July 30, 2021
The excess savings racked up by Americans from trillions in stimulus payments is quickly waning. The chart below from Zero Hedge illustrates the effect of stimulus payments on personal savings over the past year and a half. Excess savings from the last round of stimulus is falling rather quickly, and as Zero Hedge notes, “… at the current rate that Americans are burning through savings, this means that the entire fiscal stimulus tailwind from Biden’s trillions will be gone by August… just in time for emergency unemployment benefits to end”. The upcoming fiscal cliff bears substantial risks to markets, especially as we move past the point of peak economic growth in this recovery.
The Chicago PMI surprised to the upside for July. It came in at 73.4 compared to expectations of 66.1 and a June reading of 66.1. The survey results suggest that, in July, business conditions improved more than expected in the Chicago area.
Personal income and outlays data were stronger than expected in June. Personal income increased 0.1% compared to a consensus estimate of -0.7%. Personal consumption expenditures increased 1% in June versus expectations of 0.6%.
The PCE price index increased 0.5% MoM (0.6% expected) and 4.0% YoY (4.1% expected). The core PCE price index, the Fed’s preferred measure of inflation, rose 0.4% MoM (0.5% expected) and 3.5% YoY (3.7% expected).
The toughest part of forecasting inflation is trying to properly assess the supply line problems and labor shortages. Wells Fargo put out a handy table recently, shown below, which tracks price pressures due to supply, inventory, shipping, and labor problems. Per Wells Fargo: “It suggests that bottlenecks are not yet easing in any widespread fashion, let alone close to being fully resolved”. The conclusions reached by Wells Fargo align with the reasons for missed expectations we saw in the second quarter GDP report yesterday.
Next week begins the weakest two months of the year for the markets, as shown below. While the graph below points to weakness, there have been plenty of prior Augusts and September’s that have produced positive returns.
July 29, 2021
NKLA founder, Trevor Milton, was charged with fraud this morning regarding lies to investors about breakthroughs and prototype vehicles. NKLA went public via SPAC in June 2020, thus Milton was not bound by the usual post-IPO restriction period on communication with investors. He quickly took to social media with the apparent intention of pumping the stock. According to MarketWatch:
“Prosecutors said in the initial period following Nikola starting to trade publicly, the value of Milton’s shares shot up by $7 billion”.
It doesn’t stop there.
“Prosecutors said that, in fact, the prototypes that had been unveiled didn’t function and were Frankenstein monsters cobbled together from parts from other vehicles. At public events, the vehicles were towed into position and were powered by plugs leading from hidden wall sockets”.
Milton has posted bail and proclaims his innocence. NKLA stock has sold off roughly 65% from its June 2020 highs.
Robinhood completed its IPO today and is trading under the ticker symbol HOOD. The stock opened in line with the IPO price at $38 per share after the indicated open fell from a high of $42 this morning. Based on the IPO price, HOOD is being valued at $32B.
Update: HOOD finished the day at $34.71 after retreating 8.7% from its open price. .
US GDP (initial) grew 6.5% in the second quarter versus expectations of 8%. This compares to first quarter GDP growth of 6.3%. PCE was above expectations at 11.8% versus the consensus of 11.4%. A key factor in the GDP miss was the decline in inventories, which highlights the supply-chain problems the economy is facing have yet to abate.
Initial jobless claims fell by 24k to 400k this week, slightly higher than expectations of 390k. Although weekly claims are falling, they remain elevated compared to levels you might expect to see in an improving economy.
The first estimate of second quarter GDP will be released this morning at 7:30 CT. This chart from The Daily Shot shows that economists’ estimates of GDP growth have been moderating in recent weeks.
The graph below charts the MBA’s mortgage purchase applications. These are the number of applications for mortgages, not the refinancing of existing mortgages. As shown, the number of applications has been steadily declining and now sits at pre-pandemic levels. The housing market is increasingly showing signs of normalizing. It is quite possible home prices will follow suit and begin to stabilize and possibly decline over the next few months.
The graph below, courtesy of Nautilus Investment Research, shows the current bull market rally, starting March 2020, is getting into rarefied territory. The market has gone 337 days without a 10% retracement. Of the 135 instances in the study, only ten bull market runs have been longer in duration, and of those, only two have gone up a higher percentage.
July 28, 2021
Changes to the FOMC statement are highlighted below. While most of the changes are inconsequential, they added the following to the section which discusses QE: ” Since then, the economy has made progress toward these goals, and the Committee will continue to assess progress in coming meetings.”
We think this new statement, and its deliberate placement in the section describing asset purchases is a reminder they are closing in on their goals and a signal to the market to prepare for the tapering of QE and ultimately higher interest rates.
The Financial Times (LINK) put yesterday’s earnings from Google, Microsoft, and Apple into perspective.
“The three US tech groups brought in combined after-tax profits of almost $5bn a week during the latest quarter. At $56.8bn, the total was almost double the year before and 30 percent more than Wall Street had predicted. The figures were “absolutely stunning”, said Jim Tierney, a portfolio manager at AllianceBernstein, adding that “digital advertising is just on fire”, as advertisers race to follow audiences who have turned to online services in huge numbers.”
Since today is Fed day we thought we would share a quote about monetary policy from Jim Grant: “Persisting with the easiest policy in memory in the teeth of the fiercest inflation in a generation, the Fed reminds us of a diamond-handed Reddit bro pushing his last chips on to AMC Entertainment. He’d better not be wrong.”
Have trucking costs finally peaked? If the recent rise, as shown below courtesy of Arbor Research, is forming a peak, another factor pushing inflation higher may be abating. This would be welcome news for Amazon and other e-tailers.
The graph below compares the S&P 500 to the Shanghai Composite. As shown, the broad Chinese market did not perform nearly as badly as the S&P 500 during the early days of the pandemic but has since grossly underperformed the S&P. It is essentially flat over the last year. The tepid performance of their stock market along with signs China’s economic activity is slowing sends macro warning signs to the world. China has the second-largest GDP in the world and has been growing at twice the rate of most developed nations. Simply, Chinese economic activity contributes significantly to global GDP growth. We are also keeping an eye on the Chinese yuan for signs they devalue it versus the dollar to stimulate export growth.
July 27, 2021
Thinking of buying today’s dip? If so, you may be proven correct in a record short period of time as shown below.
Consumer Confidence rose to 129.1 versus 127.3 last month. Both the present and future indexes were up versus last month. Interestingly, inflation expectations are showing signs of stabilizing. The report shows 1-year inflation expectations at 6.6% versus 6.7% last month.
The Case-Shiller Home Price Index rose 1.8% monthly and 17% on a year-over-year basis. The data is for May so it will be interesting to see if the gains continue next month amidst poor home buyer sentiment and the very weak new home data released yesterday.
The table below shows the clear outperformance by sector, style, and factors of large-cap stocks versus mid and small caps.
The graphs below tell the story of the growth/cyclical rotations of the past 7 months. The graph on the left is the ratio of the equal-weighted S&P 500 (RSP) versus the weighted S&P 500 (SPY). When RSP outperforms SPY, the ratio increases and vice versa. RSP has a much higher percentage of cyclical stocks, including- value, energy, financials, and materials. The S&P 500 is heavily weighted with technology and growth-oriented stocks. The graphs on the right compare the correlation of the RSP/SPY ratio to the NASDAQ, S&P, and ten-year UST yields. With Tech and the S&P 500 recently outperforming RSP, the correlations versus the QQQ and SPY are strongly negative. Conversely, the correlation to yields is currently strong, meaning yields are falling as RSP underperforms. Simply, the market is rotating fiercely, and it is important to be on the right side if you want to keep up with the market. Currently, the growth rotation is in vogue.
Yesterday we wrote that 10 year real yields hit a new all-time low. The graphs below show that the price of gold and real yields have been well correlated over the last decade. In particular, the scatter plot on the right, shows a statistically significant correlation with an R squared of .82 between gold and real yields. The red square shows the current instance and the arrows direct your eyes to where a reversion to the mean would bring gold or real yields. Per the graph, either gold is underpriced by about $200 or real yields should increase to about -0.60% from -1.20%.
There are a lot of companies in our equity model reporting earnings today as shown below.
- AAPL – After Close
- GOOG – After Close
- MSFT – After Close
- RTX – Before Open
- SBUX – After Close
- UPS – Before Open
- V – After Close
July 26, 2021
Since its recent lows in March, the NASDAQ has risen over 20%. At the same time, the volume of NASDAQ stocks trading higher each day is deteriorating. The graph below shows the 10 day moving average of up volume and the NASDAQ. This is another bad breadth indicator showing fewer stocks are leading the charge higher.
New Home Sales fell sharply from last month and were below expectations. June sales were down -6.6% versus an estimate of +3.7%. This marks the third straight monthly decline. New home sales are now down 20% year over year, at the lowest levels in a decade. The median price of new homes fell from $380,700 to $361,800. The supply of new homes is back to pre-pandemic levels.
10 year real yields are now trading at an all-time low as shown below in the Bloomberg graph. The real yield is calculated by subtracting the 10 year UST yield from the rate of expected inflation over the next ten years. At a real yield of negative 1.12%, investors will need to see the 10-year UST yield fall by about 15 bps. to approximately 1.10% to earn a 0% real return due to the gain in the price on the bond. This condition, in part, helps explain why investors are willing to pay outlandish valuations for equities despite poor expected returns.
There is a lot of information for the markets to digest this week. For starters, the Fed meets on Tuesday and Wednesday, followed by the updated policy statement and Jerome Powell’s press conference. We suspect there will be few changes to their current policy stance or economic outlook. However, we will not rule out a shift of QE from mortgages to U.S. Treasuries. The other thing to be on the lookout for is any hint at policy changes they might announce at the late August Jackson Hole conference. They have made big some big announcements in previous conferences.
More housing data comes this week with new home sales today, the Case Shiller Home Price Index tomorrow, and pending home sales data on Thursday. Personal income and spending and the monthly PCE price index will be released on Friday along with the Chicago PMI report.
Earnings will be lively this week with many S&P 500 companies reporting as shown below.
July 24, 2021
July 23, 2021
Despite most equity markets, foreign and domestic, rallying over the past few days, emerging markets remain the odd man out. As shown below, the popular emerging markets ETF, EEM, is touching its 200 dma today. The index is down 1.75% at noon today, while the S&P and developed foreign markets (EFA) are up .75%. Many emerging markets are heavily concentrated in commodity production. The second graph below shows similar weakness in the commodity-centric energy and materials sectors as compared to the S&P 500.
Rental prices have been rising as of late, which is leading to concerns that CPI will stay elevated as higher rent prices offset stabilizing and declining prices of goods that already had marked inflation. Rent constitutes about 7% of the CPI Index.
Zillow, in a report published earlier this week, had the following to say about rental prices: “Rent growth maintained widespread momentum in June, with the Zillow Observed Rent Index (ZORI) up 1.8% month over month, pushing typical U.S. rents to $1,799/month in June. A strong recovery in the rental market over the past few months pushed year-over-year rent growth up 7.1% — the largest annual increase in the series’ history reaching back to 2015. Even discounting a weakened market last year, rents have risen 5.1% since March, the fastest quarterly growth in Zillow’s data.”
Yesterday the National Association of Realtors (NAR) released data on home sales and prices for June. Per NAR: “The median existing-home price for all housing types in June was $363,300, up 23.4% from June 2020 ($294,400), as every region recorded price jumps.” The graph below, courtesy Lohman Econometrics, helps break down the sharp rise in house prices and the results are stunning. The more expensive houses rose much more in price than lower-priced houses. While lower prices for starter homes may be good for first-time buyers, which did account for almost a third of June’s home sales, the beneficial wealth effect is clearly going to those with large real estate investments and in many cases above-average levels of wealth.
July 22, 2021
This morning, Lance and Michael discussed the recent PBS Frontline episode, The Power of the Fed, and shared 10 important clips from the video. If you haven’t watched the video, today’s Real Investment Show podcast provides a nice summary of the show and important commentary expanding on thoughts aired by industry leaders and ex-Fed members.
Per Bloomberg: *POWELL HAS BROAD SUPPORT AMONG TOP BIDEN AIDES FOR NEW FED TERM.
His term expires early next year. A continuation of his term will likely be perceived as market-friendly as investors have green accustomed to his easy money policies and might fret about a potential change in policy if someone else were to take the position.
Economic data was a little weaker than expected this morning. The Chicago Fed National Activity Index which measures 85 economic data points fell to 0.09 from 0.29. A zero value denotes the economy is growing at its historical growth trend. Their inflation measure now points to subdued inflation after rising above their threshold for “sustained increasing inflation” last month. This data set has been volatile for the last 6 months, so take today’s release with a grain of salt.
Jobless Claims which had been trending lower popped up to 419k from 360k last week. Non-seasonally adjusted Claims have now risen for 3 weeks in a row.
Why The World is Short of Computer Chips, and Why it Matters– Bloomberg
Bloomberg’s article linked above does an excellent job explaining why there are shortages of so many products that rely on semiconductors, aka chips. The article discusses the factors behind the shortage, who is most affected, and importantly from an investment view, a long discussion of chip manufacturers, the industry, and what the future holds for chip production. The graph below, from the article, shows time from ordering a chip to delivery is about 50% longer than it was before the pandemic.
Per Bloomberg: of the Q2 earnings reported thus far, 85% have beat expectations as compared to the average of 71%. It is important to note that only 10% of S&P 500 companies have reported of which many are banks. Banks had a profit boost last quarter as many banks lowered their loss reserves. 87% of the companies which reported earnings mentioned “inflation” in their earnings commentary.
July 21, 2021
Per Ned Davis Research, individual investors own more stock as a percentage of their assets than at any other time in the last 70 years. We remind you of one of Bob Farrell’s 10 investment rules: “The public buys the most at the top and the least at the bottom.”
The price to sales ratio (P/S) of the S&P 500 is now double that of global equity markets. It’s important to note a couple of things. First, the composition of the S&P 500 is more tech-laden than global equity indexes. Given the higher growth rates of tech companies, investors are often willing to pay higher valuations for the S&P 500. That said, the S&P P/S ratio has well surpassed the all-time highs of the late 1990s while the global index is sitting at its highs. The takeaway: The ratio of the P/S ratio for the U.S. versus the world appears extended even considering compositional differences.
For more context of U.S. valuations versus the rest of the world, we present a comparison of CAPE (10) ratios by country/region.
Yesterday we showed how the price of crude oil was sitting on important support and being closely followed by the bond markets because of the strong correlation between crude oil and CPI. The two graphs below help further highlight the important correlation. The first scatter plot shows the relatively strong relationship between the year-over-year change in CPI and Crude oil. The second chart shows the annual changes but in a different format. Important in the second chart, the year-over-year price in crude has fallen sharply recently. Will CPI follow? If the price of crude oil stays around $75, the red line should flatten out near current levels until November at which point it will fall.
July 20, 2021
The graph below shows the decent correlation between rising inflation expectations and the S&P 500. Both measures of inflation expectations have stopped increasing and are gradually declining. It appears the equity markets might just be noticing.
As shown below, the price of crude oil fell to critical support yesterday. At this point, its risk and reward are fairly even. If it bounces from the recent support line and the longer support line from May 2020, it may go test $75, the prior high. A break of the two support lines may result in a test of the 200 dma at $56. The bond market is likely paying close attention to crude prices as it has a high correlation with CPI.
Gamma Band Update is published. We apologize for the delay.
The graph below, courtesy of the Daily Shot, shows housing inventory is finally rebounding and back to levels last seen in 2019. The combination of higher prices and more inventory should quell further large increases in house prices. Will it be enough to push them lower?
The chart below, courtesy Lohman Econometrics, shows margin debt has only been more than 2 standard deviations above its trend two other times since 1997, before the current instance. As shown, the reversal back to and below trend in those two instances was accompanied by a 50%+ decline in the S&P 500.
The graph below, courtesy of Brett Freeze, shows the correlation between real earnings yield and future returns. The earnings yield is the opposite of P/E, or earnings divided by price. Real earnings yield subtracts the current inflation rate from the yield. As he shows, at current real earnings yields, we should expect a one-year forward return of close to -20%. The R-squared is strong at .50, but there is significant variance around the trend line.
July 19, 2021
The graph below shows Bitcoin (BTC) is sitting on key support at 30,000. BTC has been a good barometer of the risk trade in equities, so the support line may be of importance for not just crypto investors.
Today’s equity sell-off and big decline in bond yields are being blamed on OPEC for increasing supply and the spreading of the Delta Variant. In regards to oil, lower oil prices are beneficial for bonds as it lowers the inflation rate. Lower yields and oil prices are also good for the economy, which should help stocks. Of note, the major airlines are down between three and five percent thus far today, despite being a beneficiary of lower oil prices. The decline is likely growing concern over new restrictions due to the Delta variant. The good news is that, thus far, hospitalizations and fatalities are not following the number of new cases related to the variant.
Crude oil is trading nearly 3% lower and below $70/barrel this morning as OPEC agreed to boost supply by 400k barrels a day each month starting August. The monthly increases will continue until the output is back to pre-pandemic levels. Equally important for OPEC, Per Bloomberg: “It also puts an end to a diplomatic spat that unnerved traders, as the fight between the two long-time allies (Saudi Arabia and UAE) risked unraveling the broader accord between the Organization of Petroleum Exporting Countries and its allies that has underpinned the recovery in crude prices.”
Housing data takes center stage this week. Today, the NAHB Housing Market Index will be released, followed by housing starts and permits on Tuesday, and existing home sales on Thursday. New home sales will come next Monday.
There will be a limited number of Fed speakers this week as they enter their blackout period before next week’s FOMC meeting.
There are a slew of earnings reports this week as shown below.
The following article by Lacy Hunt at Hoisington (LINK) is a little heady but well worth a read. The simple takeaway is fiscal stimulus will help boost aggregate demand and GDP today but reduces it below where it would have been tomorrow. From his summary- “More debt does not cure a subpar economy mired in a debt trap.”
Last week we discussed the prominent role used car prices played in the CPI report. We follow up with the graph below courtesy of BofA which helps explain the supply/demand mismatch driving new car prices higher. With so few new cars being produced there are fewer trade-ins which, in turn, reduces the availability of used cars.
July 16, 2021
The University of Michigan consumer confidence survey declined from last month. The index fell to 80.8 from 85.5. It appears inflation is playing a role in eroding confidence. Inflation expectations rose sharply from 4.2% to 4.8%. Partially as a consequence, consumers expect their real (inflation-adjusted) income to fall 3.2%. The graph below also shows that many of those surveyed think now is the worst time in recent history, by a long shot, to buy a house.
Retail Sales were better than expectations at +.6% versus expectations of a .4% decline. Last month’s data was revised lower by .4% to -1.7%. Not surprisingly food services/drinking and gasoline stations accounted for almost 80% of the gain. Given the shortage of new and used cars, motor vehicles and parts reduced .4% from the number. The control group, which feeds GDP, rose 1.1% but May was revised lower by .7%.
Per Zero Hedge and Bank America, Today’s strong report may be fleeting in July. Per their report- “According to BAC aggregated debit and credit card spending data, after a strong June, consumers hit the brakes, and total card spending slowed to only up 13% over a 2-year period or 12% over a 1-year for the 7-days ending July 10th. This will mark the slowest 1-year increase since the covid crisis began.”
The Bank of England (BOE) is under pressure by Parliament to explain QE and justify its risks. Per the report: “The Economic Affairs Committee publishes its report ‘Quantitative easing: a dangerous addiction?’, which urges the Bank of England to explain in more detail why it believes rising inflation will be a short-term phenomenon, and why continuing with its quantitative easing programme until the end of 2021 is the right course of action.”
The Fed is also seeing some backlash against QE and the resulting financial bubbles. This pressure however is from the media, not the government. Frontline recently published a damming episode, called An Epic Mistake? on the Fed and QE. Of particular note, they interview Peter Fisher who was the NY Fed President for over a decade. Mr. Fisher has some choice words to say about financial instability and the risks the Fed is taking in their pandemic-related massive QE efforts.
Peter Fisher has been a lone voice of reason since leaving the Fed in 2001. Two years we wrote, The Wisdom of Peter Fisher, which discusses his concerns about QE. It’s worth giving it a quick read before watching the Frontline Video.
The graph below charts market expectations for the Fed Funds rate going out to March of 2023. The orange line shows the market currently expects about 30bps in Fed tightening between now and then. Said differently, they expect a 100% of one 25bps rate hike and a 20% chance of two by March 2023. The graph also shows that current levels are near the highs for each monthly contract. The blue line extends the current effective Fed Funds rate out until March 2023.
July 15, 2021
Lumber is down 7% this morning and, after the big surge in price earlier this year, has now corrected back into the pre-pandemic range.
One more tidbit on inflation. The graph below shows the difference between CPI and PPI. PPI, which measures commodity prices and other manufacturing inputs tends to rise before CPI in an inflationary environment. CPI follows PPI as manufacturers and retailers try to push input price increases on to consumers. That is exactly what happened over the last year. At one point CPI was 6% higher than PPI on a year-over-year basis. Currently, CPI is 4% less than PPI. CPI will catch back up to PPI as is typical. If prices can be pushed to consumers without losing too much demand, PPI will drive CPI. If consumers are unwilling to pay higher prices, corporate margins suffer, which usually leads to less demand for input goods and ultimately lower prices.
Used car prices only represent about 3% of the CPI Index but contributed to about a third of its recent increase. As such, used car prices have become an important factor to watch for gauging inflation. The Manheim Used Vehicle Value Index below shows the sharp increase in prices since the pandemic. The only positive takeaway from the latest data from Manheim is it shows that price increases may be abating. June prices show a monthly decline of 1.3% from the prior month. That said, the index is still up 34.3% from a year ago.
Movie theaters are being left behind in the economic recovery. This year’s big blockbuster, Black Widow, just pulled in $80 million in revenue in its best weekend. In 2019, Avengers: Endgame had the biggest grossing weekend at over four times the revenue- $357 million. The graph below shows that ticket sales are running grossly behind levels from before the pandemic. The data for 2021 is through June so you can essentially double the $2.5 billion in box office sales to $5 billion and compare it to the nearly $12.5 billion in sales pre-pandemic.
July 14, 2021
Stocks, bonds, and gold are off to the races this morning as Powell’s prepared remarks before his testimony later today was released. He essentially quelled concerns that taper might be coming soon. He continues to base that judgment on the slow improvement in the labor markets.
“While reaching the standard of “substantial further progress” is still a ways off, participants expect that progress will continue. We will continue these discussions in coming meetings. As we have said, we will provide advance notice before announcing any decision to make changes to our purchases.”
Like CPI yesterday, year over year Producer Prices (PPI) came in about .5% above expectations. PPI rose 7.3% and core PPI rose 5.6%. Monthly PPI rose 1% versus 0.8% last month and expectations of +.6%.
The following chart, courtesy of Macrobond, shows if you strip out food, energy, and goods that have been directly affected by the economic reopening, inflation is relatively tame. Over the coming months, we will closely track the individual components of inflation to best assess its future path. In this realm, watching sticky prices versus flexible prices will be important. Sticky prices are those that tend to trend, like housing. Inflation in sticky sectors is more likely to be permanent. Flexible prices tend to oscillate over time. These include energy and used cars for example.
Fed Chair Jerome Powell is scheduled to present testimony on monetary policy and the economy to Congress today and tomorrow. We suspect he will continue to walk the fine line between talking about tapering and wanting to wait for an improvement in the labor markets before tapering. It is increasingly likely that senators and representatives will grill him on yesterday’s inflation data and the widening wealth inequality gap. As we wrote in Two Pins Threatening Asset Bubbles, such pressure could force the Fed to taper sooner than they would like.
To wit: If the prices of food, shelter, and other necessities continue to surge higher without equivalent wage growth, wealth inequality will worsen. This problem represents a coming dilemma for the Fed.
When the media and politicians take notice, they will pressure the Fed on their inflation stance.
U.S. bond yields have been declining as the market buys into the Fed’s view of transitory inflation and declining economic growth. Bloomberg recently wrote an article providing more evidence for such an outlook. In China’s Slowing V-Shaped Economic Recovery Sends Global Warning, the author warns China’s economy may be providing the recovery road map for the global post-pandemic economic recovery. They were the first to experience COVID and the first to recover from it. We noted a few weeks ago the sharp slowdown in credit creation as a signal of decelerating growth in China. The outlook was emphasized last Friday when their central bank cut the reserve ratio requirement for banks, essentially making lending easier. In regards to inflation that we import from China, the article quoted the following: “China’s growth slowdown should mean near-term disinflation pressures globally, particularly on demand for industrial metals and capital goods,” said Wei Yao, chief economist for the Asia Pacific at Societe Generale SA.
China has long been the marginal driver of global economic growth as they are the second-largest economy and, prior to the pandemic, growing at twice the rate of almost all developed nations’ economies.
July 13, 2021
The initial market reaction to the strong CPI print was a decent rally in bond prices (lower yields). Some may wonder why yields are falling if inflation was much stronger than expected. The answer likely lies in the reasons CPI rose. The table below shows the contributions by sector to the monthly and annual CPI Index. Energy and Transportation prices were both up sharply. In aggregate they contribute 63% and 80% to the monthly and annual number respectively. Both are considered to have flexible pricing meaning they can fall in price as easily as they rise. As a result, bond investors seem to remain comfortable with the idea that the recent inflationary surge will be transitory. The Fed will also likely use this reasoning to brush off today’s data.
As shown below, CPI came in .4% higher than expectations on a monthly and year over year basis. Troubling for the markets will be that the monthly rate of inflation accelerated after having declined last month. Markets tend to focus more on the rate of change as it provides guidance about future trends. That said, the monthly rate of inflation on an annualized basis is nearly 11% and that will no doubt make headlines.
Per the BLS– “The index for used cars and trucks continued to rise sharply, increasing 10.5 percent in June. This increase accounted for more than one-third of the seasonally adjusted all items increase.”
The good news is that used car prices are not likely permanent as they are the result of severe shortages and strong demand which are both temporary. The bad news is that housing prices (OER) continue to tick up. These prices are considered more “sticky” and constitute a much larger proportion of the CPI number.
One of the recent market themes we have been discussing is the growing divergences between certain sectors and markets. Last week, for instance, we wrote: “The generals are leading the way higher but the troops are not necessarily following.” The graph below, courtesy Lohman Econometrics, shows that 1-year rolling correlations between many indexes have broken down to levels, that in eight of the nine cases haven’t been witnessed in 20 years. These graphs and other related data do not mean the market will crash but they do represent a change in market dynamics that bears close watching and caution.
July 12, 2021
Per Bloomberg: “The U.S. central bank’s purchases of Treasury and mortgage-backed securities are both contributing to lower housing costs, New York Fed President John Williams says”
The unfortunate reality, as shown below, is that housing is now more unaffordable than any time in at least the last 20 years.
Top 10-Buys and Sells From TPA Research
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Massive intervention by the Fed and other central banks is significantly reducing investors’ perceptions of risk. For example, many equity valuations sit at or near levels recorded in 1999 and 1929, despite economic growth rates that are declining and lower than those periods. The graph below highlights another manifestation of risk complacency. It shows the standard deviations of UST yield spreads for each credit rating of corporate bonds. As shown, the deviation escalates as the bonds’ riskiness increases. Junk-rated bonds, especially the worst in class (CCC or lower) are now over four standard deviations from their average. Investors in these bonds only require an additional 5.81% of yield versus UST notes. The average is nearly 12% since 1997.
Our first glimpse of inflation data for June comes Tuesday with CPI. The current expectation is for a decline in the monthly growth rate from +0.7% to +0.4%. On a year-over-year basis, a slight decline from 5% to 4.9% is expected. PPI will be released on Wednesday and a slight decline from May is also expected. We are more concerned with the rate of change of inflation than the rate itself. If the monthly rate declines for the second month in a row it provides some level of confidence that inflation might be peaking. Given the highly unusual supply line shortages and insatiable demand for some goods, we must understand that forecasting inflation will continue to be extremely difficult and likely humbling.
On Friday, we will learn more about the health of the consumer with Retail Sales. Economists expect it to fall -.5%, following last months -1.3% decline. We will also keep an eye on various surveys throughout the week to see if they continue to rise to record or near-record levels or begin to stabilize.
Earnings will start this week with the following key releases shown below. Of note will be the large banks with JPM and GS on Tuesday, followed by BAC and WFC on Wednesday.
July 10, 2021
Victor Adair’s Trading Desk Notes – For July 10, 2021
July 9, 2021
The graph below helps to further highlight the underlying weakness in the markets. It shows the S&P 500 continuing to set record highs on a seemingly daily basis, yet the percentage of S&P stocks above their 50 dma continues to decline. Currently, half the stocks in the index are below their 50 dma! We also noticed that only 33% of stocks are one standard deviation or more above their 200 dma and that percentage has been steadily falling. For reference, it stood at 55% at the start of June and 70% in January and February.
The most recent data on inventories shows that some of the shortage problems may be lessening. Wholesale inventories rose 1.3% last month, slightly more than expectations of 1.1%. At the same time, wholesale sales only rose 0.8%, meaning the inventory to sales ratio at the wholesale level upticked. The ratio for retailers will be released next week. As shown below, it has been in a free fall since the early days of the Pandemic. If the ratio starts to stabilize or turn higher, inflationary pressures should alleviate on the margin.
A special Friday edition of Three Minutes on Markets & Money – Yields Send Economic Warning
The latest Consumer Credit data, released yesterday afternoon, shows consumer credit rose by $35.3 billion in May, almost double expectations. Non-revolving credit (auto and school loans) increased by $26.1 bn, the most on record. Revolving credit, mainly credit cards, rose $9.2 bn after falling last month. With the unexpected increase, consumer credit is running about 2% above January 2020 levels. The growth rate prior to the pandemic was in the 4-5% range.
The graph below, courtesy of Brett Freeze, shows how the returns between the S&P 500 and 16 year-zero coupon treasuries tend to oscillate over time. In March, the year-over-year outperformance of equities over Treasuries hit an extreme. Based on the previous two times this occurred, we should expect Treasuries to outperform the S&P 500 over the coming months.
July 8, 2021
The New York Fed announced they will start selling their holdings of corporate bonds on July 12th. While the amount they own is minimal, it does represent a normalization of monetary policy. This announcement was widely expected and should have minimal impact on the corporate bond market.
