Santa Claus Is Staying In Town

Santa Claus Is Staying In Town

December 28, 2021

Now that 2021 is about done, the next logical question is where will the S&P 500 be at the end of 2022. Regarding this logical yet elusive question, it is clear that one could guess, but given how strange the environment has been for the last two years this is clearly a very difficult answer to give with any degree of confidence. Each year, Barron's, CNBS, and other media sources ask strategists what they think. If they are all dealing with the same input data, how could they all have such differing opinions? I actually think that a far more appropriate question is whether the prevailing (secular) trend is bullish or bearish. At this point, it clearly appears that the bull market is still in full force. Maybe the names that are leading are a bit more selective, but all the same, the major US averages are continuing to hit new highs and the strong industries appear to be getting stronger regardless of the negative nabobs that banter alarming comments continuously. The market ended November looking like Santa Claus wasn't going to wake up from his nap. And just as abruptly as the decline seemed to develop momentum, the market seemed to kick right back into gear last week and away he went on his sleigh. 

Again, the pessimism of late November seemed to be deeply rooted in the ever-present trifecta of "impending inflation," "Fed Tightening," and "Omicron Variant." Along with this, it appeared that institutions, hedge fund managers, and many individuals sold to lock in their two-year gains and wait out December to see how dreadful the Omicron became or if the sell-off gained any more momentum to take advantage of. As I had mentioned last week, this left the end of November with record-high cash balances in the accounts of institutions and individuals to the tune of over $4 Trillion. This isn't a drop in the bucket, this is a huge number! Now, if the Omicron seems to not be as bad and devastating as the previous variants and interest rates seem to stubbornly stay low, and lastly, if inflation is actually hitting its high point, what would happen if this $4 Trillion came rushing back into the stock market like the shoppers at the after Christmas sales at the malls!!!!!

Well, I believe that this is something that could truly happen. This is why I included the charts of the emotional extremes currently in the markets. The past two weeks, I included the pictures that showed that we were at extremes that typically are seen at market lows before money comes rushing back in. Right on cue, last week, the market rallied. Impressively, the rally was broadly based as well! As typical, the negative nabobs came rushing out to warn the world with black headlines and gloomy forecasts, leaving investors wondering whether the rally is just a "dead cat bounce." I feel comfortable categorically feeling that this is not such a "dead cat bounce," but rather a resumption of the secular bull market we have been enjoying. 

The other point that is seldom discussed is the economy. If the economy is in good stead then the markets have a revenue and earnings backdrop to move higher. The easiest way to see this is the yield curve. If short-term interest rates are below long-term interest rates, the curve is positively sloped and the economy is in growth mode. If the opposite is true then the bond market is preparing the stock market for a downturn. The chart below shows this very graphically. DON’T EVER FORGET THIS RELATIONSHIP. IT IS A BACKBONE FACT THAT SHOULD NEVER BE IGNORED.


Notice above that if the “Classic Yield Curve” goes into the “Inverted” area the markets have suffered declines. Presently we are sitting in the normal or growth range. This chart shows this relationship all the way back to 1997. Not that long, but graphically obvious of the relationship.

How can I be so certain?

Strategists on Wall Street are not very sanguine (see table below) on the markets. The average year-end target is 4,985 and the average EPS estimate is $227 for the year for the S&P 500. As Hubert Marleau pointed out last week, "For perspective, S&P 500 earnings per share were $162 in the year prior to the pandemic (2019). That makes the 2022 estimate a 48% increase. Back then, 10-Year US Treasury yields were 2.00%, much higher than they are currently. What we now have is a new step function in corporate earnings that may be permanent. In this connection, the forecasts are far too conservative." 


Data Trek's Nicholas Colas made an interesting observation in Barron's. One that I feel is really the root of the reality of where estimates should be. He said, "The linchpin of this market is- and has been- CORPORATE EARNINGS. It's totally reasonable to think about $240 for the S&P 500 this coming year, with the street at $222." Should the fourth-quarter earnings be higher than the third quarter of 2021, this would clearly set the stage for earnings forecast upgrades and price upgrades would almost certainly follow. Inflation and interest rate hikes by the Fed are clearly the 2022 wildcards that are still on the table, but it appears that Fed Chair Powell is being almost able to "talk" rates higher and let the markets do the work rather than the markets depending on the Fed to do the work. Should this be true, the current flat movement in the 10-Year seems to be saying that the fears of inflation and Fed rate hikes are a little bit overblown. The last unknown is the extent of the economic effect of the Omicron Variant. With the efficacy of the various vaccines, boosters, and now the Army's new vaccine that is said to protect against all Coronavirus Variants, supply chains should open up and the economy could steam ahead without a dramatic lift to inflation. 

Given that the advance/decline lines on the S&P 500 and the Dow Jones Industrials are now at new highs, the stage seems to be set. I really don't have much else to say other than:







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