PPI Initially the Producer Price Index (PPI) looked problematic as it increased 0.5%, which easily topped the estimate of 0.3%. Looking further into the report though, the March reading was revised from an initially reported 0.2% gain to a decline of 0.1%, which more than accounted for this month’s beat. Looking on a year-over-year basis, PPI rose 2.2% and core PPI was 2.4%. While the core PPI increase was the biggest annual move since August 2023, I still don’t believe it’s at a problematic level considering the Fed’s 2% target. CPI The Consumer Price Index (CPI) brought some positive news as the index grew 3.4% in April which was in line with expectations and better than the previous month’s reading of 3.5%. Core CPI which excludes food and energy was up 3.6% and was below last month’s reading of 3.8%. This was the lowest reading for core CPI since April 2021. Shelter continues to be the major weight keeping prices elevated as it was up 5.5% over last year and accounted for over two thirds of the growth in core CPI. Energy which was a major positive for the CPI numbers for much of last year has now brought some pressure to the headline CPI number as it was up 2.6% compared to last year. The easy comparisons from last year have disappeared and now I believe we will continue to see year over year gains in the energy component moving forward. Other areas that remained problematic included motor vehicle insurance (+22.6%), admission to sporting events (+15.4%), and motor vehicle repair (+9.8%). While there are some remaining negatives in the inflation fight, overall, I believe this report shows we are continuing to head in the right direction. Private Credit I have seen investors become more interested in the private credit space, but personally I have not invested any money in it, nor would I recommend my clients do so. Private credit is where nonbank financial institutions, like private-equity firms, make loans to businesses. It was essentially created to serve companies that were too big or risky for banks or too small for the bond market. The funds are generally illiquid, which means you could be stuck in an investment and if it goes south, you may have no other choice than to ride it out and hope it comes back. Also, since they rarely trade you don’t really know what the loans are worth and have to rely on pricing from quarterly accounting estimates. The fees are quite high as they are in the range of 1.25%, which I would consider high for essentially a fixed income alternative. Unknown risks could also be developing in the space due to less regulations and limited oversight. The International Monetary Fund (IMF) recently released a report that stated with the recent increase in yields, more than a third of borrowers have interest costs that exceed their earnings. Pull all the info together and I’m comfortable not being in this investment. Netflix and NFL Streaming Netflix secured a deal for three years to broadcast two Christmas NFL games this year and at least one game in both 2025 and 2026. It’s going to cost Netflix $150 million this year and I’m wondering how they will make money off this deal. I wonder if they will be able to sell as many commercials as the big networks that currently own many of these rights and what viewership will look like on the platform. It’s also important to point out that the games this year will also air on broadcast TV in the competing teams’ cities. To breakeven, Netflix would need to attract a lot of new subscriptions and using strictly the subscription model of $23 per month, Netflix would have to increase their subscriptions by 6,521,739 just to breakeven. Obviously, it will be a combination of ad revenue and subscriptions, but I believe this will be a money loser for Netflix. Financial Planning: Best Withdrawal Rate for Retirement The 4% rule has been around for decades and states if retirees withdraw 4% from their portfolio every year, and increase the annual withdrawals by the rate of inflation, they are very unlikely to run out of money. This rule of thumb has been widely used but it is important to understand it has some pitfalls. First off, a 4% withdrawal rate is overly conservative in almost all cases. To be able to withdraw 4% plus inflation over a retirement lasting 30 years, the asset return needs to outpace inflation by just 1%. A 1% real return is extremely low. This is partly caused by the misconception that retirees need to have an overly conservative portfolio. Regardless of age, retirees still should allocate their assets to grow and outpace inflation. That doesn’t mean they need to buy risky or trendy investments, but there should always be growth. Retirees are living longer and longer which means traditional “conservative” portfolios are actually riskier because they increase the chance of outliving money. Secondly, retirement spending typically doesn’t maintain pace with inflation. In the first few years of retirement, people are more active and spending more, but as they age, they tend to slow down which results in lower levels of spending. This means it can be appropriate to start with a larger withdrawal rate followed by smaller inflationary increases over time. Because of this, a 5% or even 6% withdrawal rate can be used in retirement when paired with wise investment management. A withdrawal rate of 6% may not seem like much more than 4%, but mathematically it is 50% more which means substantially more retirement income, or being able to retire several years sooner. Tariffs on China This week President Biden not only extended President Trump‘s tariffs on China, but actually increased them. The Biden administration announced new tariff rates on $18 B worth of Chinese imports. This included a 4x increase on imported Chinese electric vehicles from 25% to 100%, a 2x increase on solar cells from 25% to 50%, and a more than 3x increase for some Chinese steel and aluminum imports from 7.5% to 25%. Also, starting in 2025 tariffs on imported Chinese semiconductors will go