The S&P 500 is pinned around the 4000 level as we head into three key events in December that will dictate where the markets will head into 2023.
First up is the November jobs report out this Friday -- in which the market expects a print of 200,000 jobs, the lowest for this year. This will be followed by the November consumer price index inflationary numbers Dec. 13. Then, finally, we'll have the Federal Open Market Committee meeting on Dec. 14.
Remember, after the softer-than-expected CPI release for October -- and suggestions of a slower pace of rate hikes going forward? The market cheered and rallied from the lows of 3600 all the way toward 4000. The expectations for the CPI print are for a 7.6% print compared to the previous 7.7% number, a slight improvement month-on-month and year-on-year, but it is important to note that the figure is still way above the Fed's 2% target. The labor market that is deemed to show softer numbers going forward is still a sticking point for the Fed that really does not have any ammunition to pivot, no matter how desperately the market wants it.
It is hardly surprising that the Fed may need to cool the rate of change, after hiking rates by three-quarters a percentage point in each of the past four months. The Fed can't go on raising in these increments indefinitely. Previously the Fed was also in a hurry, because it knew that one day if it needed to cut rates, cutting from 0% is a lot harder than cutting from 5% or more. Core goods prices are lower, but shelter inflation along with other factors will still keep the inflation figure higher for longer. This is what the Fed looks at and cannot pivot until it reaches its goal. During the last press conference, the Fed decided to ignore the yield curve inversions and instead focused on the three-month / 18-month spread, which has yet not inverted. As far as the Fed is concerned, the economy is cooling down and inflation is being contained, but it still has more work to do. After the recent rally, it only gives it more of an incentive.
The year 2022 has been anything but normal. Most investors are used to buying any dip, as they have been rewarded for doing so for the past decade. But then inflation had never averaged around the 8%-10% level, either. The Fed knows all too well that inflation is a beast that cannot be set free. Central banks were clueless as to how their aggressive money printing actions post Covid would cause any inflation, years later, they are now trying to undo their mistakes with their tails caught between their legs.
Asset prices rose in multiples post the Covid stimulus boost and now the excess is normalizing, as 2020 was not a normal investment year, either. The big debate now is whether we are entering a recession. That is a technical debate, as it seems globally we are already in one. The only question is how long and protracted will it be? Based on that analysis, one can assume the appropriate multiple and discount factor for Equities and asset classes in general.
If investors had to wish for something this Christmas, they would be best suited to wish that the Fed does not break something systemic in the financial system. The amount of leverage in the system, this time it can cause more than "plumbing" problems.
Only time shall tell, but if the Fed were to pivot too early, it could seal stagflation for life, which is a far worse outcome than a mere derating that would be much better for all asset classes in the long term. The irony is that investors have gotten used to year-over-year growth, but everything moves in cycles and we are just coming out of a 20-year bullish one at the moment with the global landscape a lot worse than the ones our generation has been used to.