Weekly Update 12/13/2021

Your Weekly Update for Monday, December 13, 2021.

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Mike Elerath
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Summary

Markets were up last week. The Dow Jones Industrial Average rose 4.02% to 35,970.99 while the S&P500 ended up 3.82% to 4,712.02. The Nasdaq Composite rose 3.61% to 15,630.60. The annual yield on the 30-year Treasury fell 20.6 basis point(s) to 1.884%.

In a lighter week for economic data, releases included consumer price inflation reaching a 40-year high, while jobs statistics continued to show improvement.

Global equity markets rose with waning concern over the severity of the Covid omicron variant, and its potential impacts on economic growth. Bonds were mixed, with high-grade debt falling back due to rising rates, while bonds of lower credit quality fared positively. Commodities gained as crude oil prices bounced back strongly.

Economic Notes

(-) The consumer price index for November rose 0.8% on a headline level and 0.5% for core, removing the food and energy components. These were a tenth or so above consensus expectations. On the headline side, energy commodities were up nearly 6% for the month alone, as higher crude oil prices for Sept. and Oct. have translated to higher gasoline prices. (On the positive side, a sharp Nov. decline may have a positive impact in Dec.) Other areas saw rising prices as well, though, led by new and used cars up 1-3%, and apparel. Shelter costs gained a half-percent as urban rents in particular continued to recovery from last year’s lows, and stronger single-family housing prices have made their way into the measure. Categories tied to reopening, such as lodging and airfares also rose by several percent, contributing to the monthly gains.

On a trailing 12-month basis, CPI rose 6.8% and 4.9% on a headline and core level, respectively. These remain obviously elevated, as the headline increase is the highest in nearly 40 years. Energy commodities rising 58% for the year-over-year period were a significant input. While largely based on crude oil, it also affects its derivatives, such as gasoline and natural gas, which are big consumer sentiment drivers. Economists continue to seek the capitulation point where ‘peak’ inflation has been reached and prices begin to ease, with continued debate over how long this stretch of price pain will last. However, base effects are likely to help in coming months.

Not to take away from strong inflationary impulses, but the Cleveland Fed puts out a mix of ‘flexible CPI’ (prices that change frequently, such as oil, food, hotel prices, and new cars) and ‘sticky CPI’ (prices that are far slower to change month to month, including housing rent, medical care, and furniture). Year-over-year flexible CPI accelerated to a 40-year high of 17.9%, while sticky prices increased by a few ticks to 3.4%. The latter have stayed persistently in a band of 1.5-3.0% over the past 20 years, with slightly higher movement in recent months.

(+) The Univ. of Michigan index of consumer sentiment rose 3.0 points to 70.4 in the preliminary December report, beating expectations calling for 68.0. Assessments of current economic conditions rose a point, while expectations for the future rose by 4.3 points—perhaps with optimism over the new Covid strain looking less severe than feared. Median inflation expectations for the coming year were unchanged at 4.9%, as were those for the next 5-10 years, at 3.0%. Obviously, both of those remain elevated compared to historical levels.

(+) The JOLTs job openings report for October showed a gain of 431k jobs to 11.033 mil., which surpassed expectations calling for 10.469 mil. Nearly 60% of openings were in hotels and food services, industries which have been lagging other sectors due to delays in the full resumption of these activities. Construction jobs were also significantly higher, as were manufacturing. The rate of job openings ticked up by 0.2% to 6.9%, while the hiring rate was flat at 4.4%. The layoff rate was also flat at 0.9%, while the recently-watched quits rate fell by -0.2% to 2.8%. Interestingly, a record ratio of available jobs per unemployed person also demonstrates strength and a tilt in negotiating power from ‘capital’ to ‘labor’.

(+) Initial jobless claims for the Dec. 4 ending week fell by -43k to 184k, well below the median forecast calling for 220k, and another 50-year low. Continuing claims for the Nov. 27 week, on the other hand, rose by 38k to 1.992 mil., above the consensus expectation of 1.910 mil. Claims fell by the largest amounts in PA and GA; however it appears seasonal affects may at least partially explain the results, as is typical around the holidays.

(-) Nonfarm productivity growth for Q3 was revised down -0.2% to an annualized rate of -5.2%, beyond the -4.9% median forecast estimate. This pulled the year-over-year rate down a tenth to -0.6%. Unit labor costs on a revised basis rose by an annualized 9.6% in Q3, which exceeded the unchanged 8.3% expected. The trailing 12-month number was revised 1.5% higher to 6.3%. This reflects the unusual Covid dynamics, including wage pressures.