from 25% to 50%. This will help prevent US auto makers from perhaps filing bankruptcy in a few years as they would be unable to compete with the cheap prices on China’s electric vehicles. However, the US auto makers will have to sharpen their pencils to make profits and to compete on a global scale as China is producing and selling to the global market. I was glad to see Biden increase these tariffs and not let them expire just because former President Trump established them. You may ask yourself did President Biden do it for political election reasons with the election coming up in November? I would not rule that out, but I would say as bad as our system seems to be sometimes, maybe it is still working to benefit our country. Meme Stocks Meme stocks are back in the news with companies like GameStop (GME) and AMC Entertainment (AMC) surging! AMC was actually quite smart and took advantage of the move to do a $250 million stock sale to raise capital. Like I said back in 2021, these moves are occurring for no fundamental reason. The fact that these are occurring because a guy that goes by the name “Roaring Kitty” posted an image of a man in chair leaning forward is just crazy. If you want to gamble on this stock just know that’s all it is, there is no fundamental reason for the company’s stock to be trading at these levels. It’s also important to remember that last time the hype occurred the stock reached an intra-day split adjusted high of $120.75 per share and has been in free fall before this recent move as it touched a three year low of $9.95 per share. I believe the story will end the same way for many of these traders and for those that think they are sticking it to Wall Street, unfortunately it will not have as big of an impact as they think. April Retail Sales Although April Retail Sales were flat compared to March, when looking at last April they were up 3.0%. I believe this continues to indicate a consumer that is willing to spend, but at a slower rate. Areas of strength included nonstore retailers (+7.5%), food services & drinking places (+5.5%), and gas stations (+4.0%). While electronics & appliance stores saw a small gain of 0.8%, both furniture & home furnishing stores (-8.4%) and building material & garden equipment &supplies dealers (-1.0%) continued to struggle. Overall, I believe this report is a positive as it shows consumers remain in a good spot, but not too good of a spot that might put more pressure on inflation. Equity Settlement Times It’s always been a little bit inconvenient over the years to have the two-day settlement time when selling equities. It was frustrating at times when we would sell an equity on Thursday and our clients would not have good funds until after the weekend on Monday. It wasn’t until that time that we could send them a check. The head of the SEC, Gary Gensler, who has been a tough regulator will make it possible that when an equity is sold one day the cash will be available the next day. Don’t call your broker tomorrow and sell and expect funds the next day though as this will not be available until after Memorial Day weekend. I do remember when I first got into the industry 40 years ago, there was a five-day settlement period. Progress and technology have definitely helped the consumer with this situation. Online vs. Brick-and-Mortar Shopping Many years ago, people were certain that the internet and online orders would wipe out the brick-and-mortar stores. Something no one seemed to think about was the combination of the two. Currently 42% of e-commerce orders also have bricks and motor stores. This is a huge increase from 27% nine years ago. It makes sense to me because I think it’s still nice to sometimes go into the store. Also, it can be more convenient if you order online and are not happy with that purchase to go into the store to return or exchange it. At that time, you could even do more shopping if you wanted or needed.
Cash & Money Markets are not Long-Term Investments With many companies in the stock market more expensive than we’d like to see, we have been sitting on more cash in a money market than we normally would. While the 5% or so in interest is nice for the time being, we are using this as a temporary parking place until we find a good long-term investment. It could take one week or it could be three months, but the important factor is we are not considering this as a long-term investment. I know many people right now are happy with their money market rates and would totally miss a great opportunity if it presents itself to continue investing in the money market. I believe this will be extremely damaging for their long-term returns, especially as short-term rates are likely to fall. Looking long term cash will likely not beat stocks and in a recent Vanguard paper, they showed global stocks earned about 6% more a year than cash from 1901 to 2022. Don’t become complacent with the short-term yields, as you could miss a great investment that could help you over the next three to five years. AI and Jobs Some people are worried about artificial intelligence taking away many jobs. I remember hearing about the same concern when computers first came out, but in reality, they created new jobs. Investment firm Goldman Sachs projects that by the end of 2034, artificial intelligence could boost the GDP to 2.3%. According to the Census Bureau’s November 2023 Business Trends and Outlook Survey, only 3.9% of businesses nationwide have used artificial intelligence, which includes machine learning, natural language processing, virtual agents and voice recognition. Another survey by Deloitte discovered that 87% of private businesses who were surveyed, expect artificial intelligence to increase their labor productivity within the next three years. It is true that change is always scary and it is true that AI will replace some jobs, but it will also create jobs that haven’t even been thought of yet. It will also make our economy more productive, which then should increase the overall