Trump’s fed shakeup looms as investors brace for impact

Market Analysis & Investment Strategy – December 2023

Key Concepts:

• Quadruple Witching: Simultaneous expiration of stock options, futures contracts, and options on futures, often leading to increased market volatility.
• AI Rally: Significant market gains driven by investment in Artificial Intelligence related companies.
• Value Investing: Investment strategy focused on companies trading below their intrinsic value, often with strong fundamentals.
• Money Market Funds: Investment vehicles offering high liquidity and typically low risk, currently benefiting from high interest rates.
• Schedule III Drug (Cannabis): Reclassification of cannabis under federal law, potentially easing restrictions on research, banking, and taxation.
• Federal Reserve Chair: The head of the Federal Reserve, responsible for monetary policy and influencing interest rates.
• Quantitative Tightening (QT): A contractionary monetary policy used by central banks to decrease the money supply and raise interest rates.

I. Market Overview & Recent Performance

The Nikkei average in Japan experienced a significant rally, increasing by over 1%, following the Bank of Japan’s decision to raise interest rates to a 30-year high and push the ten-year bond yield above 2%. US futures indicated a mixed opening, buoyed by better-than-expected CPI data of 2.7%. The Dow Jones Industrial Average was down 8 points in premarket trading, while the NASDAQ Composite was up 85 points. The market is currently bracing for a “quadruple witching” event, with over $7 trillion in options expiring, which is expected to cause volatility. Despite recent fluctuations, major indices are showing double-digit gains in 2023, largely attributed to the ongoing AI rally.

II. Artificial Intelligence Investment Landscape

OpenAI is reportedly seeking to raise $100 billion, potentially valuing the company at $830 billion, to fuel further growth in the global AI race. Portfolio Wealth Advisor President and CIO, Lee Munson, expressed a cautious perspective on AI investments. While acknowledging the growth potential, he believes valuations, particularly on the NASDAQ (with a P/E ratio of 33), are stretched and require AI names to deliver exceptional performance to justify expectations.

Munson suggests a more strategic approach: “I’m a little bit on the fence in terms of everything outside of A.I… I think you’re better off if you want to pack up and be all in on A.I., wait for the moment where NVIDIA has a slow learning or maybe more investor concern about the spending in the data centers.” He anticipates a potential “moment of reckoning” within the next year, where AI stock multiples may decline, presenting a more attractive entry point. He currently favors a diversified approach, emphasizing value stocks that benefit from tax cuts, AI productivity gains, and potential Federal Reserve rate cuts.

III. Cash Positions & Potential Market Impact

A significant $8 trillion is currently held in money market funds, the highest level in recent history. Munson believes this represents a potential source of capital for the equity market as interest rates decline. He notes that people are currently earning 3.5% to 4% in money market accounts, but as rates fall (potentially to under 3%), funds will likely flow back into broader-based indices, providing a floor or boost to the equity market. “All we need to see as rates come down. Another 1% you have the floor. If the market starts to slow because of growth concerns you know rates will get cut, the money is going to flow.”

IV. Cannabis Reclassification & Industry Implications

President Trump’s executive order to reclassify cannabis as a Schedule III drug is expected to significantly impact the industry. While the move is seen as positive for medical research, Munson expressed skepticism about the current cannabis companies, stating, “All the company’s value is basically 0… This is a plant that you grow, socket increase axis this is a huge thing for medical research, these companies what are they have to do with medical research, they're trying to grow something.” He anticipates increased competition from Big Pharma, who will be able to conduct more extensive research, and believes this will be a positive development for the biotechnology industry. Cannabis stocks initially plunged on the news, with some companies experiencing declines of 26% to 30%.

V. Federal Reserve Chair Selection & Monetary Policy

The White House is considering several candidates for the next Federal Reserve Chair, including Christopher Waller and Michelle Bowman. President Trump indicated he is looking for a candidate who would favor a more aggressive approach to rate cuts to lower mortgage costs. Munson expressed a preference for Waller and Bowman, highlighting Waller’s data-driven approach and Bowman’s focus on supporting regional and community banks. He believes a Fed Chair who respects the independence of the Fed will be viewed positively by the market. “I think from Wall Street perspective I am much more common six months ago because we are still looking at people who respect the independence of the Fed and the market goes up on the news.”

VI. Data & Statistics Mentioned:

• Nikkei Average Increase: Over 1%
• CPI (Consumer Price Index): 2.7%
• Options Expiration Value (Quadruple Witching): $7 trillion
• Money Market Funds: $8 trillion
• Small-Cap Value Growth: 13-14%
• Large-Cap Value Growth: 12%
• OpenAI Potential Valuation: $830 billion
• NASDAQ P/E Ratio: 33
• Cannabis Stock Decline: 26-30% (for some companies)

Conclusion:

The market is currently navigating a complex landscape characterized by strong AI-driven gains, significant cash reserves, and evolving regulatory changes. While the AI rally continues to drive performance, investors should exercise caution due to stretched valuations. A diversified approach, with a focus on value stocks and a watchful eye on interest rate movements, appears to be a prudent strategy. The upcoming Federal Reserve Chair selection and the impact of cannabis reclassification will be key factors to monitor in the coming months. The substantial amount of cash in money market funds represents a potential catalyst for further equity market gains as rates decline.