Market

INVESTMENT MANAGEMENT Strategy Report

September 2022

Zacks Investment Management

Born from Research, Built for Performance

IN THIS GUIDE:

Is the U.S. Headed for a Recession, or Already in One? 3

How a Retreat in Jackson Hole Roiled Markets 5
What is Keeping Pessimism Alive in this Market? 7
Bottom Line for Investors 8
 STOCK MARKET OUTLOOK

What to Expect from This Report

There has been a lot of chatter lately about whether or not the U.S. economy is in recession. Some pundits
point to negative GDP prints in the first half of the year as evidence of the contraction, while others
say strong spending and a historically tight labor market – where available jobs exceed the number of
unemployed Americans looking for work – is a sign the economy is better than most think. We diagnose the
question in this month’s report.
We also address the late August market sell-off, which saw stocks trend sharply downward following a
meeting of central bankers in Jackson Hole, Wyoming. What happened at this retreat that led to so much
consternation in equity markets? Finally, we take a look at some of the factors that have some investors
wondering if stocks can mount a comeback in the second half of the year.

Stock Market Outlook 2

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

Is the U.S. Headed for a Recession, or Already in One?

Official statistics from the Bureau of Economic Analysis show the US economy contracted by -1.6% in the
first quarter and then again by -0.9% in Q2.1 Technically speaking, two consecutive quarters of negative GDP
growth meets the technical definition of an economic recession, but whether or not the U.S. was contracting
is a different story.

First, consider the jobs market. In the latest August payrolls report, the U.S. economy added 315,000 jobs,
with the unemployment rate close to a historic low of 3.7%. Over the past three months, when the economy
was supposedly in decline, employers added an average of 378,000 new jobs every month, which is well
above the job growth pre-pandemic. A key stat that stands out: for every unemployed person in America,
there are roughly two open jobs in the economy. If the US is indeed in recession, the jobs market has not
received the memo.

Another economic fundamental known as Gross Domestic Income (GDI) suggests the US slowed in the
first half of the year but did not contract. Most pundits and market watchers focus on the GDP figure when
assessing economic output, which takes into account all of the individuals and businesses spending money
to purchase goods and services. But there are also merchants, individuals, and businesses on the other side
of the transaction earning income and revenue needed to deliver the goods and services and turn a profit –
this is known as Gross Domestic Income, or GDI. The data gathered in GDI is made up of corporate earnings,
wages, self-employment income, interest, and rent.

In most quarters and years, GDI and GDP readings track fairly closely to one another, with slight but not
necessarily exaggerated discrepancies in every print. In 2022, however, the discrepancy has been notably
wide – in the first half of the year, GDP was said to have contracted at a -1.1% annual rate, while GDI showed
an increase of 1.6% year-over-year. Higher wages and a boost in self-employment income and rents likely
drove the growth. Many economists average the two figures to capture a different, perhaps more complete
read on the economy. When doing so, we see 0.2% growth in the first half – by no means gangbusters, but
also not a contraction.

That’s not to say the US will avoid a recession completely, however.

One sign that a recession may be in the offing is the yield curve. The 3-month and 2-year US Treasury bond
yields have bounced sharply off lows and are moving in a noticeable uptrend. Short-duration Treasury bond
yields tend to rise when investors anticipate tighter central bank policies, which is essentially confirmation
of what we already knew – i.e., the Fed has turned hawkish to tamp down inflation.

Stock Market Outlook 3

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

Source: Federal Reserve Bank of St. Louis2

One of the risks posed by rising short-duration Treasury bond yields is their effect on the yield curve. As a
quick refresher, the yield curve represents the difference between long-term and short-term interest rates,
which also serves as a proxy for loan profitability for banks. Since banks borrow at short duration rates and
lend at long-term rates (generally speaking), a steep yield curve creates higher net interest margins, which
usually results in more credit, loans, and economic activity. On the flip side, an inverted yield curve signals it
is more expensive to borrow money short-term than long-term, which means something is likely awry in the
credit markets.