wealth of consumers. Apple in China Relations between the US and China are rather strained currently and Apple could be paying the price for that. In the Wall Street Journal, they released information that the company has discounted phones in China by $70, which normally sell for around $600 on average. On a side note, wouldn’t be great to get an iPhone for $600? Consumers in China have been switching to Huawei phones as the government in China and consumers begin to feel more comfortable with the company’s technological progress. If you remember a while back, we did post that the Chinese government had banned the use of iPhones in government agencies. So, Apple is now fighting with the government of China, despite what Tim Cook says and they are also fighting with the Federal Trade Commission in United States as well. They are definitely in the middle of some major storms, which could go on for years hampering sales growth for their products. This could cost the company their premium valuation on earnings, which means no stock growth going forward at best. There could also be a pull back in the stock on the horizon if they are not able to return to sound growth. Financial Planning: Tax Rate on Gold Investing in gold has been popular recently, but it is important for investors to understand how gold is taxed. Federally there are 7 tax brackets (10%, 12%, 22%, 24%, 32%, 35%, 37%) which ordinary income is subject to. Ordinary income includes most sources like wages, interest, and IRA distributions. There are also separate brackets for certain types of investment income like long-term capital gains and qualified dividends. Depending on the amount of taxable income, the tax rate is either 0%, 15%, or 20%, plus there can be an extra 3.8% tax if AGI is above $200k or $250k depending on filing status. Basically, this type of investment income will always be taxed at a lower rate than if it had been received as ordinary income. There is also a third set of brackets that is applied to income earned from collectibles, which includes gold. If gold is bought and sold more than a year later for more, it is considered a collectible long-term capital gain which is taxed at ordinary income rates for those in the 10%, 12%, 22%, or 24% brackets. For those in the 32%, 35%, or 37% brackets, gold is taxed at a maximum rate of 28%, but it can also be subject to the additional 3.8% net investment income tax for those with higher AGI levels. This tax rate includes investments backed by physical gold such as a gold ETF. If you are considering buying gold, be prepared to pay more taxes than you would on other types of investment income. EV Demand The demand for electric vehicles is still growing, but it has slowed to an estimate of just 16% annually through 2030. Some investors and people got excited about the price of lithium and thought what a great opportunity with the growth of electric vehicles. That has not played out so well as in 2022 a metric ton of lithium was trading at $60,000. It then peaked in January 2023 as it touched $80,000 per metric ton, but by December 2023 it fell to $9000 per metric ton. It was recently trading around $11,000 per metric ton. One way to invest in the growth of lithium that investors may have tried was investing in lithium producer Albemarle, symbol ALB. That stock has fallen as much as 60% and currently trades around $130 per share. If you believe that oil is going to dramatically increase in value and people will start buying more electric vehicles, this company could do well. Before jumping in the stock, be sure you understand their debt levels, cash flow, earnings per share and how much you are paying for those metrics. For good long-term investing, remember to stay away from the hype and invest in a business that has a good long-term future but yet you can still pay a reasonable price for it. Meat Prices In the next couple months or so, you could see the price of meat at the grocery store decline some. You may be wondering why; it is because last week future prices on cattle dropped by 6% as the United States took steps to contain bird flu in cows. You may be wondering how the cows catch the bird flow? I guess if they did, they could no longer call it the bird flu. Labor Productivity Labor productivity is an important factor for an economy to grow. From January 2021 to March 2024, according to data from the US Census Bureau, Americans filed 17.3 million new business applications. The formation of new businesses is a very big driver of the recent productivity growth and has helped the economy continue its growth and avoid a recession. This is one of the many factors we look at Wilsey Asset Management and it is one reason why we have continued to say that while we don’t have a booming economy, we still do not see a recession coming either. What this has also done is keep us invested in good quality companies throughout the last couple years. Unfortunately, many people either sold out of their investments and went to CDs or have not been invested for the past few years and as they were afraid to invest. Robinhood Lawsuit Brokerage firm Robinhood has received from the SEC a Wells notice. This is like a warning to brokerage firms that we are going to be filing a lawsuit, but before we do you can explain to us why we shouldn’t proceed. The potential lawsuit from the SEC is in regards to Robinhood’s crypto unit. The SEC is still standing behind their position that cryptocurrency is a security and must comply with security laws that protect consumers against fraud and manipulation. I have to side with the SEC on this because crypto’s main use is not to purchase products and services but it is traded because of potential gain that investors are hoping to receive from an increase in the value of the cryptocurrency. I do know there’s a limited amount of people that say you can buy products and services with crypto, but when compared to a currency such as the US dollar no one buys a US dollar with hopes it will go up in