The minutes from the last Fed meeting were released yesterday afternoon. Bottom line: the Fed has begun discussions about reducing QE purchases and the likelihood of tapering mortgage purchases is likely sooner rather than later. We suspect such an announcement regarding mortgage purchases could come at the late July meeting or at their annual Jackson Hole retreat in late August.
- “Several participants highlighted, however, that low-interest rates were contributing to elevated house prices and that valuation pressures in housing markets might pose financial stability risks.”
- “Various participants mentioned that they expected the conditions for beginning to reduce the pace of asset purchases to be met somewhat earlier than they had anticipated at previous meetings in light of in-coming data.”
- “Several participants saw benefits to reducing the pace of these purchases more quickly or earlier than Treasury purchases in light of valuation pressures in housing markets.”
Owners Equivalent Rent constitutes nearly one-third of the CPI Index. As such, trends in rent prices are important to factor into inflation forecasts. Rents fell during COVID but have been recovering with the economy. The following paragraph and graph are from an in-depth report from Apartment List.
- “Our national index increased by 2.3 percent in June, continuing the trend of rapid price growth since the start of the year. So far in 2021, rental prices have grown a staggering 9.2 percent. To put that in context, in previous years growth from January to June is usually just 2 to 3 percent. After this month’s spike, rents have been pushed well above our expectations of where they would have been had the pandemic not disrupted the market.”
While rental prices are recovering nicely we must put the gains into context. Rents are still below 2019 levels in many major cities. The ten cities hardest hit by the pandemic are shown below. That said there are many smaller cities seeing double-digit annual increases in rent. Boise and Spokane lead the way at +39% and +31% respectively.
July 7, 2021
Wolf Richter of Wolf Street shines a light on evidence the housing market is weakening quickly.
The evidence has been piling up for months in bits and pieces: While investors still have the hots for this housing market, potential buyers that need a mortgage and those who want to live in the home they’re thinking of buying are getting second thoughts, as evidenced by sharply dropping sales of existing homes and new houses even as inventories for sale have now risen for the third month in a row and new listings are coming out of the woodwork.
So here’s the latest piece of evidence: Demand from buyers who need a mortgage to fund the purchase of a home has been declining for months and in the week ended July 2 fell further and is now down 14% from the same week in 2020 and down 8% from the same week in 2019, according to the Mortgage Bankers Association this morning. Mortgage applications are now at the low end of the range in 2019. The entire Pandemic boom has now been worked off, plus some.
Per the BLS JOLTs report, the number of job openings declined slightly versus last month but remains near a record high at 9.2mm. New hires were also similar to last month at 5.9mm. Basically, the labor market remains tight despite the high unemployment rate. The quit rate fell but remains at 20 year+ highs at 2.5%. Typically employees that quit do so because they have confidence in finding another job and often one that is higher paying. Given the perceived leverage of those that quit over employers, there has been a strong correlation between wage growth and the quit rate. As shown below, the correlation broke down in 2017 and has been irrelevant during the pandemic. If the correlation normalizes we should expect an uptick in wages.
A WSJ article entitled Supermarkets are Stockpiling Inventory as Food Costs Rise discusses how grocery stores are stockpiling food inventories in anticipation of price increases. This is not the type of action grocers would take if they thought recent price inflation was transitory. “When you have a uniquely inflationary period like now, it’s a feeding frenzy,” said Tony Sarsam, chief executive officer of SpartanNash Co. The Grand Rapids, Mich.-based retailer and distributor is stockpiling about 20% to 25% more groceries such as frozen meat and boxed foods after more than 100 suppliers notified SpartanNash that they would raise prices, he said.
As grocers stockpile inventory, their actions fuel more inflation as demand further exceeds supply and supply line-related delivery problems. Such actions, especially if carried out by consumers and a large number of retailers, can create a repeatable cycle of higher prices.
The graph below, courtesy of the Cleveland Fed, suggests the surge in headline/core inflation is concentrated in a limited number of items. Per the Fed: PCE inflation jumped to 3.9% in May. But median PCE inflation, which excludes outlier components and focuses on the middle of the distribution, was steady at 2% for the third month in a row.
The data may provide some level of confidence for the Fed that the recent bump in inflation is transitory.
July 6, 2021
The Nasdaq Composite closed at a 52-week high today, something it’s done 1,080 times since 1984. On those days, an average of 50% of stocks on the Nasdaq advanced on the day. Today, 31% of stocks on the exchange advanced. That’s the lowest out of all those 1,080 days.
The Citi Economic Surprise Index, measuring economists’ expectations versus actual data, has been positive for 274 of the past 275 trading days. It currently sits slightly above zero and is trending lower. It appears economists’ predictions have finally caught up with reality. Markets now run the risk that economic data going forward will fall short of expectations. However, if investors perceive bad news as good news, as it keeps the Fed from tapering, then a run of negative readings may be a good thing and the risk of weak data minimal. Such is the distorted environment we must invest in.
The graph below shows the market’s breadth is diverging from prices. The orange line (S&P 500) has been steadily climbing despite the number of NYSE stocks sitting above their respective 50 dma’s falling. Looking back over the last four years you can see a similar divergence occurred in 2018. The S&P ultimately fell by about 20% as the Fed was reducing its balance sheet at the time. QE Taper is on the horizon, might that ultimately determine how this divergence ends?
Economic data will be relatively light during this holiday-shortened week. Of importance will be the FOMC minutes from the last meeting. We will be interested to see how much discussion there was around the timing of tapering. ISM non-manufacturing PMI is due out tomorrow. Expectations are for a slight decline, but the prices component should rise to a very high reading of 81. The BLS will release JOLTS job openings on Wednesday.
Over the weekend a few subscribers asked us to explain the Feds reverse repo program that is approaching $1 trillion daily and could rise to $2 trillion over the coming months. In particular, they want to understand how it is different from the repo program the Fed initiated in the fall of 2019 that lead to interest rate cuts and QE of T-bills. Our answer can be found at the 27:40 minute mark of last Thursday’s daily podcast- The Real Investment Show.
The daily shows can be watched via our Real Investment Advice website or our YouTube channel.
July 3, 2021
Victor Adair’s Trading Desk Notes For July 3, 2021
July 2, 2021
Despite the strong performance by the indexes today, the underlying breadth of the market remains poor. As shown below, 5 of the 11 sectors posted meager to negative returns, and only two sectors, Tech and Communication, beat the S&P. The generals are leading the way higher but the troops are not necessarily following.
Sharply rising prices at the pump are helping further stoke inflationary concerns among individuals. As shown, the price of gasoline futures are now at levels last seen in 2014.
As shown below, the headline number from the BLS jobs report was strong at 850k net new jobs added in June. However, the unemployment rate rose from 5.8% to 5.9% and the labor participation rate fell by a tenth of a percent to 61.6%. Also of concern, hourly wages and the average workweek were slightly lower than expectations. Earnings are tricky to make sense of as an increase does not necessarily denote increased wages. The mix of jobs is equally important and hard to gauge. For instance, many service jobs are low-paying and reduce earnings. This past month 343k jobs were added in the leisure and hospitality sectors and teachers accounted for 269k of the new jobs.
As we have noted recently, we expect the Fed will begin to taper purchases of mortgages, possibly as soon as the late July FOMC meeting. With mortgage rates just above all-time record lows of earlier this year and house prices rising at a double-digit pace, it’s hard for the Fed to deny some culpability in spurring a housing bubble. The graph below, courtesy of Jim Bianco, shows the Fed now owns about a third of all mortgages used in Barclay’s MBS index.
Markets will be closed on Monday, July 5th for Independence Day.
The series of graphs below show that almost half of the investors surveyed in the poll are taking on leverage to invest. Generation Z leads the pack with nearly 80% of respondents saying they are taking on debt to invest. Not surprisingly only 9% of the more conservative Baby Boomers are leveraging their assets. The second and third graphs show the types of loans and types of investments favored by personal investors. While the data is telling about the state of speculation in today’s market, we would like to see it compared to years past to put it into proper context.
July 1, 2021
The PMI Survey on manufacturing conditions, which has been rising sharply, is showing signs of peaking. The index came in at 62.1 versus expectations of 62.6 and the prior month’s reading of 62.1. However, input prices continue to rise and sit at a new record high. Per the increased price pressures Chris Williamson, Chief Economist for IHS Markit (survey producer) commented: “Supplier delivery times lengthened to the greatest extent yet recorded as suppliers struggled to keep pace with demand and transport delays hindered the availability of inputs. Factories were increasingly prepared, or forced, to pay more to secure sufficient supplies of key raw materials, resulting in the largest jump in costs yet recorded.
“Strong customer demand in turn meant producers were often able to pass these higher costs on to customers, pushing prices charged for goods up at a rate unbeaten in at least 14 years.”
China’s PMI continues to slowly weaken and their prices index is down from 59.8 in March to 51.4 in June. China is the driver of marginal global economic growth so their pronounced relative weakness versus the United States bears watching. Eurozone and UK PMI’s inched higher and are at similarly high levels as the U.S.
With the first 6 months of the year in the rearview mirror, it’s worth looking at how markets finished the year after a strong first half. The table below, from LPL, shows that in the 16 previous times since 1950 the S&P was up more than 12.5% in the first 6 months, the next 6 months were positive 12 times, with an average return of 7.1%. The S&P is up over 14% already this year so the statistics books tell us that +20% is a reasonable expectation.
One of the key factors driving inflation higher is supply line problems. The graphs below from Goldman Sachs show that supplier delivery times are now over 4 standard deviations above their norm of the last 20 years. Maybe more concerning, businesses expect the problem to abate somewhat in 6 months but they still expect the largest supplier delays in 20 years.
The graph below highlights the difficulty in trading modern equity markets. As shown, if you bought the S&P 500 at the market open and sold the close since 1993 you would have not made a dime other than dividends. Conversely, if you bought the market at the close and sold at the open you would have captured all of the market gains of the last 28 years.
June 30, 2021
The ADP jobs report came in nearly 100k jobs stronger than expected at 692k net jobs added in June but off the 978k pace from last month. Not surprisingly, leisure and hospitality jobs account for nearly half of the gain as shown below.
The full report can be read HERE.
Liz Ann Sonders from Charles Schwab posted the commentary below on Twitter which rebukes the commonly held thought that enhanced unemployment benefits are keeping people from finding jobs.
- Job postings on @indeed in states that have ended enhanced unemployment benefits early have been climbing right in line with openings throughout the country, supporting @CapEconomics view that added insurance isn’t that strong a factor in holding back employment.
When extended benefits end nationwide over the next few months, we will better understand why job openings are at a record at the same time the unemployment rate is elevated from pre-pandemic levels.
In the aftermath of the last FOMC meeting and numerous Fed speeches, it is clear that unemployment is the main factor holding the Fed back from tapering QE and raising rates. As such, today’s ADP report and Friday’s BLS labor report will be important in regards to estimating the timing of Fed actions. ADP is expected to show a gain of 533k jobs, a historically strong pace but well off last month’s 978k. Friday’s BLS report is expected to show a pick-up of 675k jobs, compared to 559k last month. Equally important will be the participation rate, unemployment rate, and wages and hours in Friday’s report.
The graph below, courtesy of the Brookings Institution, shows the massive amount of fiscal stimulus of the last year is waning. Going forward, the sharp decline in spending will detract from GDP growth. This graph does not obviously take into account unknown future stimulus spending bills.
June 29, 2021
The chart below highlights an important issue for markets and one hotly debated by market prognosticators. Does the amount (stock) of monetary stimulus or the change (flow) in the amount of stimulus matter more? The graph below, on the left, from JP Morgan, shows the size of the major central bank balance sheets has doubled since the pandemic started. At the same time, the 12-month change in balances just peaked at over $8 trillion and is heading sharply lower. We believe the flow or annual change of the stimulus matters more. Accordingly, we think caution is warranted as the correlation between QE and asset prices is strong as shown in the second graph.
Home prices remain red hot. The Case Shiller 20 City home price index rose 1.6% on a monthly basis and 14.9% annually. The FHFA (regulator of Fannie Mae and Freddie Mac) home price index confirmed Case Shiller by rising 15.7% annually.
Also of note on the economic front, consumer confidence was much better than expected at 127.3 versus 117.2 last month. It now stands only about 5 points below pre-pandemic levels. While market expectations for inflation have leveled out in recent months around 2.5%, consumer expectations, via the confidence survey, just hit a 10 year high at close to 7%. Keep in mind consumers tend to believe there is more inflation than reported by the government, ergo they have higher expectations for inflation than the market. The lowest levels of the last ten years occurred between 2016-2019 where they ranged between 4.5% and 5%.
The graph on the left shows the shape of the crude oil futures curve. Specifically, the black line is the price difference between the front-month contract and the forward contract settling a year in the future. As shown by comparing the curve to the price of crude oil (right graph), when the curve peaks (oil futures are in backwardation), oil prices tend to peak.
June 28, 2021
The graph below updates inflation expectations. As shown, both 5yr and 10yr expectations have stabilized for the last three months after rising sharply for almost a year. The other takeaway is the difference between 5yr and 10yr expectations. Typically 5yr expectations are lower than 10yr. Since late 2020 they have been higher. This can be interpreted as the market believing the Fed in that inflation will run “hot” but will be transitory. The difference between them is shown in gray. Recently it has been slightly declining, furthering the transitory view.
As shown below, B and CCC-rated junk bonds are now trading at 20+ year record low yields. As a spread versus U.S. Treasuries, both sets of bonds are close to levels seen in 1999 and 2007. With little upside and significant downside, we urge caution in the junk bond sector. Simply, the additional yield offered by junk bonds versus safer bonds is not worth the additional risk.
Top 10-Buys and Sells From TPA Research
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The S&P 500 is showing signs of weakness lately as it grinds higher at a seemingly slowing pace. This chart from Bloomberg points out the narrow breadth seen as the index made a record high last week. Only 46% of index members were trading above their 50-dma when the market closed on Thursday.
The following chart from SentimenTrader provides ominous historical context to the situation. The last time we saw the market making new highs with a similar lack of breadth was in 1999. Moreover, most other instances prior to 1999 preceded significant corrections or bear markets. This is not to say a large correction is imminent, rather keep an eye on signs of market weakness as the effects of fiscal stimulus fade.
The economic calendar will be busy this week. The Case-Shiller Home Price Index and Consumer Confidence Index will be released tomorrow, followed by the ADP Employment Report on Wednesday and the ISM Manufacturing Index on Thursday. Perhaps most important, Nonfarm Payrolls will be released Friday. Considering recent inflation prints, unemployment continues to grow in importance with regard to the Fed’s decision to taper asset purchases.
After last week’s barrage of Fed speakers, this week will be relatively light. We will hear from NY Fed President John Williams today.
June 26, 2021
Victor Adair’s Trading Desk Notes – June 26th
June 25, 2021
Boston Fed President Eric Rosengren voiced some concerns regarding financial stability today. He commented that we should to consider some of the side effects of a “low for long” interest rate plan, and that the Fed needs to have a less ad hoc approach to crises. He continued by stating that monetary policy may not be as accommodative for as long if financial stability risks are not addressed. Regarding inflation, he largely stuck to the script reiterated many times this week by Fed members.
Rosengren also discussed a need to monitor the speed of increases in housing prices, noting that in several markets, prices are now higher than they were prior to the financial crisis. He suggested that the Federal Reserve consider tapering treasury and MBS purchases by the same amount when the time comes. Tapering of MBS purchases has become a hot topic with Fed officials lately, signaling this could be the first area of action when the time comes.
The University of Michigan’s Consumer Sentiment Index was 85.5 for the month of June, which measures below the estimate of 86.5. The index fell from the preliminary reading of 86.4 earlier this month, however, it represents an improvement from May’s value of 82.9.
Personal Income fell -2% in May versus expectations of -2.6%, while Personal Consumption Expenditures were unchanged on a monthly basis, missing the consensus of +0.6%. On a YoY basis, the PCE Price Index matched expectations of +3.9%. This represents a slight increase over the +3.6% seen in April.
The Core PCE Price Index, the Fed’s preferred measure of inflation, rose +0.5% on a monthly basis and +3.4% YoY in May. Both timeframes came in below expectations and compare to April’s readings of +0.7% MoM and +3.1% YoY. The Federal Reserve will likely stick to its story of transitory inflation caused by a strong reopening and supply chain pressures which will moderate going forward.
Lumber futures continue to retreat this morning as home builders wait out high input costs, buyers are increasingly priced out of the market, and saw mills begin catching up with demand.
The following chart from Julien Bittel shows that since 1990, every time the 30-Year T-Bond yield rose more than 1% over a 12-month period, it declined over the subsequent 12 months. The YoY change in yield reached 1.3% on March 8, 2021, and the rate has fallen over 21 basis points since. Thus, the data suggests we may have seen a local peak in long-term yields.
June 24, 2021
The bipartisan infrastructure agreement includes $579B of proposed new spending. According to President Biden, funding sources will not include a gas tax increase or fees for electric vehicles. The President also said he expects a vote on the bill before the fiscal-year ends.
President Biden’s Latest Tweet:
“We’ve struck a deal. A group of senators – five Democrats and five Republicans – has come together and forged an infrastructure agreement that will create millions of American jobs.”
Weekly jobless claims came in higher than expected this morning, at 411K versus a consensus estimate of 380K. Initial claims fell by 7K, a slight improvement over last week’s data but still higher than the print two weeks ago. As we alluded to last week, the employment situation going forward will be an important factor in the timing of the Fed’s decision to begin tapering asset purchases.
A bipartisan group of Senators will meet with President Biden today at 11:45 AM EST to discuss plans for an infrastructure proposal totaling nearly $1 trillion. According to Senator Jon Tester, the group has reached a general framework for the deal but there are still some components that need to be fleshed out.
Yesterday Treasury Secretary Janet Yellen urged Congress to increase the government’s debt limit to avoid potential default on Treasury debt this year. The Wall Street Journal noted:
“Without congressional action to suspend or raise the limit after July 31, the government could begin to miss payments on its obligations, triggering a default on government debt, which Ms. Yellen called unthinkable.
‘Failing to increase the debt limit would have absolutely catastrophic economic consequences,’ she said, noting that the U.S. has never defaulted on its legal obligations. ‘I believe it would precipitate a financial crisis. It would threaten the jobs and savings of Americans at a time when we’re still recovering from the Covid pandemic.’”
It is highly unlikely that Congress would allow this to happen, but as Yellen stated, “We can’t tolerate any chance of defaulting on the government’s debt.”
The chart below compares the shape of the 2yr-30yr UST yield curve (orange) to the ratio of the S&P 500 Growth to Value indexes. As shown, the correlation has been strong since the start of the year. Growth has outperformed recently as the yield flattened. This chart falls in line with a lot of other trends which help define the inflation-deflation trade.
June 23, 2021
Following the hawkish stance from Bostic, the Fed’s Kaplan made some comments that inspired modest selling into the close.
“The U.S. economy will likely meet the Federal Reserve’s threshold for tapering its asset purchases sooner than people think, said Dallas Fed President Robert Kaplan, who has penciled in an interest-rate increase next year.
‘As we make substantial further progress, which I think will happen sooner than people expect — sooner rather than later — and we’re weathering the pandemic, I think we’d be far better off, from a risk-management point of view, beginning to adjust these purchases of Treasuries and mortgage-backed securities,’ Kaplan said Wednesday in an interview with Bloomberg News.”
Like Bostic, Kaplan said he expects an initial rate hike in 2022.
The Atlanta Fed President, Raphael Bostic, said today he now expects a rate hike in late 2022 with two additional rate hikes in 2023. He also expressed his belief that the economy is close to fulfilling the “substantial further progress” needed to begin tapering bond purchases and commented that a tapering decision could be made in 3-4 months. The S&P 500 briefly dipped into negative territory following his comments but returned to positive territory shortly thereafter.
Following yesterday’s stronger than expected Existing Home Sales report, New Home Sales fell 5.9% to 769K in May, missing expectations by a wide margin. The median sales price rose to a record high $374,400 (+18.1% YoY) as supply side constraints contributed to rising prices.
The median sales price of existing homes in the US rose to $350,300 last month, up 23.6% year over year. This chart from Bloomberg highlights the clear link between declining inventory and surging home prices. Meanwhile, the Federal Reserve continues its purchases of $40B per month in MBS despite fueling a supply-demand imbalance that is driving home prices out of reach for many first-time home buyers.
The graph below shows the absurdity of how low junk bond yields have gotten. Assuming no defaults, which is historically impossible, the Barclays junk bond index will return a yield slightly below the rate of inflation. Typically the real, post-inflation, yield is north of 4% to provide a cushion against defaults. Just to hit home with the stunning graph, in a better than best-case scenario, junk bond investors should expect to lose purchasing power.
June 22, 2021
The semiconductor chip shortage worsened yet again last month, according to an article published by Bloomberg earlier today.
“Chip-starved industries from automakers to consumer electronics will need to wait a bit longer for components, as delays in filling orders continue to get worse.
Chip lead times, the gap between ordering a semiconductor and taking delivery, increased by seven days to 18 weeks in May from the previous month, an indication that chipmakers’ struggles to keep up with demand are worsening, according to research by Susquehanna Financial Group.”
The chart below shows the drastic increase in lead times for semiconductor chips as the economy continues to reopen.
Per Live Squawk:
– Fed’s Daly: Appropriate To Debate Taper But We Are Not There Yet
– Could Reach Threshold For Taper Late 2021, Early 2022
– Looking To Autumn To Get More Clarity On Economy
Existing home sales for May came in above expectations at 5.8M versus the consensus of 5.72M. This represents a decline of 2.7% from the April level. The lack of supply of existing homes continues to pose a problem for the market, but it’s worth noting that inventory rose 7% month over month.
At 2 pm ET Chairman Powell will testify to Congress on Pandemic emergency lending and supporting economic recovery. This will be the first chance for Congress to pressure Powell on rising inflation and the problems it creates for the lower and middle class. This will also Powell’s first comments since the Fed meeting last week.
This excerpt from his prepared remarks echoes a familiar tone:
“Inflation has increased notably in recent months. This reflects, in part, the very low readings from early in the pandemic falling out of the calculation; the pass-through of past increases in oil prices to consumer energy prices; the rebound in spending as the economy continues to reopen; and the exacerbating factor of supply bottlenecks, which have limited how quickly production in some sectors can respond in the near term. As these transitory supply effects abate, inflation is expected to drop back toward our longer-run goal.”
June 21, 2021
New York Fed President John Williams said today that he believes recent inflation data is mostly due to rapid reopening of the economy and supply chain disruptions.
“I expect that as price reversals and short-run imbalances from the economy reopening play out, inflation will come down from around 3 percent this year to close to 2 percent next year and in 2023.”
Regarding the Fed’s policy, he went on to explain:
“It’s clear that the economy is improving at a rapid rate, and the medium-term outlook is very good. But the data and conditions have not progressed enough for the FOMC to shift its monetary policy stance of strong support for the economic recovery.”
Following some hawkish comments on Friday, the St. Louis Fed’s Jim Bullard appears to have dialed it back this morning:
- BULLARD SAYS NO ONE REALLY KNOWS HOW THIS IS GOING TO UNFOLD BUT NEED TO BE READY FOR UPSIDE RISKS TO INFLATION
- BULLARD SAYS THE COMMITTEE IS ONLY NOW STARTING TO TALK ABOUT TAPERING AND IT WILL TAKE SOME TIME TO GET THAT UP AND RUNNING
- BULLARD SAYS LOW INTEREST RATE AND LOW INFLATION RATE ERA IS NOT ENDING ANY TIME SOON
- Bullard: There Are Legitimate Questions About Fed Buying Mortgage Bonds
This upcoming week will be relatively light on the economic data front but should be chock full of Fed speakers. Jobless claims on Thursday bear watching to see if the recent downward trend continues. Friday will feature the PCE price index for May. This is the Fed’s preferred measure of inflation.
Given the Fed’s change in tone last Wednesday, we will closely follow Fed speakers. Many Fed members were already calling for the Fed to taper sooner than Powell was alluding to. Inflation is clearly becoming a concern of the Fed. As such, we will see if their calls for taper become more urgent. If Bullard’s recent comments that we shared are any indication, the market may be volatile.
Owners Equivalent Rent (OER), a proxy for housing costs, accounts for about a quarter of the CPI number. Rents are on the rise as discussed in a CNBC article entitled- Rents for single-family homes just saw the largest gains in nearly 15 years. While housing prices were rising double digits, rental costs were not following. Recent data, some of which is included in this article, shows that rental prices may finally be playing catch up. If so, they will provide a further boost to CPI levels.
Per the article: “Single-family rents were up 5.3% year over year in April, rising from a 2.4% increase in April 2020, according to CoreLogic. That is the largest gain in nearly 15 years.”
June 19, 2021
Victor Adair’s Trading Desk Notes For June 19, 2021
June 18, 2021
Fed member Jim Bullard made some pretty hawkish comments this morning on CNBC:
- Per Live Sqwuak: Fed’s Bullard: Sees Strong Inflation Of 2.5% To 3% Inflation Through 2022, Meeting Framework Goals, Justifying Rate Increase
- BULLARD: CHAIR POWELL OFFICIALLY OPENED TAPER DISCUSSION AT LAST MEETING, MORE IN DEPTH DISCUSSION TO FOLLOW
- Fed’s Bullard: Inflation More Intense Than Expected – CNBC
- “I’m leaning a little bit toward the idea that maybe we don’t need to be in mortgage-backed securities with a booming housing market.”
At Wednesday’s FOMC press conference Powell used the word “transitory” twice, compared to 9 times at the prior meeting in late April. He also voiced concern that inflation might be “persistent”. While parsing what we think the Fed is thinking is difficult, both examples suggest the Fed is much more concerned about inflation today than a month or two ago.
The market action since Wednesday’s Fed meeting has taken a decidedly deflationary bias. Since Wednesday afternoon, the 30 year UST yield has fallen from 2.23% to 2.10%. Commodity prices like copper and oil are off 5% and 3%, respectively over the same period. The NASDAQ rose 1.25% yesterday while the commodity heavy Dow fell by 0.60%.
Gold and silver were closely tied to bond yields and deflationary sectors over the prior month or so. Days in which inflation expectations fell and technology rose gold tended to do well. That has not been the case the last two days. We are keeping a close watch on precious metals to see if the correlation of the last month is breaking down. The dollar index is up nearly 2% over the last two days, which also helps explain gold’s weakness.
“Should we prepare for a sneaker shortage now? Get ready, folks…” That was the last line of a great Business Insider article entitled Why the World Is In a Shipping Crisis. We recommend reading it as it details problems in the transocean shipping industry that are driving shortages of many popular goods. One factor the author mentions is the surging price of shipping containers. The graph below, courtesy of Arbor Research, shows the dramatic price increase of containers since the start of the year.
The graph below, courtesy of Arbor Research, shows the tremendous inflows of money into ETFs that benefit from higher levels of inflation.
June 17, 2021
The graph below, courtesy of Arbor Research, shows the sharp drop in inflation expectations following yesterday’s Fed meeting. Market activity across many asset classes concurs, pointing to expectations for a more hawkish Fed going forward.
With the Fed boosting their inflation forecast it seems the only factor preventing the Fed from tapering sooner rather than later is the employment situation. As such, weekly jobless claims, in addition to the monthly BLS/ADP reports are important to keep a close eye on. If claims continue to decline, as they have done for the last three months, it will support yesterday’s shift in the Fed’s outlook about tapering. Initial jobless claims rose from 375k to 412k this past week. Prior to the Pandemic, claims were running in the low 200k’s per week. If the downward trend continues, claims will pierce 300k in one or two months and possibly normalize in the fall. Keep in mind the trend is predicated on continued economic recovery which may become trickier as the various forms of fiscal stimulus wane.
Tomorrow is quadruple witching day, one of four days each year in which index futures, options futures, stock options, and stock futures expire on the same day. Often, the confluence of expirations can lead to increased volatility as investors unwind their futures and/or options positions before contracts expire.
The popular narrative helping explain why Treasury yields are falling revolves around investors buying into the Fed’s belief that the recent bout of inflation is transitory. While it has merits, it’s also worth understanding the supply and demand dynamics in the U.S. Treasury market. Since January 1st, Treasury debt balances have risen by $271bn. At the same time, the Fed has purchased, $441bn of U.S. Treasury bills, notes, and bonds. Despite large deficits, the amount of debt outstanding in the markets has actually shrunk. Foreign holdings of U.S. Treasury securities also rose by approximately $60bn over the period. Simply, the supply/demand equation for U.S. Treasuries has resulted in lower yields. As we have mentioned, Treasury issuance has been lighter than normal over the past few months as they draw down their account at the Fed (TGA). Currently, their account balance is $730bn, down by over $1trln from last year’s highs. It will likely come down another $400bn by October, which should further keep net issuance after Fed purchases flat to negative.
June 16, 2021
Key comments and some commentary from Jerome Powell’s press conference:
- “Inflation has risen significantly in recent months”
- “Inflation could turn out to be higher and more persistent than we expect“
- “Even after liftoff (tapering), policy will remain highly accommodative“
- “Before adjusting asset purchases, the Fed would give advance notice”
- “Over the summer, prepare to see a lot of job growth”
- “Take the dot plots (Fed expectations) with a grain of salt”
- He mentioned employment a lot in his opening speech. Given strong economic growth and rapidly rising inflation, employment is the only thing holding the Fed back from tapering QE and raising rates. If he is correct about strong summer job growth, taper could come as early as this fall.
- “This is an extraordinarily unusual time. We really don’t have a template or any experience of a situation like this. I think we have to be humble about our ability to understand the data.” – This was his most important line- we are in unchartered territory and neither the Fed nor any “expert” should have full confidence in their economic or market expectations.
- *POWELL: THIS WAS A `TALKING ABOUT TALKING ABOUT’ MEETING- In other words, they are now thinking about tapering. Prior to today, even “thinking about, thinking about”, tapering was off the table. He confirmed that with- “Near term discussions that will begin is about the path of asset purchases”
Powell left little doubt that the Fed is now strategizing about when and how to taper.
