The Dow plunged 686 points midday on Thursday and closed down 458, wiping out a large relief rally from the day before, and it went down for the key reason I laid out for understanding why the Fed will over-tighten and drive the economy into an extremely deep recession.
A batch of economic data that reinforced expectations the Federal Reserve will continue with its aggressive pace of rate hikes set the tone, analysts said, while a sharp selloff across tech-related shares amplified the damage.
The latest update to second-quarter GDP figures confirmed that the U.S. economy shrank at an annualized clip of 0.6% in the second quarter. However, a weekly report on U.S. jobless benefit claims revealed that the number of Americans initially applying for unemployment benefits fell by 16,000 to 193,000 in the week ended Sept. 24, the lowest level since April.
The jobless claims data helped to weigh on stocks by emboldening a view that the Fed will stick with its plans to continue raising interest rates.
So, the economy is solidly confirmed as receding for two consecutive quarters — the normal definition of a recession — but the Fed and everyone who follows the Fed does not believe the economy is already in a recession because the jobs market appears so tight that it has them convinced it is a very healthy labor market. As I wrote last week, nothing could be further from the truth. (See: “Everyone Sings the ‘Strong Labor Market’ Tune in Unison as the Band Plays on, and They’re All DEAD Wrong!“) It is actually a broken labor market that cannot deliver labor to meet even substandard production levels, thus dooming the economy to lower production for a long time to come.
Exemplifying this enormously and dangerously misguide belief, one expert concluded yesterday,
“I think we’ll see rates continue to increase here in the US, since we’re not yet in restrictive territory, and that rate cuts won’t come as easily or as soon as the market expects,” Michael Wang, CEO and founder of Prometheus Alternative Investments, told MarketWatch.
He’s dead right that rate cuts will not come easily or soon because the Fed, and everyone who follows the Fed, believes the Fed is not yet in restrictive territory (just as this guy exemplifies) because they think the labor market is tight due to a strong economy. That Patron Post that I released to everyone last week is the most important thing you can understand for realizing why the Fed is going to drive us deeper into a recession that is already more than half a year long.
This will be one of the biggest blunders the Fed has ever made. The Fed is pounding the stock market’s head (and all markets) into the ground at a time when the economy is extremely damaged, but the Fed mistakenly believes the economy is strong due its critical misunderstanding of what is happening in the labor market, and Thursday’s market moves and commentary perfectly demonstrate that playing out. If you read nothing else on this site, read that article. The Fed believes it needs to take some wind out of the labor market to cool it off when the labor market is literally dying.
How bad was it?
The plunge in the Dow was bad enough to finally deliver the Dow into a bear market. It has fallen 20% since its last high in January, taking us to where all the major indices are finally in agreement that we are in a bear market. That leaves no hint of room left for saying we are not. We are, in fact, very close in both the Dow and S&P to taking out the entire market gain since just before the Coronacrash.
Tech stocks, long the market leaders took the hardest pounding with Apple leading the way down — almost 5% — when it was downgraded from “buy” to “neutral” by Bank of America.
“Megacap tech stocks got hit hard after Apple was delivered an extraordinarily rare downgrade by Bank of America. The downgrade emphasized the risk of weaker services and product demand given the current macro environment,” said Edward Moya, senior market analyst at Oanda, in a note.
Facebook/Meta also plunged almost 4% for similar reasons as well as their own bad ideas:
“Meta’s outlook is in shambles as they are looking at a terrible macro backdrop that will lead to falling ad rev and a Metaverse bet that does not seem like it will pan out,” Moya said.
Due to fantasies about a Fed pivot, which the Fed eventually put solidly to rest,
The stock market had a promising start to the quarter, soaring in July. But fears about inflation, rate hikes, rising bond yields and recession returned with a vengeance in August and September.
So, we are back to a lower point than where we started the quarter, making this the third quarter in a row this year to end further down, just as has been the case with GDP and will soon prove to be again. The market is ultimately being forced to dealing with the economy — the real economy as measured in terms of inflation-adjusted production, not the baloney economy that is being perceived from very misleading jobs numbers.
