Cramer: Here’s where we are in this dispiriting market — and what to expect next

There’s no time like the present to discuss where we are in this difficult market. We feel as challenged running the portfolio as we did during the Great Recession because it does seem that things can lift, but not for more than a few days before another collapse. All that happened is that they suck you back in — “they” meaning the collective forces of opportunity that are subsequently crushed by negativity. What’s happening, why are we and everyone else struggling? This note is to examine what’s going wrong and what’s going right — both with the market and our stock picks. Remember we are not a hedge fund (been there, done that) and we aspire to pick stocks for a timeframe of six to nine months, at a minimum. That period has been challenged repeatedly by this market, but we have clung to it, knowing that’s what has worked the best since 2005 when we started this Club experiment and we believe it will continue to do so. Let’s start with where we are. We know that the Federal Reserve has fought to be in charge of this market ever since Covid-19 ravaged us and President Joe Biden put through the American Jobs Plan — which, in retrospect, with was a mistake with more jobs than people to fill them. The overstimulated economy bubbled over last year but the Fed chief Jerome Powell, fearful of another strain of Covid, perhaps omicron, opted to continue to buy bonds worth tens of billions. That included mortgage bonds, again a mistake. Powell perhaps did not want to repeat his 2018 error of too many rate hikes at once and an ill-fated decision to talk about lock-step increases. In retrospect, he should have started rate increases in the fall and continued them along with selling bonds. Pundits spend a great deal of time talking about how wrong he has been. I have always said we will negotiate the market even with a wayward Fed, but this one’s been very difficult. His mistakes have proven too durable versus what he has done now, and we are witnessing a re-pricing down of everything as part of an overall attempt to curb inflation. The good news is that he’s been at it long enough that we may be further along in the process of slowing inflation. The bad news is that everything is slowing with it. There were two peaks of note in 2021 that are rarely talked about: the March-April peak for many industrials and then the November peak when the Fed declared war against excessive speculation in the market. After allowing 600 new companies, including ill-advised SPACs (special purpose acquisition companies), manipulated Chinese stocks, and overheated IPOs, to flourish — plus cryptocurrencies galore — both the Fed and the regulators seemed to have had enough. I say seemed because nothing was definitive. History may judge Powell and his colleague, SEC Chair Gary Gensler, harshly for allowing so much excessive gambling to occur. But again that’s for the pundits. I want to explore where we are, not how we got there. Right now we are in a classic Fed-orchestrated slowdown with the hope of, to use the cliched plane analogy, a soft landing. Two weeks ago, Powell switched to solely fighting inflation, not the promotion of jobs while punishing inflation. It didn’t work. He couldn’t slow things down and we have a bitter moment where stocks are cascading as collateral damage because inflation seems intractable while job growth stays strong. We have been setting ourselves up for this moment in a way that needs more depiction, one of the reasons why we wanted to get this to you before trading began. Our judgment is to put almost maximum cash to work because we think that we are a lot closer to the nadir than most do. We are rooted in probabilities and what makes us feel that way has to do with time. The average bear market since World War Two lasts a little more than 180 days. We are in the 190-day range. That matters. There is too much evidence to dispute it. Second we have myriad single digit price-to-earnings valuations in a host of industries. Now we know from history that you get those valuations not because stocks are cheap, but because they are expensive. The estimates will prove to be far lower than we think right now and when they come down stocks will come down with them. We are about to start an earnings season we all expect to be brutal that will bring down estimates for 2023. Then we will see how expensive stocks really are. The conundrum will be that even after we get the estimate cuts, these stocks will prove to be inexpensive versus the current 15 times multiple for the S & P 500 index. That conundrum is made even more difficult because of the phenomenon of price targets that were set during more halcyon days. Hardly a day goes past, as you know from our morning newsletter, when price targets aren’t cut. And each time they send stocks down. But they have not led to downgrades — yet. I suspect those are next. You would think that they couldn’t go down more. However, when the stock of Toll Brothers (TOL), a very good homebuilder, received a downgrade last week, it still fell — even as it was down 40% for the year. That’s a cautionary tale vis-à-vis the 180-day-average bear market. What it says to me is that we need to have price target cuts — again set high before November — as well as downgrades. And and we need to see stocks NOT go down. Given the length of time and the coming rate increases that seems impossible. Can stocks really bottom before the recession that the Fed must take in order to stop inflation? Can a hard landing produce anything good for stocks? It actually can, given that we have so many jobs and so few people to fill them. Presumably the number of jobs drops sufficiently that job hopping does not yield better pay, and price increases fail to go through, and Powell actually wins. Now this is where it is most tricky. How can stocks bottom ahead of that? Ironically, history says they most certainly do. Consider these statistics, put together by the best market historian I know, Larry Williams. Stocks fell 3% on average twelve months before a recession. And 2% six months before a recession. We’ve obviously blown through those levels, but directionally we are following the course. During the recession, we average 1% down. Now here’s where it gets intriguing. Six months after a recession we are up 7%. After one year, we’re up 16%, and after two years up 20%. If we are indeed in a recession, as so many think we are, then we are closer to a long-term increase in stock prices than we have been any time in the last