value. This will all play out in the courtroom and if the SEC were to win their case, I’m sure that would be a negative for cryptocurrency prices. What Makes a Stock Valuable? I really think it is silly when investors/analysts say something is a value considering it trades a discount compared to its historical averages. I recently read an article in Barron’s that stated, “At 17.8 times 12-month forward earnings, the stock is rarely this cheap. Its current price/earnings ratio is well below its five-year average of 24.5.” The reason I believe this is foolish is it doesn’t account for growth rates. At a multiple of 24.5x that company should have strong earnings growth, what if the company now instead of growing earnings at 20% per year is growing at 5% per year? That stock should not carry the same multiple and unfortunately as companies mature many times their growth rates slow, which should then lead to compressed multiples. No-Show and Late Fees I recently wrote a post about service fees that struck a nerve for many people as well as myself. Another one is the boldness of companies that will charge a no-show or late fee. I’ve seen some fees as high as $50-$100 or charging the price of the service that you didn’t receive. It used to be the customer was always right and a business would do nothing or should do nothing to piss off a customer. But now, if you had an issue that caused you to be late or you just couldn’t make it, why would a business charge you and think that’s OK. I personally think it is a very foolish policy, years ago a dentist tried to charge me when I called and needed to cancel a few hours before my appointment. I let them know I received a call to do a national TV segment and I wouldn’t be able to make my dentist appointment. They told me if I didn’t come in they would charge me for the appointment anyways. I let them know this will be the last time I would patronize their business because there are many other Dentists out there. Apple Stock Even with the large gain for Apple stock after reporting earnings, I was quite unimpressed with their results. The company reported overall sales that decreased 4% compared to last year and iPhone sales were down 10% over the same time span. In the current quarter the company is looking for revenue growth in the low single digits. While this topped estimates for current quarter growth of 1.3%, it is still extremely lackluster for a tech company trading at close to 25x 2025 estimated earnings. I think it is funny when people say that Apple has a long history of proving doubters wrong, considering during other periods of doubt the stock traded at much more attractive valuations rather than an elevated market premium. A couple areas of “excitement” included the announcement of a $110 B share buyback and an increase to $0.25 for the quarterly dividend. While it makes for a great headline, I don’t think these numbers are as impactful as many may believe. Due to Apple’s large market cap of nearly $2.9 T, the buyback would amount to under 4% of the shares outstanding. There are also questions around how much longer Apple will produce buybacks of this magnitude as the company has indicated when its debt is roughly equal to its cash balance, they will evaluate what to do next. Currently, appears their cash stood at $162 B and debt was a little over $100 B. The dividend of $0.25 is also negligible considering it would produce a yield of a little bit over 0.5%. Some may point to the excitement over the Services business which grew 14.2% to $23.9 B in the quarter, but I continue to worry about Google making up a large portion of that with its payment to Apple to make Google the default search engine in the Safari browser. In 2022, Google paid Apple $20 B for that privilege which was a large part of Apple’s service revenue. I believe the major event for Apple will be its developers conference in June. They have talked up AI in preparation for this event with little details. I believe the stock price will be greatly influenced by this event and if it is a disappointment, I believe the stock will get hit quite hard. While many people love Apple, I continue to believe the stock is too expensive!
Labor Market payrolls Nonfarm payrolls increased by 175,000 in the month of April. While this was well below the estimate of 240,000, this may actually be a big positive. Having that type of growth still shows the labor market is on good footing, but to combat the Fed’s inflation concerns it’s nice to see a labor market that is not too hot. Previous revisions also weren’t major considering March was revised up by 12,000 to a gain of 315,000 and February was revised lower by 34,000 to a gain of 236,000. Areas of strength included health care and social assistance (+87K), transportation and warehousing (+20.1K), and retail trade (+20.1K). Some areas actually saw minor losses including mining and logging (-3K), professional and business services (-4K), and information (-8K). With wage inflation being a major concern, I’d say the biggest data point was average hourly earnings growth of 3.9% missed the expectation of 4.0%. This was a decline from March’s reading of 4.1% and actually marked the lowest reading since the Fed starting hiking interest rates in 2022. Overall, I was quite pleased with the job numbers as I believe it shows a cooling labor market that remains healthy. Job Openings At the end of March job openings totaled 8.5 million. This missed the estimate of 8.7 million and was lower compared to the previous month’s reading of 8.8 million. Compared to last year, job openings were down 1.1 million. While this all sounds like bad news, I believe this is a positive. To start, pre-covid we had never seen a reading of over 8 million job openings, which means there is still plenty of available work for those that are looking. Also, when there were too many available jobs it created more competition for workers, which many times leads to wage pressures and in theory puts pressure on inflation. The