Historically, the yield curve has been a good forward-looking indicator for the economy, which is why rapidly
rising short-duration U.S. Treasury bond yields are worth watching closely. In the chart below, the yield
curve is presented as the 10-year U.S. Treasury bond yield minus the 3-month US Treasury bond yield. A
declining line means the yield curve is flattening, and if the line falls below 0%, it means the yield curve is
inverted. As seen below, any time the 3-month/10-year yield curve has inverted (fallen below zero on the
chart), a recession has followed.

Source: Federal Reserve Bank of St. Louis3

In the current environment, the yield curve is not quite inverted just yet. But it’s getting close.

Stock Market Outlook 4

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

A second indicator that may be signaling a recession ahead is the Conference Board’s Leading Economic
Index. Consecutive declines in the LEI have historically been a precursor to economic contractions. In July,
the Conference Board LEI fell by 0.4%, which followed a -0.7% decline in June. Importantly, the LEI has fallen
over the past six months by -1.6%, which indicates a greater trend and is worth monitoring.

The key factors that appear to be driving the LEI lower are pessimistic US consumers, a slight dip in
manufacturing orders, a slowing of housing permits and construction, and of course, the bear market.
The Conference Board LEI includes the S&P 500 index, so the downdraft in the first half was a significant
factor pulling down the LEI prints. The next couple of months will be important in determining whether this
downtrend is sustained, which could signal a recession perhaps later in the year. Again, we’re not there yet.

How a Retreat in Jackson Hole Roiled Markets

At the last Federal Reserve rate-setting meeting on July 26-27, the fed funds rate was increased by 75 basis
points, as largely expected. In the press conference that followed, however, Chairman Jerome Powell
seemed to acknowledge the economy was slowing, and he communicated the Fed’s hope that easing
inflation would allow the central bank not to raise rates as aggressively in the future.

The market’s interpretation of these comments was more optimistic than Chairman Powell likely intended
them to be. By early August, interest-rate derivatives like overnight index swaps were predicting a fed funds
rate at 3.3% by the end of 2022, with the same indicators forecasting rate cuts by the summer of 2023. Wall
Street seems to believe the fed funds rate will settle at 2.5% by 2024, which many argue has been a driver
behind the market rally over the last few weeks.

Two key factors seem to be driving Wall Street’s expectation for less aggressive monetary tightening, and
even monetary loosening, by next year.

Stock Market Outlook 5

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

First, the market is decisively optimistic about inflation. The 5-year inflation breakeven rate (chart below)
has fallen sharply over the last few weeks, with an expectation that inflation will average about 3% over the
next five years. The basis for this optimism may have been the July consumer price index showing an 8.5%
year-over-year increase, a decline from the 9.1% y-o-y rate posted in June. The month-over-month inflation
reading for July was also flat from June. The market seems to be pricing in the likelihood that easing
inflation pressures mean easing pressure on the Fed to raise rates aggressively.

Source: Federal Reserve Bank of St. Louis4

Second, bond traders are accustomed to 40+ years of monetary easing any time the economy and market
show signs of weakening, which is often referred to as the “Fed put.” With recent economic data indicating
pretty clear signs of slowing activity, the market seems to believe the Fed will eventually rush back to the
rescue, with lower rates, bond purchases, and/or other liquidity measures. Composite PMIs for the US –
which measure both factory activity and services activity – dropped to 45.0 in August, a decline from the 47.7
print in July. A reading below 50 generally signals a contraction. Initial jobless claims are also starting to tick
slightly higher, and the housing market is showing significant signs of cooling.

Stock Market Outlook 6

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

The wager here is that the Fed will not stand by long as the economy struggles. But the Fed sent a very
different message to markets at Jackson Hole.

