Be Wary of the 'Bait' Right Now

Another blockbuster earnings report from Nvidia... The picks and shovels for AI... Don't chase the 'bait'... Meanwhile, in real life... Who can afford a new house?... A reminder about Mr. Market...

AI is still booming...

Yesterday after market close, chipmaker and AI darling Nvidia (NVDA) reported another round of quarterly results that beat Wall Street expectations.

Nvidia's quarterly revenue was $26 billion, up 262% year over year and about $1.5 billion higher than expectations. Much of that growth was due to its data-center business, which made nearly $23 billion in revenue, a 427% gain year over year.

Nvidia continues to look like the ultimate "picks and shovels" company for AI with its data centers, which include AI chips and server components. Alphabet, Microsoft, Meta Platforms, and Amazon have been buying a lot of Nvidia products to build their own AI products.

Nvidia shares moved almost 9% higher today on the news. The company also announced a 10-for-1 stock split yesterday as shares traded around $1,000 per share. That split will give the appearance of more affordability, but it won't change that the stock is up around 115% this year.

Don't chase the 'bait'...

Now, the tailwinds that pushed Nvidia up a quarter ago appear to be strongly in place again, but that doesn't mean you should run out and chase shares higher.

As Ten Stock Trader editor Greg Diamond wrote today, this post-report move in Nvidia shares could be setting up a "bait and switch" scenario for buyers.

Bond yields have drifted up lately, causing some profit-taking in stocks. The 10-year Treasury yield is up about 15 basis points in the past week to close near 4.5%.

Meanwhile, the major U.S. indexes were down today, even with Nvidia's big day. The benchmark S&P 500 Index finished down 0.7%, and the small-cap Russell 2000 Index led the way 1.6% lower.

Greg says this down behavior could continue depending on what upcoming inflation data shows... and could ultimately lead to a buying opportunity in stocks (and bonds). As Greg wrote today...

Yesterday, I outlined a bait-and-switch scenario where Nvidia's... earnings are the bait and interest rates are the switch.

I was looking at this scenario if NVDA surprised to the downside. But even though it reported strong earnings and the entire semiconductor sector – through the VanEck Semiconductor Fund (SMH) – is hitting new all-time highs, the bait-and-switch scenario is still in play.

But instead of NVDA dropping as bait, it's topping out as bait...

Here's the takeaway: Don't chase sentiment around Nvidia and semiconductor stocks today. Instead, Greg says he'll be keeping a close eye on upcoming inflation numbers that could "put pressure on stocks in the short term" and set up a better buying setup.

As we mentioned earlier this week, the next major inflation report – an April update to the personal consumption expenditures ("PCE") price index, which the Federal Reserve says is its preferred measure of inflation – will come out on Friday, May 31.

In the meantime, real life looks messy...

Yesterday, I (Corey McLaughlin) wrote about the signs that low- and middle-income consumers are pulling back on spending at stores like Target, McDonald's, and Starbucks – and how people have been paying for essentials like food with their savings and credit cards.

Today, a government report showed sales of new homes dropped by nearly 5% in April compared with March, and more than 7% year over year. Rebounding interest rates on mortgages have slowed the market as loans become more unaffordable.

At the same time, there's a lack of supply of new homes in the U.S., which is a tailwind for higher prices because there are still enough people who want to live in a new house. Whether they feel they can afford it, though, is another matter.

Shipping costs have also been on the rise lately, as war in the Middle East continues to influence global supply chains. As The Wall Street Journal reported earlier this week...

Ship diversions from the Red Sea helped push up container freight rates by roughly 30% in the past couple of weeks, with costs for importers set to rise further as they boost their volumes ahead of the busy summer season.

You may recall the initial disruption in the Red Sea was a catalyst for higher oil and freight prices late last year… which caught some by "surprise" and has been reflected in prices in the economy early this year.

Inflation has been running hot, and nobody can tell with certainty when it will stop.

What the CEO of the world's largest bank by market cap thinks...

This morning, Jamie Dimon, CEO of JPMorgan Chase, sat down for an interview with CNBC from the bank's Global China Summit in Shanghai. And, as usual, he made a few headline-worthy comments.

Among other things, he said the worst possible outcome for the U.S. economy right now is "stagflation" – higher inflation and slowing growth, which you could argue we're already seeing in certain parts of the economy.

Dimon also said, given the pace of inflation, interest rates could still go up "a little bit" and that the world is "not really" prepared for higher inflation. As he explained...

I think inflation is stickier than people think. I think the odds are higher than other people think, mostly because the huge amount of fiscal monetary stimulus is still in the system, and still maybe driving some of this liquidity.

When asked about the prospect and timing of rate cuts, Dimon said that while market expectations "are pretty good, they're not always right." Preach, Jamie...

The world said [inflation] was going to stay at 2% all that time. Then it says it will go to 6%, then it said it's going to go to four... It's been 100% wrong almost every single time. Why do you think this time is right?

Dimon even said that JPMorgan's method of estimating interest rates is "going to be wrong."

Earlier this week, Dimon also said that he might retire from his position as CEO earlier than expected, which sunk JPMorgan shares 4% on Monday.

For financial "infotainment" reasons alone, we hope that doesn't happen. Even if you despise big banks (for their role in the great financial crisis, for example), it's enlightening and potentially useful when the leader of the largest publicly traded bank in the world frequently shares what's on his mind without much, or any, filter.