labor market has remained resilient, but I believe we need to continue to see some softening to assist with inflationary concerns. This report came after the employment cost index spooked markets as it rose 1.2% in the first three months of the year versus an expectation of 1%. Compared to last year’s first quarter, wages and benefits rose 4.2%, which matched Q4’s reading and is off the multidecade high of 5.1% in 2022. Wages make up about 70% of employment costs and they increased 4.3% compared to last year, while benefit costs increased 3.7%. One other note to consider is that union workers saw a larger increase than non-union employees in the quarter. As we lap the impact from the union negotiations that concluded late last year, we will likely see a smaller increase from union jobs in the report. Microsoft and OpenAI I’m very curious to see how lawsuits against Microsoft and OpenAI over copyright infringement play out. Late last year the New York Times announced a lawsuit and now eight newspaper publishers in California, Colorado, Illinois, Florida, Minnesota, and New York have claimed Microsoft and OpenAI used millions of their articles without payment or permission. All eight publishers fall under the ownership of hedge fund Alden Global Capital and include names like the Denver Post, Chicago Tribune, and the New York Daily News. “The current GPT-4 LLM will output near-verbatim copies of significant portions of the publishers’ works when prompted to do so,” the complaint said. It also showed several examples of ChatGPT and the Copilot allegedly doing so. If these companies are able to win, I worry it could open the floodgates and other content providers could then claim the same infractions. ChatGPT also received more bad news with competitor Anthropic announcing its first enterprise offering and a free iPhone app. Anthropic was founded by ex-OpenAI research executives and has backers that include Amazon, Google, and Salesforce. Its Claude 3 model can reportedly summarize up to about 150,000 words and convert the large data sets into summaries in the form of a memo, letter or story. For comparison, ChatGPT can handle about 3,000 words. Overall, the AI space remains very early on to try and pick winners and I believe many investors will be disappointed a few years down the road as they unfortunately picked the wrong horse to bet on. Starbucks Have you not been drinking as much Starbucks as you used to? The 52 week high for the stock is $109.72, but after reporting earnings the stock fell to $74.44. This was a 32.2% drop from the high. The company is struggling with their competitor in China, Luckin Coffee, and Starbucks saw a 11% decline in same store sales year over year. Starbucks has ambitious plans to roll out new beverages and increase their efficiency to bring back lost customers. Investors should note that there are union negotiations going on for 410 stores in the US, which could increase their labor cost and perhaps slow down their efficiency. In my opinion, even with this pull back it's still not a bargain as it still trades at almost 20 times earnings. We will do an analysis of Starbucks during our radio show and podcast on Saturday, May 11th after the numbers settle down and we can better view the company going forward. Financial Planning: Social Security at 62 vs. 70 One of the biggest choices retirees make is when to collect Social Security. Collecting as early as possible, which is age 62, will result in a permanent reduction in the monthly amount received, while waiting as long as possible, which is 70, will provide the largest bonus. Every month beyond age 62 that benefits are deferred, the amount increases, and the age 70 amount is 77% larger than the age 62 amount. This appears to be a drastic increase, and calculated annually it comes out to a little less than 8% per year. However a common misconception that a lot of retirees and financial advisors make is equating this to a guaranteed 8% per year return, which it is not. An 8% increase in the payment per year is not equivalent to an 8% return per year. The reason is, Social Security will eventually stop paying when you die, so you are receiving 8% more each year you wait, but you will also be receiving that for one less year. Because of this, assigning a rate of return to Social Security options is misleading and inaccurate. Instead it is far more appropriate to value the cashflow from the different options since ultimately Social Security is a stream of cashflow over time. The best way to do this is with a Net Present Value function which accounts for the influence of opportunity cost and time, which are two extremely important factors when structuring retirement income. This process is more analytical, but much more wholistic as it incorporates other assets and income sources into the Social Security decision. As a result, it is common for collecting Social Security sooner to be the objectively correct decision because it prevents the depletion of assets that otherwise would pass to heirs and it allows for greater implementation of tax strategies during earlier years of retirement. R-Squared I often times talk about the risk of overlap when investors buy mutual funds or ETFs. One great example of that is when investors pair the S&P 500 with the Vanguard Total Stock Market fund. While this fund has 3,731 stocks, those thousands of small companies only make up 9% of the portfolio. This means you are essentially double buying the S&P 500. There is a measure called R-Squared, or R2, which shows the correlation of a fund against its benchmark. The Vanguard Total Stock Market ETF has a 99 R2 with the S&P 500, meaning they essentially move exactly the same. Nvidia I remember being a kid and playing king of the hill. No matter how big the kid was, the king of the hill eventually was taken down by three or four smaller kids. It looks like the same is going to happen with Nvidia. Nvidia currently has more than 90% market share of the AI revolution, but don’t