Before we get to the bear market and stocks, let's talk about slowing growth in the economy. You had the yield curve invert earlier this year, and it remains inverted.
That's when the 2-year Treasury bond is yielding less than the 10-year Treasury. And it's a sure sign of recession. It remains inverted in Q3 2022. In fact, it hasn't been this inverted since just before the dotcom crash.
Every time the yield curve has inverted since the 1970s, you've had a recession that followed. So we know one is on the way, if we aren't in a recession right now.
I think you can feel that already, and we'll get into that in some of the charts in this report, but nonetheless, the yield curve has inverted. So recession is coming.
A recession is classically defined as two consecutive quarters of negative GDP growth. And you had the first one come in at negative 1.6% for the first quarter of 2022, while you had major banks and the Fed saying that it wasn't going to be negative. Now we just got the second negative GDP print in Q2 at negative 0.9%, telling us we're definitely in a recession.
You're already halfway to an official recession and these comps are going to get harder. You see the spike down for lockdowns and then you see the spike up coming out of lockdowns. What we're comparing today’s economy to is an economy that was coming out of lockdown last year. So it’s not growing as fast relatively.
The market discounts (sells) that growth because it's looking for rates of change. So we're slowing down relative to how fast the economy was growing coming out of lockdowns.
The banks and blue-chip consensus haven’t figured this out yet. They're still saying that Q2 GDP is going to come in at 3%. They're off the rocker.
The Fed, at least, is starting to get a bit of a clue. They're starting to guide down. You can see how they're revising their estimates for Q2 GDP downward. They're now down below 1%. I would argue it's still going to come in closer to zero or negative to manifest that recession that I see coming.
What makes a recession worse is higher prices and inflation. Now you're at the highest U.S. inflation rate since longer than I've been alive, since 1982. I haven't seen the inflation rate this high and many people haven't either. But you've seen it manifest in energy prices, and that makes the coming recession worse, because consumers are paying more for nearly everything, which you also know.
This is the inflation starting to set in as far as how the consumer views it. The consumer sentiment is now the worst it's been since 2011, coming out of the global financial crisis.
The buying conditions for durable goods are literally the worst they've ever been. The weakest on record, and so we're setting up here for a slowing growth period in the economy. I haven't even gotten to the stock market yet.
This is the stock market. This is slowing growth starting to get sold down in the stock market, particularly in high-growth names and tech stocks, with the NASDAQ down over 25% year to date. The NASDAQ is already in a bear market, and I'll talk a bit about why it could go down even further. The S&P, to start the year, is down some 20% and is also in a bear market.
And you have earnings growth in the companies still contracting. Earnings in the second quarter, like GDP in the second quarter, are going to be as bad as they were in Q1. The S&P could go down another ~45% to get to the March 2020 lows — the COVID lows.
Tech stocks, despite being in a bear market already down a quarter to start the year, could go down much further. They're now getting back to their historic PE average. Look at the period from 2008 to 2015, when they were significantly below the historical PE average. They're getting back to average now. Could go down much further.
You've had trillions and trillions erased in market cap from large companies. Netflix has lost almost $100 billion in market cap. Those are big, established, major exchange-listed companies, not to mention the cryptos that are sending money to money heaven. You had Luna just collapse from a $80 a coin to literally zero in a matter of a couple of days. Things can go lower. Things can go lower, faster. Things can go lower, faster from already “oversold” conditions.
Regarding market psychology, we've been so conditioned to the punch bowl, the Fed put, whatever you want to call it, to buy the dip for so many years. Now that that’s inverted, it's not ‘buy the dip’ anymore, it's ‘sell the rip’ to position for the bear market. Or short the rip, if you do that. That market psychology hasn't quite got in tune with that yet. That's my opinion.