Bonds deep in bondage
Bonds are also crashing into a bear market as the Everything Bubble goes down, which I’ve said would be the news of this year, pounded home all the way by inflation and forced Fed tightening to battle that inflation.
It’s not just stocks that have tumbled. It’s the bear market for just about everything. There have been few places for investors to run and hide this year. Bond yields have surged, which means that prices are down. That weighs on returns.
Bonds are supposed to be safe havens during times of market and economic volatility. But two popular, widely held bond funds, the Vanguard Total Bond Market Index Fund ETF and iShares Core U.S. Aggregate Bond ETF, are both down nearly 16% in 2022.
Bond fund investors may have known that 2022 wasn’t going to be pretty, but the losses they are facing this year are still striking.
The declines across fixed-income funds were extended in recent weeks after the August Consumer Price Index report came in hotter than expected, and the Federal Reserve followed up with an unprecedented third straight 0.75-percentage-point increase in the federal-funds rate.
This has added up to big losses for investors. For example, the largest U.S. bond fund strategy, the $514.5 billion Vanguard Total Bond Market Index (VBMFX) is down 12.12% through Sept. 13, putting it on track for its worst year since its inception in 1986.
In fact, 2022 may be on its way to the record books for more than just the size of the losses. This could be the first time on record that all types of bond funds have declined together in the same year. Every one of Morningstar’s 20 taxable bond categories is in negative territory for the year through Sept. 13. The last time losses were so widespread was in 2008….
“It’s been the most volatile bond market going back to the ’90s,” says Morningstar senior manager research analyst Peter Marchese.
And, of course, all of this is happening due to the Fed raising interest rates and rolling off the bonds it owns so those who financed with those bonds (such as particularly the federal government) have to find refinancing elsewhere (quantitative tightening). QT this month steps up to the fastest pace of bond rolloff the Fed has ever attempted. I assure you, it won’t be pretty. It already isn’t, but the Fed is staying its course because of its misreading of the labor market:
With the labor market tight and inflation stubbornly high, the Fed has signaled that it’s inclined to keep raising rates into next year.
In fact, all markets are crashing just as the Fed begins tightening harder as it moves into its full-velocity QT regime, which means there couldn’t be a harder time to go into QT overdrive:
Think gold is a good place to ride out the storm? The price of the yellow metal is down 10% this year. And forget about cryptocurrencies. Bitcoin prices have fallen off a cliff, plummeting nearly 60% in 2022.
This is the crash of the Everything Bubble. Nothing is holding up, and don’t even think gold is helping anyone against inflation. After you sell it for a 10% loss this year, the dollars you get back are also worth 8% less due to inflation. So, you lose on the value of the gold and on the cost of inflation, as with other assets. You’re getting back 10% fewer dollars and those you get back are also worth 8% less. That is the insidious evil of inflation. It erodes your investments from the underside.
And those foolish enough to get optimistic keep getting their heads clubbed harder like poor baby seals:
Vanguard Total Bond Market Index Fund gained in June, when some investors speculated inflation had peaked, and the Fed wouldn’t need to push rates higher.
“This optimism led investors to move into riskier assets at the start of the third quarter—stocks and high-yield bonds rallied—but another dismal inflation report sent bond prices down in August….”
Misguided optimism is nothing but economic denial and doesn’t pay. You’re not going to hope this calamity away, but you can protect yourself from getting hit worse. It’s better to be a realist, which is what this site and The Daily Doom are all about. Recognize what is happening to you, and don’t get clubbed on the head. All markets are caving in, and they’re going to keep falling because the Fed is going to keep tightening because it has to beat interest down and because, as that Patron Post explained, it believes labor statistics are showing it the labor market is remaining strong.
The Fed couldn’t be more wrong, but you don’t have to be if you keep reading here where all of this has been pointed out consistently, months in advance.