think other companies are sitting back applauding them and doing nothing. Going forward Nvidia is going to see competition coming from many different angles including big chipmakers like AMD, Qualcomm and even Intel who will be using Taiwan Semiconductor in the beginning to make their Gaudi 3 chip that is claimed to be faster and use less power than Nvidia’s H100 chip. The competition won’t stop there, big customers for Nvidia include Amazon, Google, Meta, and Microsoft, who have decided to make their own chips in house. These four companies combined will have an estimated capital spending level of $178 billion in fiscal year 2024, that’s a 26% increase from last year. I also always talk about how there could be somebody in a small garage making some great product or chip that could come out of nowhere. Well, maybe not in the garage, but there are 10 well-known venture backed companies that could come out with a surprise chip, which could be the next hot thing and challenge Nvidia. No one knows the future direction of Nvidia, but we do know that competition is good for the consumer and never good for a company that carries a 90% market share. Luxury Homes In the first quarter of 2024, 46.8% of luxury homes were paid for in cash. That’s a surprise to me because I would think that a luxury home would be purchased by more affluent sophisticated consumers that would have a better understanding of investing and the time value of money. Perhaps they are poor investors and their investments have not done well over time. They are also missing one of the big benefits of real estate which has always been the use of reasonable leverage. I’m also wondering what type of appreciation they think they will receive on that real estate over the next 5 to 10 years. Based on what I see in residential real estate over the next 5 to 10 years, I don’t see much more than a 3% return per year. S&P 500 One of the reasons investing in companies is so great is that as the businesses grow and earnings climb they can return money to shareholders. That is something you don’t get from bonds or money market accounts. In 2023, S&P 500 companies returned approximately $1.5 trillion to shareholders with dividends accounting for just over 40% of the total payout last year. Total dollars returned to shareholders grew about 7% from the $1.4 trillion in 2022 and this year it is expected total payouts will grow 10% to over $1.6 trillion. One problem to keep an eye on is that $1.6 trillion would consume nearly all of the expected free cash flow for S&P 500 companies meaning debt may be used to fuel some of the increase. I have said it before, but I am not a big advocate for borrowing to pay a dividend or buyback stock as it can bite you down the road. Overall, I would say this is welcomed news, but investors should be careful with some companies that are dangerously increasing their payouts. Federal Reserve While rate cuts seem to make more news than Quantitative Easing (QE) or Quantitative Tightening (QT), it is still very impactful and there was some important news from Fed Chair Powell you may have missed. The Federal Reserves has been going through QT as they have been allowing a cap of $60 B per month of Treasuries and $35 B per month of mortgage backed securities to roll off the balance sheet. The Fed stated that starting June 1st they will reduce the cap on treasuries to $25 B and while they left the cap at $35 billion for mortgage backed securities, it will reinvest any excess principal payments into treasuries. Powell indicated that the new caps would likely result in around $40 B per month in total balance sheet runoff as actual reductions in bonds have frequently fallen short of the caps. The balance sheet was used as a tool to lower rates during the pandemic and it doubled in size from its pre-pandemic level to about $9 T. After starting QT in the second half of 2022, the Fed’s balance sheet has fallen to $7.5 T. While they implemented the reduced cap, Powell stated, “the decision to slow the pace of runoff does not mean that our balance sheet will ultimately shrink by less than it would otherwise, but rather allows us to approach its ultimate level more gradually." Current estimates have the runoff likely finishing in 2025 with Fed holdings potentially between $6 T and $6.5 T. In regard to rate cuts, it seems like Fed may be leaning towards one or maybe two this year. The big benefit here was Powell essentially removed the idea of a rate hike and fought back against stagflation concerns stating he doesn't see "the 'stag' or the 'flation.'" Peloton (PTON) Peloton (PTON) is known for its high-end exercise bikes and it could do no wrong during the pandemic as the stock price quickly climbed to an all-time high of $171.09 on January 13th, 2021. If you’ve not been following this company, it continues to lose money and the stock continues to fall. It recently fell below $3.00 per share. The company fired the CEO after earnings. He had a great reputation for turning around businesses and running companies, but it appears there was nothing he could do to fix this company. If you hold the stock, it’s probably a good idea to sell it as I worry they could announce bankruptcy potentially sometime this year. I wonder if you own the bike, should you sell that as well because there will be nowhere to get replacement parts when this company files bankruptcy. As we said many times for the past couple years, these bikes will become great clothes hangers. That could be even more so the case if they filed bankruptcy and no replacement parts were available.