Bottom line: the Fed’s statement was little changed but the more optimistic changes in their economic projections are hawkish as it implies the Fed will taper and increase rates sooner than expected.
The Fed raised their core PCE inflation forecast for 2021 to 3.0% from 2.2% and the all-inclusive CPI from 2.4% to 3.4%. Further, the consensus of Fed members now expects to increase rates twice in mid-2023. The Fed did not taper mortgage purchases as we suspected they might do. The “dot plot” graph on the left shows the level of Fed Funds that each Fed member expects by year. There are now 7 Fed members that think the Fed will hike rates as soon as next year. There were only 4 in March. The Fed statement barely changed from the last meeting six weeks ago as shown in the second graphic.
The ten-day moving average of the S&P 500 put-call ratio is now at its lowest levels since those seen before the tech crash in 2000. The ratio is the volume of put options divided by the volume on call options. A low ratio, as we have now, denotes there is significantly more interest in making upside bets than taking on downside protection.
Last Friday’s University of Michigan Consumer Sentiment survey shared results for home-buying conditions as seen by buyers and home builders. The first graph below, courtesy of Lohman Econometrics, shows that consumers believe now may be the worst time to buy a home in at least 35 years. The second graph shows the massive divergence between the optimistic view of home builders and their potential customers. As an aside, buying conditions for automobiles also registered the lowest reading going back to the 1980s.
June 15, 2021
Rule #9 by Bob Farrell states: “When all the experts and forecasts agree – something else is going to happen.” Only 2% of those surveyed by Bank of America expect a bear market during the remainder of the year. We caution you, complacency is most often seen at tops, not bottoms.
Bank of America got it right, Retail Sales fell 1.35%. The table below from Brett Freeze breaks down its major components to show how each sector contributed to the data (column on the right). As shown, motor vehicle sales account for -.81% of the decline and building materials -.38%. Auto and home sales are the two hottest sectors over the last few months. Higher prices may finally be having a negative effect on sales. Not surprisingly, food services and drinking were the leading contributors as the economy reopens and people get comfortable going out again.
Producer Prices (PPI) were above expectations. Year over year prices rose 6.6% versus expectations for 6.2%. Core PPI was +5.3% versus expectations of 5.1%.
Retail sales are due out at 8:30 am ET this morning. Expectations are for a 0.4% decline. Bank of America, using its proprietary credit card spending data, suggests the number could be a full 1% weaker than expectations at -1.4%. Retail sales underwhelmed expectations last month as correctly predicted by Bank of America’s spending tracker.
As we wrote last week, we think it is possible for the Fed to reduce QE purchases of MBS as early as tomorrow’s FOMC meeting. Further fueling our speculation is comments from Andy Haldine, Chief Economist of the Bank of England. He states: “As things stand the housing market is on fire.” “There is a significant imbalance between incipient demand and available supply of houses, and because the laws of economic gravity have not been suspended, the result is pretty punchy rises in house prices.” Further, he tied the remarks to widening wealth inequality. Sound Familiar?
In part II of Two Pins Threatening Multiple Asset Bubbles we commented “Who benefits more from rising home prices, the wealthy or the poor? Who tends to rent more, the wealthy or the poor? Fed policy directly supports the housing market, and its benefits are overwhelmingly bestowed upon the wealthy.” The combination of surging housing prices and growing wealth inequality is certainly enough fodder for the Fed to reduce purchases of MBS sooner rather than later.
June 14, 2021
In last Friday’s Technical Value Scorecard, we wrote: “Note also that financials and materials are now both slightly oversold after being decently overbought last week and for many months prior. Both sectors underperformed the S&P by about 2.5%.” The graph below shows the recent weakness in the ratio of financial stocks (XLF) to the S&P 500 (SPY). Since last November, the ratio has bounced off the red support line three different times after dipping below the 50dma. Currently, the ratio is trading below its 50 dma, but it is still above the trendline. A break of the trendline may likely signal further relative weakness for financials and may prove to be another sign that the reflationary trade is coming undone.
Retail Sales and PPI will be released on Tuesday. PPI tends to lead CPI, so we will watch closely to see if rising producer prices start to ease. Housing Starts and Permits on Wednesday are expected to rise slightly. Recent MBA mortgage data shows their purchase index weakening. We shall see if weakening demand translates to less construction of new homes.
Most important this week will be the Fed’s FOMC meeting on Wednesday. We will again be on the lookout for signals the Fed is thinking about tapering. Equally important to Powell’s press conference following the meeting, will be the speeches following from various Fed members. Many have become increasingly outspoken about the need to start considering tapering QE purchases.
In the past, we mentioned that the Treasury accumulated a lot of cash from the stimulus relief bills that were not immediately spent. The excess cash balance sitting at the Fed’s Treasury General Account (TGA) must be reduced significantly by October. The Treasury, with the surplus cash, must significantly lessen its borrowing needs, specifically with short-term Treasury Bills, to meet its mandate.
Banks, hedge funds, and other leveraged investors are highly dependent on said bills as they are used for collateral for many trading opportunities. Further, money market investors are also facing problems finding positive yielding short-term paper as cash balances by retail and corporate investors are running high. As a result of the relative dearth of T-bills and strong demand, banks and money market funds are actively engaging in reverse repurchase (RRP) transactions with the Fed. The graph below shows the daily overnight repo balances at the Fed now account for over 50% of the decline in TGA balances. As we approach the Fed meeting next week, we need to consider if the Fed will take actions to combat short-term interest rates trading below their target. Fed Funds are trading between 5-6 bps versus 10 bps prior to the reduction in TGA balances.
June 12, 2021
Victor Adair’s Trading Desk Notes For June 12, 2021
June 11, 2021
Today’s University of Michigan Consumer Sentiment survey has interesting inflation results. The broad sentiment index increased over the past month with current conditions falling slightly but future expectations rising decently. Of particular interest, 1-year inflation expectations were only 4% versus expectations for 4.7%. 5-10 year expectations were also below expectations at 2.8% versus 3%. Might the consumer also be buying into the Fed’s expectation that inflation will be transitory?
The table below breaks down sentiment by political affiliation. The results show the stunning change in sentiment over the past year based on the change in political power.
The graph below, courtesy of Fundstrat, shows the strong correlation between the change in ten-year UST yields and the change in the ratio of financials to technology. Financials tend to outperform technology as yields rise and vice versa. As we have been writing about on many occasions, financials are part of the inflationary trade and technology along with Treasury bonds part of the deflationary trade. In the technical value scorecard below, we wrote: “One of the key themes this past week is the increasing investor buy-in to the Fed’s expectation that inflation will be transitory. Despite a 5% annual inflation print Thursday, bond yields fell and the deflationary sectors outperformed inflationary sectors.”
It’s too early to see if the market transition to a more deflationary regime will be lasting, but watching yields and the sector rotations, as the graph shows, will be an important and powerful tool.
Next Tuesday and Wednesday, the Fed’s FOMC meets to discuss monetary policy. Due to soaring home prices, we think, it is possible the Fed announces it will begin to reduce its $40bn/month of MBS purchases. If that were to occur, it’s likely to be matched with increased purchases of UST securities. If not, any net reduction of QE would go against the Fed’s forward guidance that they “are not even thinking about, thinking about tapering. The last thing the Fed wants to do is cause investor confusion and potentially harm investors’ confidence in the Fed.
As we wrote in Taper is Coming: Got Bonds?, tapering of QE has actually been good for bond prices in the prior instances. The graph below, from the article, shows that periods of QE – highlighted in gray- were followed by lower 10-year UST yields.
June 10, 2021
Early today we offered caution as the recent bout of low volatility might be a precursor to a move lower. LPL Research takes the other side. As shown below, when stocks are sitting near all-time highs “dull markets” offer decent average returns over the next six months.
CPI was stronger than expected with a monthly increase of 0.6% and year over year rate of 5%. Core CPI rose 0.7% monthly and is running 3.8% year over year, the highest since 1992. As we showed earlier today, used car prices are having a significant influence on inflation data. In today’s report, used car prices rose 7.3%, on top of last month’s 10%. Bond yields are up slightly on the report but equities seem comfortable thus far, posting a slight gain. The graph below shows that CPI, using a two-year annualized rate, is back to pre-pandemic norms.
The sleepy market is potentially a warning signal. The lower graph shows the average true range (ATR) using 10 day periods on SPY. It confirms the recent bout of lackluster trading we are witnessing. More often than not over the last few years, a low ATR resulted in a sell-off of sorts. One problem with relying on a low ATR is that it can drift at low levels for quite a while. It’s worth adding, our proprietary cash flow models are getting ready to turn bearish and the Fed is meeting next week. As such, the potential for a pick-up in volatility is increasing.
The Manheim Used Car Index continues to soar as shown to the left below. The index is up approximately 43% since January of 2020 while the used cars and trucks sub-index of CPI is only up 21%. The second graph compares the Manheim index to the CPI-used car index. Currently used cars only account for 2.57% of CPI, yet despite its low relative importance, substituting Manheim for the BLS data would result in a CPI number that is .57% higher than reported.
The graph on the left below, courtesy of Arbor Research and Trading, shows 10-year sovereign yields, worldwide, are the least volatile they have been in at least 25 years. Essentially, the chart quantifies that bond traders are complacent. Frequently, periods of low volatility are followed by more extreme volatility. The 10-year UST yield graph on the right highlights the latest four low volatility readings as shown on the first graph. The data warns of a big move coming, but not in which direction. With U.S. ten-year yields sitting on support at 1.50%, a break below could introduce the meaningful potential for a push to 1.25-1.00%. Trade carefully.
June 09, 2021
The graph below shows, based on expectations for tomorrow’s CPI data, CPI and Core CPI should peak at 4.65% and 3.41% respectively tomorrow. Thereafter, assuming a 2.5% annual rate of inflation, which is 1% higher than the previous five years, annual rates of CPI will fall throughout the next 12 months. Conversely, Core CPI, the Fed’s preferred method for assessing inflation, will stay at current levels until February 2022 before falling. Assuming a slightly higher 3% rate of inflation going forward, CPI will linger at slightly above 4% this year, while Core CPI will rise to 4% before peaking in early 2022. The Fed is likely following monthly data versus year over year data due to the skewed base effects.
The yield on the 10-year Treasury note broke below 1.50% this morning, down nearly .30% from its highs in March. As shown below, 1.50% has been technical support for yields. If it holds, we suspect yields will rise to about 1.60% where it will test the recent downward sloped resistance line and its 50 dma. A break lower in yield, possibly due to a weaker than expected CPI number tomorrow or hawkish language from the Fed next week, could result in yields falling as far as the 200 dma (1.15%). It’s worth adding, 5-year break-even inflation expectations have fallen from 2.72% in mid-May to 2.47%. Both indicators are currently opining that despite a spike in inflation that may last a few more months, inflation will ultimately be transitory and gravitate back to trend.
The graph below, courtesy of BofA Global Research, shows the power of the massive stimulus payments given directly to citizens. As shown, retail sales are nearly 20% above pre-pandemic levels despite employment which remains almost 10 million jobs below pre-pandemic levels. Had the government not infused massive stimulus, paid directly to individuals, retail sales would look a lot like the employment graph. Mind you, personal consumption accounts for about two-thirds of GDP. As such, GDP would also look like the employment graph. Going forward, with less fiscal stimulus likely, the economy will become heavily dependent on employment making a swift recovery and bolstering jobs and wages back to trend levels.
June 08, 2021
The JOLTS (job layoffs and turnovers) report from the BLS showed the number of new job openings reached another record high at 9.3mm. Despite the number of openings, the number of hires was little changed at 6.1mm. In a positive sign for job growth, the number of separations (quits) increased to 5.8mm, a series high. Workers tend to quit jobs when they are confident in their ability to easily find a better job. Click HERE for the full report. The updated Beveridge Curve below shows the job opening rate is near twice the rate it should be based on historical unemployment data. The conundrum continues: why are businesses not hiring given there are so many unemployed and why are people not taking jobs that are apparently abundant?
The series of charts below, courtesy of @robinbrooksiif, provides a rough profit margin proxy for manufacturers by country. Output prices (vertical) are what firms charge their customers, while input prices (horizontal) are what they pay for goods to produce their products. The dots shifting toward the right and away from the red line over the three-month period is an indication that producers are able to mark up their prices and more than offset the increasing cost of goods used to produce their goods. This is a positive sign for manufacturing profit margins.
The graph below, courtesy of Black Knight, helps partially explain why home prices are soaring. As shown, the number of active sale listings is running at less than half of the average running rate before 2020. Despite higher prices, the number of new listings still lags the average by about 25%. Further, new listings account for more than 75% of listings in April. This is because most homes are selling quickly and not lingering on the market, meaning new listings are largely the only listings. To wit: “Data from our Collateral Analytics group showed there was two months’ worth of single-family inventory nationwide in March, the lowest share on record and trending downward.” The second graph shows the rise in home prices has been relatively equally distributed across the country. LINK to the full report which also includes interesting data on delinquency and foreclosure activity.
Coupled with the lack of supply noted above is relatively strong demand resulting in higher home prices. However, a recent survey by Fannie Mae points to weakening demand which may help counter low supply and provide a headwind to further home price inflation. Per Reuters: “The percentage of consumers who said it is a good time to buy a home declined in May to 35% from 47%, Fannie Mae said in its monthly survey of the U.S. housing market. This reading, the lowest since Fannie Mae began the survey about a decade ago, marked the second straight monthly decline and represented a drop of 18 percentage points since March.”
June 07, 2021
Top 10 Buys & Sells
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Treasury Secretary Janet Yellen, during a weekend speech, made the following comment: “Higher interest rates would be a plus for the U.S. and the Fed.” We are unsure of what to make of her comment, but assume she is looking forward to a time the Fed can raise rates because the economy and jobs market is fully recovered.
Economic data will be in short supply this week. On Tuesday, the BLS will release the JOLTs report. On the heels of last week’s employment reports, it will be interesting to see if the job openings rate remains at record highs. Thursday will feature the all-important CPI report.
Fed members will go into a media blackout this week in advance of the next FOMC meeting on June 16th.
A couple more concerning tidbits from Friday’s employment report. Service producing jobs produced 556k of the 559k new jobs. These tend to be lower-paying jobs. Secondly, the graph on the right, courtesy of Brett Freeze, shows temporary help service growth has stopped increasing on a quarterly basis. Temporary help and GDP growth are well correlated as shown in the graph on the left.
Bloomberg recently published a great article highlighting the surge in the price of materials used to build houses. In their article, Building a home in the U.S. has never been more expensive, they open the financial books of a Boise Idaho based construction company and break down the cost increases of products used to build a new house. Based on this one builder, the cost to construct a new home has risen 58% from the pre-pandemic period. The following are a few of the examples the article shares:
- Foundation/concrete slab prices up 104%
- Trusses up 146%
- Plumbing, HVAC and Electrical up 49%
- Paint up 68%
June 5, 2021
June 04, 2021
The graph below, courtesy of the Peterson Institute, provides context for the jobs recovery and the 10 million job shortfall from the pre-pandemic trend. This is the key statistic that concerns the Fed and keeps them from tapering QE and or raising rates.
The BLS employment numbers were underwhelming. Payrolls grew by 559k versus expectations of 650k. More importantly, following the strong ADP report, many market prognosticators thought the number of new jobs could approach 1 million. Possibly more concerning is the monthly change in hourly earnings only rose by 0.5%. Expectations were for a gain of 0.7%. Wages are not keeping up with the spike in inflation, especially for necessities like food, energy, and shelter. The labor participation rate continues to languish, coming in at 61.6%, 0.1% lower than last month. The U-6 which is the broadest measure of unemployment was 10.2%, down from 10.4%. Jerome Powell has mentioned that this indicator is a truer measure of unemployment. As we look forward it is worth noting Thursday’s Challenger report showed job openings were at the lowest level in a year.
Glenn Kelman, CEO of Redfin (@glennkelman), posted a series of Tweets about the state of the housing market. We share a few of the most interesting comments, but urge you to read the entire thread as it is very telling about the state of the real estate market.
- It has been hard to convey, through anecdotes or data, how bizarre the U.S. housing market has become. For example, a Bethesda, Maryland homebuyer working with @Redfin included in her written offer a pledge to name her first-born child after the seller. She lost.
- There are now more Realtors than listings.
- Inventory is down 37% year over year to a record low. The typical home sells in 17 days, a record low. Home prices are up a record amount, 24% year over year, to a record high. And still homes sell on average for 1.7% higher than the asking price, another record.
- In 2020, new-construction permits were *down* 13% in DC and New York, 40% in LA, 48% in Chicago, 50% in Seattle, 79% in San Francisco. Permits were *up* 25% in Miami, 56% in Vegas, 96% in Greenville, 122% in Detroit, 246% in Knoxville.
- In Redfin’s annual survey of nearly 2,000 homebuyers, 63% reported having bid on a home they hadn’t seen in person.
- For low-tax states, 4 people move in for every 1 who leaves. For Texas, this ratio is 5:1; for Florida, 7:1. Cites & states have no leverage to raise taxes, after many promised new money for social justice; the federal government will have to fund long-term investments.
- The average housing budget for out-of-towners moving to Nashville was $720K, ~50% higher than locals’ $485K budget. It used to be coastal elites who worried that every adult in the family had to win a career lottery, just to afford a home. Now that feeling may spread.
- it’s not just income that’s k-shaped, but mobility. 90% of people earning $100,000+ per year expect to be able to work virtually, compared to 10% of those earning $40,000 or less per year. The folks who need low-cost housing the most have the least flexibility to move.
June 03, 2021
The ADP jobs report came in much stronger than expectations at 978k versus 650k expected. Last month’s figure was revised lower by nearly 100k to 654k. The current estimate for tomorrow’s BLS report is +645k jobs. While the ADP data is a great sign for economic recovery, the improving employment market also signals an end to excessive monetary policy. Further improvement may be a case where good news is bad news for the markets.
Yesterday we discussed how the Momentum (MTUM) ETF has switched from growth stocks to value stocks. The same is occurring in other factor-based ETFs. For instance, the two top holdings of IWN, the iShares Russell 2000 Value ETF, are GameStop (GME) and AMC Entertainment (AMC). Both stocks have risen considerably to valuations that are extreme. They are about as far from value as one can imagine. The scatter plot below shows that AMC’s valuation is now approximately 10x its historical valuation based on revenue. One can easily argue the number is even higher as the movie theater industry will likely not fully recover from the Pandemic due to the growing popularity of streaming services.
Last night, the Federal Reserve said they will shortly announce plans to wind down their Secondary Market Corporate Credit Facility (SMCC). The announcement is a far cry from tapering QE, but it is another reversal of pandemic-related actions. The facility only owns $13.8 billion of corporate bonds and ETFs.
The graph below is yet another way to assess inflation expectations. The Citi Inflation Surprise Index measures economists’ consensus forecasts for inflation versus actual inflation readings. The higher the level, the more the economists underestimated inflation. Conversely, negative readings mean they overestimated inflation. As shown, they are currently underestimating inflation by the largest amount since at least 1998.
The scatter plot below compares each monthly instance of 5 year UST yields with the Core PCE inflation index. As shown, the relationship over the last 30 years has been statistically significant. The orange dot shows today’s instance is straying far from the historical relationship. Either, the market thinks inflation is transitory and not pricing it into bond yields or the Fed, via massive liquidity injections, is artificially suppressing yields by about 4%.
June 02, 2021
In last Friday’s Technical Value Scorecard, we noted the popular ETF MTUM, which holds momentum stocks, has been shifting from a growth orientation to value, as sectors benefiting from inflation were showing the most momentum. To wit: “It is important to note that MTUM shifts its holdings based on individual stock momentum readings. In March TSLA, MSFT, AAPL, AMZN, and NVDA were the top five holdings. Today Tesla remains the top holding, but JPM, BRK/B, DIS, and BAC make up the remaining four. The index is more biased toward inflationary sectors versus disinflationary than it was 3 months ago.” The graph below, courtesy of Lohman Econometrics, shows that purely as a result of the shift of stocks comprising momentum indexes becoming more value-oriented, the forward P/E ratios are collapsing.
Our equity allocation decisions to different sectors and companies have been heavily focused on those most affected by the question of whether or not the recent bout of inflation is transitory. The graph below, courtesy of @jsblokland, shows the strong correlation between the price of oil and inflation expectations. The price of crude oil has not been able to break above $70 since 2019. It is once again closing in on $70. A break above $70 will provide further warning that the inflationary trade may have more room to climb and with it, Value, energy, financials, and materials may continue to outperform.
The Fed has repeatedly said they will not consider tapering QE or raising rates until they meet their 2% inflation objective. Over the past year, they switched their inflation target from monthly indications of inflation to its average over time, although they have not been specific about the time frame in which to average inflation.
Regardless, the table below shows the Fed’s preferred inflation gauge Core PCE (excluding food and energy) and the widely followed Core CPI. As shown, both indicators, over most time frames, are near or above 2%. Note the 6-month data is annualized. Given they are likely comfortable with their inflation target, the focus will be on employment data for signs the Fed may be ready to taper QE or raise rates.
June 1, 2021
Top 10 Buys & Sells
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On Friday we noted that the Chicago PMI report was strong except for the labor component. Today, the ISM manufacturing report was slightly better than expected but shows similar weakness in employment. The employment sub-index fell from 55.1 to 50.9, a six-month low, and is now barely in expansion territory.
The graph below from Brett Freeze shows the statistically significant correlation between the ISM index and the year-over-year change in ten-year UST yields. If the ISM is topping, as is probable, yields are likely to fall.
Over the weekend, China’s central bank (PBOC) took steps to reduce the value of their currency which has been surging versus the U.S. dollar. Specifically, they are forcing their banks to hold an additional 2% of their foreign exchange in reserves. In theory, this will reduce the supply of dollars in China and likely weaken their currency. From the U.S. perspective, the action should help temper inflation. America imports more goods from China than any other country. The strengthening yuan was making Chinese imports more expensive. From China’s perspective, it was making Chinese goods less competitive from a pricing perspective. The graph below shows the significant appreciation of the yuan versus the dollar since the Pandemic started. (a lower yuan/$, as shown below, denotes strength of the yuan as it takes less yuan to buy a dollar) Please click HERE for a Bloomberg article with more on the topic.
After last Friday’s strong Chicago PMI report, we get more manufacturing data today with ISM and Dallas Fed Manufacturing. The prices sub-index in the ISM report is expected to rise to 90, a level that was last recorded over 12 years ago. This week we will also get an update on the labor markets with ADP on Thursday and the BLS report on Friday. Economists are forecasting a 600k increase in payroll in the ADP report and 610k in the BLS report. Last month the BLS report was much weaker than expectations at +266k. Another weak report would be concerning as it signals job growth may be slowing at a faster pace than assumed by most economists.
Bloomberg reports that gold stored at the Bank of England has been selling for a premium. The implication, per the article, is the central banks, via the Bank of International Settlements (BIS), are buying gold. If true, their actions should provide a bullish tailwind for the price of gold. For more read BOE Gold Commands High Premium, Signals Central Bank Buying.
May 28, 2021
The Chicago PMI, measuring economic activity in the midwest, rose to its highest level in nearly 50 years. As noted in the report and shown below, all of the sub-indexes rose except employment. While the report is historically strong, it points to current supply line constraints and importantly a lack of confidence in the future. If confidence were stronger we would expect employment to rise. Simply, employers are not fully committing resources, likely under the assumption that current levels of activity are not sustainable.
“Chicago Business Barometer™ Pushed On To 75.2 in May The Chicago Business BarometerTM, produced with MNI, jumped to 75.2 in May, the highest level since November 1973. Demand provided a boost to business activity, but supply chain constraints remain. Among the main five indicators, New Orders and Order Backlogs saw the largest gains, while Employment recorded the only decline.“
Personal Income and Consumption data, shown below, remains extremely volatile due to the rounds of stimulus checks. Most important in this data series are the price indexes (PCE price index). April’s PCE was +0.6% monthly and +3.6% versus last year. Core PCE, excluding food and energy, rose from 0.4% in March to 0.7% in April. The Fed will pay close attention to that Core PCE trend to assess how transitory inflation is.
President Biden will propose a $6 trillion dollar budget for 2022 over the coming days. Per the administration, the deficit would remain around $1 trillion. To help assess the reality of their assessment, consider for the last 5 years, prior to the pandemic, tax spending average $4 trillion, while tax receipts averaged around $2 trillion per year. Taxes are expected to rise, but not likely enough to cover the additional deficit resulting from the increased spending. From an investment perspective, this matters because the Fed will have little choice but to support spending via very low-interest rates and more QE.
Yesterday we mentioned that Fed taper chatter is increasing. We follow up with an article from Zoltan Pozsar, Credit Suisse’s Fed analyst. Like us, he believes the Fed will taper QE in the coming months. The problem facing the Fed is the potential negative effect of tapering on asset prices. Zoltan offers a way for the Fed to reduce asset purchases with the help of Wells Fargo. As background, currently, Wells Fargo has a regulatory cap on asset purchases.
Per Zoltan: “While lifting Wells Fargo’s asset growth ban now would do more harm than good, it could come in handy when the Fed commences taper later this year or next. The market assumes that taper will lead to a sell-off in rates, like in the past–but that need not be the case. The Fed could announce its plans to taper, while at the same time announcing the end of Wells Fargo’s asset growth ban, so that fewer purchases by the Fed would be offset by more purchases by Wells.
Less buying by the Fed and more buying by Wells Fargo…”
The latest chatter on taper from Fed Vice Chair Randy Quarles:
“If my expectations about economic growth, employment, and inflation over the coming months are borne out, it will become important for the FOMC to begin discussing our plans to adjust the pace of asset purchases at upcoming meetings…”
May 27, 2021
Pending home sales fell 4.4% monthly versus expectations for a small gain. With the recent decline in new home sales, it appears the housing market is finally starting to cool off a bit.
Initial Jobless Claims continued to fall, reaching 406k this past week. Other than the past year, one has to look back to 2011 to find a higher number of new claimants. While the trend lower in claims is great, it is still confounding that such a large number of people are losing jobs on a weekly basis.
Market Crash or Correction?
It seems with each passing day the volume of media discussion about the Fed tapering its QE purchases increases. Yesterday we published, Taper Is Coming: Got Bonds? to help our readers assess how bond yields and related interest-rate sensitive equities perform during QE and afterward.
To wit: “Currently, yields are close to their cycle highs. If we believe the Fed is nearing tapering, yields could be peaking. Based on prior QE taper experiences, a yield decline of 1% or even more may be in store for the next six months to a year if the Fed is, in fact, on the doorsteps of tapering.”
The graph below shows that 5yr, 10yr, and 30yr UST bonds are in multi-month consolidation patterns following a spike higher in yield. From a technical perspective, these patterns resemble bullish flags. Based solely on the pattern, we would expect them to break out higher in yield by about the size of the “flag pole.” In the case of the ten-year (orange) that would entail a .75bps increase to approximately 2.25%. The opposite of a bullish flag, a bearish flag, can be found in the 3 bonds during the fourth quarter of 2019.
While cognizant of the pattern and the potential for higher yields, we believe bonds may be ready to break lower in yield due to the potential for a sooner than expected Fed taper of QE. A break below the flag support lines would provide some confirmation. We recently added a very small position of TLT, but remain well underweight bond duration in our benchmark. We are closely watching and ready to react in either direction, as the charts are signaling the potential for a large move.
May 26, 2021
Typically inventories of crude oil and its byproducts increase going into the summer months. As shown below, courtesy of TFA, inventories for all products declined in an atypical fashion last week. If oil usage reverts back to levels of 2019 and prior, and inventories do not pick up, we run the risk of higher short-term oil prices.
Yesterday we noted the record surge in two home price indexes. Housing makes up almost one-third of the CPI Index, yet despite surging home prices, the housing component of CPI is relatively docile. The graph below, courtesy of Macrobond, highlights the discrepancy between the FHFA price index and CPI-shelter. In 2019 we wrote an article on MMT and discussed flaws in inflation reporting. In regards to home prices, we wrote: “The BLS replaced an index based on actual home prices with what is now called owner’s equivalent rent (OER). OER is a rental equivalence that calculates the price at which an owned house would rent. It is important to note that rents were then and continue to be a part of the CPI calculation.”
The next graph updates analysis from the aforementioned article to show that CPI would 2.58% higher if the CPI calculation used the Case-Shiller Home Price Index instead of its OER calculation.
May 25, 2021
Consumer Confidence in May fell slightly to 117.2 from 117.5. The present situation index rose sharply to 144.3 from 131.9 while the future expectations index dropped to 99.1 from 107.9. Such a divergence will likely be a headwind for larger consumer purchases. Personal Consumption makes up about 2/3rds of GDP, therefore consumer confidence is an important factor drive economic growth.
Both the FHFA and the Case-Shiller Home Price Index beat expectations. On a year-over-year basis, the FHFA index is now up 13.9% while Case-Shiller is up 13.3%. The FHFA’s 13.9% increase is the fifth straight record in the series dating back 30 years. The Case-Shiller number is the strongest since late 2005. Strong housing data provides the Fed a reason to reduce MBS QE purchases. Currently, they are buying $40bn a month.
The graph below from the Atlanta Fed provides more clues about the potential future path of inflation. The Atlanta Fed breaks all goods and services included in the CPI calculation into 2 categories, sticky and flexible. Sticky are those goods and services whose prices do not change often. Per the Fed: “Because these goods and services change price relatively infrequently, they are thought to incorporate expectations about future inflation to a greater degree than prices that change on a more frequent basis.” The r-squared between the core sticky price index and core CPI is .97, denoting a strong statistical correlation. The core index removes volatile food and energy prices.
Sticky prices are recovering but still below levels preceding the pandemic. The sticky price data series does not point to lingering inflation. On the other hand, the year-over-year change in the flexible pricing index is at ten-year highs. The flexible core index is at its highest level since the 1980s.
@not_jim_cramer offers a series of graphs below showing eight market gauges that should be of concern for investors. Seven of the eight graphs use red dots to compare current levels to prior similar levels. The graph without dots (left side, third from the top) compares the Fed’s balance sheet to forward P/E’s. The takeaway from this series of graphs is to buy stocks when the Fed is buying, but heed the warnings from the other seven graphs when the Fed stops.