Question of the Week: What should we look for heading into 2022?

Year-end predictions tend to be futile, and accuracy rates tend to be low (or results random). But keeping tabs on more important issues can be helpful. Several items remain in a status similar to 2020-21, while progress seems to have been made in others.

• Just as immunity rates from both vaccinations and infections have steadily ticked to higher levels as a percentage of the total population, and reopenings have continued, a reemergence of delta variant cases in recent months and a new omicron variant in recent weeks have threatened this optimism. While the omicron variant is under intense study, and it’s difficult to make early conclusions, there are some glimmers of hope that it may generate less severe illness, despite being far more contagious. Regardless, it also appears an mRNA vaccine recipe could be quickly adapted to fight it, if needed. Regulatory approvals would represent the most time-intensive part of the process. If omicron is indeed less severe, one positive is that the new strain could ‘crowd out’ cases of the currently dominant delta variant. However, the fact that omicron may have emerged from just one person with a long-term case, or an animal carrier, is a reminder that the pandemic isn’t over, with the potential for surprises continuing. The increasing base case opinion is that Covid will change from pandemic to endemic—we’ll just have to live with it, as we do the flu. That brings the good news that it should provide fewer shocks to the global economy and daily life assuming that new, dangerous strains don’t emerge and spread. This evolving threat could keep markets on edge to some extent for an unknown stretch of time, just as in 2021. What is the ultimate financial risk? That cases rise to the point of filling hospital beds and straining medical capacity, which local governments have used as a benchmark for business and mobility lockdowns, effectively shutting down economic activity.
• High prices of 2020-21 have been blamed on two primary culprits: (1) supply chain and logistical bottlenecks, where high demand for consumer goods has run up against delays in manufacturing and transportation of these goods; and (2) a surplus of cash from government fiscal stimulus payments and hoarded savings during the pandemic shutdowns. There have been signs that bottlenecks are easing, although the backups of anchored ships, stored containers, trucking delays, etc. remain at high levels. Based on comments from company managements and other sources, while some backups are expected to alleviate, others (especially more complicated items like semiconductors) may persist even into 2023. However, these disruptions haven’t ruined Christmas en masse. Economists continue to debate the near- and long-term impact of all this fiscal stimulus having entered the money supply. Inflation might seem the obvious result if this scenario were described in an economic textbook, but the question is how much is being spent vs. saved, and the size of the economic ‘hole’ needing to be filled before the ‘excess’ turns into persistent higher prices and wages. It’s not easy to separate the current two inflation inputs, at least until supply problems improve. However, the rising likelihood of the Federal Reserve speeding up their tapering efforts implies that longer-lasting inflation is being taken more seriously as a threat, with rate hikes being the next move.
• Labor markets have repaired sharply since the depths of the early pandemic. But, hurdles remain in getting to the magical place of ‘full employment’—one of the Fed’s mandated goals. Why is this so difficult? This remains a current mystery among economists. The statistics point to a variety of influences, such as baby boomers on the cusp of retirement simply not bothering to return to the workforce, workers reevaluating their lives during a time of uncertainty and quitting unsatisfying jobs, high stimulus and jobless benefits allowing potential workers to boost savings and delay returns, continued child care and family responsibilities, continued aversion to Covid, and rising self-employment and ‘gig’ economy work (which is harder to measure through government statistics). Jobs stats are expected to improve, but the timing remains fluid. Measurement of labor markets is also imprecise and at a lag, which is another problem. The abundance of available jobs versus willing workers has driven up wages at least a bit, and even re-strengthened labor union activity to some extent, which had been in decline for decades.
• Federal Reserve monetary policy. As their mandate is in keeping with the two prior items, policy is evolving from ‘accommodative’ toward ‘neutral’ (as bond purchases are tapered down to zero), and eventually to ‘contractionary’ (assuming 2022 features at least 1-2 interest rate hikes). The Fed has been criticized in some circles for not being fast enough in ending tapering and starting to raise rates, due to the strong inflation impulses. Instead, they’ve held fast to their ‘transitory’/‘temporary’ language, believing that supply issues are at the root of high prices. It’s important to note that, from a long-term policy basis, the Fed would prefer a bias toward stronger inflation (which they believe can be handled through monetary policy, i.e. higher rates), to deflation, which is more difficult to tackle through monetary means.
• Interest rates. Nominal rates are a factor of a real yield plus inflation. As described in their summaries, the Fed’s long-term fed funds rate assumption is accordingly set at 2.5%, which is their inflation goal of 2.0%, plus an implied 0.5% real yield. This will take time to reach, considering we’re currently at zero. (By the way, financial markets are less optimistic than the Fed, pointing to 1.5% as a terminal fed funds rate.) The interest rate policy the Fed would ideally like to ultimately see is ‘neutral’ if conditions otherwise are in balance, which implies rates are neither expansionary (gas pedal) or restrictive (brake pedal). This is a moving target, though, so we rarely tend to ever get there precisely, or at least for long. But the Fed would at least like to begin the process, and this means moving away from the extreme emergency accommodation that zero rates imply. This looks increasingly inappropriate in a period of high inflation, temporary or persistent. On the downside, sharp rate increases have been historically negative for stocks, real estate, and other risk assets, due to their impact on financing costs and present values of future cash flows. In fact, the Fed has exacerbated recessions in the past by being overly aggressive and going too far. But, a slower ‘normalizing’ rise, such as a quarter-percent at a time, over the course of a few years, may be far less impactful and allows financial markets to gradually adjust.