GDP First quarter GDP was a large disappointment as it grew at an annualized pace of 1.6%, substantially below the estimate of 2.4%. I will say, considering there is a lot of data to collect the first reading can be subject to major revisions. As a recent example, in 2023 Q1 GDP had an initial reading which showed an increase of 1.1%, but it was later revised to 2.2%. It is possible we could see a similar situation with this report. Given the current numbers, there were still some positives. Although it was below the estimate of 3% and down from the Q4 reading of 3.3%, consumer spending in the quarter still grew nicely with a gain of 2.4%. There was quite a large discrepancy between goods and services spending as goods actually fell 0.4% and services climbed 4%, which marked the best quarter since Q3 2021. Goods spending was largely dragged down by a 1.2% decline in durable goods. Private investment was also very strong in the quarter as it grew 3.2%, residential investment was a large contributor to that number as it increased 13.9%. Government spending was also positive in the quarter with a gain of 1.2%. With all these positives, you might be wondering how GDP missed expectations. Areas that were negative weights on the report included the change in private inventories, which subtracted 0.35% from the headline number and net exports of goods and services, which subtracted 0.86% from the headline number. Private inventories can be a volatile metric that will depend on businesses restocking inventory. I would not be surprised to see this number turn positive in Q2 considering Q4 of 2023 was also negative and subtracted 0.47% from the headline number. This followed a nice benefit of 1.27% in Q3 of 2023. If consumer spending remains strong, businesses will likely need to restock inventory which should be a benefit moving forward. As for the trade imbalance, this came as exports grew 0.9% in the quarter, but imports rose 7.2%. Overall, I wouldn’t say this report was super strong, but I’m also not worried about the current standing of the economy as I am still anticipating a slowdown over a major recession. Personal Consumption Expenditures (PCE) The release of the March core personal consumption expenditures price index (PCE) was I’d say lackluster. It wasn’t as positive as I was hoping for, but I still don’t think it was that bad. The core PCE of 2.8% came in slightly hotter than the estimate of 2.7%, but it matched February’s number. Including food and energy, PCE increased 2.7%, which was also slightly higher than the estimate of 2.6%. Services continues to elevate prices as they were up 4% on a 12-month basis versus goods which increased just 0.1%. Overall, it is somewhat disappointing to see the deceleration in inflation slow, but numbers don’t always follow a straight-line trajectory. It will be interesting to see this report over the next couple months, but as of now the estimate for three rate cuts is looking a little more questionable. S&P 500 The S&P 500 remains expensive based on several valuation metrics, but that doesn't mean you can't find buys out there. Although the index trades around 20x forward earnings, about 20% of companies are bringing up that multiple as they trade at double the index's valuation. The positive is there is about 20% of the index that trades at half the index's multiple. Much of the dislocation comes from the excitement over growth stocks and the index now has more than two times the allocation towards growth (46%) over value (21%). Historically the allocation has been more balanced and on average over the last 30 years the split has been an allocation of about 31% for growth and 32% for value. I continue to believe that numbers like these will be a reason for value's outperformance going forward. Technology & S&P 500 I have talked many times about my concern with the over-concentration of the S&P 500 index in technology. The sector controls about 30% of the entire index, but what is crazy is Amazon, Tesla, Meta, and Alphabet are actually classified as consumer and communication stocks which would then understate the tech weighting of the S&P 500 (If you count Tesla as a tech company). If these were included, the weighting would be over 40%. The last time the index was so concentrated in tech occurred before the dot-com bubble burst in 2000. If you’ve held the Magnificent Seven over the last couple years, congrats, but for those that enjoyed the movie, you may remember four of the seven end up dead. Could we see a similar fate with these stocks? Nasdaq If you didn't do as well as the market in 2023, don't beat yourself up. The top 10 stocks greatly carried both the S&P 500 and the Nasdaq. In fact the average return for the top 10 stocks was 85.6% versus 16% for the other 490 companies. This meant that these top 10 stocks accounted for 63% of the index's return for the year. Over the past 30 years, the top 10 stocks have on average represented 24% of the index's growth. I do continue to worry many of these top 10 stocks could be a drag on the index and people's portfolios considering their lofty valuations. Financial Planning: Do you Hold too Much Cash? Everyone needs some level of cash, and that number varies from person to person. For those with higher levels of assets, it can be possible to have too much cash which would be better off invested. We’ve seen people with $100k, $250k, $500k, or even over $1 million in cash which is likely way too much, even if it’s in a high-yield account or CD. Over time, cash will not perform as well as invested dollars. Right now, there are places where cash can earn over 5%, but this is still lower than market returns of 8% to 10% or more. Also, those 5% yields will be coming down as interest rates decline. We know there’s people out there who wait to time the market and invest their cash right at the bottom, but that generally doesn’t work out. From a tax perspective, cash produces interest which is taxed at a higher rate than investment income like dividends or capital gains. When interest is taxed at 10% or 12%, investment income would be taxed at 0%, and when interest is taxed at 22%, 24%, or 32%, investment income would be taxed at 15%. Not only is cash taxed at a higher rate, but its entire return is reportable as income every year, there’s no appreciation with cash. For example, if you have $500,000 of cash earning 5% for a total of $25,000, that entire $25,000 is