May 24, 2021
Electric vehicle (EV) lithium-ion batteries rely on five critical metals: cobalt, graphite, lithium, manganese, and nickel. Per The Elements Newsletter, China is currently the number one ranked country based on their resource, mining, and refining capacity of the aforementioned metals. They are expected to maintain a dominant position until at least 2025. The United States currently ranks 15th and is expected to move up to 13th by 2025.
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The Chicago Fed National Activity Index is the latest economic indicator to fall short of economists’ forecasts and the prior month reading. The Index comprised of 85 national economic indicators rose 0.24 versus a prior reading of 1.71 and expectations for a 1.2% increase. Production and Income accounted for about 2/3rds of the increase. Employment indicators rose slightly while personal consumption and housing fell slightly. Based on recent data, it is looking likely that the greatest effects of the latest round of fiscal stimulus are behind us and the economy is beginning to slow.
Economic data will be light heading into next Monday’s Memorial Day holiday. On Tuesday we get FHFA and Case-Shiller data on home prices. Both are expected to slow slightly from last month’s pace but are still running at very high rates. On Friday The BEA will release personal spending, personal income, and the PCE price index. These are key components of GDP and should help economic forecasters hone in on second-quarter economic growth. Also on Friday is the University of Michigan Consumer Expectations Survey. Again we will focus on the inflation expectations sub-index.
For what it’s worth, the Cleveland Fed sees little inflation on the horizon. The graph below shows their expected one and two inflation rates. We added a third line (Red) that computes, based on the one and two-year expectations, what the one-year inflation rate expectation is for one year from now (1×1). As shown, the forward rate is well below the Fed’s 2% target and less than pre-pandemic expectations.
May 21, 2021
The graph below, courtesy of Arbor, uses interest rate derivative markets to arrive at market odds for inflation over the next five years. The markets assign a 99% chance of greater than 1% inflation and 40% odds inflation runs greater than 3%. As we noted in Foreseeing The “Flation” Knuckleball, “However, we do not think markets are ready for a resumption of deflationary forces or a more pronounced outbreak of inflation. It is these two outliers where a fat pitch may lie.” The graph backs up the statement as the markets are not betting on deflation or stronger inflation. Also, note the big shift in expectations from September 2019 to today.
The graph below, courtesy of The Market Ear, shows the strong correlation between Tesla and Bitcoin. The author notes the two “assets” remain the number one emotional trades.” Not only are many investors of each asset emotional, but they are, to some degree, driving investor behaviors of the broader risk markets. As such, watch the “generals.” Quite often their price action leads markets. Both Bitcoin and Tesla were due healthy corrections. We now watch to see if they resume their uptrends or we must contemplate what comes next if they are indeed in bubbles as some investors believe.
Yesterday afternoon Jerome Powell and the Fed announced they will release a paper this summer exploring digital payments, with a focus on the possibility of issuing a U.S. central bank digital currency (CBDC). His short speech can be watched HERE.
A subscriber asked our thoughts on the graph below from ZeroHedge. Specifically, she noted that overnight reverse repo transactions transacted by the Fed just passed last March’s highs. Should we be concerned?
The Fed offers overnight reverse repo transactions (RRP) in which they lend securities in exchange for money. From the perspective of the counterparty, a bank or money market fund, they are making an overnight investment. The reason for today’s popularity is different than a year ago. In March of 2020, some money market investors wanted to reduce their credit risk and opted to invest with the Fed over weaker counterparties. At the time they were willing to accept a lower rate for the security offered by the Fed. Today, some overnight investment options have negative yields while the Fed’s RRP program has a floor of 0%. As such, investors are simply choosing a higher-yielding option in RRP.
The uptake in RRP usage is not a sign of a healthy funding market as it points to a shortage of collateral. Collateral is needed to create leverage. Many asset markets have been bolstered by extreme amounts of leverage. As such the situation bears watching.
May 20, 2021
The Philadelphia Fed Manufacturing Index fell sharply to 31.5, but still indicates a strong expansion. The Future Expectations Index also fell by a similar rate. The decline occurred despite the Price Index hitting the highest level since 1980. Also of note, the number of employees fell from 30.8 to 19.3. The index and all sub-indexes are all still in expansion mode but slowing. The special question of the month involved the outlook for prices the firm will receive and consumers will pay. The table below shares the inflation outlook.
Initial Jobless Claims fell to 444k in the prior week and continue to decline at a decent rate. Total continuing claims is also falling but still stands at a high number, just under 16 million. Continuing claims are more difficult to assess as it’s likely a portion of these claimants are seeing their claims period expire but are still jobless. It is also unclear how many “gig-economy” workers are included.
The chart below, courtesy of All Star Charts, shows the economic surprise index has been positive for a record 240 consecutive days. The index measures economic forecasts versus actual economic data. A positive number, as we have had, means economic forecasters have underestimated the pace of economic activity. It appears that after two-thirds of a year, forecasters finally have a better grip on what’s driving economic activity. With that comes the risk they begin to overestimate data, and as such, investors find economic activity disappointing. The recent labor and retail sales reports are two such examples.
The chart below shows margin debt as compared to the S&P 500 as well as the annual change in margin debt in the lower graph. Margin debt can be called from the borrower by the lender if markets become volatile. They can also be paid back by the borrower if they deem conditions too risky and want to reduce risk exposure. Margin debt growth can continue to propel markets higher but at the same time, it increasingly becomes a potential hazard if it declines.
On Monday we shared how Bitcoin, Tesla, and other market leaders have recently been falling sharply. If the correlation between Bitcoin and equities holds up, and Bitcoin continues lower, caution is warranted, as shown below.
May 19, 2021
Today’s FOMC minutes show there are some Fed members that are near ready to taper. To wit: “A number of participants suggested that if the economy continued to make rapid progress toward the Committee’s goals, it might be appropriate at some point in upcoming meetings to begin discussing a plan for adjusting the pace of asset purchases.” On the other hand, the minutes also said: “It would likely take some time before significant change is made.” The Jekyll and Hyde opinions within the Fed are likely a way for the Fed to prepare the market’s for tapering, yet have the excuse to delay tapering for much longer.
The following headline hit the wires this morning. BULLARD: U.S. MAY BE “GETTING CLOSE” TO POINT WHERE PANDEMIC IS OVER, THEN ATTENTION COULD TURN TO POST-PANDEMIC MONETARY POLICY
St. Louis Fed President Bullard is one of the more dovish Fed members. As such, his comment alluding to “getting close” to tapering (post-pandemic policy), is another sign the Fed is inching closer to tapering despite its official statements.
As shown below, courtesy of Investing.com, many cryptocurrencies are having a rough morning and, for that matter, week. Double-digit percentage gains or losses are somewhat commonplace for cryptocurrencies, so the recent downtrend may not be a concern for crypto investors. For the rest of us, they are worth watching as crypto and other more traditional risk assets have become somewhat correlated. To wit, equities are currently down over 1% this morning, and as shown in the FINVIZ heat map below, almost every other asset class except the dollar is trading weaker.
The graph below, courtesy of Ally Invest, goes a long way in explaining why there are shortages of so many consumer goods and resulting inflation. As we showed last week, retail sales are now 15% above the trend of the last decade. At the same time, retailers did not anticipate such a surge in demand and did not stock up their inventories appropriately. It is highly likely retail sales will fall back to the trend unless there are more stimulus packages that directly aid citizens. Inflationary pressures should subside if retails sales retreat to the trend. On the other hand, if retail sales maintain at current levels, retailers will have to bulk up their inventories which will further pressure prices to the upside. Essentially, the graph below is saying that retailers do not have much confidence in the sustainability of stimulus-induced spending.
The graph below, courtesy of Nordea, shows Chinese credit growth is shrinking rapidly after ramping up during the pandemic. Given China is the world’s largest importer of commodities, the relationship between credit growth and commodity prices has been relatively strong. Note, the credit impulse is pulled ahead by a year in the graph to show the one-year lag between commodity prices and Chinese credit. Might the recent downturn in credit growth be a harbinger for much slower growth in commodity prices shortly? Nordea helps answer the question: “the clear roll-over in the Chinese credit data could be the canary watch.”
May 18, 2021
Housing Starts were much weaker than expected, falling by 9.5% versus expectations of -2%. The decline was led by single-family home starts which fell by 13.4%. Building permits grew by +0.3%, slightly less than expectations and below the last month’s 1.7% pace. We have mentioned higher mortgage rates along with surging house prices and commodity prices would dampen new housing construction. We should add, the record cold snap in the midwest and Texas and the effect it had on home construction is still resulting in quirky data.
The dollar index is opening down 35 cents this morning and trading below 90. It is now within 30 cents of the low for this recent downward trend of 89.40 on April 1, 2021. Prior to that, the dollar had not traded below 90 since early 2018. The catalyst appears to be the Fed which seems to have no intentions of raising rates or tapering QE.
The graph below provides historical context for its current level as well as technical guidance. As shown, the dollar is sitting on the lower support line of a 10+ year wedge pattern as well as a horizontal line of resistance that turned into support. Both levels of support argue for a stronger dollar or at least a bounce. However, if support doesn’t hold, the dollar could tumble from current levels. A weaker dollar would provide further tailwinds for higher commodity prices and other imports.
The key to successful investing these days is to properly forecast the current and future path of inflation. A large part of the analysis is gauging how much longer supply line-related shortages will continue. Bloomberg published The World Economy Is Suddenly Running Low on Everything yesterday which helps explain why these shortages are occurring. The article also gives a concerning forecast as highlighted below.
“For anyone who thinks it’s all going to end in a few months, consider the somewhat obscure U.S. economic indicator known as the Logistics Managers’ Index. The gauge is built on a monthly survey of corporate supply chiefs that asks where they see inventory, transportation and warehouse expenses — the three key components of managing supply chains — now and in 12 months. The current index is at its second-highest level in records dating back to 2016, and the future gauge shows little respite a year from now. The index has proven unnervingly accurate in the past, matching up with actual costs about 90% of the time.”
May 17, 2021
It is worth adding to the prior comment that three other market leaders of the past few months are also struggling. Bitcoin is now down over 30% from recent highs to 42,000 while Tesla and ARKK (Cathie Woods ARK innovation ETF) are both down nearly 40% from their respective February highs. Bitcoin is resting just above its 200-day ma, while TSLA and ARKK have broken below it.
From March of 2020 until about a week ago, the price of lumber rose over 600%. While still greatly elevated from last year and years prior, its price is finally showing weakness. The graph below shows that lumber is down nearly 25% in the last 6 trading sessions. From a technical perspective, the prior two weeks of trading formed a bearish engulfing pattern, whereas the high and low last week exceeded the highs and lows from the prior week. Continued weakness would confirm the pattern represented a top. Further downside, along with weakness in other essential commodities, might alleviate some broader inflationary fears.
The New York- Empire State Manufacturing Index dipped slightly but remains at a very high level. However, prices paid and prices received surged higher to their highest levels since at least 2000.
Economic data this week will largely be focused on the housing sector. Today, the NAHB will release their Housing Market Index, followed by Housing Starts and Building Permits on Tuesday. Existing Home Sales will be released on Friday. Both Housing Starts and Permits are expected to decline from the torrid pace set earlier this year. Higher mortgage rates and surging prices for copper, lumber, and other commodities used to make homes are certainly a growing concern for homebuilders.
In recent months we have relied heavily on implied inflation expectations to help guide our allocation decisions. Periods where expectations were rising led to a clear outperformance of materials, energy, and financial companies. Tech, staples, and utilities tended to benefit when inflation expectations stabilized. What makes this analysis very difficult is that “market-based” inflation expectations are not really market-based anymore. The graph below shows the Fed has bought significant amounts of TIPs and Notes and Bonds, which can lead to distortions in these markets, and therefore skewed implied inflation calculations.
May 15, 2021
May 14, 2021
The University of Michigan Consumer Sentiment Survey data was decidedly weak as shown below. Interestingly weakness was equal for both current conditions and future conditions. Driving the weakness is likely inflationary concerns. The long-term inflation expectations rose to 3.1% from 2.7% last month.
As if supply lines were not fractured enough, the Mississippi River is closed to barge traffic near Memphis due to concerns over a bridge. Currently, there are 771 barges awaiting passage. Per CNBC– “The shutdown fueled concerns about shipping U.S. grain and soy to export markets at a time when global inventories are slim and prices are near eight-year highs.”
Retail Sales were much weaker than expected as shown below. The control group, which feeds GDP, was down 1.5% versus an expected slight increase. On the plus side, last month’s data was revised higher. The markets seem to be taking the data in stride with stocks and bonds at similar levels as prior to the release.
April Retail Sales are due at 8:30 ET this morning. Expectations are for a 1% increase, following last month’s 9.8% gain. March retail sales greatly benefited from stimulus checks. It would not be surprising to see a big deviation today from expectations as the timing of the stimulus checks and when/how they were spent is very difficult to forecast. Based on their credit card spending trends, Bank of America expects a decline in retail sales.
As we have discussed, base effects (comparison versus last year’s data) make price inflation appear much higher than it actually is. The graph below puts the CPI indexes in context with their trends of the last five years. Currently, the broad CPI index is only .011% above its trend. Core CPI, which excludes food and energy, is running 1.06% above its trend. If the inflationary impulse is in fact transitory and dies out over the next few months, inflation data will end up close to where it would have been had there never been a pandemic.
Almost a year ago Tim Duy wrote a powerful editorial for Bloomberg about how expects the Fed to maintain ultra-easy policy going forward. With inflation running hot and the recovery maturing, it is worth reviewing the summary paragraph of his article as we consider how the Fed might react to high inflation.
“The implication for financial markets is that the Fed expects to hold policy very easy for a very long time. They will reinforce this stance with enhanced-forward guidance and, eventually, yield-curve control. As long as inflation remains below 2%, the Fed will push back on any ideas that they will tighten policy anytime soon. And even inflation above 2% wouldn’t guarantee tighter policy if the Fed concluded the overshoot was transitory. Don’t doubt the Fed’s resolve to keep policy accommodative. They will keep reminding you if you forget.”
May 13, 2021
The charts below show that many of the grain futures have given up some of their recent gains. Crude oil is down over sharply today as well. While not a trend yet, a continued sell-off in these commodities and others will help relieve recent inflationary pressures.
PPI came in hotter than expectations, but much less so than yesterday’s CPI report. Of note, monthly PPI rose 0.6% which was more than expectations of 0.3%, however, last month’s gain in PPI prices was 1%, meaning the rate of increase is slowing. The year-over-year gain of 6.2% was above expectations for 5.9%. Based on the initial market reaction, the higher than expected PPI figures were priced in.
Jobless Claims continue to forge lower, coming in at 473k versus 498k last week.
Cryptocurrencies are opening up down 10-15% after Elon Musk said Tesla would suspend accepting Bitcoin for new purchases due to the excessive energy use required to mine Bitcoin. Prior to the announcement, Tesla bought and held a sizeable chunk of Bitcoin for “liquidity purposes” and Musk was a self-professed fan/promoter of Dogecoin. Given the wasteful energy use was a widely known fact, the announcement seems odd and we are left to wonder if there is more to the announcement.
On the heels of yesterday’s hot CPI report, PPI is due out at 8:30. The consensus estimate actually points to slower producer price growth on a monthly basis. The monthly PPI core (excluding food and energy) is expected to climb 0.4%, versus 0.7% last month. On a year over year basis, it is expected to rise 3.7% from 3.1%.
The graph below shows the difference between CPI and Fed Funds. The last time the difference was as large as it is was June of 1980. The Fed is making a big bet that inflation is transitory.
The graph below, courtesy of Sven Henrich, is a unique way to show the bubble environment. Wealth should stay relatively proportionate with the output of a nation. As shown, it currently sits well above what has been historically normal since at least 1950 and above two prior peaks. The last two times the ratio spiked higher (dot com bust and financial crisis) were followed by significant drawdowns in many asset markets. This time is not likely to be different, however, timing the eventual reversion to the mean is very difficult.
May 12, 2021
A subscriber commented to us that they thought the five-point increase in the VIX (as of 3 pm ET) was excessive given the S&P was only down by 1.6%. The scatter plot below charts daily changes of the VIX and S&P over the last five years. The orange dot shows that the relationship today is in line with the historical correlation.
CPI was much higher than expectations on a monthly and annual basis as shown below. The core CPI data (excluding food and energy) rose +.09% versus expectations of 0.3%. At 3% YoY, core CPI is now running at the highest annual rate since the mid-1990s. A big portion of the increase came from used cars. Per Zerohedge- “the index for used cars and trucks rose 10% in April. This was the largest 1-month increase since the series began in 1953. It accounted for a third of the seasonally adjusted all items increase.” The gain in used car prices is temporary as its a function of the low supply of new and used cars at the same time fiscal stimulus is flowing through the economy. Supply line problems and chip shortages will abate and stimulus will run its course, leading to a normalization of supply/demand. The Fed will find some comfort in this and likely discount today’s data.
Stocks initially fell on CPI but have been climbing back to near where they were before the release. Interestingly, bond yields are only slightly higher on the news. Bonds appear priced for the expected surge in inflation and maybe looking ahead to the Fed more actively discussing tapering QE. The dollar initially surged but has given back a big chunk of those gains.
In yesterday’s commentary, we provided a link to CNBC’s interview with Stanley Druckenmiller. As we shared, he commented- “I can’t find any period in history where monetary and fiscal policy were this out of step with the economic circumstances, not one.” To stress his point he presented a graph of retail sales. To his point and shown below, retail sales are now 15% above the pre-pandemic trend or about 5 years’ worth of growth. If retail sales were simply to revert to trend, it would have to decline more than in the 2008/09 recession. This is but one example of economic activity propped up by massive fiscal stimulus. As the benefits of stimulus fade, and with less new stimulus on the horizon, economic activity will suffer. That is the fiscal cliff we will be dealing with in late summer and fall.
Yesterday’s BLS JOLTs report showed that the number of job openings in March surged to 8.12mm from 7.53mm in February. The graph below is the Beveridge Curve, which compares the number of job openings as a percent of the labor force to the unemployment rate. As shown, historically we would expect a job opening rate in the 2-4% range, not at nearly 5.5%. Further, the rate of job openings is the highest on record since the BLS started tracking it in 2000. Extended and enhanced unemployment benefits are partially responsible for the gap between what we are seeing and what we should expect. The full JOLTs report can be read HERE.
May 11, 2021
On CNBC, famed investor Stanley Druckenmiller warned about the current pace of fiscal and monetary policy. Given his stature and extremely successful career, we think it’s worth your time to listen to today’s CNBC Interview.
“I can’t find any period in history where monetary and fiscal policy were this out of step with the economic circumstances, not one.”
In today’s 3 Minutes on Markets & Money (linked below) Lance Roberts mentions that the NASDAQ is relatively oversold versus the S&P and DJIA. The graph below helps provide some risk levels on the NASDAQ (QQQ). Since the market rout last March, QQQ has fallen below its 50 day moving average three times as labeled in the top graph below. Currently, the NASDAQ is down about 2% this morning. It would not be surprising to see it decline to the range of the prior episodes (another 2-4%). The second graph shows its deviation from the 200 day ma. It is still about 10% above the average. Falling to the 200-day moving average might be strong support, but a significant break of the moving average would be concerning. As Lance mentioned, the NASDAQ is over-sold on a short-term basis but not a long-term basis. There is a potential opportunity here but it entails a good eye on risk management.
The NFIB Small Business Optimism Index rose in April to 99.8. The Index has recovered about 2/3rds of its losses from pre-pandemic levels. The survey was quick to point out “42% of owners reported job openings that could not be filled, a record high reading. Owners continue to have difficulty finding qualified workers to fill jobs as they compete with increased unemployment benefits and the pandemic keeping some workers out of the labor force.” The three graphs below highlight the disconnect between hiring workers and being able to find workers to hire.
The survey respondents also appear to be sounding inflation warnings. Per the report: “The net percent of owners raising average selling prices increased 10 points to a net 36% (seasonally adjusted), the highest reading since April 1981 when it was 43%. The highest was 67% in October 1974 when inflation reached double digit rates.” The graph below highlights the sharp increase in prices.
The recent uptick in inflation expectations is resulting in the outperformance of inflationary sectors like materials, financials, and energy. At the same time technology, communications, and cyclical stocks are underperforming. Yesterday for instance the Dow Jones Industrial Average was down by only 0.09% while the NASDAQ fell 2.63%. The tables below courtesy of Finviz show the significant divergence over the last week and month Last week’s Technical Value Scorecard highlighted these divergences in more detail as well.
The graph below, courtesy of CoStar, shows a large majority of workers are still working from home. Longer-term estimates forecast that the work from home trend is viable. Per forecasts, the numbers below are likely to only get back to about 80%. If that forecast holds true, there will be a sizable surplus of office space in big city markets.
May 10, 2021
The dollar, shown below, was showing signs of a bottoming process but it has recently turned more bearish. Recent weakness has taken it below the rising support line which started at the beginning of this year. A break below the early March and January lows would confirm more dollar weakness ahead. The MACD is currently oversold, but not at levels that might indicate a bottom is in place. The only bullish factor in the graph is the 50-day ma is about to rise above the 200-day ma.
The second graph compares the dollar to inflation expectations. As shown, they tend to have an inverse relationship. The current bout of dollar weakness is likely associated with the recent pick-up in inflation expectations.
CPI, PPI, and Retail Sales data will be released this week. CPI, due out Wednesday, is forecast to increase 0.4% monthly, and 3.8% year over year. The year-over-year data is skewed because of last year’s low inflation. As such most economists will focus on trends in the monthly data.
There will be a slew of Fed speakers this week. We are on the lookout for Fed members that are more inclined to see the Fed taper sooner rather than later. Given last week’s poor employment report, those in favor of tapering may not be as vocal about it in the coming weeks as they might have been if it were a stronger report.
Rumors have been circulating this past week about a potential merger between Chevron (CVX) and Exxon (XOM). While they may be serious, it is worth noting the two companies have been in discussions for the better part of the last five years. Interestingly, both companies were spun off of Standard Oil when it was broken up 110 years ago due to antitrust concerns.
Gary Gensler, the new SEC Chairman, sent a few warning shots toward the crypto markets last week. Some headlines as follows:
- GENSLER SAYS WE NEED GREATER INVESTOR PROTECTIONS REGARDING CRYPTO TOKENS -CNBC
- *GENSLER SEES GAPS IN OVERSIGHT FOR BITCOIN TRADING ON EXCHANGES
- *GENSLER: BITCOIN TRADING ON LARGE EXCHANGES NOT PROTECTED
- SEC CHAIR GENSLER: IF CONGRESS DECIDES TO ACT ON CRYPTO TOKENS, WE WILL COLLABORATE WITH THEM.
May 8, 2021
May 7, 2021
The graph below, courtesy of the WSJ, provides good context for the pace of the labor market recovery and how many jobs are needed before a full recovery.
The BLS jobs report fell far short of expectations at +266k versus a consensus estimate of nearly +1 million. The unemployment rate rose to 6.1%, which was +.3% above expectations. The average workweek rose to 35 hours from 34.9 and average hourly earnings rose .7% versus last month. On the wage front, hourly earnings are only up 0.3% versus a year ago. This is concerning given the denominator in the year-over-year math is April of 2020, the trough of the employment crisis. CPI is running at +2.6% YoY, meaning workers, on average, have lost 2.3% in purchasing power over the last year. Government stimulus has thus far eased the situation.
Leisure and Hospitality jobs added 331k, which accounts for more than the total number of jobs added. Temporary help lost 111k jobs which is surprising given how often we hear companies can’t find employees.
The initial market reaction was friendly for the deflationary sectors like technology. Bonds and gold are also off to a strong start. The market will likely perceive today’s report as evidence the Fed is far away from tapering.
The graph below, courtesy of Brett Freeze, shows the strong correlation between temporary help and GDP.
Goldman Sachs shines a light on its poor expectations for wage growth today and for the remainder of this year- “We expect that base effects will pull the year-on-year rate negative in this Friday’s employment report, and that the composition unwind will drag the average monthly growth well below +0.2% for the remainder of 2021”
Wage growth is important because inflation, without a boost in wages, will be crippling especially for the lower-income classes.
Expectations for the BLS Employment report due at 8:30 ET are as follows:
Last night Fed President Lael Brainard stated: “Vulnerabilities associated with elevated risk appetite are rising.” The combination of stretched valuations with very high levels of corporate indebtedness bear watching because of the potential to amplify the effects of a repricing event.”
And therein lies the Fed trap they set for themselves. QE and low-interest rates elevate risk appetites which drive stretched valuations and high levels of indebtedness. Tapering QE and/or raising rates might very well “amplify the effects of a repricing event.” More simply: Fed stimulus is blowing bubbles that will pop if they stop blowing.
A day after the last Fed meeting, Fed President Kaplan said: “The Fed should start talking about tapering bond-buying soon.” This was due to his concerns about rising inflation. Brainard’s comments yesterday concern rising financial instability. We think her comments might represent a more cloaked effort to push the Fed closer to tapering and raising rates.
May 6, 2021
Jobless Claims continue to improve, crossing below 500k, to 498k, for the first time since the COVID lockdowns began. There are still over 16 million people receiving state or federal claims, a number the Fed would like to see drop meaningfully before they talk about removing stimulus.
Yesterday afternoon, Boston Fed President Rosengren said “the mortgage market probably doesn’t need as much support now.” Similar to hawkish comments from Dallas Fed President Kaplan, it seems Rosengren is indirectly pushing for a tapering of MBS-QE. Currently, the Fed is buying $40 billion mortgages a month.
Real (after inflation expectations) 10-year UST yields peaked at -.58 on March 21, since then they have fallen to -.91%. Treasury yields fell nearly 10bps over the period while inflation expectations have been on the rise as of late as shown below. As we have noted on numerous occasions, the price of gold is highly negatively correlated to real yields. Since mid-March, its price has gone from 1675 to near 1800. The question for gold investors is can Treasury yields remain rangebound while inflation expectations rise? That is a tall order.
We are not sure of the reliability of the graph below from the Daily Shot, but if somewhat accurate, it shows that farm values are expected to rise sharply. We think some of the credit for the increase is due to speculation and the recent popularity of owing hard assets, including land to protect from inflation. The recent surge in agricultural prices certainly helps as well.
Last Sunday, 60 Minutes aired a segment on the shortage of semiconductor chips in the United States. The shortage is part of the reason supply lines for so many products reliant on chips are troubled. Ford, for example, recently cut their production in half for the second quarter as it can’t source enough chips. Based on the segment, it is likely these shortages are likely to continue, to some degree, for two more years. Also of note, only 12% of chips are made in the United States leaving the U.S. vulnerable to Asian suppliers who manufacture about 75% of them. LINK to the video clip.
May 5, 2021
Earlier today we wrote: “Based on recent Fed comments, employment seems to be the key factor stopping the Fed from tapering QE.” Fed Vice Chair Clarida just said the economy needs to add 8 million jobs to get back pre-COVID levels. From the trough of the last recession to 2020 the economy formed 182k jobs a month. At double that rate it will still take two years to get back to pre-COVID levels.
The ADP Labor report was weaker than expected, showing the economy gained 742k jobs versus expectations for 850k. We suspect the report will be perceived by investors as equity market-friendly. Based on recent Fed comments, employment seems to be the key factor stopping the Fed from tapering QE.
Yesterday we reported that Yellen sparked a little fear by mentioning interest rates might “somewhat” if the economy overheats. Apparently, she got a tap on the shoulder as those remarks were rescinded in a speech later that afternoon. In those later comments she said “I do not see the rescue package as overheating the economy” and “I am not predicting anything.”
The ISM Manufacturing survey is an important gauge used by economists to assess the manufacturing sector. While most investors and economists focus on the quantitative results of the surveys, ISM also shares some commentary from respondents that can be illuminating. We share a few of the more interesting comments below. The rest can be found on the ISM website.
- “Steel prices are crazy high. The normal checks on the domestic steel mills are not functioning — imported steel is distorted by the Section 232 tariffs.” (Fabricated Metal Products)
- “It’s getting much more difficult to supply production with materials that are made with copper or steel. Lots of work on the floor, but I am worried about getting the materials to support.” (Electrical Equipment, Appliances & Components)
- “In 35 years of purchasing, I’ve never seen everything like these extended lead times and rising prices — from colors, film, corrugate to resins, they’re all up. The only thing plentiful at present, according to my spam filter, is personal protective equipment [PPE].” (Plastics & Rubber Products)
- “Demand continues to be very strong. Supply chain delays hamper our availability and ability to sell more.” (Machinery)
Over the past few months, we have noted the amount of margin debt, or leverage being employed in the equity market, is approaching, or in some measures greater than we have ever seen in the past. The graph below, courtesy of Topdown Charts, shows another form of leverage that is not captured in the margin data. The green line shows that assets under management (AUM) of leveraged long ETFs have risen by about 150% in the last year and sits well above pre-COVID levels as well as anytime in the 15 years prior. Signs of euphoria are everywhere but that doesn’t mean a top is imminent. However, it does mean, we should exercise caution, understand the potential downside, and manage our risk carefully.
May 4, 2021
“It may be that interest rates will have to rise somewhat to make sure our economy doesn’t overheat,” Yellen said in an interview with the Atlantic recorded Monday that was broadcast on the web on Tuesday. “It could cause some very modest increases in interest rates.” – Per Bloomberg
Take notice of this important comment from Treasury Secretary Janet Yellen. After largely agreeing with Jerome Powell that inflation will be transitory and there is no rush to raise interest rates/taper, she seems to be changing her tone. Given her current role and former role as Fed Chair, she might be tipping us off to coming changes in Fed policy.
Equities fell this morning, supposedly on the rumor of a Chinese aircraft entering Taiwan’s Air Defense Identification Zone (ADIZ). The ADIZ is not the same as Taiwan’s territorial airspace. This event is likely not the cause for the decline because similar incursions have been occurring and have been widely publicized. Further, as shown below in the map, China’s and Taiwan’s ADIZs overlap, making it a possible “legal incursion.” That said, the area is becoming more of a geopolitical hot spot and worth paying attention to.