• Fiscal stimulus. The first infrastructure bill ($1.2 tril. for roads/bridges/rail) having passed was important from a physical structures standpoint and releases a high degree of spending into the economy. The second bill (Build Back Better), with a social program focus, has been far more politically problematic. The price tag has already been negotiated downward (so far $1.75 tril.) with the timeline also being pushed out (possibly to December 31 or into early 2022) as the Senate debates fine points of policy and ‘pay for’ tax increases. Per some political strategists, the longer this process takes, the higher the probability of possible failure completely, considering 2022 is an election year. Americans as a whole don’t appear to know what’s in the bill, or how it affects them, but do know it’s expensive. Senator Joe Manchin, for one, who represents one of the key tie-breaking votes, has become increasingly negative on the bill in recent comments—pointing to the high price tag and potentially negative impact on both inflation and debt levels.
• Mid-term elections. Speaking of which, perhaps due to the back-and-forth over the infrastructure bill, Covid policy, and other partisan politics have led to President Biden’s falling approval ratings. These, combined with a surprise Republican win in VA’s governor’s race has odds of Republicans picking up Senate and Congressional seats in Nov. 2022. This would either close the Democratic majority gaps in the House and Senate, or reverse them entirely. This puts a damper on the current agenda. This mid-term reversal isn’t unusual by any means, but does close the window for the current administration to get their policy goals moved ahead. It’s safe to assume more Republican seats would remove pressure from tax hikes, raising net earnings, which is an outcome financial markets would be happy with.
• Equity valuations. These are no doubt high, by a variety of measures. The inputs of low interest rates, and the evolved composition of the stock market (dominated by low capital intensive-sectors like technology and communications), as well as ‘TINA’ (there is no alternative, to stocks that is) have been contributors. If interest rates rise substantially, bonds become a more attractive asset, and the input negatively affects equity valuations. However, equity prices follow earnings over the longer-term, so growth broadly has been a ballast for markets—with a recession typically being the most feared near-term threat. If investors move away from a U.S.-only view, though, foreign assets offer more attractive valuations in keeping with their cyclicality, more uncertain growth rates, and depressed sentiment. This is particularly true in emerging markets. Diversified asset allocation portfolios are obviously far less sensitive to single asset classes focused on most by the media (Nasdaq, ‘FANG’ stocks, etc.).
• Global economic growth. Since March 2020, paths of growth have been largely dictated by national/state policies of being open or closed in response to Covid. As we’ve learned, it’s a lot easier to close an economy than to open it again, particularly after several months. But the global economy has generally reopened, despite a few exceptions, with some sectors moving back toward or stronger than pre-pandemic trend (digital), while others have yet to get back to normal (travel/recreation). The strong reopening gains based on base effects of ‘zero’ activity peaked around Q2 2021. Growth levels since are expected to remain higher than average, but since affected by Covid variant outbreaks (delta in Q3, and likely now omicron this quarter and perhaps also Q1). This pent-up growth didn’t go away, but has been pushed into 2022, and may last another few quarters. However, by 2023, it’s expected that economic growth rates may settle back to their long-term normal level, which is 2-3% in the U.S.
• Climate change. This is an environmental and political issue, in a separate sphere, but does have economic ramifications. There is no doubt that global industrial and consumer activity is moving in a greener direction, particularly in Europe. Notably, it’s been pointed out that continued volatility in petroleum markets may persist due to a weakened transition ‘buffer’—such as pipelines taken offline, and a drop in exploration activity—causing petroleum supplies to fall off when they’re most needed. This leaves less room for error as short-term demand rises and falls, resulting in price dislocations, and OPEC+ again gaining pricing power. (That had reversed somewhat as North American shale production raised supply potential over the last decade or two.) Otherwise, ESG investing has become more institutionally popular, which tends to raise demand for ‘growth’ stocks (as ‘dirtier’ materials and energy are often excluded), with a heightened focus on technology, communications, and health care.
• This is always the wildcard, with the political environment loosely related to the economic. Current areas of concern are China’s increasing aggression in the Pacific (especially rhetoric concerning Taiwan), Iran’s uranium activities, as well as the Russian military build-up at the Ukrainian border. Either a purposeful event or diplomatic accident has the potential to dial-up broader uncertainty, which often leads to short-term market volatility.
• Positive takeaway. Despite a difficult two years and great human toll, the rapid creation of effective vaccines and therapeutics for Covid have been described as ‘medical miracles’. Having been ill-prepared for a pandemic, the global economy has proven itself to be surprisingly resilient and adaptable. No doubt some lessons have been learned to make improvements in a variety of industries, from supply chains to education. It just may take time for the dust to settle to appreciate it.