year. We have set the Charitable Trust up for that rebound with a mixture of stocks that do well in the slowdown or recession — mostly healthcare with some secular growers and, in retrospect, too many of our once-best performers, semiconductors and FAANG tech stock. We trimmed them all near the top but you can never trim enough in a bear market. Turning gains into losses is unforgivable but the speed with which the decline happened caught us by surprise given that there were no earnings cuts and the quarters of our chipmakers were extremely strong, with each causing estimate bumps not cuts. We were operating under the concept that we would be protected by better earnings. But that failed and we regret it greatly and regard it as too late to sell other than to right size what we bought during our needed high-grading. Thank heavens we did that and exited our positions in troubled stocks American Eagle (AEO) and PayPal (PYPL). The exasperating Bausch Health Companies (BHC) situation and the quizzical Disney (DIS) decline are more a part of the extremes of bear market behavior than anything else. Miserable works in progress? We do not short stocks as a matter of our Charitable Trust status. But we have hedged by buying quality oil stocks. Pioneer Natural Resources (PXD) and Coterra Energy (CTR) are protected by two of the highest yields in the market — yields that will last as long as oil stays above $80 per barrel and natural gas above $4. Chevron (CVX) also has a good yield and a huge buyback, and Halliburton (HAL), an oil services company, that’s necessary to produce needed oil. We also own Devon Energy (DVN), one of our favorites in the energy sector. Why put 10% of the fund in oil, more than twice that of the S & P? Because oil represents the most visible portion of inflation. We need that hedge. On Friday, of course, the hedge produced our worst fears, with oil plummeting while our other stocks also were not rallying. That’s one of the reasons why we typically hedge with cash, but cash just doesn’t help like the oils will especially given the yield protection on two of the five of them. This is a market that easily goes to extremes, with the downside most evident right now. Going back to those statistics about how long the pain should go on, we would be fools to bail out now with so much pain already taken. Others feel that way, all of us wandering in the desert, trying to find the land of milk and honey but not yet arriving at it. We think it is likely sooner or later. We know there are three things throwing us off kilter: a Fed that was late to slay inflation; an enemy of the West, Russia, holding us hostage and causing higher energy and food prices; and a Chinese public health disaster than shows no signs of letting up, and yet is antithetical to the core tenants of the Communist regime. Now the Fed is at last on the right course. I believe that come winter, Europe might begin pressuring Ukrainian President Volodymyr Zelensky to make some sort of a deal which we can’t really imagine, and the Chinese may embrace the same western medicine that has made our economy stronger than most others. We had thought that the Russians were irrational, but the rise of the ruble, the chief determinant of the Russian economy, tells us otherwise and gives leader Vladimir Putin a tremendous upper hand come cold weather. The market would be an accurate predictor of a compromise come six months if it bottomed now. The mystery of the impossible path taking by China’s Xi Jinping continues to baffle and he has much of our tech stocks and international commerce waylaid. Again, you have to make a judgment that his intransigence to fully open up the economy in the face of what seems to be almost no fatalities makes no sense whatsoever. We simply believe it’s too risky NOT to be very long in the face of logical conclusions of illogical actions. We do not deny the possibilities that we just keep stumbling lower and that the decline so far from the top means nothing. We always say it doesn’t matter where stocks are coming from, it’s where they are going. We think that there could be one more oil-related decline of which we will commit the last of our cash reserves and sell a little of the worst of our underperformers, such as Wynn Resorts (WYNN). But that should be the wind down of the bear market. When we started the Investing Club there was a great deal of press about how I would have to give it up. The embarrassment of showing our mistakes would be too great. Then, subsequently when we put through severe restrictions on what we could do if I mentioned stocks we owned or were examining, we knew we could never do as well in the market as you could. In good times and especially dispiriting moments like the present, all we can do is show you why we make decisions before we execute, even as the soul searching and embarrassment are both palpable and daunting. It is not easy to watch Bausch Health CEO Joe Papa offer a credible plan that should produce a quick path to a 50% move up — only to watch it produce a horrendous decline because of issues involving an inhospitable market and a barely missed quarter. How many times can you get together and talk to the team at Disney to no avail because of a belief that one aspect of the company, Disney+, is not giving you good returns. But that’s the hand we are playing and history judges us as knowing when to hold and when to fold. It’s the toughest market in 14 years. We’ve gotten through earlier downturns intact and we will again this time. We have now having given to charity almost as much as we first put in. As always, we thank you for being a member and welcome your feedback. We also look forward to our next Club meeting with on July 7. (Jim Cramer’s Charitable Trust is long BHC, CTR, CVX, DIS, DVN, HAL, PXD WYNN. See here for a full list of the stocks.) As a subscriber to the CNBC Investing Club with Jim Cramer, you will receive a trade alert before Jim makes a trade. Jim waits 45 minutes after sending a trade alert before buying or selling a stock in his charitable trust’s portfolio. If Jim has talked about a stock on CNBC TV, he waits 72 hours after issuing the trade alert before executing the trade. THE ABOVE INVESTING CLUB INFORMATION IS SUBJECT TO OUR TERMS AND CONDITIONS AND PRIVACY POLICY , TOGETHER WITH OUR DISCLAIMER . NO FIDUCIARY OBLIGATION OR DUTY EXISTS, OR IS CREATED, BY VIRTUE OF YOUR RECEIPT OF ANY INFORMATION PROVIDED IN CONNECTION WITH THE INVESTING CLUB. NO SPECIFIC OUTCOME OR PROFIT IS GUARANTEED.

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