Most recessions are cyclical events that occur when inventories are bloated and, as a result, manufacturers cut production, resulting in layoffs. As shown below, in the ISM report courtesy of Bloomberg, during the 2008/09 recession, inventories rose which resulted in order reductions, ergo fewer backlogs, for new goods. Today is quite different. Inventories are at the lowest levels in at least 14 years as customers are waiting on new orders to replenish their inventories and meet pent-up demand for many products. This graph argues supply line-related product shortages will continue to be problematic and result in reduced supply and upward price pressures. Over time we expect the situation to normalize but given the historic divergence, it may take longer than expected, and the resulting price pressures may last longer than expected. At some point, the markets may begin to question the Fed on the “transitory” nature of recent price increases.
One of the more notable aspects of this earnings season is that companies reporting good earnings and sales have not been rewarded as they have been in the past. Per BofA, “Companies beating on sales/EPS in 1Q have led by just 16bps the next day, vs. average +1%.” Their graph below provides historical context.
May 3, 2021
Similar to a graph we shared last week, this graph by Standard and Poors shows the percentage of firms in each industry feeling profit margin pressure.
The ISM Manufacturing Index was weaker than expected at 60.7 versus 64.7 last month. Noteworthy, employment fell 4.5 points to 55.1, and inventories fell below 50 and into economic contraction territory at 46.5. Prices paid were the only notable subcomponent rising on the month. It was 89.6 versus 85.6 last month. As shown below, it has only been above 90 twice, the 1970s and 2008. The combination of higher prices and slowing economic activity is not a good sign for corporate profits. That said, one month certainly does not make a trend.
Gamma Band Update is published
The economic calendar will be busy this week. ISM releases its manufacturing survey this morning followed by its service sector survey on Wednesday. The most important data points of the week will be Wednesday’s ADP labor report and Friday’s BLS employment report. With inflation and inflation expectations near the Fed’s 2% target, employment appears to be the only factor keeping the Fed from discussing tapering QE and raising rates. The market is expecting the BLS to report that nearly 1 million new jobs were created in April, which should bring the unemployment rate from 6% to 5.8%. While great news, it is still well above pre-COVID levels.
We expect an active Fed speaking calendar this week. Again, we will be on the lookout for any dissension in the ranks in regards to the timing of removing monetary stimulus.
The earnings calendar will be busy this week as follows:
As shown in the graph below, the sharp increase in the amount of margin debt outstanding is only rivaled by similar increases before the meltdowns of 2000 and 2008. The red dots show periods when the annual change in margin debt exceeded two standard deviations. While an ominous graph, we caution that the amount of margin debt a year ago was falling rapidly with the market. As such, a year over year comparison may not portray similar circumstances as those leading to 2000 and 2008.
April 30, 2021
And just one day after the FOMC meeting, Fed President Kaplan is the first dissenter. This morning he said, “The Fed should start talking about tapering bond-buying soon.” He also said rate hikes should start in 2022.
The Chicago PMI Survey rose to its highest level since 1983. The index was 72.1 versus 66.3 last month. The broader ISM Survey, due out on Monday, is expected to be 65. Like Chicago PMI, that would be the highest level in nearly 40 years.
Earlier this year we discussed how the Treasury would draw down its $1.6 trln cash balance at the Fed which would result in less short-term debt issuance and lower rates. Yesterday the Fed auctioned $40 bn 1-month Treasury Bills at 0.00%. As a result of the Treasury’s actions, investors are clamoring for short-term paper with any positive yield. In the same vein, the Fed has recently been conducting its reverse repo program due to strong demand. In reverse repo (RRP), the Fed borrows money from participants in exchange for Treasury securities as collateral. The Fed only allows repo at 0% or positive rates. It sounds crazy but 0% is better than secondary market repo rates, so money market funds have interest in lending/investing at 0%. Unfortunately, like M2 money supply, the Fed discontinued providing Treasury balances held at the Fed. As such, we do not know how much longer the situation may last.
Late yesterday afternoon Department of Labor Secretary Marty Walsh said “a lot of gig workers in the United States should be classified as employees.” If his wishes are granted, companies like Uber (UBER), LYFT (LYFT), and Door Dash (DASH), will be on the hook to provide benefits to their employees that they are currently not supplying. All three companies were down nearly 10% on the news.
The first graph below shows that the U.S. savings rate increased markedly during the COVID crisis. This was due in to a combination of stimulus benefits received by many people that remained employed as well as limited opportunities to spend money due to economic shut-downs. Interestingly, as shown in the second chart, courtesy of the Financial Times, savings rates around the world increased sharply over the last year. The big economic question going forward is whether or not a global consumer mindset favoring savings versus consumption is emerging. As shown, in the U.S., the savings rate has been relatively stable. Given this long track record, we assume until proven otherwise, the recent spike in savings is an anomaly and will revert to historical norms once economic activity normalizes.
April 29, 2021
The S&P 500 was up nearly .70%, yet the breadth of the gain was not as strong. Four sectors, technology, healthcare, staples, and materials were lower on the day. The graph below from FINVIZ, shows that the larger companies led the charge higher, while mid and small caps were lower on the day.
The graph below, from Biden’s $4 Trillion Economic Plan, in One Chart, shares detail on the President’s $1.8 trln Families Plan and $2.3 trln Infrastructure Plan. Biden has stated the plans are spending neutral, meaning the costs will be paid for with tax increases, primarily on the wealthy and corporations.
FOMC statements are based on the consensus of Fed voting members and primarily steered by Jerome Powell’s views. The Fed minutes from yesterday’s meeting, which will not be released until May 19th, will provide a lot more insight as to what each individual Fed member is currently thinking. Between the minutes and individual speeches over the coming weeks, we think a rift in the Fed’s mindset could be exposed. It is likely some members are getting uncomfortable with rising prices and leaning toward setting a QE tapering timetable.
The table below, courtesy of S&P Global Ratings, is a handy tool showing how each industry fairs in regards to input prices and how easily they can pass higher costs through to their consumers. The color coding breaks down the input cost inflation as it relates to labor or non-labor costs. Those industries at the top left of the table should fare the best if inflation keeps rising, while those at the bottom right will have trouble keeping profit margins at current levels.
April 28, 2021
Comments from Jerome Powell:
- “The unemployment rate of 6% understates the shortfall in inflation”
- Prices will continue to rise due to economic reopening, pent-up demand, and supply chain bottlenecks, but price increases are temporary. He stressed this numerous times
- The Fed will aim to anchor inflation at 2%, but will temporarily tolerate inflation above the target to offset prior periods of lower inflation
- He made it very clear that a significant reduction of the unemployment rate and 2% inflation is needed before tapering QE or raising rates. Until those goals are met there will be no reduction in QE ($80bn UST and $40bn MBS)
- Per Powell, it’s not time to even begin “thinking about thinking about” tapering
- We are unlikely to see persistent inflation with slack in the labor markets- (ergo they think wages are the primary driver of inflation and do not see them rising up yet)
- He does not see long-time “scarring” of workers, meaning he believes the job losses are not permanent as we saw after the financial crisis.
- They are watching housing prices rise but do not characterize the situation as a bubble because they do not see financial stability problems like in 2005-2008. He thinks the primary driver of higher prices is the lack of supply.
- “Some asset prices are high.” Powell also alluded that parts of the equity markets are “frothy”
As we expected, the Fed’s FOMC statement was little changed from the last one from March 17th. The red-lined version below, courtesy of Zero Hedge, compares the two statements. As shown, the only changes are a slight upgrade in their description of economic activity with credit given to policy support and vaccinations.
The graph below, courtesy of Optuma, shows the strong correlation between the ratio of Copper to Gold and 10-year U.S. Treasury yields. Historically, the Copper/Gold ratio has proven a durable measure of inflation. As shown, on a technical basis, the ratio is breaking out of a brief period of consolidation, portending yields will potentially move up in lockstep.
Prices for many agricultural products on the futures exchanges have been on a tear over the last month as shown below. The price increases of these goods will have a larger effect on the poor and middle class than the wealthy. Given the Fed has been outspoken about the divergence of wealth, and the poor being left behind, it will be interesting to hear their comments today on rising prices. We must also keep a close eye on staples stocks and assess if they can fully pass on the price increases to consumers. If not, they will take other measures to cut costs to try to keep profit margins stable.
1 Month Performance:
- Wheat +24%
- Corn +23%
- Soybean Oil +20%
- Canola +20%
- Sugar +13%
- Coffee +12%
- Soybeans +12%
- Oats +11%
The graph below, courtesy of All Start Charts, shows the economic surprise index has been greater than zero for 225 days, the longest such streak since at least 2003. The index measures economists’ economic forecasts versus actual economic data. The gist is economists have been consistently underestimating the pace of the economic recovery.
April 27, 2021
The graph below and commentary are courtesy of Danielle DiMartino Booth:
“Risk premiums on CCC bonds dropped below 500bps late Monday, a level only seen twice in the last two decades — the years leading up to 2008 financial crisis & right before the dotcom bubble burst.”
–By “risk premium” she is referring to the spread or differential between the yields on CCC-rated bonds and like maturity Treasury bonds.
The Fed’s two-day FOMC meeting concludes tomorrow at 2 pm with the FOMC monetary statement and the Powell press conference at 2:30. While we expect little to no change in the statement and no change to ongoing monetary operations, we do think they will pay more lip service to inflation than they have been. They are likely to acknowledge the recent uptick in prices, especially of food and energy, but we expect them to stick to their belief that the increases are transitory. The Fed conversation may become more interesting over the next week or two as Fed members will be back out on the speaking circuit.
Over the last year, Fed members have been in unison in regards to comments on monetary policy and their policy of allowing inflation to “run hot.” With the inevitable taper on the horizon and a recent uptick of inflation in consumer staples, which hurt the poor, it will be harder for Powell to keep the group in line. This may prove troubling for the markets in the coming months.
The graph below on the left, courtesy of Stifel, shows that almost all of the gains in the S&P 500 over the last decade occurred during periods when the year over year growth of the global money supply was increasing. The graph argues the rally may hit some headwinds in the coming months as the annual growth of the money supply will inevitably see a sharp decline. We are now a full year past the initial liquidity injections of 2020. As this occurs the denominator in the annual growth calculation will increase rapidly. The second graph quantifies this effect by showing how year over year U.S. M2 money supply growth will shrink despite the assumption that the Fed continues to add $120bn a month of QE.
April 26, 2021
While on the topic of the Fed’s possible trial balloons, Bloomberg released the following article this morning- Fed to Taper Bond Buying in Fourth Quarter, Economists Say.
The Fed likes to use trial balloons to assess how potential changes to their operations might affect investor behaviors. Given that the economy is recovering nicely, vaccinations are giving a further boost to economic activity, and inflationary pressures are on the rise, we suspect the Fed may be closer than they allude, to begin “thinking about thinking about tapering.” To wit, this morning comes a potential trial balloon by the WSJ article entitled The Fed’s Next Test Is Breaking The Ice Over Policy Shift. There is nothing in the article that leads us to believe change is coming at this week’s FOMC meeting, but it does state the Fed is closing in on the time when they must start to reverse emergency stimulus measures. It wouldn’t surprise us if Chairman Powell makes a short statement this Wednesday saying as much. The question is, how will the markets react.
The economic calendar is relatively light for a second week running. Of note this week will be personal income and spending and the PCE price index on Friday. The PCE index is the Fed’s preferred inflation gauge. Also on Friday will be the University of Michigan Consumer Survey and importantly their survey on inflation expectations, as well as the Chicago PMI report and their inflation sub-survey. After a weak durable goods report last month, economists are expecting a strong rebound to 2% when released at 8 am today.
The highlight of the week is likely to be the Fed’s FOMC meeting and Powell’s press conference on Wednesday. Similar to the last couple of meetings we suspect little will change in their statement that would lead us to believe they will be more or less aggressive with monetary policy. As such, any meaningful changes in QE or just in their tone or descriptions of economic/market activity may have an outsized effect on markets.
This will be a big week for Q1 earnings releases. The table below shows the more widely followed earnings release dates.
The graph below, courtesy of Goldman Sachs, shows that SPAC issuance has significantly slowed. Thus far in the second quarter, 6 SPACs have come to market. That compares to over 50 at the same point in the first quarter. Poor recent returns and heightened regulatory risks are largely to blame for the decreased issuance.
April 24, 2021
April 23, 2021
As shown below, the Baker Hughes Rig Count is still below pre-COVID levels despite the price of oil having fully recovered. Assuming the rig count does not spike higher as the economy continues to recover, this should limit supply and keep a bid under the price of oil. The wild card is OPEC, which has begun slowly increasing production levels.
The graph below, courtesy of the Daily Shot, shows that people are using mortgage refinancings and home equity lines to draw on their house’s equity. The extra money is providing homeowners additional funds to pay down other debts and spend. Recent trends in credit card debt lead us to believe that some people are using their home’s equity to pay down costly credit cards.
On Tuesday Fortune published an interesting article on some of the risks with Bitcoin mining. The key takeaways included pollution and national security. On the pollution front the article stated:
- “Overall, de Vries reckons that fossil fuels power around 70% of all Bitcoin mines worldwide, and that coal provides the vast majority of that share. “We now know for sure that one-third of all production runs on pure coal from a tiny place in China,”
- “Miners are going to unusual places in search of the cheapest power that’s also reliable—and that’s almost always fossil fuels.
In regards to national security:
- Finally, “It’s now clear that one-third of all the world’s Bitcoin-mining power masses in a single hotbed of our archrival, China. He fears that if tensions between the U.S. and China escalate, Beijing could use the equipment in Hutubi and the rest of China to paralyze the network, halting all transactions. That shutdown would wreak havoc with the hedge funds that hold Bitcoin and the corporations piling the coins into their treasuries.”
- Since sanctions constrain Iran from exporting oil, Tehran is developing a new market inside the nation’s borders by luring Bitcoin miners with super-low energy costs. By some reports, Iran now accounts for 8% of the world’s Bitcoin production.
April 22, 2021
President Biden will propose boosting the long-term capital gains rate to as high as 43.4% for those with earnings of greater than $1 million. It is rumored the tax will be retroactive to include 2021 gains. Stocks are trading lower on the news.
To show how deep our fiscal deficit issues are we share a paragraph from Bloomberg on the tax increase: “The Tax Foundation estimates that increasing capital gains taxes in the fashion suggested by Biden would result in just $469.4 billion in revenue over 10 years. That may seem like a lot, but most of the forecasted tax revenue will be back-end loaded and is actually paltry when compared with projected total government outlays of $6.6 trillion in fiscal 2020 alone. Capital gains taxes account for about 5.2% of tax revenue on average.”
Initial Jobless Claims fell again to a one-year low of 547k. Despite the recent decline in state unemployment claims, the total number of unemployment benefits, including Federal programs, rose by 500k to 17.4 million. It has been hovering around this level for all of 2021.
Existing Home Sales were weaker than expected at 6.01mm annualized sales, down from 6.22mm last month. The monthly decline of 6.6% is due to higher mortgage rates, higher prices, and a limited supply of homes on the market. The report stated there were slightly over 1 million homes for sale in March. To stress how little supply is available on the market, that number is 28% less than last March, when the economy was reeling from COVID lockdowns. Even with the declines over the last two months, Existing Home Sales remain well above the rates of the prior ten years.
Yesterday we discussed how SPACs and Bitcoin can help us gauge the market’s desire to take on risk. We would be remiss if we did not mention Lumber. The price of Lumber futures is up nearly 300% from pre-COVID levels. While supply line shortages and heavy construction demand for lumber are driving its price higher, speculation is also playing a role. Add lumber to the list of “risk-on” assets to keep an eye on.
Per Bloomberg, Dogecoin (cryptocurrency) is now worth more than Ford and Kraft Heinz. Per Yakob Peterseil at Bloomberg:
“No one thinks these blue-chip stocks are all that comparable to Dogecoin, a fringe asset with no real purpose beyond being a joke on social media. But the similarity of their market values underscores the boom in cryptocurrencies that’s taken Wall Street by storm.”
April 21, 2021
Over the first two months of 2021, SPACs were all the rage. From January through February 17th, the IPOX SPAC Index rose 27%. Since then it gave up all of the gains and is down over 3% year to date. The quick rotations into and out of risky products have been a hallmark of the last year. As we noted with BTC below, following these trends can yield important clues about market sentiment.
The Bank of Canada (BOC) appears to be the first central bank to reduce COVID-related QE bond purchases. Partially driving the decision is a sharp rise in home prices. To wit: “We will continue to have an eye on the threats posed by the dramatic increase in home prices.” One has to wonder if the Fed is harboring similar thoughts.
The graph below is of Bitcoin’s (BTC) price for the last year. We follow it, in part, because the “risk-on” trade in some equity sectors has been well correlated with BTC. As shown the recent 5-6x increase in price from last fall had good support in its 50-day ma as well as the white support line. Over the last few days, it has broken below both. BTC is certainly extended and due for a pull-back. Given how much its risen in just months, a decline to the 200-day ma (34,123) should not be shocking. Equity investors in some of the high-flying stocks linked to BTC, like Tesla, Coinbase, Overstock, and Microstrategy, should pay close attention.
The following series of graphs, courtesy of Brett Freeze, shows bank lending growth contracted for the first time since 2010. At the same time, securities and cash held by the banks are rising rapidly. QE is designed to spur loan growth but, as shown, banks are using the Fed reserves to buy investment assets, not make loans. This is one reason QE has been a strong tailwind for asset prices but unable to help sustain economic growth.
The graph below, courtesy of Zero Hedge, further confirms Brett’s analysis. As shown, loan growth from the four largest banks has been flat since the 2008 financial crisis despite a doubling of bank deposits. Prior to 2008, banks used deposits to make loans, and accordingly, they tended to grow at very similar rates.
April 20, 2021
Coca-Cola is raising prices to help offset higher input costs. Per CNBC they “join a number of other consumer giants, such as Kimberly-Clark and J.M. Smucker, in hiking prices.” With the price of many commodities up significantly over the past few months, investors will be looking to see if they can raise prices to help stop profit margins from shrinking, yet, at the same time, not hurt demand for their respective products.
Last week we shared data from the BLS JOLTs report showing that despite a large number of unemployed people, employers are having a hard time hiring. To that end, we ran across a report from Business Insider which claims McDonald’s is paying people $50 just to interview for a job and “it’s still struggling to find applicants.” The graph below tells a similar story for companies in search of truck drivers.
Julian Bittel, in his graph below, argues that the recent surge in equity valuations implies poor future 1-year returns. As such, the gray line, the equity to bond ratio, should fall sharply, meaning bonds will outperform stocks. If true this would represent a reversal of the last six months in which bond prices fell while stock prices rose.
The graph below, which was accompanied by a few tweets from Jim Bianco, shows the rolling annual Federal deficit in dollar terms at the top left, and as a percentage of GDP at the bottom left. Per Jim Bianco “As this chart shows, the last 12-months the deficit was hard to understand $4+ trillion. As a % of GDP it was equally hard to understand 19%.” The second chart shows that the only time the government went into as large a deficit, as a percentage of GDP, was during WWII. The financial crisis of 2008 and the Great Depression, pale in comparison to the current deficit.
April 19, 2021
Federal stimulus is not likely to spark long-term inflation, says Lisa Abramowicz in an opinion piece recently published to Bloomberg.
“The headline numbers seem huge: Americans have $1.8 trillion in extra savings over the pre-pandemic total, according to the latest estimates by Bloomberg Economics based on data through February. A lot of this stems from about $877 billion of checks sent to U.S. households in three rounds of stimulus payments during the pandemic, which has helped consumers pay down debt and save.
The question, though, is how much of that they can truly deploy in the coming months. While March retail sales surged 9.8%, the most in 10 months, according to data released on Thursday, the jump comes on the heels of stimulus checks that spurred shopping sprees.”
Abramowicz goes on to explain,
“On average, American households set aside about 26% of their stimulus checks to buy things in the relatively near future, with most of the funds going toward savings and debt payments, according to an April 7 New York Fed research report.”
She concludes by stating that it’s tough to see how “helicopter money” alone could lead to sustained inflationary pressures in the US.
Top 10 Buys & Sells
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The economic calendar will be quiet this week. Of note will be existing home sales on Thursday and new home sales on Friday. The next Fed FOMC meeting is scheduled for next Tuesday and Wednesday. As such, speeches or comments from voting fed members will be sparse as they enter a self-imposed media blackout this week.
As shown below, the corporate earnings schedule will be much busier this week as we progress further into earnings season.
The graph below is a good tool to help define sectors according to Growth/Value and Defensive/Cyclical traits. As we have discussed sectors falling into the Cyclical/Value description were the best performing sectors when implied inflation was running higher in late 2020 and early 2021. Over the last month, with implied inflation values stalling out around 2.5%, Cyclical/Quality is taking back leadership. Generally speaking, the market has been keyed on value vs growth and seems to prefer cyclical over defensive sectors. You can map this to our weekly Technical Scorecard report to better evaluate sector rotations on a weekly basis. We are doing more work with this type of analysis that we hope to share soon.
April 17, 2021
April 16, 2021
Housing Starts for March came in above expectations at 1.739M units annualized versus the consensus estimate of 1.620M and a prior month reading of 1.421M. Housing Permits were 1.766M— slightly above expectations of 1.750M and a prior month reading of 1.682M. This is somewhat surprising given higher mortgage rates and record lumber prices are starting to weigh on homebuilders. Six to nine months from now, these positive readings could help alleviate the supply shortage currently facing the housing market.
Earlier in the week, we discussed the role higher energy prices are playing in boosting CPI. The graph below, courtesy of Jim Bianco, shows how Used Car prices are rising at their fastest annual pace in at least 20 years.
In Used Car Prices Soar and The Sticker Shock May Get Worse, MarketWatch comments on the situation as follows:
“How come? It’s a classic case of low supply and high demand.
There’s just not as many used vehicles for sale, for one thing. The pandemic forced rental agencies to slash purchases of new cars after a steep decline in individuals leasing cars at airport and other locations. Those vehicles typically are sold to used-car lots after a year or less.
At the same time, demand rose for used vehicles as more people avoided public transportation or moved from the cities to the suburbs to escape the coronavirus. Cox Automotive estimated that demand for used vehicles has doubled since last March.
Many Americans preferred used vehicles to save money in a time of great economic uncertainty, especially with the cost of new cars and trucks at an all-time. Earlier this year the average cost of a new vehicle surpassed $40,000 for the first time, the auto-research firm Edmunds found.
The imbalance is unlikely to end anytime soon.”
The chart below, courtesy of Ned Davis Research, shows retail investors are “all-in” so to speak. Rising stock prices and pitiful bond yields are pushing investors to take their highest allocation to equities since the days preceding the dot com bubble crash. It is worth reminding you of Bob Farrell’s investment rule #5: the public buys the most at the top and the least at the bottom.
April 15, 2021
**We apologize, there will be no 3 Minutes on Markets & Money this morning due to technical difficulties.
This morning CitiBank warned that peak credit losses may not occur until 2022. While the market is bulled up on the banks and their prospects, some seem to be losing sight that many loans and mortgages are in forbearance. As the borrowers are forced to make regular payments plus make up for missed payments, we are likely to see a decent number of defaults. The question facing banks is how much of their loan loss reserves do they need to hold in anticipation of coming defaults. Yesterday JPM said it released $5.2 billion in loss reserves, leaving it with $25.4 billion. As a comparison, they had $18.6 billion prior to COVID.
We start the day with much better-than-expected economic data. Initial Jobless Claims fell sharply to 576k versus expectations for a 700k increase. Retail Sales, with the help of newly minted stimulus checks, rose 9.8% on a monthly basis. Interestingly, despite the strong economic numbers, bond yields are falling this morning. The ten-year UST yield is currently down 4 basis points to 1.60%, about .15% below the highs from two weeks ago.
China has been a leading driver of global economic growth for the last decade-plus. Fueling the growth are exports, massive infrastructure projects, urbanization, and importantly, extreme leverage. U.S. economists pay close attention to their money supply or so-called “credit impulse” to gauge how much financial and economic leverage is being generated. As shown below, M1 has been growing at a relatively tepid rate despite the Pandemic. The PBOC (central bank) is making a concerted effort to limit further expansion of leverage in hopes of making economic growth more sustainable over the longer term. While prudent, it will weigh on short-term economic growth for not just China, but the U.S. and the rest of the world. The graph to the right shows Morgan Stanley’s expectation for reduced credit growth resulting from the PBOC’s actions to reduce leverage. As they note, commodity prices are likely to feel the sting as China is the world’s largest consumer of many commodities.
We have struggled over the last few months to reconcile the high and sustained rate of weekly jobless claims with the quickly recovering labor market. Zero Hedge recently published an article that seems to explain some of the divergences. Jobless Claims, as the title says, are claims for money, not actual payments. Just because one makes a claim for jobless benefits doesn’t mean they are given money. The graph below shows about 50% of claims, prior to COVID, resulted in payments. Currently, about 20-25% of jobless claims receive benefits. Assuming a quarter of claimants (versus historically half) actually receive benefits, the number of weekly claims is more in line with the unemployment rate.
April 14, 2021
The Coinbase (COIN – Crypto Exchange) IPO initially traded at $391, which is a market cap of just under $100 billion. For context consider Goldman Sachs has a market cap of $115 billion and Charles Schwab is $127 billion. Also, consider the largest stock exchange, prior to today’s offering, was the Hong Kong Exchange at $74 billion.
Following on the heels of CPI yesterday, we got more inflation data today. Import prices rose 1.2%, above the estimate of 0.9%, but 0.1% weaker than last month. Export prices rose 2.1% versus 1.6% last month and well above estimates of 0.9%. The Atlanta Fed released their Business Inflation Expectations at +2.5% annually versus +2.4% last month. Their reading is in line with CPI at +2.6% annually.
Per the latest NFIB survey, the number of small companies having trouble filling jobs is the highest since at least the early 1980s, as shown below to the left. Last week JOLT’s report also reported a high number of job openings. The graph to the right is the Beveridge Curve. It compares the number of job openings as a percentage of the working population (y-axis) to the unemployment rate (x-axis). The orange dots and the line show the path of this data over the last 13 months. While the labor situation has improved markedly, it is confounding unemployment is over 2% higher than pre-COVID despite a record number of job openings. Also, worth noting, the curve shifted right (green to blue) after the last recession. In light of the massive amounts of stimulus, which will weigh on future economic growth, might current readings be an early warning of another shift to the right?
Along with record prices come record valuations. The graph below, courtesy Top Down Charts, shows that a composite valuation using CAPE10, P/E (TTM), and 1yr. forward P/E is nearing its peak of 1999. This indicator will decline in the coming weeks with improved Q1 earnings reports. If earnings were to stay constant, the S&P would need to rise about 5% to take out the 1999 highs. While valuations are concerning and should raise our risk radar, we also have to recognize stocks may have further to climb. As we wrote in Zen and the Art of Risk Management–
“The market is grossly expensive, but as we stated valuations have poor predictive ability to help gauge what will happen in the next few weeks or months. Despite extreme valuations, we can ride the market higher with other greedy investors. However, unlike most investors, we are aware that the risk of significant losses is not minimal.”
“Quantifying downside risk allows us to have a plan in place to reduce or hedge risk when technical indicators and other signals alert us to potential changes.”
April 13, 2021
The monthly CPI data in the table below from Econoday is wrong. The monthly change in CPI per the BLS was +0.71%. After digging into the data we also learned that 0.39%, or more than half of the increase, is from energy prices.
The BLS uses energy data from three months ago. As shown below, oil rallied from the March 2020 lows and stabilized from June through November. In December, it started rallying again through late February 2021. It was this second spurt in oil prices that drove the gains in the March CPI number. Gains in January and February will also contribute to higher CPI levels over the next two months. Given the situation, most economists will focus on core CPI (excluding food and energy) data. Core CPI rose 0.3% last month. Food only added 0.02% to CPI in March.
Bond yields are falling this afternoon after the U.S. Treasury successfully auctioned off $24 billion of 30-year bonds. The bond was auctioned 2 basis points lower from where it was trading prior to the auction (the “when-issued” market.) After quickly rising over 1% starting in August, 30-year yields have stabilized over the last month.
CPI was .1% higher than expectations on a monthly and annual basis as shown below. While slightly warmer than expectations it was not as hot as the PPI print last Friday. This non-confirmation may prove to be a temporary relief for the bond markets.
The graph below shows the market’s breadth, as measured by the percentage of S&P 500 stocks above their respective 200-day ma, is at its highest level in over five years. With a reading over 95%, this gauge serves as a warning as markets fell sharply when it peaked at slightly lower levels in early 2018 and 2020. That said, prior peaks such as in the first quarter of 2017, saw breadth deteriorate without a sharp drop in the S&P 500.
The graph below, courtesy of Brett Freeze, shows consumer credit trends. Noteworthy, the year-over-year change in revolving credit (credit cards- non-seasonally adjusted) is falling at the sharpest rate since at least 1994. Despite the housing boom, non-revolving consumer credit is also trending lower, albeit still exhibiting positive growth. Personal consumption typically accounts for about two-thirds of GDP. As such, consumer borrowing is an important driver of personal spending.
Below is the corporate earnings schedule for the week:
April 12, 2021
St. Louis Fed President Bullard made an interesting comment today as follows: Fed’s Bullard Says 75% Vaccinations Would Allow for Taper Debate. For now, we will treat this as a one-off statement and not necessarily representative of other Fed members. However, If we hear similar rhetoric from other Fed members, the equity markets will pay closer attention to vaccination data and likely fret as they rise.
This will be an important week for economic data with CPI at 8:30 am ET tomorrow, Fed Chair Powell speaking on Wednesday, and Retail Sales due out on Thursday. Also on the radar will be the University of Michigan Consumer survey on Friday and, in particular, its inflation gauges. With PPI rising well above expectations last Friday, investors will be looking for confirmation in other inflation indicators. More important, will be any indications pointing to whether this bout of inflation is transitory or longer-lasting.
Q1 corporate earnings start this week in earnest. The banks will lead the way with JPM and GS releasing earnings on Wednesday, followed by many other big banks on Thursday. We are expecting strong reports from the large banks as they are likely to significantly reduce loan loss reserves. Further, the steeper yield curve should have increased margins, and the active trading environment bolstered trading revenue.
