Dimon’s dire divination
When ask for his economic outlook Wednesday JPMorgan Chase (JPM) CEO Jamie Dimon stated “We’re bracing ourselves.” At the time, he was referring to risks to the economy such as the Russian invasion of Ukraine. At a previous conference, he called those risks “storm clouds,” now he’s saying:
“It’s a hurricane. That hurricane is right there, down the road, and coming our way. We don’t know if it’s a minor storm or if it’s a Superstorm Sandy. Part of that hurricane is higher oil prices. I’m watching the train coming down the tracks and I’m very sad about it. “
MuskS emphatic epiphany
Elon Musk sure knows how to stir the pot and create headlines. Musk is reportedly looking to cut the Tesla (TSLA) workforce by about 10%. Musk wrote he was looking at those cuts and had a “super bad feeling” about the economy in an email to Tesla executives with the subject line “pause all hiring worldwide” that was seen by Reuters. Musk has said before that he thinks the economy is moving into a recession, but has also tweeted that contractions can serve an “economic cleansing function.”
I see the extreme rise in oil’s price as the eye of the hurricane. The most foreboding factor regarding oil’s shocking rise in price is the fact this almost always precedes a recession of some sort, even if it’s only a short and shallow one. Let’s review.
Oil Price Shocks in US Economic History
As the figure below shows, virtually all post-World War II recessions were accompanied by a sharp increase in energy prices.
Due to this fact, oil price shocks are often viewed with alarm that a recession of some magnitude looms. You see, the fact of the matter is crude oil is an important energy source that’s a direct or indirect input in the production of most goods and services. Higher oil prices raise the price of a plethora of products and services many don’t even consider. Energy price hikes adversely affect nearly every sector of the economy. From the fuel we use for transportation and heating, to rubber, plastic, and even pharma products, the price of oil inflates the cost of everything in the economy writ large. This equated to approximately $ 730 billion dollars being drained out of the economy at present that could be used by consumers to buy discretionary items. Basically, the die has been cast for an impending recession with US oil demand outstripping supply at present.
What’s more, the supply side of the equation is getting worse, not better. US producers aren’t increasing production due to the caustic political climate. Further, the Biden administration is not calling on US oil companies to increase production, he’s imploring countries such as Saudi Arabia and Venezuela to increase production at present. These are countries he was calling out as pariahs just a few short months ago, so I wouldn’t hold my breath they come to the rescue. So, even though the inflation rate seems to have leveled off, I don’t see it significantly dropping anytime soon. This leaves the Fed with no other choice to but to use their only tool, the blunt instrument of demand destruction. They do this by raising rates and quantitatively tightening liquidity via the rolling off of the immense $ 9 trillion balance sheet, which unfortunately has only just begun. The Fed’s forced heavy hand is the second most likely reason we will end up in a recession of some depth and duration. Let me explain.
Fed rate hikes and balance sheet roll off plan
Rate hike relief taken off the table
Just a week or two ago rumors were rumbling that the Fed may need to hit the brakes due to the seeming cracks in the economy. With the housing market appearing to weaken, used car prices dropping, and implosion of the retail sector earnings writ large, it seemed as though the Fed had an opening to possibly pause rate hikes in September. Well, after the recent events regarding global oil shortages and the positive jobs report out Friday, it appears a rate hike pause has been squarely taken off the table. The hawkish remarks from the most dovish of Fed governors after the better than expected 390,000 non-farm payrolls number was released suggests we are back in the “good news is bad news” paradigm. Lest we forget, the massive balance sheet that needs to be reduced as well.
Balance sheet reduction begins
On the balance sheet subject, also known as quantitative tightening, the strategy will be to allow a capped level of proceeds to roll off each month. The number being bandied about at present will reach $ 95 billion by August. This includes $ 60 billion in treasuries and $ 35 billion for mortgages. The recent Fed minutes further indicated that an outright sale of mortgage-backed securities is possible, albeit, with notice well in advance. Moreover, many are predicting this could be the final nail in the coffin for the markets. Art Cashin of long-time CNBC fame thinks June 15 will be a critical day for the markets based on the lowering of liquidity levels due to quantitative tightening and is suggesting it’s time for a flight to safety. We will have to see. Yet, what does that actually mean? Let’s discuss.