Market Notes

Period ending 12/10/2021	1 Week (%)	YTD (%)
DJIA	4.05	19.71
S&P 500	3.85	27.16
NASDAQ	3.62	22.03
Russell 2000	2.45	13.00
MSCI-EAFE	2.44	8.99
MSCI-EM	1.15	-2.20
BBgBarc U.S. Aggregate	-0.72	-1.67

U.S. Treasury Yields	3 Mo.	2 Yr.	5 Yr.	10 Yr.	30 Yr.
12/31/2020	0.09	0.13	0.36	0.93	1.65
12/3/2021	0.06	0.60	1.13	1.35	1.69
12/10/2021	0.06	0.67	1.25	1.48	1.88

U.S. stocks experienced their strongest weekly gain in six months, with technology leading the way, up 6%, while financials, consumer discretionary, and utilities came in the rear, although still up 2-3% each. Real estate gained just under 3% on the week, fueled by financial risk sentiment rather than interest rates, which rose.

Based on a week or so of commentary from medical experts, it appears that concern over the Covid omicron variant has calmed a bit. The crux of this is transmissibility (which is high, and far more so than delta), but also the severity of cases and effectiveness of current vaccines/boosters on hospitalizations and mortality (which appears better than expected so far). A good deal more information is required to make a deeper assessment in coming weeks, but some infectious disease specialists have expected such mutations to eventually occur, causing the virus to become progressively less severe, albeit still contagious. (The common cold, also a coronavirus, has been thought to have evolved this way—into its current form as a fairly minor annoyance.) By mid-week, reports that Pfizer vaccine protection against omicron is several times lower than prior variants caused a bit of a pause in the optimism.

The U.S. debt ceiling battle continues, with Treasury Secretary Yellen indicating a headline of Dec. 15, while others have referenced Jan. 2022 in reality. The Senate did vote to allow Congress to raise the debt ceiling with a simple majority vote, which simplifies the process. Prospects for the Build Back Better infrastructure bill have weakened, as the timeline looks to be delayed from the hoped-for year-end to possibly January, and even beyond. The trickiness comes as primary party campaigns for the mid-term election year begin and divert attention from Congressional operations.

Foreign stocks also fared well, along with potentially positive news about the omicron variant, although several European nations continued to tighten restrictions related to delta cases. Industrial production in Germany rose at a higher rate than expected, which helped economic sentiment as well; this was offset by weaker economic growth reports in the U.K. and Japan.

The central bank of China lowered bank reserve requirements by -0.50%, which represented a form of easing in response to a slowing growth dynamic. Restrictions on house buying and mortgage lending could be eased as well, in a fine balance between keeping the housing sector sustained, while also attempting to avoid the excesses of less sustainable commercial real estate development (ending in cases such as Evergrande and others, which are having a difficult time with debt payments). Due to a lack of financial vehicles, housing speculation has been more prevalent in China in recent years, leading to government policy shifts and even public scolding.