In the upcoming Q1 earnings reports, investors are likely to focus on rising input inflation costs and how companies will try to maintain or boost profit margins. Our friend Eric Cinnamond at Palm Valley Capital wrote an interesting article on the topic (LINK) that is worth reading. Here are few noteworthy passages:
Recent quarterly results and commentary of the businesses on our 300-name possible buy list support my anecdotal observations. With declining inventories and rising costs, companies have been reducing promotions to protect gross margins and receive full price on their limited supply.
Another business we follow, Big Lots (BIG), also reported fewer promotions, stating, “As our inventory levels were sold through, we were able to navigate through the holiday period with fewer promotions than last year. This reduction in markdowns significantly mitigated the pressure felt from increased spot freight rates and higher supply chain charges we incurred.”
Nike (NKE) discussed how supply chain shortages are negatively impacting sales, saying, “Starting in late December, container shortages and West Coast port congestion began to increase the transit times of inventory supply by more than three weeks. The result was a lack of available supply, delayed shipments to wholesale partners and lower-than-expected quarterly revenue growth.” Management also commented on its improved gross margins, partially contributing them to “higher full-price product margins.”
April 10, 2021
April 9, 2021
Chairman Powell will appear on 60 Minutes Sunday night. We presume he will talk up the economic recovery, pledge to keep the stimulus coming, and try to allay any fears of sustained inflation.
Producer Prices (PPI) surprised to the upside, rising 1% in March and 4.2% on a year over year basis. Expectations were for a gain of half a percent and +3.8% year over year. The 4.2% increase is the largest since 2011. We remind you, year over year analysis involves a comparison to March of 2020 when the economy wash shut down. Core PPI, excluding food and energy, rose .6% versus expectations of a .2% gain. CPI will be released next Tuesday. It will be interesting to see how much of the increase in input prices (PPI) corporations are able to pass on to consumers. The current estimate for CPI is +.5% and +2.5% on a monthly and annual basis respectively.
The graph below, courtesy of the Daily Shot, shows that 42% of stimulus checks are being saved and 34% are being used to pay down debt. While this bodes well for personal finances and helps explain the reduction in credit card balances, the stimulus is not stimulating the economy as much as politicians desired.
On April 29th the BEA will release the first-quarter GDP. The graph below shows the Atlanta Fed estimates growth will come in around 6%, while the consensus of economists is closer to 4%. The recent bump up in the Atlanta Fed forecast is primarily due to increased government spending forecasts and the robust housing market.
The chart below, courtesy of Macrocharts, shows that large gold outflows from the GLD ETF, as recently experienced, are typically followed by decent rallies. As shown 660k metric tons of gold were removed from the ETF in recent weeks, the second-largest withdrawal in the history of the ETF. We added a 2.5% position of gold via IAU three days ago in both the Equity and Sector models. Our internal money flow models are turning bullish, signaling the recent downtrend may be ending. The second graph shows that when RSI and MACD are extremely oversold (vertical gold lines), gold tends to rally. Further, gold bounced off its support trend line (ascending purple line) and formed a double bottom. The double bottom and trend support line provides us two relatively low-risk areas to establish stop-loss limits. If gold continues to show signs of a trend reversal we may add another 2.5% bringing the total to 5%.
April 8, 2021
“As of late February, investors had borrowed a record $814 billion against their portfolios… up 49% from one year earlier, the fastest annual increase since 2007… Before that, the last time investor borrowings had grown so rapidly was… in 1999.” – Investors Big and Small Are Driving Stock Gains With Borrowed Dollars. -WSJ
The economic recovery will face some challenges in the months ahead. One of them is that Federal/state actions allowing renters and mortgagees to skip payments and making evictions illegal will shortly end. As this occurs, those the did not make payments will have less money to spend for general consumption as they will have to pay rent/mortgage payments or face eviction. To this end, the Texas Supreme Court is allowing the emergency forbearance order to expire and will not enforce federal orders to stop evictions. For more, NPR wrote the following article: Texas Courts Open Eviction Floodgates: “We Just Stepped Off A Cliff.”
Despite the blockbuster jobs report last week, Initial Jobless Claims continue to make very slow progress lower. This past week 744k new people filed for claims versus 728k the prior week. The number of federal and state continuing claims continues to hover around 18mm, the same level it has been stuck at for the last four months.
Yesterday’s Fed minutes from the March FOMC meeting were as expected for the most part. Below are a few noteworthy sections:
- “Participants noted that it would likely be some time until substantial further progress toward the Committee’s maximum-employment and price-stability goals would be realized and that, consistent with the Committee’s outcome-based guidance, asset purchases would continue at least at the current pace until then.”
- Per CNBC -” Though inflation shows up 64 times in the minutes, Fed officials indicated little concern that it might become a problem anytime soon. One notion in the minutes said that inflation forecasts were right around where FOMC members expected.”
- “Disorderly conditions in the Treasury markets or a persistent rise in yields that could jeopardize progress toward the Committee’s goals were seen as cause for concern”
After the minutes were released, Lael Brainard essentially defined “Disorderly Conditions”: “I would be concerned to see disorderly conditions, like we saw Feb. 25.” On February 25th, the ten-year UST yield increased 13 basis points which represents a 2.73 standard deviation move. The graph below shows the daily standard deviation of changes in ten-year UST yields over the last ten years. A change of 2.73 or greater has occurred 41 times in the last ten years. In other words, the bar is set pretty low for the Fed to potentially take action to limit yields rising.
April 7, 2021
Per the headline below, some of the supply line-related problems are improving. Any inflationary pressures due to these temporary problems should abate with continued normalization.
* NATIONAL RETAIL FEDERATION – CONGESTION AT U.S. PORTS IS ABATING AS CONTAINER CARRIERS AND TERMINALS ADJUST TO NEW NORMAL
The graphs below show the MBA’s Purchase and Refi Indexes as compared to mortgage rates. We are watching them closely to see how higher mortgage rates affect both indexes and therefore the economy. In the first graph, showing the Purchase index versus the mortgage index, the index has not fallen significantly despite rates rising by about .60%. The correlation between home purchases and rates will likely be low for the time being due to the limited supply of houses on the market and rates that are still well below the 4.25% average for 2018/2019. The Refi index, on the other hand, is much more sensitive to the change in rates. The Refi index is back to pre-COVID levels despite rates that are still .50% lower. New home purchases play a large role in economic activity and job growth. Refi activity is also economically important as it allows existing homeowners to reduce their mortgage payments, allowing them to spend more.
Most economic data is reported on a year over year basis to help minimize seasonal effects. Data coming out over the next few weeks, for March of 2021, will be compared to March of 2020 when the economy was paralyzed. The graph below of credit card spending shows how the so-called “base effect” warps annual change (year over year) reporting. As shown, credit card spending is up an astonishing 64% versus a year ago. However, compared to more normal economic periods it is actually down 3.2%.
The two graphs below tell a similar story- Investors rooting for more inflation better be careful about what they wish for. The first graph, courtesy of Brett Freeze, shows that valuations have historically declined as the volatility of CPI increases. The second graph, from the Daily Shot, highlights that lower valuations are associated with higher levels of CPI. The current CAPE is 35. As shown in the second chart, the maximum CAPE for any historical CPI reading greater than 3% is in the low 20s. A decline from 35 to 20, assuming no change in earnings, entails an approximate 40% price decline.
April 6, 2021
The Job Openings and Labor Turnover (JOLTs) report from the BLS pointed to more good news on the labor front. Per the report, the number of job openings rose by 286k to 7.37m, back above where it was before the pandemic. At the peak a year ago, there were 4.60 unemployed workers for every job opening. That ratio has shrunk significantly to 1.40 but it still has room to fall as it was below 1.00 for much of 2019.
The chart below shows ten-year UST yields (white) and Fed funds (yellow) since 1986. Overlayed on the chart is the regression line as well as one and two standard deviations from the line. As circled, each time the yields hit the +2 standard deviation line, yields quickly reversed lower. Currently, the line comes in slightly north of 2%, about .25-35 bps higher than today’s level. The only difference between today and the past is Fed Funds. In the past, the Fed increased Fed funds multiple times before 2 standard deviations were reached. Today, the Fed is nowhere close to raising Fed Funds. If yields break above the 2 standard deviation line, not only would it be unprecedented, but it may cause the Fed to consider options such as Operation Twist, to stem further yield increases. For more on Operation Twist- Its Time To Do The Twist Again.
Last week we discussed how the hedge fund Archegos used total return swaps and shared collateral to amass significant leverage in the equity markets. A reader asked us to better explain what total return equity swaps are, so here it goes: A total return swap (TRS) is a swap agreement (derivative) allowing one party to receive a payment based on a set rate, usually, LIBOR, while the other party receives payment based on a fixed or variable rate. With an equity TRS, the transaction typically involves the bank receiving LIBOR plus a fee, while the hedge fund/investor receives the total return (price and dividend) on a stock, a basket of stocks, or an index. The benefit for the investor is they only need to put up collateral to back the trade and can therefore create leverage. Second, because they do not hold the stocks directly, they can avoid regulatory ownership rules. In the case of Archego, they used the same collateral with 7 different banks, meaning they could employ 7x the leverage normally gained on TRS. If you want to learn more, the WSJ has an excellent description of TRS including more color on how Archego used the swaps- LINK.
It is likely Archego is not the only fund to back TRS with shared collateral. As we saw with stocks used in Archego’s TRS, like VIAC and DISC, upward and downward volatility can be amplified due to the extreme leverage.
April 5, 2021
***We are having a data issue this morning on numerous pages. Please bear with us as we fix the problem.
Treasury Secretary Janet Yellen is pushing for a minimum global corporate tax rate. On the heels of Biden’s plans to retract Trump’s corporate tax rate cut, Yellen would like to see similar measures taken abroad. It appears she is concerned that higher taxes on U.S. corporations will impede their global competitiveness and incentivize companies to offshore operations. Per her speech:
“Together we can use a global minimum tax to make sure the global economy thrives based on a more level playing field in the taxation of multinational corporations and spurs innovation, growth, and prosperity,”
Today’s ISM Services survey, similar to last week’s manufacturing survey, was much stronger than expected, coming in at a record 63.7. The prices paid sub-component is now the highest since 2008.
This week should be relatively quiet on the economic front. Likely garnering the most attention will be PPI on Friday. Surveys and expectations continue to point to a surge in inflation, but PPI and CPI have yet to show the same. It is worth noting that PPI is for March, thus year-over-year data will show an uptick due to strong deflationary conditions last March. The current expectation for PPI yoy is +2.5%. The Fed’s minutes from the last FOMC meeting three weeks ago will be released on Wednesday.
In our ongoing quest to gauge inflation expectations, we present a new graph. The chart below shows the relatively strong correlation between the Australian dollar and U.S. 5-year inflation breakevens. The correlation is tight because Australia is a large commodities producer/exporter and almost all of their trade occurs in U.S. dollars. As such, the value of their currency is closely tied to inflation expectations. Since January 1, 2021, the AUD is unchanged while implied inflation is up by nearly .50%. Either the correlation may be temporarily breaking down, the AUD is signaling a weaker dollar, or the AUD is warning that U.S. bond traders may be pricing in too much inflation.
April 4, 2021
April 2, 2021
Markets are closed today for the Good Friday holiday!
The BLS Employment Report was stronger than expected at 916k versus 468k last month. The unemployment rate fell to 6% from 6.2%. Average hourly earnings fell, likely because many new hires are in the service industry which tends to be low-paying jobs. The sector accounting for the most jobs gained was the leisure and hospitality sectors with a pick up of 280k jobs. A summary of the report is below.
April 1, 2021
With today’s equity market rally, the VIX (volatility index) has fallen back to pre-COVID crisis levels. The dotted line shows the current sub-18 reading is fairly typical for the two years preceding the pandemic.
The ISM Manufacturing Survey came in at 64.7, the highest level since 1983! The Prices Paid sub-component rose further to 86 from an already high 82.10. The prices paid reading is in rarified territory. Since 1950, it has only been above 90 for a total of 18 months. Two of those months were in 2008, the remaining data all occurred before 1980.
Weekly Jobless Claims rose by 61k to 719k. Through March 13th, there are still 18.2 million people receiving state or federal jobless aid. The volatility of the workforce in regards to the number of people being hired and fired is tremendous. Consider, the market is expecting the BLS to report that, in aggregate, 625k jobs were added last month. During the same month, almost 3mm people lost their jobs according to weekly jobless claims data.
The bond markets will close at noon ET today and the equity and bond markets will be closed tomorrow for the Good Friday holiday. Despite, market schedules, the BLS employment report will still be released tomorrow. Current estimates point to strong job growth in March, as shown below.
Welcome to April. The graph below, courtesy of Bank of America, shows that since 1928, the month of April has the second-best average monthly return (+1.37%), and posts positive returns nearly two-thirds of the time. Only December, at 74%, has a better win-loss percentage.
The graph below, courtesy of the Visual Capitalist, shows the problem the Fed faces as interest rates fall too much. The green dots show that household spending increase as interest rates decline. This occurs in falling rate environments as less interest earned on savings makes saving not as desirable. Further lower borrowing costs incentivize people and corporations to borrow and spend. However, the benefits of lower rates start reversing when the 10-year UST yield falls below 4%. The Fed tries to steer economic activity by manipulating interest rates. While their intent is to enhance economic activity with lower rates, they may have pushed rates too low and their actions are actually having the opposite effect. This is known as the Paradox of Thrift.
March 31, 2021
The NAR pending home sales data for February was weak. To blame is the cold snap in the midwest/south and rising mortgage rates. That said, the data comes with a grain of salt as the supply of houses is abnormally low. Per NAR President Lawrence Yun: “The demand for a home purchase is widespread, multiple offers prevalent, & days-on-market are swift but contracts are not clicking due to record-low inventory,”
The Chicago PMI manufacturing survey rose sharply to 66.3 versus 59.5 last month. The current reading is the highest since Q3-2018. The employment and priced paid sub-indexes continue to rise. The broad index is now within a couple of points of the prior peaks of the last 30 years.
The ADP Jobs Report was slightly stronger than expected at +517k and well above last month’s +176k. Not surprisingly, approximately a third of the new jobs were in the leisure and hospitality industry.
This morning there is more troubling news on Archego leaking out. It is now rumored that the hedge fund used the same collateral to enter equity total return swap contracts with as many as seven banks. Given there is already some leverage embedded within the swap structure, using the same collateral allowed them to amass at least 7x leverage. Assuming such leverage, a decline of 14% in the equities underlying the swaps would bankrupt the fund, leaving the banks on the hook for the equity exposure within the trades and no collateral to protect them. It is rumored that Goldman Sachs and Morgan Stanley were aware of this early and liquidated Archego’s swaps. They were likely to seize the collateral to help offset losses. Nomura, Credit Suisse, and other banks were left holding the bag.
Today, Joe Biden is expected to release an array of tax proposals to help fund his aggressive spending plans. The four biggest changes, based on what has been leaked, are highlighted below:
- Raise the corporate tax from 21% to 28%
- Impose a minimum tax on profits of foreign subsidiaries
- Tax capital gains as regular income for high wealth/income classes and tax unrealized gains at death
- Raise the top individual tax rate to 39.6% for those making $400k or more
With the quarter ending today, corporate earnings reports will hit the wires in the second half of April. Unlike any time over the last decade-plus, inflation will be a key topic in earnings commentary and management calls. Manufacturing surveys, such as ISM (Prices Paid) shown below, are reporting that a large percentage of companies are bemoaning higher prices for raw materials. As such, profit margins are at risk if higher input costs can not be passed on to the consumers of their respective goods. The Financial Times recently published an interesting article on the topic entitled U.S. companies sound inflation alarm.
March 30, 2021
Consumer Confidence jumped sharply from 90.4 to 109.7, the largest monthly increase since 2003. The surge in confidence is a good sign the economic recovery continues. Stimulus checks, vaccinations, and the reopening of the economy should help improve confidence going forward.
The graphs below, courtesy of Brett Freeze, show the strong correlation between the price of gold and the combination of 10-year real yields and the Japanese Yen. Per the chart, the correlation of Brett’s model is significant with an R-squared of .88, denoting 88% of the price of gold is based on real yields and the yen. Gold is trading at $1680 this morning, slightly below its average premium to the model, but still about $30 above the model’s fair value.
The nine charts below show the large declines in stocks that are said to be part of the Archegos liquidation occurring Friday and yesterday. It is possible banks/dealers may still own sizeable shares of these companies as they are waiting for some price recovery or the new quarter to sell the rest. In other words, the selling pressure in these names may not be over. It is now rumored that Credit Suisse Bank is now looking at losses of $7 billion, up from estimates of $4 billion yesterday.
Yesterday afternoon Press Secretary Psaki announced that Biden is planning on rolling out another COVID stimulus relief bill in April, separate from this week’s forthcoming infrastructure plan. Bond yields rose, in part, on concerns of even greater federal spending.
ZeroHedge put out an interesting article in which they discussed a sharp uptick in corporate stock buybacks. The graph below from the article shows the four-week running average is now at a record high. Over 55% of the buybacks were in the technology sector, which is not surprising given many of the larger technology firms have large cash balances and shares that have been relatively depressed. Financials were second, accounting for about a quarter of the buybacks. Given many banks will be shedding loan loss reserves in the coming quarters we suspect they will continue to buy back shares.
March 29, 2021
On Wednesday President Biden will release details of his infrastructure plan as well as plans on how to fund it. The markets, thus far, have focused on spending and its stimulative effect, but at some point, it will also have to factor in likely increases in personal and corporate tax rates.
Shares in Viacom (VIAC) started the year at $40, rose to nearly $100 by mid-March, and just over the last week fell back into the 40s. We learned this weekend the sharp losses in VIAC, along with DISC and a few other stocks is due to a large, heavily leveraged hedge fund (Archegos Capital) failing. Nomura and Credit Suisse Bank are said to be taking larges losses as a result. Other European banks are also at risk, but thus far no significant losses have been pinned on U.S. banks. For more on the story from Reuters- LINK
The first quarter ends on Wednesday, which might induce some volatile price action due to portfolio rebalancing. Such trades may help bonds as many investors are likely under-allocated to bonds due to their steep price declines the past few months.
This week we get updates on the labor market with ADP on Wednesday and the BLS employment report on Friday. The current estimates point to a pick-up in job growth with a gain of 480k jobs and a 0.2% decline in the unemployment rate. Interestingly, we cannot trade on the BLS data as the markets will be closed for Good Friday.
Also this week, the Chicago PMI and ISM Manufacturing survey will provide us March readings. Investors will focus on the underlying prices data to better assess inflation expectations.
The graph below shows what Treasury bond and TIP yields imply about future inflation expectations. The graph shows the difference between implied inflation expectations for the five-year period starting five years from now versus that of the next five years. As shown, a year ago the markets were concerned that the lockdowns were temporarily deflationary. As such five-year inflation expectations rapidly fell about 1% more than those five years in the future. Since then the tide reversed. Market prices now imply inflation will run .38% lower in years 2026-2031 than the next five years. We can use this graph to help determine if the market believes the Fed in that inflation will be transitory. Currently, bond investors concur with the Fed. If the difference continues to decline it will represent further confirmation.
March 27, 2021
March 26, 2021
The University of Michigan Consumer Sentiment Survey was strong for the month of March. The index was 84.9, up from 76.8 in February and above estimates of 83. 1-year inflation expectations were unchanged at 3.1%. The latest round of stimulus coupled with economic reopening and better than expected uptake of vaccinations is boosting consumer confidence. Interestingly, inflation-adjusted income expectations were 1.1%, the lowest since January 2017
Late Thursday afternoon the Fed announced, as of June 30th, they will remove restrictions on the ability of most banks to buy back their shares or increase dividends. The announcement should provide more upside impetus for the sector.
Mikael Sarwe of Nordea Markets recently published A Perfect Storm Brewing Part 2, in which he forecasts yields and inflation can increase significantly from current levels. The base of his argument is that the COVID-related recession will be short-lived and the amount of stimulus is unprecedented. To wit: “It is important to understand that the slump of 2020 was a disease-driven output shock and not a recession where economic imbalances got laid bare as central banks tightened policy by hiking rates. From a macro perspective, 2020 was nothing like the financial crisis, after which it took 10 years to close the output gaps created by the crisis. This time, as soon as the root cause of the output shock is cured, which will be very soon, the economies can be expected to get back to the starting point very quickly.”
In regards to CPI he wrote: “To me, there is a high likelihood of US core inflation spiking the coming months, falling back slightly over the summer but then reaching new highs in late 2021. Perhaps we will see the highest core CPI in almost 30 years?”
In his opinion, a strong recovery coupled with central bankers that will be slow to remove stimulus and aggressive fiscal stimulus is a recipe for more inflation and stronger growth. He does warn however that while his forecast may seem rosy for equity investors, there is a strong inverse correlation between the forward S&P P/E and the 5-year real yield. If real yields rise as he forecasts, forward P/E’s should decline, creating a headwind for stock prices.
The article is full of compelling graphs. We share two of them below.
March 25, 2021
Weekly Initial Jobless Claims fell to 684k. This marks the first week below 700k since the Pandemic started! The number of claims for Federal assistance also fell nicely from 284k to 241k. Continued improvement in the labor market should help reduce the number of continued state and federal claimants which remain near 19mm.
The Tweet and graph below from SentimenTrader show that “smart money” has been selling at a rate not seen in over 20 years. It is theorized that so-called “dumb money” buys or sells at the market opens on emotions, while “smart money” digests the day’s events and makes more calculated trading decisions later in the day. Click HERE to read more on the Smart Money Index.
The graph below shows that investor cash inflows on Tuesday into the Tech sector were the largest in nearly 20 years. The sector has recently fallen out of favor as interest rates have risen. Interest rates are now consolidating/declining and with that, it appears we are seeing investors rotate back toward the “safety” of technology from more risky sectors like energy, value, and small-caps.
The graph below came from a WSJ article entitled Everywhere You Look, The Global Supply Chain is a Mess. Shortages of raw and finished materials are causing inflationary pressures. Chairman Powell understands these problems are temporary and thus his belief that inflationary pressures are transitory. Per the article:
“The long-term economic impact remains unclear. Federal Reserve Chairman Jerome Powell said at a press conference Wednesday that he expects supply chains to adjust as economic growth accelerates. “It’s very possible, let’s put it that way, that you will see bottlenecks emerge and then clear over time…. These are not permanent. It’s not like the supply side will be unable to adapt to these things. It will—the market will clear. It just may take some time.”
It is worth noting that yesterday’s weak Durable Goods data and forthcoming manufacturing data will be negatively skewed as manufacturers, in many cases, are unable to produce enough to meet demand.
March 24, 2021
The Federal Reserve of Dallas surveyed 92 energy firms to arrive at the chart below showing the break-even price of oil required for said firms to operate profitably. The line represents the average price per region and the tops and bottoms of each bar represent the survey’s high and low prices. WTIC is currently trading at $60, above the mean for each drilling area below.
Late yesterday afternoon, Fed Governor Lael Brainard echoed Powell’s and Yellen’s comments from earlier in the day. The headline is as follows: “FED’S BRAINARD: WE HAVE SEEN SOME CLASSES OF ASSETS IN THE HIGH END OF THEIR HISTORIC RANGES.”
It is not a coincidence there are suddenly multiple comments on the topic of asset inflation. It serves as a warning, of sorts, the Fed will not be uber-reactionary to a small drop in stock prices. That said, a decline of 20% or more and they are likely to voice concern and possibly take action.
With inflation expectations on every investor’s mind, it’s worth remembering Goodhart’s Law. Charles Goodhart’s adage states when a measure becomes a target, it ceases to be a good measure.
The following paragraphs, Courtesy of Prometheus Capital, quantify how the Fed’s QE purchases have skewed the implied inflation markets higher by about .60% to .70%, limiting its value as a “measure” of potential inflation.
The Fed Stimulated The TIPS Market Disproportionately
Another strong market signal of inflation expectations is breakeven inflation. To calculate breakeven inflation, we subtract the yield on a TIPS bond from that of a nominal bond, giving us “what the market thinks” about inflation. Hence, there are two potential causes for higher breakevens, a higher nominal bond yield or a lower TIPS bond yield. Below, we show how we have seen more of the latter, i.e., lower TIPS yields:
Given that the TIPS rate is predominantly driving the breakeven rate, we think it makes sense to look at what is causing this move. In today’s treasury markets, the largest driver of market moves changes in the Fed’s share of an existing market. We show this for the TIPS market and nominal bond market below:
In response to the COVID-19 crisis, the Federal Reserve purchased large amounts of the outstanding treasury market. However, the distribution of these purchases was not entirely even. While the Fed initially both TIPS and nominal bonds at an equal rate relative to their market size, over time, the Fed ended up purchasing more of the TIPS market than the nominal bonds market. The divergence in these purchases has led to more downward pressure on TIPS bonds than on nominal bonds, i.e., it has driven breakeven inflation to higher levels. We can see this impact below:
In the above scatterplot, we are looking at the relationship between two items. The first is the relative change in the Fed’s market share of TIPS versus nominal bonds. We calculate this by taking the year-over-year change in the Fed’s share of the TIPS market, minus the year-over-year change in the Fed’s share of the nominal bond market. The second item is the year-over-year changes in breakeven inflation.
We observe that as the Fed increased its market share of TIPS faster than of nominal bonds, breakeven inflation rose. Hence, we don’t think the TIPS market is necessarily pointing to higher inflation; it is just telling us that there has been disproportionately more demand for the outstanding asset base.
March 23, 2021
Stocks weakened throughout the afternoon in part due to comments from Janet Yellen and Jerome Powell in which they said asset prices were elevated versus historical norms. While truthful, such statements are not typical from the head of the Fed and U.S. Treasury. The graphs below show the small/mid-caps, and the recent sectors outperforming the market took the brunt of the selling pressure.
Following yesterday’s weaker than expected existing home sales report, today’s new home sales data also struggled in February. Yesterday we mentioned weather as a factor along with higher mortgage rates and home prices. Interestingly, the weather story accounts for some weakness but prices and mortgage rates are also playing a big role. New home sales in the midwest fell sharply, but they also did in the Northeast and the West, where February’s weather was not a problem. The supply of new homes measured in months rose from 3.8 to 4.8. As shown below, the seasonally adjusted annual rate of new home sales is back to pre-COVID levels.
The Tweet below provides a 30 year perspective on the lower progression of U.S. Treasury yields and the shape of the yield curve.
According to Julien Bittel there is “no shortage of bulls out there.” His graph below shows the strong correlation between the University of Michigan (UM) survey of participants expecting stocks to rise and the price ratio of stocks to bonds (SPY:TLT). The current UM level, 65% of the participants expecting stocks to rise in the next year, is near 20-year highs. Per Julien: “Highest since Feb ‘20 & only 3 months in the last 20Y have we been higher.“
We expand on the current state of extreme bullish sentiment with the graph below, courtesy of Goldman Sachs. The graph shows short interest is back to the record lows last seen prior to the tech crash of 2000. Neither graph dictates that a sharp decline is imminent, but they do serve as a warning that everyone is on the same side of the boat. We will continue to respect the move higher but are careful not to get complacent to historical levels of sentiment and valuations.
March 22, 2021
The combination of higher prices and mortgage rates is starting to weigh on the housing markets. Existing home sales are still elevated but fell 6.6% last month to a six-month low. Even with the decline, the number of home sales is running about 700k more per year than pre-COVID.
The Chicago Fed National Activity Index unexpectedly fell sharply to -1.09 from .75. This was the first decline in the index since March of 2020. Prior to 2020, the last time the index was this negative was during the financial crisis. We must be careful not to read too much into the report as it may be an anomaly due to the cold snap in February.
Last Friday we noted that the Fed’s SLR exemption, temporarily removing capital requirements on bank’s reserves and U.S. Treasury holdings, was not extended and will expire at the end of the month. The graph below, courtesy of Bloomberg, shows bank balance sheets are bloated with reserves (from QE) that will now require capital. To accommodate the reserves, banks can sell assets to free up capital or raise capital via equity offerings. Also, the banks may sharply reduce loan loss reserves in the current quarter which will increase profits, thereby increasing capital.
Jerome Powell is taking to the media to clarify the Fed’s recent FOMC meeting and better justify continued aggressive monetary policy despite solid economic recovery. On Friday, the WSJ published an editorial by Powell in which he reviews his actions over the last year. He ends as follows: “But the recovery is far from complete, so at the Fed we will continue to provide the economy with the support that it needs for as long as it takes. I truly believe that we will emerge from this crisis stronger and better, as we have done so often before.”
Jerome Powell will also speak This morning, Tuesday, and Wednesday. With the Fed out of their self-imposed blackout period, Fed members will again be active on the speaking circuit.
Existing and New Home Sale data for February will be released today and Tuesday respectively. Other economic data due out this week include Personal Income and Spending, February PCE price index, and Durable Goods.
Despite all the hoopla about spending on clean energy, the growth of new investments in clean energy has not really increased over the last five years, as shown below courtesy of The Visual Capitalist.
March 20, 2021
Trading Desk Notes by Victor Adair
March 19, 2021
To some surprise, the Fed decided to let the Supplementary Leverage Ratio (SLR) expire on March 31. The SLR essentially allowed banks to avoid holding capital on reserves and Treasury bonds. We assume the banks knew of this ruling in advance and sold bonds. This may explain yesterday’s decline in bond prices. Stocks, led by the financial sector, are trading weaker this morning. Bond yields are up a few basis points, with the 10-year UST yield back to yesterday’s high of 1.75%.
Today is quad-witching today in the options market, so expect some volatility, especially at the open.
The graph below of real GDP helps put context to the market’s trepidation around the Fed’s new economic forecasts and current monetary policy. The Fed now expects real GDP growth of 6.5% in 2021 but intends to keep interest rates at zero and QE humming for two more years. It has been about 35 years since the U.S. experienced such strong economic growth. Running the economy hot with massive monetary and fiscal stimulus is a recipe for inflation, of which the bond or stock market is not priced for.
