I hope you are all well and ready for a full week in the market. The bear market rally has come to an end with a classic rejection at the 200 moving average.
The question on everyone’s mind right now is whether the June low was the bottom or if we have more room to go down. In this week’s newsletter, I will aim to answer that question through a systematic approach. I will also share with you my trading book.
The Big Picture
There is a famous saying in the market: “Do not fight the Fed.” It basically means that if the Fed is hiking, stay out of their way. Jerome Powell spent Friday signaling to the market that the Fed is far from being done and that they will continue to raise rates. His key message to the market was, “higher rates for longer”, which translates into no rate cuts anytime soon. While equities dropped, the long-term inflation expectation did not move as much. Although I understand why we say, “Do not fight the Fed”, I myself will not take what JPOW is saying as seriously as some because, as conditions change, I know he will change his stance. Remember, in mid-2020 he signaled that rates would remain near zero until 2024. Now he is signaling higher rates for a longer time, but as the leading economic readings are signaling, he will have to cut rates in late 2023 due to significantly slowing growth.
For now, 75 basis points appears to be a lock. Nonetheless, if I had to bet, I would bet on 50 and not 75.
If you are similar to me and have your base case as a recession, that means next year’s earnings will be closer to $205 for SPX. If you take a 10 year P/E multiple of 18x, you get an implied SPX price of $3,690. The market thus seems to be slightly overvalued. If you have a one- to two-year time horizon, any price between $350 to $375 for SPY should yield positive returns in the next two years.
Option Trades for the Week
Below is my trade log for the week. I will add to or remove from this position live as we move forward. I am still 40% cash and will try to acquire SPY cheap through selling puts in case sell-offs continue.
Tweet of the Week: Fight the Fed!
As capital allocators (btw, all traders are capital allocators), our number one job is to allocate our money where we can grow it the most. The Federal Reserve should guide us in that decision by giving us an estimate of where interest rates are going to be. After all, the interest rate is the cost of money and your decision will be different if the Fed is easing (cheap money) vs. tightening (expensive money). Remember when the Fed was saying that the rates would remain zero until 2024? Now they are saying, “higher rates for longer”. The truth is, forecasting is hard, and I would not pay attention to what the Fed is saying right now. I believe Powell is bluffing and the next rate hike will only be 50 bps.
One Last Thing: California Seminar and My Book
I had an amazing time in California last weekend, meeting our traders and talking markets and a macro framework. I want to share my book here for those who are interested in learning more about valuation, market cycles, and many other nuances which I discuss in considerable detail in the book. Your support, and your honest reviews and feedback, are greatly appreciated. For access to my book, please click HERE.
To your success,