U.S. bonds fell back last week, as interest rates ticked higher on the heels of decent economic data and stronger inflation, although yields rose prior to CPI being released. Both government bonds and investment-grade corporates fell nearly a percent, while high yield and floating rate bank loans gained. Foreign bonds were little changed, while emerging market debt gained along with pro-risk sentiment. The central banks of both Poland and Brazil raised interest rates last week, in a reflection of global inflation concerns.

Commodity indexes gained, almost exclusively due to higher energy prices, although industrial metals also rose a bit. The price of crude oil rebounded by 7% to just under $72/barrel. This was the largest weekly gain since the summer, led by dissipating fears over the Covid omicron variant, just as in the views boosting equity markets.

Mortgage Rates

“Mortgage rates have moved sideways over the last several weeks, fluctuating within a narrow range,” said Sam Khater, Freddie Mac’s Chief Economist. “Going forward, the path that rates take will be directly impacted by more information about the Omicron variant as it is revealed and the overall trajectory of the pandemic. In the meantime, rates remain low and stable, even as the nation faces declining housing affordability and low inventory.”

The 30-year fixed-rate mortgage averaged 3.10% with an average 0.7 point for the week ending December 9, 2021, down slightly from last week when it averaged 3.11%. A year ago at this time, the 30-year FRM averaged 2.71%.

The 15-year fixed-rate mortgage averaged 2.38% with an average 0.7 point, down slightly from last week when it averaged 2.39%. A year ago at this time, the 15-year FRM averaged 2.26%.

The 5-year Treasury-indexed hybrid adjustable-rate mortgage (ARM) averaged 2.45% with an average 0.3 point, down from last week when it averaged 2.49%. A year ago at this time, the 5-year ARM averaged 2.79%.

Freddie Mac’s Primary Mortgage Market Survey® is focused on conventional, conforming, fully amortizing home purchase loans for borrowers who put 20% down and have excellent credit. Average commitment rates should be reported along with average fees and points to reflect the total upfront cost of obtaining the mortgage. Borrowers may still pay closing costs which are not included in the survey.

Through our relationship with Prestige Home Mortgage in Vancouver, Washington we originate residential and reverse mortgages.

Selected Cryptocurrencies

Symbol	Name	Price	7d %	30d %	YTD %	Market Cap
BTC	Bitcoin	$48,885.84	0.66%	-23.02%	66.60%	$924,881,687,273
ETH	Ethereum	$4,014.46	-0.81%	-12.90%	449.61%	$476,565,567,891
BNB	Binance Coin	$550.48	-0.90%	-12.79%	1352.27%	$91,821,114,239
SOL	Solana	$167.84	-7.87%	-26.10%	9002.19%	$51,583,178,844
ADA	Cardano	$1.31	0.67%	-35.55%	649.22%	$43,917,672,103
DOT	Polkadot	$28.18	7.33%	-38.17%	238.83%	$27,796,716,172
LUNA	Terra	$58.94	-9.58%	20.36%	8987.83%	$22,311,219,094
DOGE	Dogecoin	$0.17	-0.41%	-35.84%	2806.65%	$21,895,933,217

Information current as of 4:00 AM PST, Monday, December 13, 2021. Source: https://coinmarketcap.com/

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Sources: Ryan Long, CFA, FocusPoint Solutions, American Association for Individual Investors (AAII), Associated Press, Barclays Capital, Bloomberg, Citigroup, Deutsche Bank, FactSet, Financial Times, Goldman Sachs, JPMorgan Asset Management, Marketfield Asset Management, Morgan Stanley, MSCI, Morningstar, Northern Trust, Oppenheimer Funds, PIMCO, Standard & Poor’s, StockCharts.com, The Conference Board, Thomson Reuters, T. Rowe Price, U.S. Bureau of Economic Analysis, U.S. Federal Reserve, Wall Street Journal, The Washington Post. Index performance is shown as total return, which includes dividends, with the exception of MSCI-EM, which is quoted as price return/excluding dividends. Performance for the MSCI-EAFE and MSCI-EM indexes is quoted in U.S. Dollar investor terms.

The information above has been obtained from sources considered reliable, but no representation is made as to its completeness, accuracy or timeliness. All information and opinions expressed are subject to change without notice. Information provided in this report is not intended to be, and should not be construed as, investment, legal or tax advice; and does not constitute an offer, or a solicitation of any offer, to buy or sell any security, investment or other product. FocusPoint Solutions, Inc. is a registered investment advisor.

Notes key: (+) positive/encouraging development, (0) neutral/inconclusive/no net effect, (-) negative/discouraging development.