From a sector allocation perspective, the question we continue to grapple with is whether we expose ourselves more toward the inflation/reflation trade or the deflationary trade. Recently, that translates into deciding between the Dow (DIA) and the Nasdaq (QQQ). The graph below is a ratio of the price of QQQ to the price of DIA. It shows the ratio has consolidated in a very wide range over the last 8 months and is forming a megaphone pattern. If the ratio breaks lower out of the pattern, the inflation trade may have legs to the benefit of the DIA. If the ratio respects the pattern, tech/growth (QQQ) may have a period of nice outperformance. The MACD and RSI are grossly oversold pointing to the likelihood the ratio bounces in the coming weeks. The gray area from 2016-2017 shows a period when both indicators were deeply oversold.
The graph below charts Peter Lynch’s popular rule of 20 valuation method. His rule deems a P/E of 20 less CPI to be fair value. As shown, the metric just surpassed the highs of the dot com bubble and sits at 65+ year highs. The current flaw in his model is that it uses trailing earnings that are highly depressed from the pandemic and not necessarily representative of the current earnings potential.
March 18, 2021
**Lance Roberts is taking a much-needed vacation this week. Three Minutes on Markets will resume next week**
Markets fell in part due to crude oil but also a new lockdown in Paris France. They just announced that all shops will close on Saturday and remain closed and residents are advised to stay indoors. This is expected to last for 4 weeks.
Crude Oil fell sharply today with futures closing at $60 per barrel down over 7% on the day and nearly 15% from its recent highs. If the decline is sustained in the coming weeks, it draws into question the inflationary mindset driving markets.
The Philadelphia Fed Business Outlook soared to 51 from 26, the highest level since 1973. Within the report, the Prices Paid Index rose to levels last seen in 1979. Despite the rosy report on the economic outlook and continued economic reopening across the country, Initial Jobless Claims continue to languish. Initial Claims for the week rose to 770k up from 725k last week.
After a slow reaction, the bond market appears to have heard yesterday’s Fed’s message loud and clear. The ten-year UST yield jumped to 1.75% this morning. Jerome Powell stated that the economy was improving more quickly than expected, resulting in an upgrade of the Fed’s GDP, employment, and inflation forecasts. Of concern, despite the improved outlook, the Fed appears to be locked into its current policy for two more years. The Fed Funds market is not buying it. Fed Funds futures in late 2022 are now priced for a 50% chance of rate increase before year-end 2022. Higher rates, which will depress economic activity, and increasing odds the Fed tightens sooner than expected are likely to continue weighing on equity prices.
Below are 5 & 10-year real UST yields. As shown, both have been moving higher recently, resulting in marginally tighter financial conditions. While both real yields remain deeply negative, the recent increase provides some ballast to the Fed’s aggressive monetary actions. Tighter financial conditions will counter some inflationary pressures providing leeway for the Fed to keep monetary policy aggressive. This dynamic might help explain why the Fed seems unconcerned with rates rising in an “orderly” fashion.
The graph below provides guidance on where commodity prices may be headed over the next year. The blue line is an average of commodity pricing curves. It shows that current (spot) prices are higher than futures prices by about 10% on average. In other words, producers of commodities are financially incentivized to bring as much product to the market today instead of waiting. The black line shows spot commodity prices on a one-year lag. Not surprisingly there is a tight correlation of commodity prices to the shape of the futures curves from a year ago. If the correlation holds up over the next year we should see a steep decline in commodity prices as supply will ramp up quickly given the current price incentives and strong demand.
March 17, 2021
The Fed statement reads similarly to the last statement. The only difference of note is their forecasts for this year were increased. They see PCE inflation running at 2.4% for 2021, up from 1.8%. They believe it then falls to their target of 2.0% in 2022 and to 2.1% in 2023. They also upgraded 2021 GDP growth to 6.5% from 4.2%. 4 of 18 Fed members think they will hike rates in 2022, rising to 7 in 2023. The graphic below shows the Fed only made minor changes to the prior statement from January.
Stocks, oil, and gold are rallying on the statement, while bonds continue to sell-off and the dollar trades lower.
**Lance Roberts is taking a much-needed vacation this week. Three Minutes on Markets will resume next week**
Housing Starts were much weaker than expectations coming in at 1.42 mm units annualized versus expectations of 1.57 mm and a prior month reading of 1.584 mm. Starts hit a 14 year high in December at 1.677mm units. New Home Permits are also showing weakness, coming in about 200k units below last month’s level. Higher mortgage rates and inflation in timber, copper, and other goods used in housing construction are starting to weigh on homebuilders’ incentives to build new homes.
Today, the Fed will conclude its Federal Open Market Committee (FOMC) meeting and update its monetary policy stance. The statement, due for release at 2:00 pm ET, is likely to be very similar to last month’s statement. Jerome Powell will follow it up with a press conference at 2:30 pm. Investors are looking for any signs the Fed is concerned with inflation or inflation expectations. We suspect, they will continue to view any inflationary pressures as transitory. It is likely the Fed views the recent uptick in rates as a financial tightening, which gives them further room to keep the monetary pedal to the metal.
The graph below compares Retail Sales data from the Census Bureau and First Merchant Services credit card spending data. The two data series were very well correlated before COVID. Since then, the correlation has faded. There are two curious things worth noting about the chart. One, there is a divergence between the last data points. This may be a one-off effect from cash spending due to the latest round of stimulus checks. Second, data from First Merchant has not recovered as Retail Sales have. This is surprising because online spending accelerated during COVID lockdowns, and said spending requires a credit or debit card. The counterargument comes from the CEO of Brinks via CNBC- “Cash usage is up in the U.S., despite the coronavirus pandemic’s impact on the economy, cash management company Brinks CEO Doug Pertz said Tuesday.”
March 16, 2021
Today’s weak Retail Sales and Industrial Production data pushed the Atlanta Fed GDPNow forecast lower from over 8% to just under 6%. 6% is still very strong but more in line with Wall Street estimates.
Just as a reminder of how far the markets have come in the last year, we share a screenshot from CNBC from March 16, 2020.
As shown below February Retail Sales were weaker than expected, however, last month’s data (January) was revised decently higher. This data is difficult to assess due to seasonal quirks and the timing of the last round of stimulus checks versus when the data was collected. Also, the cold snap through the midwest and south, along with numerous snow/ice events on the east coast also dampened activity.
Last weekend David Brooks wrote an editorial for the New York Times, Joe Biden is a Transformational President, which is receiving a lot of attention. He basically applauds large federal spending packages designed to help the lower classes and shrink the wealth gap. Regardless of your politics, the paragraph below is worth reading closely to better understand the emerging mindset of economists and the Fed. Brooks essentially claims massive federal debts and aggressive Fed actions to “fund” the debt is not inflationary. In our opinion, this editorial is an important step toward acceptance of MMT (modern monetary theory). For more on MMT, we share a two-part article Lance Roberts wrote last year- The Theory Fall Flat When Faced With Reality.
“It was assumed, even only a decade ago, that the Fed could not just print money with abandon. It was assumed that the government could not rack up huge debt without spurring inflation and crippling debt payment costs. Both of these concerns have been thrown out the window by large numbers of thinkers. We’ve seen years of high debt and loose monetary policy, but inflation has not come.”
Will this time be different with “the restraints cast aside” as David Brooks puts it?
The graph below, comparing the Baker Hughes North American Rig Count to the price of crude oil, paints a bullish picture for the price of crude oil. As shown, oil is back to nearly $70 a barrel, similar to where it was in 2018 and 2019. Rig counts, on the other hand, are less than half the level they were at during those same periods. The combination of weak growth in the number of oil rigs employed and sharply growing demand for oil as lockdowns end argue for higher prices ahead.
March 15, 2021
SentimentTrader put out the following statistic this afternoon- “This is only the 7th time since 1897 that the Dow Industrials set 4 record highs in a row, gaining at least 0.5% each day. 3 of those triggered before 1900.“
With the $1.9 trillion stimulus deal signed, Biden is looking ahead to the next package. Unlike the prior bill which relies fully on debt to fund spending, the new deal is said to include funding via tax increases. Any tax increases will likely fall on the shoulders of the wealthy and corporations. The 2018 corporate tax cuts are set to expire in 2025, but it’s possible Biden reverses them sooner. Further chatter about corporate tax hikes is likely to provide a headwind for stocks, just as the tax cuts three years ago provided a boost to prices.
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The graph below shows the surge in used car prices occurring over the last 9 months. The most recent jump in prices appears to be a result of the late 2020 stimulus checks. With another round of stimulus checks coming we should probably expect the index to keep rising. Used car prices are not a relatively important component in inflation calculations, accounting for only 2.53% of the BLS CPI model.
There will not be any Fed speakers until after the Fed’s FOMC meeting on Wednesday. However, by early next week, we will likely see a wave of Fed members clarifying the Fed’s latest monetary policy statement. On the heels of the meeting, investors will no doubt pay close attention to any mention of how higher interest rates might affect Fed operations or economic activity.
On Tuesday, the Census Bureau will release February’s Retail Sales. It is expected to decline following last month’s surprise 5.3% increase. The gains last month were in large part due to the stimulus checks released in late 2020. On Wednesday, Building Permits and Housing Start releases will be the first chance to see if higher interest rates are affecting plans to build new homes. The NAHB Housing Market Index on Tuesday is expected to decline slightly. Zero Hedge recently published an article in which they discussed how rising commodity prices are adding to the costs of building new homes. Since early 2020, before COVID ravaged the economy, Copper has risen 161% and Lumber by 216%.
March 13, 2021
Trading Desk Notes For March 13, 2021 – by Victor Adair
March 12, 2021
Like the CPI report on Wednesday, today’s PPI report was near consensus expectations. Year over year PPI is now running at 2.8% versus 1.7% last month. Annual data is starting to capture the initial price declines from the COVID shutdowns last February, which elevates the year-over-year change.
Consumer Sentiment rose nicely to 83 from 76.8. The recent round of stimulus checks, another check coming, and vaccinations should help sentiment continue to improve through the spring months.
In the Tweet below, Jim Bianco asks and answers the most important question facing investors of all asset classes.
- Q: “When does this stop?”
- A: “When something breaks.”
His question and answer are based on Treasury yields from the last 40 years. Spurts higher in interest rates have more often than not resulted in financial and/or economic crises. Next Wednesday we will publish an article that quantifies how much more rates can rise before “something breaks.” The graph below the tweet shows relatively small increases in rates and the various crises associated with them.
Bond yields are rising sharply this morning despite relatively well bid 10 and 30-year auctions on Wednesday and Thursday. The 10-year UST yield is back to 1.60%, the recent high from Monday. Given the wedge-like pattern forming in the 10-year, it is becoming more likely it will break higher over the coming days/weeks. The dollar is trading higher, gold lower and stocks are mixed. As we have been seeing, higher yields are pushing NASDAQ futures down 1.5%, while the Dow Jones is slightly higher and the S&P falling in between the two indexes.
Does value beat growth in a rising yield environment?
At first blush, we would answer with a resounding yes. Our justification is value companies tend to use less leverage making profits not as sensitive to higher interest rates.
To help answer the question, we assessed nearly 100 years of data courtesy of Dartmouth (French/Fama). We created several statistical models and found no significant correlation between the value/growth trade and yields.
It turns out the task was simpler than we thought. All we needed to do was compare a value/growth index versus 10-year yields. The answer: value consistently outperforms growth, regardless of the rate environment.
The red shaded area denotes the last environment with consistently higher yields. The green period highlights the yield decline over the previous forty years. The second graph shows rolling five-year annualized returns of value versus growth.
Note- the last decade, in which growth has beaten value, is the anomaly, not the rule. Just as we started with a question, we leave you with one: are we entering a new paradigm?
March 11, 2021
The graph below helps answer a question that we have been asked numerous times over the past month- How do higher interest rates affect housing affordability? The graph compares mortgage rates in blue with the amount of home one can buy with a $3,000 monthly payment. Since January, mortgage rates have risen 41 basis points. During that period the amount of house which a $3,000 monthly payment could buy fell from $744k to $706k. Broadly speaking, for each 1% increase in mortgage rates affordability drops by 12%, and for each 1% decline in rates, a buyer can afford a 14% higher price.
The European Central Bank (ECB) surprised markets this morning by increasing its pace of QE “significantly.” To wit- “purchases under the PEPP over the next quarter to be conducted at a significantly higher pace than during the first months of this year.” Bond yields in Europe are falling as is the Euro versus the dollar. U.S. bond yields are declining slightly in sympathy and equities are rallying on the news. It appears the recent uptick in European bond yields, even though still negative in many cases, was enough to spook the central bank. The German 10yr-Bund yield which peaked at -0.23% a week ago, is now trading at -0.34%.
The term SLR is likely to become popular over the coming weeks. The SLR or Statutory Liquidity Ratio is the Fed’s regulatory mandate to banks quantifying the amount of capital they must hold for each asset type. In March of 2020, the Fed allowed banks to hold U.S. Treasury securities without any capital. The temporary ruling allowed the banks to more easily absorb the massive supply of Treasury issuance. Now, a year later, and the temporary ruling is set to expire (March 31st). If the change does not get extended, the banks will likely need to sell U.S. Treasuries to meet the SLR.
The graph below shows the ratio of the price of crude oil to the price of IEF, the 7-10yr UST bond ETF. As shown, the ratio is hitting a trend line that has reliably proven to be of strong resistance in the past. The graph argues yields and crude oil prices may be peaking.
March 10, 2021
The Game Stop games are happening again. GME closed last Friday at $137. This morning it rose $100 to touch $350. Within 15 minutes of hitting $350, the stock tumbled to $200. For a few minutes, GME was the largest stock in the Russell 2000 Index. GME is not for the faint of heart!
CPI came right on the screws as shown below. Helping moderate prices is the way the BLS calculates home prices. The BLS uses an implied rent model, which is currently at 10-year lows on a year over year basis. Case-Shiller and other respectable home price indexes are up over 10% the last year.
- US CPI 0.4%, Exp. 0.4%
- CPI Core 0.1%, Exp. 0.2%
- CPI YoY 1.7%, Exp. 1.7%
- CPI Core YoY 1.3%, Exp. 1.4%
The Fed has a 70 percent limit in regards to how much of any Treasury issue they are allowed to own. The quote and table below show the Fed, despite ongoing massive QE operations, has plenty of ability to keep buying. The declaration not only includes the $80bn a month in Treasury purchases via QE, but flexibility, as well, if they are to invoke Operation Twist. This morning we wrote on Operation Twist and what it may mean for markets – It’s Time To Do The Twist Again!
Per Danielle DiMartino Booth and Bloomberg: “The Fed “has >$1.3T of firepower left in securities w/> 7 years to maturity, w/$725B in 20-30-year sector. Looking at TIPS market, the Fed has $600B left before owning 70% of it (1-30 years)”
The graph below highlights how investors continue to rotate into and out of inflation/deflation sectors at a fierce pace. Yesterday, Technology was up over 4% and is still down 3.4% for the last 5 days. Conversely, Energy was down 1.29% yesterday and is up 4.48% for the last five days.
CPI will be released at 8:30 this morning. Yesterday, we suggested CPI Y/Y could rise 2.3% based purely on the price of crude oil. It is worth noting, our model uses month-end prices while the BLS takes an average of prices during the month. Given the sharp decline in oil prices in February, our model is likely to project a higher CPI Y/Y than the BLS.
March 9, 2021
One of the biggest storylines of the last few weeks is the strong correlation between bond yields and the NASDAQ. The graph below shows the running 20-day correlation between ten-year UST yields and QQQ. Note the current correlation is -0.92, meaning 92% of the price change in QQQ can be explained by yields. Today’s reading is the strongest bout of negative correlation in at least the last decade. Interestingly, the current 20-day correlation between the Dow Jones Industrial Average and bond yields is slightly positive, as energy and financials, which are more heavily weighted in the Dow, benefit to some degree from higher yields and rising inflation.
As shown below, the NFIB Small Business Optimism Index upticked last month but still remains at somewhat depressed levels. The table of the components helps better assess the employment situation for small businesses, which account for more than 50% of employment in the U.S. As shown, Plans to Increase Employment remain low at 18% (% planning to increase less % planning to decrease) but current job openings rose nicely to 40%. As economic reopening speeds up, small businesses will hopefully see a marked improvement in hiring plans.
The scatter plot below highlights the strong correlation between the annual change in crude oil prices and the annual change in CPI. The r-squared is statistically significant at .54. The orange dots show where the next four months of CPI should print based on the current price of oil and the model’s regression formula. The model’s estimate for tomorrow’s CPI year-over-year change is +2.3%. The estimate rises sharply to 4.8% in March and peaks at 8.9% when April’s data is released in May.
Driving the large inflation forecast are the plummeting oil prices from last spring and the resulting annual change. The coming huge percentage changes in many CPI components is one of the reasons the Fed has been very outspoken that the current bump in inflation is transitory.
March 8, 2021
Last week we wrote on negative repo rates and how it implied large short positions in ten-year Treasury notes. The chart below confirms our suspicions.
In an MSNBC interview, Janet Yellen parrot’s recent Fed member comments on inflation being transitory. Per Bloomberg- “I really don’t think that’s going to happen,” Yellen said in an interview with MSNBC Monday, when asked about concerns that consumer-price pressures could surge as a result of deploying the stimulus despite the economy already gathering pace. Inflation before the pandemic “was too low rather than too high,” she noted.
This is important because Janet Yellen has Biden’s ear. As such, he will be more likely to support the Fed letting inflation run hot.
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The economic spotlight will be on inflation this week. CPI will be released on Wednesday followed by PPI on Friday. The data is for February. Because of the very weak economic activity last February it is likely annual inflation measures will spike.
On Wednesday the Treasury will issue ten-year notes and on Thursday 30-year bonds. Everything else equal, these auctions will weigh on the bond market as banks hedge themselves in anticipation of buying a lot of this debt. The Fed should be relatively quiet as they enter their pre-FOMC blackout period. The next Fed meeting is March 16-17th.
We have been outspoken about equity valuations, so instead of beating on the same drum, we thought it might be helpful to share a message from our friend Eric Cinnamond, small-cap equity portfolio manager and owner of Palm Valley Capital Management (PVCMX). Per his note:
“Small cap stocks have been on a wild ride over the past year. We’ve been managing small cap portfolios for nearly three decades, and frankly, we’ve never seen anything like it. After declining 40% from its early 2020 highs, the Russell 2000 has increased 130% from March 2020 to February 2021! Based on current valuations, we believe our opportunity set has never been more expensive and risks never this elevated. Therefore, finding value in the current small cap market has become extremely challenging.”
March 6, 2021
March 5, 2021
January Consumer credit data released this afternoon continues to show declining credit card balances (revolving debt) and increasing non-revolving debt such as student loans and auto loans. Total consumer credit is slightly lower than last year. Non-revolving debt makes up about 75% of total consumer credit, yet a nearly 3.75% gain was not enough to counter an 11.60% decline in revolving debt. Seemingly, like most other economic data, trends are unlike what we were accustomed to prior to COVID.
The BLS Employment report was much stronger than expected at +379k jobs versus 49k last month and a consensus estimate of +175k. The U3 Unemployment Rate fell from 6.3% to 6.2%. Hourly earnings were up 0.2%, up from 0.1% last month. The only concerning piece of data in the report was hours worked fell from 35 hours per week to 34.6.
Stocks are rallying on the good news but bonds are selling off. The 10-year yield is back up to 1.60%, its high point from last week.
The graph below, courtesy of Brett Freeze, marries hours worked, the number of employed persons, and hourly earnings to produce an aggregate estimation of total income. As shown, the index fell for the first time since the recovery started. One month does not make a trend but his estimate bears watching.
Per the chart below from Gavekal, stock investors betting on inflation may want to rethink their strategy if inflation is truly to take hold. If you fall into this camp you should consider concentrating bets in sectors that benefit from rising prices and avoid most other sectors. Passive/Index investing strategies are likely to disappoint if inflation is not transitory.
Overnight repo rates on ten-year Treasury notes have been trading in negative territory. Essentially, the repo market is where those holders of bonds can lend bonds overnight to those that are short bonds. This them to make good on their short and deliver bonds to the entities they shorted bonds to. When a repo rate trades negative it means the supply of bonds being lent in the repo markets is scarce. The combination of aggressive Fed buying and aggressive short selling by investors is a key contributor to this problem.
The issue can resolve itself in a number of ways as listed below:
- Similar to GameStop, the shorts get squeezed by onerous overnight borrowing rates and cover their shorts.
- Treasury yields start falling and short investors cover their positions. Given a large number of short positions outstanding, this could cause a sharp move lower in yields.
- The Treasury will auction new ten-year notes next Wednesday which will should help alleviate the supply problem.
- The Fed can lend their ten-year notes to the repo markets and normalize the lending rate.
- The Fed shows concern for higher interest rates, which they have yet to do. This would result in short traders covering their positions on concerns the Fed will do “Operation Twist” or commit to buying more longer-term bonds.
March 4, 2021
Jerome Powell spoke and the bond market wasn’t thrilled. The ten-year UST is now trading back above 1.50%. Bond investors were hoping for some discussion on Operation Twist or at least heightened concern about rising rates. Instead, it appears he is comfortable with rising rates to some degree, as long as they rise in an orderly fashion. Stocks reversed gains and are trading weaker in sympathy with bonds.
- “The rise in rates caught my attention”
- “I would be concerned by disorderly conditions or a persistent tightening in conditions that threatens our goals”
- “If we do see a transitory increase in inflation I expect we will be patient”
Crude Oil is trading over 5% higher this morning at just under $65/barrel on news leaks that OPEC will not boost production by 500,000bpd in April as was widely expected. It is also rumored that Russia will be granted an exception allowing them to increase production by 130kbpd. The price of oil has fully recovered from the losses of the past year. As of noon, XLE is leading the market higher, up 3.5% on the day.
The number of weekly job layoffs remains high. Initial Jobless Claims for the week were +745k, up slightly from 736k last week. The Challenger Job-Cut report, measuring mass corporate layoffs was only 34.5k, down from 79k last month. Based on the recent trends in these two data sets it appears that smaller businesses account for the large chunk of weekly layoffs.
The graph below shows the number of weekly state and Federal jobless claims show no improvement since last Fall.
Fed Chairman Powell will speak at noon ET today. It’s likely that he will reiterate recent comments made by Fed Governor Lael Brainard. On Tuesday she said the recent surge in bond yields is being monitored and that she would be concerned by disorderly conditions in the bond market. She also said the Fed is not close to reaching its employment and inflation goals. To that point, she quoted the U6 unemployment rate of nearly 10%, not the more popular U3 rate at 6.3%. She also reminded us that inflation has been running below its target for nearly a decade.
We have little doubt Powell will once again say current inflationary pressures are temporary and he wants to see inflation above target for a period of time before the Fed even talks about changes to monetary policy. We think the odds of Operation Twist are increasing and will be on the lookout for any mention of it in his speech. We will share more on the Twist and what it may mean for bond and stock markets in an article next week.
March 3, 2021
After consolidating for a few days, bond yields are heading higher once again. Of concern to the equity markets are the 5, 7, and 10-year sectors. These sectors, most affecting the economy, are leading today’s charge higher. 10-year notes eclipsed the 1.50% yield on February 25th but quickly fell back below that level. This morning they are again approaching that level. Sustained trading above 1.50%, points to 1.75% as the next line of resistance.
The ADP employment report was weaker than expectations at +117k, versus expectations of +165k and a prior month reading of +174k. The report will put some downward pressure on expectations for Friday’s BLS employment reports.
The MBA mortgage purchase and refi indexes stabilized this past week, after falling sharply with higher yields over the prior few weeks.
Fed Governor Lael Brainard acknowledged the Fed is paying attention to the recent volatility in the interest rate markets. Per the New York Times: “I am paying close attention to market developments — some of those moves last week and the speed of those moves caught my eye,” Ms. Brainard said, speaking at a Council on Foreign Relations webcast. “I would be concerned if I saw disorderly conditions or persistent tightening in financial conditions that could slow progress toward our goal.”
Materials and energy have been the hottest sectors over the last few months as investors’ concern for inflation rises. The graph below, courtesy of Jim Bianco, shows that the Goldman Sachs Commodity Index (GSCI) is already up over 16% this year and the second-best start to year since at least 1973. The highest annual return over this period was 50%, so if the inflation theme holds up throughout the year, the trend may have a ways to go.
March 2, 2021
Per Fox News, Democrats are pushing Biden to make stimulus payments to individuals recurring. If the proposal gains in popularity, we might see the dollar fall and bond yields head north. Turning one-time stimulus into what essentially is universal basic income (UBI) would not only add further to the massive deficit but produce more inflationary pressures.
The graph below, courtesy of Axios Markets, shows the battle between clean energy stocks (ICLN -ETF) and oil producers (XOP – ETF). While the divergence in performance over the two periods is stark, the reality is that many companies in the XOP ETF are investing massive amounts of money in clean energy. Either, XOP is catching up to clean energy as the market finally recognizes their investments, or it considers them direct competitors and the higher price of oil is winning 2021 for now.
The graph below, courtesy from an American Banker article entitled CRE lenders’ growing fear: Office workers won’t come back, shows the huge decline in net office space usage. This should not be surprising given the shutdowns due to COVID. The big question when looking forward, in regards to the health of commercial real estate, is how predominant will the shift to “work from home” be?
Yesterday, the ISM (manufacturing) Prices Paid Index hit a ten-plus year high of 86. As shown below, the index has a strong correlation with CPI and tends to lead it by 3 months. If CPI follows ISM’s lead we may be looking at CPI running over 3% this spring. One of the drivers of higher prices is order backlogs. The Backlogs Index, within ISM, is at its highest level since 2004. Further opening of the economy should help alleviate the backlogs (supply line problems) and in theory, reduce pricing pressures.
The graph below, courtesy of the New York Times, shows that the number of houses for sale is running less than half of what has been normal. Coupling the limited supply with sharply lower mortgage rates makes the double-digit increase in house prices more understandable. If mortgage rates keep rising and higher prices bring more supply to the market some of the recent price increases may moderate or possibly decline slightly.
March 1, 2021
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The Reserve Bank of Australia (RBA) was the first central bank to show concern about steeply rising interest rates. Last night they bought $4 billion of longer-term maturity bonds. The amount was more than double the amount they had been buying. The yield on their 10-year bond fell 27 basis points as a result. In a Bloomberg Article, Eric Robertson (Chief Strategist- Standard Chartered Bank) summed up the problem facing the world’s central bankers well. To wit- “The RBA is in the same camp as every major central bank — they want their economies to recover but they’re more and more dependent on low-interest rates.”
On Friday, the Chicago Area Purchasing Managers report showed continued expansion in the manufacturing sector but at a slightly slower rate than in January. This week, the ISM survey is expected to show a similar decline in the manufacturing sector’s expansion from 59.2 to 58.5. The prices sub-component, which will garner a lot of attention, is expected to fall from 82.1 to 75. If that holds up, it means there are fewer of those surveyed seeing rising input prices than those surveyed last month.
Importantly this week will be key for employment data. On Wednesday, ADP is expected to show tepid job growth of +155k jobs as compared to +174k last month. The BLS jobs report will be released on Friday. We will have a summary of expectations before then.
Currently, the yield spread between high-yield corporate bonds and Treasury bonds is at its lowest levels since 1989. Typically such low levels occur 3-4 years after a recession when economic growth tends to peak. Given we are achieving these levels in the midst of a recession and yields rising rapidly, we offer caution for those holding high yield bonds.
February 27, 2021
February 26, 2021
As shown below, Personal Income was up 10% last month. The increase is entirely due to the latest round of stimulus checks. The graph to the right shows that Personal Income actually fell 2% last month when transfer payments (government checks) are excluded. The PCE price index is the preferred inflation index for the Fed. As shown in the table there is little reason for concern.
- 2/25/2021 Fed’s Bullard: “The rise in bond yields is a good sign so far.”
- Fed’s Esther George “LONG-TERM YIELD RISE DOESN’T WARRANT MONETARY RESPONSE”
- *FED’S BOSTIC SAYS `I AM NOT WORRIED’ ABOUT MOVE IN YIELDS
- *BOSTIC: FED DOESN’T NEED TO RESPOND TO YIELDS AT THIS POINT
Jerome Powell, Jim Bullard, Esther George, Raphael Bostic, and other Fed members are steadfast in their determination to use an excessive amount of monetary stimulus to promote inflation and growth. The reflationary trade and weak dollar over the last few months are confirmation that investors believe the Fed is making headway toward its goals.
The problem is that bond investors also believe they are making progress. On Tuesday and Wednesday, Jerome Powell said, in no uncertain terms, he is not concerned about inflation and will keep the monetary pedal to the metal. The quotes above show a level of comfort with rising interest rates as well. These are all good reasons for bond investors to keep selling.
Selling in the bond market became problematic this week as yields in the economically sensitive 5 and 7-year sectors rose precipitously, as shown below. Prior to this week, it was 10 and 30-year bonds taking the brunt of selling activity. The shorter, intermediate sectors largely determine mortgage, corporate, and auto borrowing rates. They steer economic activity. While the Fed is running uber-easy monetary policy, the market is increasingly imposing tighter monetary conditions.
The Fed has a choice, they can watch bond yields rise, to the detriment of economic growth and ultimately inflation, or they can walk back monetary policy. Doing so requires them to taper QE or talk about raising rates. Either action can pose problems for the equity markets which rose to record valuations on the tailwind of easy monetary policy.
To put it bluntly, the Fed is walking into a trap where, at some point, they will be forced to decide between rescuing the bond market or the stock market.
February 25, 2021
The sell-off in bonds is worsening as it appears the Fed is comfortable with yields rising. At the peak of the decline today, the yield on the 5 year UST was up .25%.
2/25/2021 11:55am – Fed’s Bullard: “The rise in bond yields is a good sign so far.”
2/25/2021 Fed’s Esther George “LONG-TERM YIELD RISE DOESN’T WARRANT MONETARY RESPONSE”
Today’s sell-off in bonds is a little more problematic than we have seen, as yields are rising the most in the intermediate maturities (5-7 years). These maturity sectors have the largest effect on economic activity. We will have a complete write-up on this and what it may mean for the Fed in the morning.
Economic data was strong this morning. Initial Jobless Claims fell sharply to 730k versus estimates for 845k. The previous week saw 841k new people file for claims. Claims data has been volatile the last few weeks. Durable goods orders were also better than expected at +3.4% growth, more than triple expectations for 1.1% growth. The gains came largely from defense and airplanes. Excluding those two sectors, durable goods rose 0.5% versus expectations for a gain of 0.8%. Durable goods are now back to pre-COVID highs.