The worst is yet to come
You see, the big equities plunge hasn’t even happened yet. It is just now set up to happen. If history rhymes, here is where we are now and where we are poised to fall:
If this is a crash like other major market crashes — and it certainly has more than every reason to be with the Everything Bubble bursting and all that’s going crazy wrong in the world — then we’re only halfway to the ultimate bottom. We’re still in the “orderly selloff” stage.
The extreme stress showing in credit and currency markets has yet to be fully reflected in equities, though this moment may not be far away.
The selloff in stock markets has so far been an orderly one: volatility is nowhere near where it was in the early part of the year, while the Stoxx 600 is still well above pandemic lows.
Contrast that with the blowout in credit markets, where the Markit iTraxx Europe Index of investment-grade credit default swaps has surged to its highest level in 10 years, exceeding Covid highs.
Stocks, in other words, have some catching down to do in order to get even with what the bond market — usually regarded as the wiser of the two markets — is already realizing.
For Barclays strategists led by Emmanuel Cau, capitulation in equities may have “a final leg” amid the twin “shock” of a recession and monetary tightening. They expect more equity selling if earnings fundamentals deteriorate and central banks don’t come to the rescue.
The difference in how orderly/disorderly the two markets are behaving can be seen in this graph:
Stock volatility is still subdued, but don’t expect that to last because earnings fundamentals are deteriorating and the Fed, as central bank, is not coming to the rescue (because it believes the labor market is still stable and resilient and must be taken down more to quell searing inflation).
We haven’t hit the panic phase yet, which many refer to as “capitulation” where the market finally gives in to panic then grief and recognizes its death for what it is:
Signs are emerging that panic selling in many asset classes may soon spill over into stocks. The Stoxx 600 just hit its lowest level since November 2020 before bouncing yesterday, and is in oversold territory, all of that on heavy volume.
Among the wall of headwinds for equities right now is that they have almost lost their edge to bonds. Corporate investment grades are close to yielding more than stocks, with the difference between them at its lowest level since August 2011.
Meanwhile, European markets are falling into bear territory one after the other.
I’ll be back with more on this, but I want to leave you with that at the start of the day so we can see how the day goes and where the quarter closes from here, but I suspect we are on the cusp of that volatility explosion. The one saving grace will be if flight of capital out of Europe continues to spill over into the US, which is what gave US markets their brief bounce earlier this week when the US suddenly looked like the least stinky pond at the sewage-treatment plant.
Speaking of cess pools…
GDP is tanking … again
Meanwhile, look at where the Atlanta Fed has just moved its GDPNow forecast, and think about what declining GDP means for those earnings that the stock market has been misguided on and that Barclays says must hold strong if stocks are to stabilize:
Earnings cannot improve or even hold where they are if GDP continues declining. The Atlanta Fed’s estimate for GDP growth is even lower than the last time I reported it, dropping from a 0.5% growth estimate to 0.3%, while the consensus survey of economists is, for the entire quarter, running below the Atlanta Fed’s estimate (and is now negative) when it was running above the Fed’s estimate throughout the previous quarters of the year.
As a reminder, in each of the previous quarters, the Atlanta Fed came to this same near-zero level and then dived negative in its estimate just a day or two before the actual negative GDP report came out after the quarter was over. By the time the third quarter ends today and then GDP is calculated and released on Oct. 27, expect this number to have been whittled down further as happened in each of the previous quarters this year, just as I predicted it would each of those times and am now doing again.
We will find we have been through three quarters of recession with the Fed tightening all the way and marveling at how strong the labor market is because it considers the GDP reports anomalous for not matching up with what labor is telling them when it is labor that is the clear anomaly.
You, if you read that last Patron Post, will know exactly why the numbers don’t square and why labor is really telling us that production will remain subpar for many quarters to come because the labor market is actually quite sick.
So, we’re going down, down, down in a burning ring of fire as the flames of inflation go higher and higher and the Fed’s gonna pound, pound, pound us in that fire … driving us deeper into the worst policy blunder in Fed history.
Reprinted with author’s permission from The Great Recession Blog