And so what is the bear hungry for? So far the macro bear's been hungry for energy. It's one of the only sectors in the YTD column there that's up for the year, but that's not all market conditions driving that. There's not necessarily an oil shortage. There are significant geopolitical issues going on — the Russian war, for example — and that high oil price I'm going to show you can't last forever. In fact, oil has peaked in March, at least for the short term, because like inflation exacerbates a coming recession, so does high oil prices. So the market can't have its oil and put it in its car too. If you're going to continue it at $105 oil and $5 a gallon gas, then you're certainly going to go into a recession.
The macro bear is hungry for consumer staples. Of course it is, because your kids still have to eat cereal. Then the third one there is utilities, which I would argue is a function of rates. The market is reflecting that rates aren't going to go up as high as many people think they are because while utilities are a traditionally defensive sector, they're also highly correlated to interest rates. If interest rates are going to keep screaming higher like they have been, I wouldn't think utilities would be doing as well as they have been.
Then look at materials. Materials contain a lot of things, there are chemicals and other things in there. But if you were to drill down into the metals to just the mining portion, you would see that it's flat for the year. Flat for the year when the S&P is down 16% is winning. It's what the bear is hungry for.
You had gold go back down to around $1800 in Q2, trying to hold support there. Gold stocks have broken down. The VanEck Gold Miners (NYSE: GDX) and the VanEck Junior Gold Miners (NYSE: GDXJ) have broken down through short-term support. The GDXJ is consolidating down around $35.
Am I still bullish on junior gold stocks? Yes, but when you have the 10-year yield in the U.S. go from 1% to 3% in a couple of months, that puts a hard cap on gold stocks very fast.
Remember what I was saying about utilities. I think we're approaching a zenith for interest rates. The U.S. 10-year, the yield is bumping up against 3%. If that goes up much higher, I'm not sure where it stops. It's not like there's a lot of resistance anywhere I see in that chart, at least not up until 8% or 9%. So it's different from the late 1970s and 1980s in that the debt is much higher. What happens if that interest rate goes much higher is that things start to break and everyone's trying to figure out what are those things that are going to break.
Right now, it's the high-yield, junk bond market. You're starting to see that break down a bit as these interest rates go higher. The poorer-rated companies can't facilitate their debt at those higher interest rates. That's going to trickle down to other businesses, and, in fact, the federal government, if the interest rates continue to go up, which is why I think that 3%-4% is a relative cap on rates for the time being.
I think the market realizes they can't go up much higher than this because something is going to break. Like I say, if they do go up much higher than that, I think things will start to break in the economy. You'll see where this next crisis metastasizes. It could be a credit crisis.
You should know that the U.S. isn't the world, so if you look at interest rates in other places around the world, Japan, Europe, Germany, for example, they understand this better, at least right now in the current moment, than our Federal Reserve does. And their rates aren't as high, so gold makes more sense in other economies where interest rates don't have the bravado that the U.S. Fed is trying to convey right now.
This is why interest rates can't go much higher. At least not without major breakage. You've got total nonfinancial sector debt over $60 trillion.
That's over three times U.S. GDP and it's not slowing down soon. That's why raising rates now is different from when Volker did it back in the day, because he was dealing with a much lower debt base. The current Federal Reserve is backed into a corner and it's why you've got Jerome saying out of one side of his mouth that he's going to raise rates, and out of this other side of his mouth saying that there’s not going to be three-quarter point rate hikes because he can't commit to larger rate hikes without something breaking.
Gold holds up during a recession and does well, along with gold stocks, after one. If we're approaching recession, it might be in a consolidation period, which is what I'm trying to show you in that chart. You're having a nice consolidation, right around $1800. It overshot, went to record prices in 2020, then near record prices again recently. Now gold is consolidating down around the $1,800 level. I think if it holds support here that you're in a pretty good place, especially because the marginal producers have an average all-in sustaining cost somewhere around $1,800.
Look at the mines there. Those are McEwen Mines and then some other well-known mines. Red Chris is there. Their all-in sustaining costs, at the high end of the range, are over $2,400. You can't get gold going down much lower than the marginal cost of the highest producers or else you have major problems within the gold industry. That's further support for my argument that $1,800 gold is new relative support.