Speaking of 'no filter'...

We continue to read with interest the dispatches of veteran trader Jason Shapiro, a real "Market Wizard" featured in one of Jack Schwager's books, whom Dan and I had the pleasure to interview earlier this year for an episode of the Stansberry Investor Hour.

Jason's a straight shooter with three decades of experience as a full-time trader. And he shared a message yesterday that I think is important to remember while navigating this market...

Jason noted that "the Fed, for whatever reason, refuses to acknowledge that financial conditions are too loose, and interest rates are too low." He also said the recent behavior of "classic inflation assets" like gold, silver, and copper is a signal...

I continue to believe these markets will force the Fed to either raise rates, or watch inflation get far away from them. It was one thing in 2008 when the banks acted irresponsibly and ended up needing a government bailout. All of this risk has now switched from the banking system to the Government. Clearly it takes even more to bankrupt the U.S. Government than it does the banking system, but all that means is when it eventually happens, the blow up will be even worse. When that happens, who can bail out the Government? I can tell you seven trillion dollars in money market funds is not going to do it.

Please keep in mind this narrative, even if 100% correct, tells us nothing about timing. This is not "actionable" information as far as trading the markets right now. I am not looking to fight the tape. I fully understand the narrative of lower rates to come eventually is in control right now, but every day that people who refused to be long the stock market continue to now get long, in whatever form, is a day closer to the day of reckoning. Once all this money is put to work, there will be more danger ahead... That is when the risk will be bigger than ever. I am not here to scare anybody with this bearish tone. I am not saying the time is right now. In fact, I am saying the time is most likely not now.

Jason's approach to trading involves "fading" popular sentiment, but only when the price action is favorable for making a good return. To learn more about his style of trading, check out our interview on the Investor Hour.

A reminder about Mr. Market...

Jason sees what we've been talking about here. We're going to see high(er) inflation for longer than people think... Meanwhile, the Federal Reserve continually saying it will cut rates doesn't make a lot of sense.

Jason says that as more and more people get bullish on the market, downside risk – as a result of an inflation or interest rate "surprise" that will upset the status quo of rate-cut expectations – will grow.

However, Mr. Market doesn't care what I think. Just because we may think something should happen or might happen doesn't mean it will happen.

As always, we recommend making bets with an upside that you like while having a plan to limit your downside. You can be patient and make a bullish trade after a pullback in an otherwise bullish trend. Or you can own shares of high-quality businesses that reward you no matter the conditions, and act as inflation protection, like energy stocks, commodities like gold, or even bitcoin.

As my colleague Dan Ferris says, you can prepare for the possible outcomes. And you can make decisions that align with your goals, but only if you've thought about what those goals might be. That's a good place to start.

New 52-week highs (as of 5/22/24): Amedisys (AMED), Alpha Architect 1-3 Month Box Fund (BOXX), Brown & Brown (BRO), Costco Wholesale (COST), Cintas (CTAS), Danaher (DHR), iShares U.S. Aerospace & Defense Fund (ITA), Microsoft (MSFT), Motorola Solutions (MSI), Neuberger Berman Next Generation Connectivity Fund (NBXG), Construction Partners (ROAD), VanEck Semiconductor Fund (SMH), Teradyne (TER), Texas Instruments (TXN), Tyler Technologies (TYL), Veralto (VLTO), Verisk Analytics (VRSK), and Zebra Technologies (ZBRA).

In today's mailbag, feedback on inflation and interest rates – which we wrote about in yesterday's edition. One subscriber has thoughts about a few major costs for businesses that rate cuts won't help ease... Do you have a comment or question? As always, e-mail us at feedback@stansberryresearch.com.

"Hi, There is so much focus on the correlation between interest rates to inflation and higher prices. From my view, there's not enough talk about wage, rent, and utility inflation. Those three business costs are now among the highest [profit and loss] line item expenses for most businesses today, especially for service and small businesses and our illustrious government. So, at the micro level, it's not clear to me how lowering borrowing rates changes these line item costs in the short term and, in turn, a company's ability to lower prices.

"When I first started in manufacturing 50 years ago, raw materials and their waste were the big issues. Labor, though often inefficient, rent and utilities weren't nearly as big of a percentage of total expenses relative to materials as they are today.

"Without reductions in these line items, how can prices come down at the micro level in the short term by interest rate reductions alone when the floors for labor, rent and utility expenses take years to come down absent a major recession or depression?" – Subscriber Mike E.

Corey McLaughlin comment: Great points, Mike. Thanks for writing in.

We wrote yesterday that interest-rate cuts would fuel more spending in the short term, but not slow the pace of inflation, much less contribute to lower prices... And the trends you mention are part of the reason why. In fact, rate cuts – absent a recession like you mention – are likely to exacerbate the higher costs you're discussing.

Your note also makes me more curious about what challenges people (particularly those running small businesses) might be facing today with costs. I know we have some small business owners in our audience... from farmers to construction businesses to restaurant owners and everything else... and we love hearing from you.

If you have a minute, send your observations about the challenges you're facing in your business – or opportunities you see – to feedback@stansberryresearch.com. We'll plan to share your responses and keep the conversation going.

All the best,

Corey McLaughlin
Baltimore, Maryland
May 23, 2024