Trimmed Rates, Big Stakes

Talking Equities is a weekly newsletter that provides information regarding equity analysis, investor spotlights, market conditions, and investing strategies. All information provided in Talking Equities should be considered an opinion and not a fact. All information should also be considered as strictly educational. While I would love to claim I have all the answers to cracking the stock market, I simply do not. Invest at your own discretion!

China trying to bring their economy back to life with stimulus bills

The leaders of the world are pulling their magical levers to get their economies back up and running again!

The U.S., China, and The European Central Bank (Eurozone) all made interest rate cuts in September. All three countries found themselves in difficult economic situations after attempting to stimulate their economy with stimulus checks and recovery packages post-COVID. “The powers that be” are finally making some important decisions that could pave the way for the future of their economy over the next couple of years.

In this week’s newsletter, we will dive into this further, exploring China’s newest effort to bring its economy back to life, and reflecting on how the U.S. stock market has performed over the last quarter and where it could go moving forward.

Oh yeah, and it turns out that interest rate cuts do still work. Take a look at the updated U.S. economic indicators below to see how investors have been drinking the new interest rate kool-aid since they were cut on September 18th.

Index metrics are weekly values and based on 09/28/2024 data.
Economic metrics vary depending on release schedule.
For metric definitions reference this newsletter.

After the long-awaited interest rate cut by the Fed on September 18th (note the new interest rate above), the markets have experienced a much-needed surge. While all major indexes increased, it is almost just as notable that the U.S. inflation rate has also fallen by around 12.46% since last July, which placed inflation at a new value of 2.53%.

Here are some important observations about the metrics above…

1. The crypto market has gone berserk
   I read an interesting statistic the other day that the current price-to-earnings ratio of Bitcoin is approximately 473.33x. To give you perspective on this, the average P/E ratio of a stock is 30x. This means that all of the gains that Bitcoin experiences these days are completely based on the perceived value that consumers and corporations place on it. This truth has especially shown itself after the Fed cut interest rates. On September 18th the price of Bitcoin closed at $61,649.68. As of the time of this writing (September 28th), Bitcoin’s price is $65,929.

2. The unemployment rate is returning to normal values

   This is exactly what we should expect as a result of cutting interest rates. With interest rates falling, the ability to borrow becomes easier. In turn, this creates more opportunities for U.S. companies resulting in more jobs for U.S. citizens. Consumers needed this breath of fresh air after feeling squeezed by the threat of unemployment over the last couple of months.

3. CCI has alarmingly dropped from the previous month’s report

   The consumer confidence index indicates how confident consumers are regarding the current health of the U.S. economy. When the CCI drops below 100, consumers are feeling poorly about economic conditions, and the opposite for the reciprocal. Last month the CCI was a whopping 105.6. This month, it has fallen to 98.7. The main culprit? Consumers earning less than a $50,000 salary believe that business conditions/employment look bleak over the next 12 months. Only time will tell if this concern is valid or if Chairman Powell has successfully achieved a soft landing.

Over the last week, China has taken drastic measures to pull itself out of its recent economic slump. Since May, the Shanghai Composite Stock Market Index has been experiencing consistent declines. Most of this decline is attributable to two things, an economic slowdown during COVID due to strict lockdown measures, and the property market crisis.

The property market crisis has been an issue in China for the last couple of years, but it has become especially difficult for real estate investors to pay back the debt associated with their properties in recent months. Because of this, real estate prices have continued to fall, impacting institutional investors, and creating a lot of uncertainty around the future of the economy.

All of this can be traced back to when the massive real estate giant Evergrande collapsed due to its inability to pay back the enormous amount of debt it had taken on to fund its properties. It has been estimated that Evergrande’s business operations accounted for nearly 30% of the economic activity in China, which goes to show that the company’s collapse has had serious implications on the rest of the real estate market.

In light of all this, China has a plan to bring its economy out of this slump, and it's nothing to brush over. So far, the Chinese government has decided to step in and fuel the economy with…

• A 150 billion dollar stimulus bill

• Interest rate cuts

• The ability for Chinese citizens to refinance on their homes (a right citizens haven’t had for several years).

The hope is that the stimulus and interest rate cuts implemented will promote economic activity and eventually pull the market out of its slump. However, will this actually work in the long run?

Well, it worked for the Chinese once before in 2008 when the country provided a much larger stimulus bill to fuel economic growth in the country after the Great Recession. It not only had great implications for China itself, but also other countries around the world.

As you can see from the graph above, investors are bullish on this move from the Chinese government. The Shanghai Stock Exchange Composite Index has skyrocketed and experienced around a 16.2% growth from September 18th to September 29th.

Will this provide a permanent solution for the Chinese real estate market, or is this just a band-aid prolonging a much more difficult season for the country ahead? Only time will tell, but for now, the country seems to be coming back to life.

The AI Train has finally begun to show signs of slowing in the third quarter of 2024.

Many have found the Magnificent 7 to be a resilient and dependable place to put their money over the first half of 2024 as the Fed has been navigating this turbulent inflation situation. At one point, the Mag 7 was solely responsible for 1/3 of the entire S&P 500’s gains. That is a sobering idea to come to terms with, considering the rest of the stock market (specifically small-cap stocks) hadn’t seen any real value since 2022.

This AI investment craze has slowed down as investors are beginning to question the egregious amount of spending that these tech companies have been allocating towards the infrastructure needed in order to sustain AI development.

Many of these tech companies are seeing a huge increase in their capital expenditures without any significant growth in their other operational revenue to be able to validate such spending. Stakeholders are worried that this could potentially hurt their returns in the short term, causing them to second-guess their investment in AI infrastructure.

The sectors that investors are now flocking to have historically been known to be recession-resistant. The economic indicators leading up to the recent interest rate cut would have alluded that a move towards Utilities, Real Estate, Industrials, Materials, and Consumer Staples are all great investments to hedge your portfolio against a possible recession.

Take a look below to see the sectors that have been performing particularly well in the third quarter.

It’s no coincidence that these sectors are starting to see better performance given the current outlook on the U.S. economy.

There is a lot of uncertainty if the Fed is going to be able to successfully pull off a soft landing, meaning the U.S. lowers its inflation without plunging the entire economy into a recession. In times of uncertainty, the sectors above have performed historically well as they have delivered dependable and consistent gains. These gains may not be as much as the tech sector would produce, but prices are a lot less turbulent, and that’s exactly what investors are searching for.

Looking forward, it will be interesting to see if these sectors continue to grow at the same rate. The economic indicators above now show us that we are indeed approaching towards what looks to be a soft landing. If this is true, many growth opportunities could be ahead, and the AI train could once again make its departure.