Market Forecast For the Week of November 14, 2022: Reality Denial Remains Profitable For A Few More Weeks

FORECAST: The S&P 500 rises to 4080 then consolidates in a wide range between 3820 and 4120 over the course of November. In denial regarding the triple threat of lower earnings, higher interest rates and a resurgent dollar reflecting declining global confidence, the markets are moving higher on the strength of single inflation report and a small number of positive corporate earnings reports. Expect the consolidation to end as the 4th quarter enters its final month with corporations and channel checks signaling a long drawn out bottoming out process that presages a retest of the October lows.

My survey of earnings quality in the summer period (i.e., the months June - September) shows that more firms are reporting declining quality than improving, with the majority maintaining stability. While this is clearly negative it’s also a marked improvement from the spring quarter, which partially explains the explosion of bullishness since the October CPI report. But since the balance of earnings tilts negative, the likelihood is declining earnings across the corporate complex over the next 6 months, which the market has not factored in. That means valuations will rise unless the market comes down, and the bulls rationalize this by noting valuations typically rise as economic reacceleration becomes visible over the coming 3-6 months. Thus the bulls are betting on the bottom ending in March, which is absurd given the lags in monetary policy and the Fed’s stated goal of holding interest rates higher for longer. The market is pricing in a profound Fed pivot from high sustained rates to abruptly lower rates in 2023, otherwise known as “fighting the Fed.”

There isn’t a more notoriously bad investment strategy than fighting the Fed. I see this bear market rally as analogous to many similar episodes during the long 2000-2002 bear market, which similarly followed a period of easy money (i.e., the Y2K liquidity surge). The market will turn starkly negative in December as the bond market digests what I expect to be hawkish Fedspeak and falls back to the lows set earlier this month. As bonds fall back into a bear market so too will the $US start rising again, causing another round of global GDP cuts that amplifies bearish sentiment and sends us back to the October lows.

My current positions include a large cash position, Goldman Sachs (GS), 3M (MMM), Pfizer (PFE), Starbucks (SBUX), and the ETF SPXU, all of which nets out to a large short position in equities.