Always be prepared
You should always be prepared for what may come. No matter what actions you may take, as Benjamin Franklin famously stated:
“By failing to prepare you are preparing to fail.”
Even if your plan is to do nothing, taking the time to think it through and review the alternatives will give you the confidence not to panic and sell out at the bottom, which is the last thing you should do. The current situation for market participants at present remands me of an experience I had as a “Winter Warrior” mountain infantryman with the famed 10th Mountain division in Ft. Drum, New York.
A military market analog
It was a war game exercise where my platoon (30 soldiers) was set to be the “bad guys,” the opposition force that took over a small town. A company from the 82 Airborne (150 soldiers) dropped in next to the town and was to take it back. Well, it didn’t quite work out that way. We actually defeated a force that was five times our size and I received a letter of commendation for my performance.
It came down to 10 of us vs. 50 of them in the end. I was the highest-ranking soldier for our side still “virtually alive” at the time and took command. The situation looked bleak and many of my team were highly discouraged, cold, hungry, and wanted to just get it over with and surrender. Instead, we came up with a solid plan and won it all.
Never give up
We came up with a last-ditch plan to escape and evade our entire team out the rear of the city, have three soldiers flank them from the east and start firing while the rest of us went wide west and approached their position from the rear. We snuck into their position from the rear and took them prisoners by surprise. The moral of the story is never give up, keep a positive attitude, and have a plan. Here are the steps I’m taking presently.
My plan of action
High grade portfolios
The first thing I do is review my positions and anything I don’t have a strong conviction in, I either reduce, completely sell out, or hedge the position with covered calls or protective puts. For instance, I let my recent buy of Tesla’s stock go for a small gain and sold out of my speculative position in Roblox (RBLX). I also put off buying anything else until we get more clarity on what the future holds.
Sometimes the best thing to do is do nothing
Market volatility in the short term can shake the best of us out of our positions. This is why you need to have courage in your convictions and maintain a high-grade portfolio of securities you have faith in for the long term. Don’t let the short-term volatility shake you out of your core positions. It’s very true that “time in” the market rather than “timing” the market creates true wealth. Now let me turn to my final thoughts.
Market selloffs are your friend, not foe
“We simply attempt to be fearful when others are greedy and to be greedy only when others are fearful.”
Warren Buffett, the renowned contrarian investing expert who has made millions in the market purchasing unloved companies in out of favor sectors at rock-bottom values, made this famous quote. I believe it’s quite appropriate at this juncture with the S&P 500 (NYSEARCA: SPY) approached bear market territory and some say due for another 10% -20% pullback.
A contrarian is one who attempts to profit by investing against the grain, to go against the crowd, because the crowd is usually wrong and always late. A contrarian believes that certain crowd behavior among investors can lead to exploitable opportunities. Pervasive cynicism about a stock or sector can drive the price so low that it exaggerates the investment’s perils and belittles its future prospects.
Now, buying low is not an easy thing to do, I know, but if you have a long-term time horizon, you will most assuredly make money. Markets don’t stay down for long and always bounce back. Our innate instincts encourage us to depart a sinking ship. This survival tactic impacts the way we invest. When market panic creates opportunities to buy stock in solid companies with sound prospects, hopefully you have dry powder and take advantage. To open a position, you must have courage in your convictions. Just remember, fortune favors the bold. A market correction provides an opportunity to buy great names at a discount price.
There’s a fine art to investing in highly volatile markets such as these. It entails layering into new positions over time to reduce risk. You will want to have plenty of dry powder if the stock you’re interested in continues lower. Those are my thoughts on the matter, I look forward to reading yours.
Your Input Is Required!
The true value of my articles is provided by the prescient remarks from Seeking Alpha members in the comments section below. Do you think we are heading into a recession? Why or why not? Thank you in advance for your participation.