In an 8-minute speech given by Federal Reserve Chairman Jerome Powell, he reiterated the Fed’s hawkish
approach to inflation but went even further in stating the Fed’s commitment to “keep at [rate hikes and
tightening] until we are confident the job is done.” So, while the market had been pricing-in rate cuts by
the summer of 2023, Powell’s comments in Jackson Hole were taken as a clear sign the Fed would likely
keep tightening even if the economy entered a recession, much like the Volcker Fed did in the 1980s to fight
inflation. Post-Volcker, bond traders have come to expect that the Fed would rush to cut rates and loosen
monetary policy any time the economy showed a hint of weakening, which is often referred to as the “Fed
put.” Chairman Powell seemed to be putting that assumption to rest, and stocks have been choppy since.5

What is Keeping Pessimism Alive in this Market?

One key factor buzzing around the bears is the housing market, which is showing marked signs of cooling.
New single-family home sales are down, and the median sales price of houses sold has stopped its uptrend.
A steadily rising inventory number of houses for sale – ‘Months’ Supply at Current Sales Rate’ is obvious too.
See the charts below.

From here, if the fed funds rate moves too high too quickly, and the stock market continues to exhibit
choppiness while the housing market softens substantially, worries would dramatically increase about
financial losses trickling down to consumers and eventually, banks. Loan losses can beat up share and
housing markets badly, and a concurrent rise in fears (either founded or unfounded) could exacerbate the
downside further.

Other concerns amongst the bears: the lack of a Fed backstop could result in more blowouts in high yield
and investment grade credit, and a ‘de-risking’ amongst investors could create a feedback loop that keeps a
rally from gaining steam.

Stock Market Outlook 7

INVESTMENT MANAGEMENT
 STOCK MARKET OUTLOOK

Bottom Line for Investors

Traditional measures of economic output, like GDP, show the US economy in
recession in the first half of 2022. But was economic activity in sharp decline?
Measures like GDI, which measures the income side of the ledger, say no.
There’s also the jobs market in the US, which remains historically tight. As of
the end of August, there were 11.2 million available jobs in the US. That’s not
the stuff of deep recessions.

Even still, there are risks to growth looking ahead. The Federal Reserve has
made it clear they are more concerned with tamping inflation than they are
preserving growth and employment. In fact, if that’s the tradeoff, the Fed
would choose to fight inflation. That key point has markets in a choppy state.

1
BEA. 2022. https://www.bea.gov/news/glance
2 Fred Economic Data. September 2, 2022. https://fred.stlouisfed.org/series/DGS3MO#
3 Fred Economic Data. September 2, 2022. https://fred.stlouisfed.org/series/T10Y3M#
4 Fred Economic Data. September 2, 2022. https://fred.stlouisfed.org/series/T5YIE#
5 John Blank Report. 2022.

Stock Market Outlook 8

INVESTMENT MANAGEMENT
How Can Zacks Investment
Management Help?

Retirement Planning Personalized Investment Counseling

When you’re a Zacks Investment Management
To achieve your financial goals for retirement, we
client, you can count on individual attention and
believe it is essential to create a clearly-defined
prompt, responsive service. We’re here to answer
strategy. Count on Zacks Investment Management
your questions, work with you to identify and reach
to help you develop a strategy that reflects your
your goals, and to make sure you’re comfortable
individual needs, goals, and risk tolerance. Once
with the portfolio management you receive.
you have your strategy, we’ll help you stick to it—
Investing is an emotional process, and we will work
because, especially in volatile markets, what feels
with you to ensure disciplined investing, both in
like “the right thing to do” may actually be what
bull and bear markets.
you don’t want to do.

Portfolio Management Your Wealth Management Advisor is always

Since 1992, Zacks Investment Management has
helped investors meet their financial goals, with
billions in assets currently under management. Our
overall investing is managed by our Investment
Committee, with decades of industry experience.
Based on this overall approach, we create
customized portfolios for each client using our
proprietary strategies, many of which are top-
ranked by Morningstar.
available to meet your needs, including:
» Helping you understand what’s going on in
your portfolio—and why
» Reviewing your investment goals, objectives
and strategies on a regular basis
» Addressing any day-to-day needs you may
have in a prompt, responsive manner

Two ways to learn more and speak to one of our retirement professionals:
Call 1-800-701-9830 or click below to schedule an appointment

Schedule Your Advisor Consultation

D I S C L A IME R

Past performance is no guarantee of future results. Inherent in any investment is the potential for loss.

