the Fed will be in December.
- Today’s first estimate of third-quarter GDP showed growth, driven primarily by a resilient consumer. However, given the dollar’s increased strength, we think the net exports data (a key contributor to Q3 growth) is unsustainable in the short term. This is just one of numerous signals we’re watching that suggests we’re not out of recession’s way yet.
- The yield curve has inverted on a few days this month, meaning short-term Treasury bills are yielding more than long-term Treasurys. Notably, on Wednesday, the three-month Treasury yielded more than the 10-year Treasury for the third time this month. An inverted yield curve has been an early recessionary warning sign in the past, but doesn’t provide any insight into the severity or duration of the next recession.
- Turning to the tech giants:
- Microsoft posted its worst revenue growth in over five years in the third quarter and cautioned that personal computer sales may see further sharp declines.
- Wednesday, shares of Alphabet (Google) suffered their worst day since March 2020 after the first ever decline in YouTube ad sales.
- Meta (Facebook) saw shares tumble more than 20% after reporting its digital ads sales had slumped, providing a lower-than-expected outlook for Q4 revenue. That stock, once a tech market darling, is down 70% this year.
Chart of the Week: Earnings Not So Scary After All
Headlines these days hint of scary times ahead. As we approach the end of October, we’re here to spread a little hope in the one of the spookiest time of the year. And no, we’re not talking about Halloween, but rather corporate earnings season.
It’s true, as we mentioned above, that there’s there’s been enough red on Big Tech’s revenue reports to send shivers down the spine of stock analysts. But overall, premonitions of corporate doom haven’t come true, with many firms offerring cautious outlooks but healthy income statements and balance sheets.
Our chart of the week shows quarterly corporate profit magins over the past few years, along with projections for 2023. The results may surprise you.
Profit margins dropped off a cliff during the pandemic—no shocker. What we find interesting is that these margins are still well above pre-COVID levels. And analyst expect them to remain at elevated levels throughout 2023.
The takeaway here is simple: While the daily ups and downs may be hair-raising, over the long-term, earnings and interest rates are what drive markets. So long as margins remain at these levels, we’re confident in the financial health of corporate America. And that should help us all sleep at night.
Taking the Housing Slide in Stride
Here’s an attention-grabbing headline—Home Prices Are Falling Nationwide.
Just about any way you look at the data, the housing market is cooling. Home prices declined in August for the second month in a row and at the fastest monthly rate since December 2011. That’s understandable given that mortgage rates hit a fresh 21-year high this week—the 10th straight weekly increase, topping 7% today as we go to print. The result: The fewest weekly mortgage applications since 1997. Sales of existing homes have fallen for eight straight months, with September sales the worst since 2012 (not counting the lockdown months in COVID-19’s early days).
Falling home prices conjure memories of the global financial crisis. But I don’t think we are on the verge of another housing collapse. The housing bubble of the mid-’00s was fueled by gimmicky mortgages that enabled people to buy bigger and more expensive homes than they could afford. When the music stopped (prices stopped rising), there were not enough chairs left for sellers, prices collapsed and bankruptcies ensued.
This time around, rising home prices were driven by pandemic-induced behavioral changes and a dearth of homes for sale. Home prices rising 20% year over year was never a sustainable pace. The current decline in housing will have the obvious knock-on effects across the economy—fewer jobs and fewer big-ticket purchases—but that doesn’t mean the housing market is crashing.
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Next week’s Federal Reserve meeting will command Wall Street’s attention, but we’ll also see earnings season continue and get reads on vehicle sales, manufacturing, job openings and quits, construction spending and the unemployment rate in October.
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his update was prepared on Friday, October 28, 2022 prior to the market’s close.
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