Investment Insights

 — Steve Orr 

Which pause?

Is this the Policy Pause or the Powell Pause? History tells us after an election, there is usually a brief selloff from the rally euphoria. Fair enough. They forgot to tell you there were plenty of longs heading into last Friday’s option expiration. Like record numbers of call option longs that needed to either close out gains or roll into the next cycle. Either way, that meant lower levels for the indices last week.

No bother. A two-day drop into options expiration is a buying opportunity, not a trend change. We were a bit taken aback last week at how the media declared the election rally dead, etc. And then there was the November 14 flip-flop. Yes, right here on the Concrete Prairie, Fed Chair Powell said that “the economy is not sending any signals that we need to be in a hurry to lower rates.” Huh? How is he coming around to our thinking, especially after cutting short rates by 0.75%? As if us working stiffs did not get the message, he followed up during Q&A with, “if the data let us go slower, it seems like the right thing to do.” Traders promptly took bond and stock prices lower. The two-year Treasury Note spiked 6 basis points higher and now sits at 4.3%. Barely two months ago, back in the swamp fears of recession, it traded hands at a 3.55% yield. The 10-year Note has traveled a similar path, backing up 0.8% and pushing mortgage rates back north of 7%.

Give the incoming President credit; he has swiftly named cabinet appointees. Policy changes and challenges from Congress surrounding them are not any clearer than the day after the election. We are inclined to ascribe the recent stock market weakness more to a Powell Pause and record option expiration than policy changes coming out of D.C.

Still… 

At this writing, each of the major indices sit at or above their pre-election levels. The third quarter earnings season unofficially ends this week. Earnings growth for the S&P 500 topped 6% for the quarter,– ahead of estimates. Walmart and Lowe’s wrap up the retail sector this week. NVIDIA after Tuesday’s close is the most anticipated, especially after rumors of its Blackwell chips running hot in their new server configuration. Regardless, the big index appears on track to grow earnings by 10% this year. Next year’s analyst estimates have finally dipped a bit, down from 15% to 13%.

Add record margins (near 13%) with 10% to 13% earnings growth with no regulatory changes makes for a steady Bull market. The bonus of any de-regulation and renewal of the Trump 1.0 tax cuts supports positive earnings surprises over the next two years. Do we like 22 times earnings for the S&P 500? Not really, but there are more positive forces to support the still growing Bull than a Bear market case.

Sort of surprise

It should be no surprise to our (few) readers that inflation is not going away anytime soon. We have pounded the desk for a couple of years now that 3% to 4% is the “new normal.” The headline Consumer Price Index for October registered a 2.6% increase, slightly above the 2.4% reading for the prior month.

Housing costs remain a big issue for buyers and sellers do not want to double their interest costs by moving to a new mortgage. Apartment rents are coming down but not enough to offset housing. Used cars, clothing and airfares jump around but are trending higher. Food is running at 3.3% rate the last three months. What CPI does and does not measure could cover a number of these newsletters. One key expense we all feel is healthcare costs. Healthcare premiums as a whole are rising at 6% per year for the last five years. Trust us, your policy may differ (higher). Those premiums are not counted in CPI. We believe CPI is in the process of bottoming, sticking around and grinding higher above 3% in the next year.

3 down

One policy uncertainty that market and election mavens were excited about was the extension of the Tax Cut and Jobs Act from 2017. The cuts spanned business, personal and estate tax codes and many of the changes are set to expire at the end of 2025. Traders and D.C. experts talked immediately after the election that extending the tax cuts would be the first priority in the new Congress next year.

Ten days later and that tune has changed. Republicans control the Senate, but now the House margin is very close. That is because three appointees in Trump’s new administration are from the House. That cuts the Republican margin down to +1 or even. That means any tax law changes would need a united Republican delegation or help from a couple of votes across the aisle. Let’s pencil in a one-year extension for now, just to get the tax issue off the docket. Lasting change will likely have to wait until 2026.