Zacks Investment Management, Inc. is a wholly-owned subsidiary of Zacks Investment Research. Zacks Investment
Management is an independent Registered Investment Advisory firm and acts as an investment manager for individuals
and institutions. Zacks Investment Research is a provider of earnings data and other financial data to institutions and to
individuals.

This material is being provided for informational purposes only and nothing herein constitutes investment, legal,
accounting or tax advice, or a recommendation to buy, sell or hold a security. Do not act or rely upon the information
and advice given in this publication without seeking the services of competent and professional legal, tax, or accounting
counsel. Publication and distribution of this article is not intended to create, and the information contained herein does
not constitute, an attorney-client relationship. No recommendation or advice is being given as to whether any investment
or strategy is suitable for a particular investor. It should not be assumed that any investments in securities, companies,
sectors or markets identified and described were or will be profitable. All information is current as of the date of herein and
is subject to change without notice. Any views or opinions expressed may not reflect those of the firm as a whole.

Any projections, targets, or estimates in this report are forward looking statements and are based on the firm’s research,
analysis, and assumptions. Due to rapidly changing market conditions and the complexity of investment decisions,
supplemental information and other sources may be required to make informed investment decisions based on your
individual investment objectives and suitability specifications. All expressions of opinions are subject to change without
notice. Clients should seek financial advice regarding the appropriateness of investing in any security or investment
strategy discussed in this presentation.

Certain economic and market information contained herein has been obtained from published sources prepared by
other parties. Zacks Investment Management does not assume any responsibility for the accuracy or completeness
of such information. Further, no third party has assumed responsibility for independently verifying the information
contained herein and accordingly no such persons make any representations with respect to the accuracy, completeness
or reasonableness of the information provided herein. Unless otherwise indicated, market analysis and conclusions are
based upon opinions or assumptions that Zacks Investment Management considers to be reasonable. Any investment
inherently involves a high degree of risk, beyond any specific risks discussed herein.

The S&P 500 Index is a well-known, unmanaged index of the prices of 500 large-company common stocks, mainly blue-
chip stocks, selected by Standard & Poor’s. The S&P 500 Index assumes reinvestment of dividends but does not reflect
advisory fees. The volatility of the benchmark may be materially different from the individual performance obtained by a
specific investor. An investor cannot invest directly in an index.

The Russell 1000 Growth Index is a well-known, unmanaged index of the prices of 1000 large-company growth common
stocks selected by Russell. The Russell 1000 Growth Index assumes reinvestment of dividends but does not reflect advisory
fees. An investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the
individual performance obtained by a specific investor.

Nasdaq Composite Index is the market capitalization-weighted index of over 3,300 common equities listed on the Nasdaq
stock exchange. The types of securities in the index include American depositary receipts, common stocks, real estate
investment trusts (REITs) and tracking stocks, as well as limited partnership interests. The index includes all Nasdaq-
listed stocks that are not derivatives, preferred shares, funds, exchange-traded funds (ETFs) or debenture securities. An
investor cannot invest directly in an index. The volatility of the benchmark may be materially different from the individual
performance obtained by a specific investor.

The Dow Jones Industrial Average measures the daily stock market movements of 30 U.S. publicly-traded companies listed
on the NASDAQ or the New York Stock Exchange (NYSE). The 30 publicly-owned companies are considered leaders in the
United States economy. An investor cannot directly invest in an index. The volatility of the benchmark may be materially
different from the individual performance obtained by a specific investor.

The Russell 2000 Index is a well-known, unmanaged index of the prices of 2000 small-cap company common stocks,
selected by Russell.  The Russell 2000 Index assumes reinvestment of dividends but does not reflect advisory fees.  An
investor cannot invest directly in an index.  The volatility of the benchmark may be materially different from the individual
performance obtained by a specific investor.