Product Cycles Often Trump Market Cycles… C.J. Lawrence – Market Commentary – 6/13/23

In this video, Terry Gardner discusses how product cycles often trump market cycles, what he means by “the game is tied”, and the divergence in GDP growth forecasts and S&P 500 EPS forecasts for the balance of 2023.

Hi. Good afternoon, everyone. It’s Terry Gardner from CJ Lawrence on the 13th of June, Tuesday, coming to you from sunny Midtown Manhattan. There are three points to our call today:  First, we want to take a look at product cycle versus market cycle; secondly, we want to talk about how the game is tied; and then thirdly, we want to take a look at the balance of 2023, looking out for the next couple of quarters, and comparing GDP growth forecast versus earnings growth forecast for the S&P 500.

First is product cycle versus market cycle. What am I talking about there? Well, first off, when you look at the, the broader market backdrop in terms of earnings and interest rates, it’s not particularly conducive to higher stock prices. In fact, earnings forecasts have been coming down for the past several months, and interest rates have been on the rise for the past several months and perhaps could go up further tomorrow when the Fed releases the results of their June meeting. Perhaps they pause — who knows, maybe they go up again in July. But nonetheless, the Fed funds target rate, which is somewhere between five to five and a quarter, could move up 25 basis points this month or next. The point being that there are about 10 names in the S&P 500 that are doing extraordinarily well, and given the backdrop for the market, it can be somewhat surprising that they’re doing as well as they are. The point being that these companies that are performing are on the precipice of a new product cycle. I’m referring to artificial intelligence. We’ve been talking about AI for a long time now, but it was really the release of ChatGPT that catalyzed the discussion about commercializing AI, or artificial intelligence, for everyone.

What that did was propel the leaders of that technology to the front of the market. So, you’ve had names like Microsoft, Amazon, Alphabet, Meta, and others doing particularly well despite a market backdrop that would tend to hold back stock advances. My first point is that product cycles can often trump market cycles, and therefore, you need to be in the right names and on the cutting edge of innovation.

Number two is that the game is tied. What do I mean there? Well, when I look across some valuation metrics versus bond yields, it’s kind of nodded up. The Fed funds target rate is five to five and a quarter or may go to 5.50. The three-month TBI is five and a quarter, and the earnings yields on the S&P 500 for this year is 5.1 and for next year is 5.6.

These are all kind of within 30 or 40 basis points of each other. Now, you’d like to see stock yields higher than short Treasury yields because you want a risk-free rate. You want a premium to invest in stocks, but nonetheless, they’re not completely out of whack at this point. So that’s the point that I’m making regarding the game being tied up. We need something to break here. The bond market from the 10-year Treasury is telling you that rates will go lower. Forward estimates for stocks are that estimates could continue to come down. GDP forecasts are showing that the economy is going to slow in the back of this year, if you listen to the consensus from economists that submit their estimates to products like FactSet. So, something has to break here, and we’ve got to get some direction in earnings and interest rates in the coming weeks, but for now, the game is tied.

Thirdly, we ask what this means and how does this effect the rest of the year?   I think what is kind of interesting is that if you look at GDP forecasts for the remainder of this year, and I’m talking real GDP here, so adjusted for inflation, the second quarter FactSet forecast, is up 1.4%, the third quarter is up 1.1%, the fourth quarter is just barely up, almost flat, 0.3%. Okay? So FactSet’s economist forecast declining GDP quarter to quarter for the balance of this year… On the other hand, earnings expectations are down 5.3 in the second quarter. So, we’re expecting a down quarter. I would say down 5% is meaningful. Then a rebound is expected in the third quarter, but then, economists think GDP is going to be worse in the fourth quarter.

Stock analysts believe that the fourth quarter will be the best in terms of earnings growth forecast. A divergence there in terms of GDP forecast and earnings forecast will see which one actually, plays out. A The point then in wrapping up today’s video is that you must be increasingly selective in this market. The macro is not giving you very many ideas, clues, or direction as to where things are headed in the balance of this year and into next. The message from the market is that stock picking becomes that much more important. And when you look at the leader’s year to date, it’s telling you that you want to be in companies that are on the precipice of a new product cycle, the innovators. That’s where we like to be invested here at CJ Lawrence. If you have any questions about today’s video or how we’re investing, please give me a shout: 212-888-6403 or email me,  I look forward to hearing from you. Have a great evening.

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