reportable as interest income that year. If instead that $500,000 was invested in equities earning on average 8% made up of 2% dividends and 6% appreciation, you would only need to report the 2% dividend income of $10,000 as long as nothing is sold. This flexibility keeps your tax bill down but also reduces the chance of triggering AGI related issues like the net investment income tax or additional Medicare premiums. If you’re in the 4th tax bracket with an 8% investment return of $40,000, you’re only paying $1,500 in federal taxes from the dividends, plus $930 in state taxes if you’re in California. Comparing that with your 5% cash return of $25,000, you’d pay $6,000 in ordinary income taxes, $2,325 in state taxes, plus potentially an extra $570 net investment income tax, and/or another $3,000 in extra Medicare premiums. Now that 5% yield becomes 2.6% after tax while the invested dollars return 7.5% after tax. Investing can be volatile in the short-term, but over time it is a much better option than hoarding cash. Utility Companies We have seen natural gas prices drop to around $2 per million British thermal units, a huge drop from around $9 in 2022. In the United States natural gas generates about 42% of electricity, so like myself you may be wondering why is my electric bill still increasing? On average, last year’s bills were up 10.2% nationwide. The reason we are given, which I still question is they say it’s the cost of transmission and distribution. It sounds to me like an excuse for the utility companies to keep their prices higher for their customers. Goldman Sachs I believe Goldman Sachs is looking for a downturn in the market in 2024 based on their prediction that stock pension funds will sell $325 billion worth of equities this year. That would be a 70% increase from the $191 billion sold in 2023. Based on many things I have read so far in 2024, I believe many big firms and money managers are realizing that technology stocks have gotten way beyond where they should be. It appears Goldman Sachs believes this will be a profit taking year, we will see come December 31st. Keep in mind I believe the overvalued equities in the markets are the ones that could see the most selling pressure, I don’t believe this will impact equities that are undervalued or trading at reasonable valuations. Tapestry I was disappointed to see the FTC sue to block Tapestry’s purchase of Capri Holdings. Tapestry owns Coach, Kate Spade, and Stuart Weitzman. Capri owns Michael Kors, Jimmy Choo, and Versace. The FTC claims the acquisition will eliminate fierce competition between the two companies, but I have a hard time seeing how this will impact the consumer. Will Jimmy Choo’s shoes now cost $1,100 instead of $1,000? I don’t see this happening, but mainly am trying to make the point that luxury goods are already expensive and I don’t see how this acquisition will harm a consumer that many people view are already over paying for consumer goods. The CEO of Tapestry rightfully points out there are no barriers to entry in this market. I believe this is another waste of time from an FTC that has already wasted tax payer dollars on trying to block other acquisitions. I believe this will be another example of a failed block by the FTC, which will ultimately be a cost funded by US taxpayers. Pennies Financially, I do pretty well, but it’s still ingrained in me from when I was a kid to count your pennies and don’t waste money. I remember a friend of mine from junior high school who I’m still in touch with, Gary. He would say I really knew how to pinch the penny, lol. So, you can imagine my shock when I read that Americans throw away as much as $68 million in coins on a yearly basis. If you do the math that is about $4.86 per person every year, almost enough to buy a Starbucks. I do see coins in the US eventually being a thing of the past, which would make sense and save the government about $700 million per year in making coins. It costs the government three cents to make one penny. I think that’s how politicians have gotten themselves into such a big debt, using that kind of logic on many things. Anyways, if you don’t want your coins, please feel free to send them my way. I would love to have them, lol. RoboTaxis I thought the reaction to Tesla’s earnings was just crazy considering the stock’s double-digit increase. First let’s look at the numbers, adjusted earnings per share of 45 cents missed the 51 cent expectation as net income dropped 55% from last year. Sales of $21.3 B missed the estimate of $22.15 B and were down 9% compared to last year, this was the worst decline since 2012. These developments also led to negative free cash flow in the quarter. So why did the stock increase? It likely had to do with Elon Musk discussing AI, robotaxis, or a new car model. It just amazes me how people still get so excited by Elon’s projections considering his poor track record. Let’s look at some examples. In 2015, Musk told shareholders that Tesla cars would achieve “full autonomy” within three years. In 2016, Musk said a Tesla car would be able to make a cross-country drive without requiring any human intervention before the end of 2017. In 2019, on a call with institutional investors that would help him raise more than $2 billion, Musk said Tesla would have 1 million robotaxi-ready vehicles on the road in 2020, able to complete 100 hours of driving work per week each, making money for their owners. Quite simply none of these things have happened. It’s also important to consider the fact that robotaxis will need to work with government regulators for approval. This is something that both GM’s cruise and Google’s Waymo have been doing. NBC News recently reported that Tesla hasn’t even sought permits that would allow it to test and operate robotaxis. The true fundamentals of this company still make absolutely no sense and frankly I’m not sure how people can have conviction in Elon’s predictions. If it isn’t clear, I definitely would not recommend buying the stock.