What did gold stocks do last time the Fed got this itch? The GDXJ tripled after the Fed raised rates in late 2015.
And look at the chart preceding those rates. It almost looks like the chart coming down here into this current rate rise. If we can maintain that consolidation of gold prices at $1800, you're going to see a similar consolidation of GDXJ right here around $35, which is where it pulled back to.
I think this is a good opportunity to build a long-term position in GDXJ — in the gold miners. But buy gold first because gold stocks still go down in a recession. Gold provides you more protection.
How many licks does it take to get to the center of this bear market pop? I don't know. U.S. rates have to come down or something will break. Global rates are lower. Gold is consolidating near the marginal cost of production and their input costs are rising. The marginal cost of production could go up. They're paying the same price for diesel that I'm putting in my truck — nearly $6.00 a gallon. That is what it is.
Let's talk about when to invest.
Now, this is not stock performance. This is CapEx in sectors. The orange line is CapEx in the tech industry and the blue line is CapEx in the commodity industry. If you read the fine print, the blue line is two-thirds S&P energy, and one-third S&P metals and mining. You can see when it's time, it says right there on the chart, when it's time to sell commodities and buy tech, and inversely buy commodities and sell tech. You buy commodities when the investment, the CapEx, is extremely low, and I would say that the extremes you see on the far right of that chart are an argument to sell tech and buy commodities. What is the market doing right now? It's selling tech hard. Not buying commodities yet, more than that in one second.
This is the NASDAQ chart from earlier. Remember, they're not cheap yet.
This is a short-term commodities chart. While it could be time to buy commodities for the long-term, like I was saying, it might be a good time to position long term for the GDXJ. In a very real way you have a short-term peak in commodities.
I picked oil and copper, but I could have picked the Goldman Sachs commodity index. It too would have peaked in March. You can't have commodities rising to new highs when you're facing the prospect of a hungry bear market.
You could pick any number of commodities that were going up significantly higher last year. You remember all the tweets and the memes about lumber and aluminum and this and that. Well, lumber's down hard. Aluminum is down as well. We're in the choppy part of this transition, and it is a transition. It's going to depend on these interest rates and the Fed, and those are external factors that are beyond any of our control, but certainly are the things I’m monitoring as inputs to see what to do next.
If the bear is going to eat some gold, then after that he's going to be hungry for uranium. If we're waiting to get through this recession for commodities to go back up and gold is going to be buoyant during the recession and then gold stocks after the recession… And we know that the CapEx in the commodities industry is so low that the commodities industry is about to shoot up into the right… Then you've got to position uranium near the center of that commodities industry for a couple of reasons.
First are all the fundamental supply/demand reasons for uranium. Most notably that we’re in a structural supply deficit and the price at $50 per pound is not high enough to get new supply to come online. So prices have to rise, or the lights will start going out. That’s one reason the Biden administration proposed buying $4.3 billion worth of uranium in June 2022.
Look at what oil is doing right now. I told you that the energy sector is the best performing sector of the year. Uranium is firmly in the energy sector.
And then look at what uranium prices have done. They're still up for the year amid a bearish macro environment. They're consolidating beautifully. They’re up off their lows of a few years ago down around $15 or $16. They ran to over $60, which still isn't the all-in sustaining costs of that commodity.
Here you have them pulling back, consolidating beautifully at $45-$50 a pound, getting ready for their next leg higher when the bear gets hungry after the recession. So you’ll want to be doing your diligence and building positions now.
To wrap up, we are in a bear market for stocks with an economic recession likely. Dollars and physical gold are the place to be, as they provide relief from the volatility and the selling. Expect gold stocks and uranium stocks to do well as the volatility and broader selling moves into the rear view.
If you want to see exactly how I’m positioning my retirement portfolio, I lay out a blueprint for what we’re seeing now right here.
Call it like you see it,
Publisher, Daily Profit Cycle