The total return on the 30-year U.S. Treasury bond has only started a year worse than 2021 twice, 1980 and 2009. 2009, like today, marked a period with massive fiscal and monetary stimulus and economic recovery. At that time, many investors were concerned that QE, new at the time, was inflationary. If 2009 is the correct analog for bonds, we may only be in the mid-innings of the current bond rout.
As shown below, rising interest rates are not just a U.S. phenomenon. It will be interesting to see which central bank flinches first about higher interest rates.
One of the biggest macro questions facing the equity markets is how much more can it increase alongside rising bond yields. The 10-year yield graph below helps put some context to the question. The gray shaded area represents a likely answer. The problem, however, is the band is wide- it ranges from current levels of 1.40% to 2.00%. The vertical dotted lines represent the last three times that yields were as overbought (RSI and MACD) as today. In two of the three instances, yields fell. In the 2018 period, yields consolidated for six months, and then rose before triggering another strong signal in which yields fell from 3.20% to .40%. The equity market seems increasingly nervous with each tick higher in bond yields. Might a round number like 1.50% or 1.75% be the yield that reverses the trend in equities?
February 24, 2021
Just when you thought the GME saga was over it reappeared. GME closed at $91.71 up 104% on the day and another 50% to $137 after-hours. Call option volume was massive. We shall see if AMC, BBBY, and others caught in the prior short squeezes follow suit.
The chart below of the Dow Jones, annotated by Sven Henrich, affirms our view and the market’s view that Powell is comfortable with more inflation. The Dow has more exposure to companies that benefit from inflation, than the S&P and NASDAQ. Accordingly, it has done well after his two speeches to Congress this week.
A few notable quotes from Chairman Powell at today’s Congressional testimony:
- “Could Take More Than Three Years To Achieve Inflation Goal”
- “Some Asset Prices Appear Elevated”
- *POWELL SAYS THIS WILL BE THE YEAR IN WHICH THE FED ENGAGES WITH PUBLIC ON DIGITAL DOLLAR
- *POWELL: U.S. HAS 10 MLN FEWER PEOPLE WORKING THAN A YEAR AGO
Like yesterday, the Chairman appears to believe there is no significant inflation pressure and the jobs market is worse than is commonly believed. As such, he remains intent on continuing monetary stimulus at its current pace until jobs and inflation are closer to their objectives.
One of the bright spots in the recovery has been housing. To wit, new home sales, reported this morning, was 923k, well above expectations for 855k. That compares to 700k before the recession and a low of 570k last spring. If rates keep moving higher the housing party may come to an end. On a weekly basis, the Mortgage Bankers Association (MBA) puts out a gauge on mortgage activity. As shown below, higher rates are resulting in a decent drop in both new purchase activity as well as refinancings.
A few subscribers asked why the possibility of inflation has begun to weigh on the Tech sector. The answer is two-fold. First, many tech companies are heavily leveraged and dependent on debt to develop new products and achieve their growth targets. As inflation increases so do interest rates. With it, their cost of borrowing increases and effectively reduces their financial leverage.
Second, higher rates of inflation reduce the expected real (after inflation) returns on new investments. For more on this concept, we lean on a Warren Buffett article from 40 years ago. As you read it, keep in mind, inflation today versus 1980 is much lower. But, in some people’s opinions, it could break through the upper range of the last decade and become more problematic. The Buffett quote below comes from a tweet from Michael Burry. Burry was made famous for his role in the movie/book The Big Short. He has recently been vocal about the potential for hyperinflation.
February 23, 2021
**POWELL SAYS DOES NOT SEEM LIKELY THAT INCREASE IN SPENDING WOULD LEAD TO LARGE OR PERSISTENT INFLATION
The Fed continues to believe a boost in economic activity will not lead to inflation. The interest rate markets and, more recently, the stock market are getting increasingly nervous that the Fed is wrong.
Yesterday the Dow Jones was slightly higher while the S&P and NASDAQ sold off decently. Those trends, as shown below, are continuing in the overnight session. Also of note, crude oil was up sharply yesterday and trading higher again today. Gold and silver also traded well. Based on the winners and losers, the rotational trade appears to be inflation-based, therefore the Dow, with more exposure to energy, materials, and financials outperformed. The second chart shows yesterday’s gains and losses by sector.
As interest rates rise and inflation perks up, the market is anxiously following the Fed for any signals they might start to lean toward a more hawkish policy stance. The graph below charts Fed Funds futures over the next three years. As implied by the market, traders believe there is only a 66% chance the Fed raises rates 25 basis points by the end of 2023. The odds of a rate hike do not even begin to increase until early next year. For now, the Fed has made it clear they will let inflation run hot and higher rates are not bothersome to them. Changes to this graph over the coming weeks and months will allow us to monitor if the market continues to believe the Fed or starts to call their bluff. Fed Funds futures data can be found at the CME.
Typically investors buy gold mining stocks because they think the price of gold will increase, and miners are effectively a leveraged play on gold. Gold miners are businesses and regardless of the price of gold or its prospects, we must always consider valuations. The graph below shows that even though gold miners and the price of gold have risen nicely over the last year, gold miner valuations are well below any point in the last 7 years. Even if the price of gold declines marginally, miners still offer value.
February 22, 2021
As Bitcoin surges it is grabbing the attention of central bankers and governments. For instance, Treasury Secretary Janet Yellen was interviewed by CNBC this morning and stated: “To the extent it is used I fear it’s often for illicit finance. It’s an extremely inefficient way of conducting transactions, and the amount of energy that’s consumed in processing those transactions is staggering.” We expect more government officials to come out against BTC as it represents competition to fiat currency. If governments can not control their currency they can not conduct monetary or fiscal stimulus effectively, thus BTC or some other crypto-currency reduces their power.
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As shown below, rising interest rates are not just confined to the U.S. Over the last few months, the amount of negative-yielding debt worldwide, mainly in Europe and Japan, has fallen by over $4 trillion.
The Fed takes center stage this week with Jerome Powell testifying to Congress on Tuesday and Wednesday. We presume he will push for more fiscal stimulus and promise to keep monetary stimulus flowing. As we have been doing, we will continue to look for signals he is concerned about higher interest rates or inflationary pressures. Based on his comments and those from other Fed speakers we are not expecting any surprises. There are a host of other Fed speakers this week including Vice Chair Clarida on Wednesday.
On Tuesday Case-Shiller and FHFA will release their home price indexes. Both reports should show annual gains in the 10% area. On Friday the BEA will report Personal Income and Spending, as well as the PCE price index. This inflation gauge, used in the GDP report, is the Fed’s preferred source for monitoring inflation. The index is expected to rise 1.5% versus 1.3% last month. While higher, it would not be worrisome for the Fed or confirm inflationary pressures as we are witnessing in consumer and manufacturing surveys as well as in commodity prices.
February 20, 2021
February 19, 2021
The chart below quantifies how sharp the recent interest rate increase has been. Weekly TLT prices, representing 20-year UST bonds, are shown in blue and its 20-week rate of change (ROC) overlays it in orange. Over the last 20 weeks, the price of TLT has fallen by 13%. We highlight five other periods with similar declines over the last 15 years with blue dotted lines. Excluding the instance in 2009, the four other periods, with similar negative ROCs, resulted in higher prices shortly after the indicator troughed. We believe that will be the case this time as well, but the million-dollar question is when/where will the ROC trough.
The real estate market continues to do very well with Existing Home Sales growing 0.6% last month and over 23% versus January of 2020. With little supply on the market, home builders are very active. Housing Start Permits, released yesterday, were 1.881 million units (annualized), about 200k more than expectations. The prices of raw commodities used in housing, particularly lumber and copper, have been soaring. It will be interesting to see if the housing market stays hot enough through the spring and summer, allowing home builders to fully pass on these costs.
“No matter how risky I find sentiment/valuation indicators and how certain I am that I am “right” about this longer-term, I believe in trying to make money that one must follow the weight of all the indicator evidence.” -Ned Davis
The quote from Ned Davis appropriately describes our current portfolio management psyche. We fully understand that equity valuations, as we frequently show, are at or beyond the record levels of 1929 and 1999. When looking out over longer time frames periods, high valuations are always met with long periods of low or even negative returns. However, we also know that valuations are a poor market-timing tool.
There are many factors that account for the market’s ascent higher. Whether we think they are valid or not is irrelevant. As such, we must understand and quantify these factors and make them a part of our analysis. Currently, have a quick trigger finger as the long-term risk/reward is poorly skewed, but at the same time hold positions for the short term that we expect to do well under the current regime.
February 18, 2021
Initial Jobless Claims popped back up to 861k from 848k last week. If you recall the number of claims dropped sharply to 793k last week. It was revised in today’s report to 848k. On the positive side, the number of claimants for Federal assistance fell from 7.9mm to 7.7mm.
The merits of Bitcoin as a currency are hotly debated in financial social media outlets. To be a legitimate currency, a currency must be able to be a medium of exchange. The following comments, from Eric Holthaus, provide context to the question of whether it’s possible for Bitcoin to become a widely used currency.
“Bitcoin uses 0.5% of the world’s electricity on just 350,000 daily transactions. At that rate, Bitcoin would require 14x of the world’s electricity to replace all daily credit card transactions. Bitcoin is not just inefficient, it’s actively anti-efficient.“
Yesterday, in no uncertain terms, the Fed minutes claimed that the recent increase in prices is transitory. The chart below, from Julien Bittel at Pictet Asset Management, adds some historical credence to their logic. As he shows, the annual change in the Bloomberg Commodity price index tends to closely follow the change in the ISM Prices Paid Index. The ISM Prices Paid index is currently at 82, which is not far off from its recent 15-year high. The Index is a survey that quantifies what percentage of purchasing managers saw prices rise in the current month versus last month. Julian points out that the index hit 90 in 2008 and tumbled. Commodity prices followed, falling 53% in the next 6 months. The dotted green line projects what that may look if the spike in the survey proves again to be short-lived.
With interest rates ticking up it’s worth revisiting the relationship between mortgage rates and home affordability. To quantify the relationship we turn to an article we wrote in 2018- The Headwind Facing Housing.
When we wrote the article, interest rates were moving higher, resulting in higher mortgage payments for new homeowners and weaker home sales. 30-year mortgage rates were 4.50% at the time. As shown below, a 4.50% mortgage affords a buyer a $500,000 house with a mortgage payment of $2,333.
With current mortgage rates at 2.50%, the same $2,333 payment allows a buyer to purchase a home worth $641,000, 28% higher. The recent 10% increase in home prices is predominately due to the substantial decline in mortgage rates. The problem facing the housing markets today is mortgage rates have a limited ability to decline and spur house price increases. Further, any sustained increase in mortgage rates has the reverse effect on affordability and will weigh on home prices and sales.
February 17, 2021
**Due to the blackouts in Houston, we aren’t able to record Three Minutes on Markets & Money. We hope to be up and running shortly.
The following quote, from today’s release of the FOMC’s minutes from the January meeting, tells us in no uncertain terms that the Fed is not worried about inflation and considers any uptick inflation to be transitory.
“Many participants stressed the importance of distinguishing between such one-time changes in relative prices and changes in the underlying trend for inflation, noting that changes in relative prices could temporarily raise measured inflation but would be unlikely to have a lasting effect.”
The Atlanta Fed revised their Q1 GDP forecast higher from 4.5% growth to 9.5% annualized growth as shown in the first graph. Personal Consumption accounts for about two-thirds of GDP, so with today’s great retail sales data, the upward revision should not be surprising. The bulk of the increase came from consumer spending as shown below in the Fed’s supplemental bar chart showing changes to the forecast.
Retail Sales blew the doors off of expectations rising 5.3% versus expectations of a 1.1% gain. Excluding auto and gas sales they rose 6.1%. PPI was also much higher than expectations at +1.3% versus +0.4%.
Both releases point to an increase in economic activity and reflation. Stocks are slightly lower on the news, in part because it signals the Fed may be closer than they acknowledge to tapping on the monetary brakes. Again, we will listen closely to the Fed speakers this week for any signs that they are concerned about higher rates or inflation.
The FOMC minutes from the Fed meeting 3 weeks ago come out at 2 pm. It will be interesting to see how they edit minutes to reflect recent data.
This is a follow-up to yesterday’s discussion on the recent increase in intermediate-term yields. The graph below compares the popular investment-grade corporate ETF (LQD) versus the S&P. They closely followed each other through the February swoon and recovery over the last year. However, as circled in blue, the two are beginning to diverge. This divergence will become increasingly important to watch if yields keep on rising. We suspect higher intermediate and long-term yields will begin to hamper the upward momentum of the stock market.
The latest chart to show extreme market conditions comes courtesy of All-Star Charts. As shown, the number of new (record) highs on the NASDAQ and S&P 500 is well above the prior market peaks of 1999 and 2007.
February 16, 2021
Stocks gave up large gains this morning as bond yields continue to climb. Longer maturity yields have been rising for a while, but we are starting to see intermediate-term yields rise as well. Mortgages and corporate debt tend to be heavily concentrated with durations of 3 to 7 years. As such, further increases in intermediate yields will begin to dampen the economic recovery. It’s likely the market will continue to push on the bond market until the Fed cries uncle or the recovery shows signs of faltering.
The record cold snap, crippling Texas and the Plains states is causing a spike in energy usage resulting in rolling blackouts in many parts of Texas. As a result, natural gas is opening this morning up 6% from Friday’s close and is about 30% higher than late January levels. The unusual cold is also forcing some refineries to shut down which will result in less refined products, like gasoline. Gas is set to open up 4% this morning to $1.71 a gallon. It started the month at $1.56.
Tomorrow is shaping up to be a busy day on the economic front, with PPI and Retail Sales due out at 8:30. Retail Sales are expected to grow following three straight months of declines. Like CPI last week, PPI is expected to be in line with last month’s figures which do not point to inflationary pressures. Given PPI measures raw commodities and input prices for manufacturers, we should expect PPI to uptick before CPI takes hold.
Later in the day, the Fed will release the minutes from their January meeting. The Fed may take this opportunity to clarify or stress its stance on inflation, the labor market, higher interest rates, or monetary policy. We will also look for any mention of the drawdown of Treasury’s cash balances and the effect it will have on short term yields. For more please read our latest Can The Fed Both Tap On The Brakes And Floor The Gas? There are numerous Fed speakers throughout the week that may also shine a light on the Fed’s current thinking.
A slew of housing data will be released Thursday and Friday.
February 13, 2021
February 12, 2021
**U.S. Markets will be closed on Monday in observance of Presidents Day
The graph below shows investors’ recent preference for risk. Relatively safe S&P volumes sit near four-year lows, while much risker options and penny stock volumes are multiples of prior norms.
The graph below shows that 5-year UST yields have risen from .36% to .45% since January first. Over the same period inflation expectations rose 36 basis points from 1.95% to 2.31%. As a result, 5-year real yields fell 27 basis points and stand at -1.86%.
The University of Michigan Consumer Survey points to continued weakness in sentiment, falling from 79 to 76.2. Consumers may be worrying about their purchasing power get squeezed due to inflation. Inflation expectations rose from 3 to 3.3%. Inflation expectations are now at the highest level since 2014.
In February 2019 we wrote MMT and its Fictional Discipline. The intent was to show how inflation, the regulator for MMT spending, is a flawed indicator and easily manipulated. In the article, we provide housing inflation as one example. To wit: “In 1998, the Bureau of Labor Statistics (BLS) changed the way they calculated real estate prices within CPI. The BLS replaced an index based on actual home prices with what is now called owner’s equivalent rent (OER). OER is a rental equivalence that calculates the price at which an owned house would rent.”
Since 2019, OER has risen 5.12% while the Case-Shiller Home Price Index (CS) is up 13.73%. OER comprises nearly a quarter of the CPI calculation. The graph below replaces OER with the CS Index in the CPI calculation to show how inflation is understated due to the sharp divergence between actual home prices and the BLS methodology to impute home prices. Per the graph, CPI would be 2.62% and rising, versus .96% and trending lower. The low CPI reading provides cover for the Fed to keep printing, but at what cost?
February 11, 2021
We constructed the graph below to impress upon you the horrific weekly initial jobless claims data. As shown in red, instances of more than 600k people losing their jobs in any week are few and far between. In five weeks we will more than likely have a full year of weekly job losses north of 600k.
Weekly Initial Jobless Claims continue to show little improvement. Last week, 793k new people filed for jobless claims, down slightly from 812k (revised higher since last week) and 33k above the expectation of 760k. Including Federal unemployment programs, the number is over 1 million. It’s hard to see how we get much improvement in the monthly BLS employment data with this weekly indicator of the job market stuck at current levels.
Bill Dudley, ex-New York Fed President, wrote an editorial in Bloomberg in which he appears to side with Lawrence Summers in offering caution to Jerome Powell. Importantly, he is concerned the Fed will continue to keep monetary stimulus running at full blast while inflation runs hotter than the Fed expects. To wit: “…the Fed, despite its desire to be accommodative and boost employment, might have to pull back on stimulus sooner and with greater force than anticipated to keep inflation in check.”
To say interest in equity trading has upticked over the last year is a gross understatement. The graph below, courtesy of Crescat, shows share volume on the NASDAQ exchange is over four times greater than what was normal over the prior 25 years.
After showing the speculative excesses in the junk bond market yesterday we thought we would pile on today with SPACs and small-cap stocks.
The data below, courtesy of Charlie Bilello, shows that SPAC (Special Purpose Acquisition Companies) issuance is off the charts. These risky investments, also known as blank check companies, are essentially public investments in investment managers seeking to buy non-public companies. Former sports stars Alex Rodriguez and Shaquille O’Neal are now issuing SPACs if that tells you anything about the burgeoning demand for SPACs.
US SPACs- IPO capital raised…
- 2013: $1 billion
- 2014: $2 billion
- 2015: $4 billion
- 2016: $3 billion
- 2017: $11 billion
- 2018: $9 billion
- 2019: $13 billion
- 2020: $83 billion
- 2021 YTD: $38 billion (a billion a day)
Since March 23, 2020, the small-cap Russell 2000 Index has been on a tear, up over 130%. As shown below, the index now sits 36% above its Pre-Covid highs and at a 40% premium to its 200-day moving average. The Index may certainly keep defying historical norms, but we urge caution as it severely deviates from its 200-day moving average.
The next graph shows that the surge in the Russell 2000 occurred despite a fundamental basis. Accordingly, current valuations using the measure below are now well above prior highs.
February 10, 2021
Based on today’s speech at the New York Economic Club, Jerome Powell has no intentions of easing up on monetary policy. Here are two takeaways that lead us to that assumption:
“After rising to 14.8 percent in April of last year, the published unemployment rate has fallen relatively swiftly, reaching 6.3 percent in January. But published unemployment rates during COVID have dramatically understated the deterioration in the labor market. Most importantly, the pandemic has led to the largest 12-month decline in labor force participation since at least 1948.”
“Our January postmeeting statement on monetary policy implements this new framework. In particular, we expect that it will be appropriate to maintain the current accommodative target range of the federal funds rate until labor market conditions have reached levels consistent with maximum employment and inflation has risen to 2 percent and is on track to moderately exceed 2 percent for some time.”
As shown below, CPI was at or slightly below consensus expectations as well as last month’s readings. Also of note, China reported its CPI fell 0.3% year over year. This is a deflationary pressure on the U.S. given the large number of goods we import from China.
Yesterday we noted that Barclay’s junk bond index fell below 4%. Last night Zerohedge put out an excellent article – Never Seen Anything Like This – on the “buying spree” in the high yield arena. The chart below, in particular, caught our attention. It shows the spread of the junk bond index to U.S. Treasuries is near its lowest levels in at least the last 25 years. At the same time, the amount of leverage/debt being taken on by the underlying companies is soaring. Simply, the ability to pay off the debt is becoming troublesome, yet, investors are settling for less yield.
Dear Mr. Powell, this is another of many market dislocations signaling that a zero interest rate policy warps investor mindsets.
Jerome Powell will speak and take questions at the New York Economics Club this afternoon. It will be interesting to hear his take on rising inflation expectations and the recent speculative antics pushing markets higher. In particular, we are on the lookout for any discussion around the coming reduction in Treasury cash balances. For more on the Fed’s coming dilemma, this morning we published Can The Fed Both Tap On The Brakes & Floor The Gas?
Yesterday, we wrote about Lawrence Summer’s concerns over a consumption-driven, stimulus plan. Will Powell opine on his preferences for fiscal stimulus? Keep in mind, Powell and the Fed will have to reduce QE and possibly raise rates if a big stimulus plan generates too much inflation, per Summer’s warning.
February 9, 2021
The Barclays U.S. Corporate High Yield (junk bonds) Index dipped to 3.96% after six straight days of yield declines and it now sits below 4% for the first time ever.
January’s NFIB Small Business Optimism Index fell to 95 versus 95.9 in December. Despite other surveys of larger companies pointing to optimism, an important sub-component of the NFIB survey shows that expectations for better business conditions hit their lowest level since 2013. 8% of the employers surveyed think now is a good time to expand and only 17% anticipate job creation. This jibes with the Paychex small business employment report we showed on February 5th and recent consumer sentiment surveys.
Biden’s fiscal stimulus plan is getting pushback from within his own party. Lawrence Summers, a strong voice in the party, is arguing that Biden needs to be thoughtful in assessing the size of the fiscal stimulus package but equally importantly, how the money is spent. In a recent Washington Post Editorial, Summers argues that Biden’s current proposal, which is not only massive in dollars but focused heavily on current consumption, carries big risks that may cause more harm than good. To wit:
“First, while there are enormous uncertainties, there is a chance that macroeconomic stimulus on a scale closer to World War II levels than normal recession levels will set off inflationary pressures of a kind we have not seen in a generation, with consequences for the value of the dollar and financial stability.”
The corporate earnings calendar is slowing down but there are still quite a few earnings announcements slated for this week.
February 8, 2021
Dogecoin is the latest crypto craze, having doubled in price over the last few days as Elon Musk tweeted its name. The following LINK to a WSJ article discusses this particular currency. The article will help to appreciate some of the absurdity behind what is going on in the crypto markets.
30-year U.S. Treasury yields eclipsed 2% this morning before falling back, as 10-year implied inflation expectations rose to a seven-year high of 2.21% and Brent Oil popped above $60 a barrel. The big question for equity markets is how long will the Fed sit quietly by and ignore mounting inflationary pressures? Jerome Powell will speak on Wednesday and we will be on the lookout for any clues he mentions regarding inflation.
From Tesla’s 10-K SEC filing “.. we invested an aggregate $1.50 billion in bitcoin under this policy and may acquire and hold digital assets from time to time or long-term. Moreover, we expect to begin accepting bitcoin as a form of payment for our products in the near future ..”
Inflation data takes center stage this week with the January CPI scheduled for Wednesday morning. Current expectations are for no change from December. Chairman Powell is scheduled to speak at 2 pm on Wednesday. The Treasury will auction $41 bn 10 year notes on Wednesday and $27 bn 30 year bonds on Thursday. Both auctions are the same size as the prior month. All else equal, the auctions will likely weigh on bond yields in the early part of the week.
We stumbled upon this interesting graph over the weekend. Neal Falkenberry, its creator, plots the popular valuation ratio of Enterprise Value to Earnings (EBITDA) in gray. The red line, corresponding to the inverted y-axis on the right side, shows what the following ten year annualized returns were for each instance of the valuation. For example, in 2000 the ratio peaked around 14, and the future returns over the next ten years were near zero. Currently, the valuation ratio is near 20. If the correlation holds up, the strong correlation portends horrendous returns for the next ten years. Valuation ratios are poor timing tools but over the longer term, they do a good job of predicting returns.
February 7, 2021
February 5, 2021
The graph below, courtesy of Brett Freeze shows that consumer borrowing continues to decline, led by a sharp decline in revolving credit.
This morning the two-year U.S. Treasury yield matched its record low from March 2020 of .10%. The yield on the one-month Treasury bill is trading 4 bps lower to 0.03%. At the same time, longer-term yields continue to leak higher as shown below. As we have discussed, the U.S. Treasury will sharply reduce Treasury debt issuance over the coming months. The greatest effect should be in the Treasury Bill sectors. The implications for this coming wave of liquidity will have implications for the markets. We will have more on this in an upcoming article.
The BLS employment report was a mixed bag. The headline number was right on consensus with a +49k gain in payrolls, however, last month was revised from -140k to -227k, and November was revised lower by 72k jobs. The unemployment rate fell nicely from 6.7% to 6.3%, but some of the gains were attributable to a smaller workforce as the participation rate fell from 61.5% to 61.4%. As a point of reference, it was over 2% higher than before COVID. Average hourly earnings were concerning as they only rose 0.2% versus 1% last month. That said, the average workweek rose to 35.0 hours versus 34.7 last month.
In prior Januarys, the economy typically loses between 2.5 and 3 million jobs as temporary holiday workers are let go. The BLS employs seasonal adjustments to account for this. Given that the number of temporary holiday employees was much less than normal in 2020, the number of firings should also be much less than normal in January. If they do not adjust properly reduce the adjustment, we could see a large payroll number today, purely due to this seasonal adjustment quirk. The current expectation is for a gain of 50k jobs. The range of estimates is -250k to +400k.
Earlier in the week, we pointed out that employment seems to be picking up in large manufacturer businesses. As the chart below shows, courtesy of Paychex, smaller businesses that account for more than half of employment continue to struggle.
February 4, 2021
Initial Jobless Claims fell to 779k, which is the lowest level in nearly two months. The problem is that there are still nearly 18 million people collecting unemployment benefits as compared to 2 million pre-COVID.
There was a sharp 4.8% decline in fourth-quarter productivity which is the worst since 1981. At the same time, unit labor costs accelerated to +6.8%. The data points to sharp margin contractions for corporations, however, this economic data and most data remain volatile. The effects of COVID-related lockdowns and massive stimulus continue to make data difficult to assess.
Short squeezes are all the rage these days, but as shown below there is little fodder to keep the antics up. The median short-interest ratio is now at levels last seen in the days before the dot.com bubble popped.
The following headline hit the wires from a speech from Fed Governor Evans -*EVANS: CRITICAL FOR FED TO SEE THROUGH TEMPORARY PRICE INCREASE.
Essentially he states that price increases we are seeing today are temporary, related to warped supply lines, changing consumption habits, and the opening up of economies. He may be correct and the Fed would be best served to ignore them. However, if he is wrong and inflation proves not to be transitory, the Fed will be forced to aggressively remove stimulus. As a reminder, valuations sit at record highs. Gains over the last nine months are almost solely attributable to massive monetary and fiscal stimulus. Removal of said stimulus would likely have the opposite effect.
We present a piece of bullish technical analysis from Troy Bombardia as follows:
Breadth thrust: NASDAQ Up Issues Ratio exceeded 74% for 2 days in a row. Historically, this almost always led to more gains for stocks over the next 3-12 months. NASDAQ up an average of:
- +5.5% 3 months later
- +12% 6 months later
- +15% 9 months later
- +19.4% 12 months later
February 3, 2021
After a short break, longer-term Treasury yields are resuming their march higher. The 30 year UST bond, shown below, is quickly approaching 2%. Weighing on yields are rising inflation expectations, a heavy supply of new issuance coming, and prospects for significant deficit spending in 2021. The Fed has yet to balk at higher rates, so barring any significant changes to economic activity or stress in the financial markets we must respect the move higher. At some point, however, higher yields will drag on economic growth and the Fed will likely take actions to cap rates.
The ADP Employment report came in stronger than expected at +174k. This bodes well for Friday’s BLS employment report. The one caveat is December and January tend to have large seasonal adjustments due to the holidays so the data on a seasonally adjusted basis can be skewed. Given COVID-related lockdowns, that is even more true this year.
The graph below, courtesy of John Hussman, shows the median price to sales ratio for the S&P 500 broken down into ten deciles ranked on the price to sales ratio. While hard to see, all ten deciles are now at the highest levels since at least 1984. In the late ’90s the lower deciles were not trading at records as the upper deciles were. As such, the takeaway is that value, even in the “cheapest” S&P 500 companies, unlike 2000, is hard to find.
The ADP jobs report, due at 8:30 am, is expected to show a net gain of 50k jobs. While Monday’s ISM Manufacturing report was slightly below expectations, the jobs component rose nicely, signaling continued manufacturing jobs growth.
Also worth noting in the ISM report, it was the first time since 1978 that every firm surveyed saw an increase in prices. Commodity prices are rising, but we do not know whether it is temporary due to supply lines and speculative trading in some commodity futures.
February 2, 2021
Per Sentimentrader- “There may be cash sitting somewhere on the sidelines, but it’s not in the hands of investment managers. Mutual fund managers have less than a 2% cash cushion for the first time in history. Pension fund managers have 2.6% in cash, lowest ever.”
Almost half of the SP 500 companies have reported Q4 earnings. Based on the data thus far, sales are lower by -.54% and net earnings are up +3.4%. Margins have expanded decently as companies, in general, have reduced their workforce, other expenses, and capital investment to prop up earnings. Without stronger growth in sales, it will be hard for the nation’s employment situation to improve rapidly.
The U.S. Treasury has an estimated $1.5 trillion of cash held at the Federal Reserve. The surplus represents funds raised for various CARES Act programs that were not fully used. Due to the excess cash, the Treasury expects to borrow $853 billion less than they had expected in November 2020. The cash balance at the Fed should fall to about $500 billion, which is high but not extreme.
As a result, the Treasury will issue less debt, particularly in the Treasury Bill sectors. This might lead to some problems. The combination of greater collateral needs related to recent equity trading (typically T-bills are used as collateral) and lower issuance might push short-term rates, including Fed Funds, negative. If so, will the Fed take action to get Fed Funds back to its target range? Actions might include a reduction of QE or, more likely, a heavier focus on purchasing longer-term securities and possibly selling shorter-term securities, aka Operation Twist.
As shown below, the 1-month Treasury Bill has been trading slightly below its range of the last 6 months. Thus far it is not indicating much stress.
As we noted yesterday, expectations for tomorrow’s ADP report and Friday’s BLS data are weak. Initial jobless claims data over the last four weeks points to over 3 million people that lost jobs in January (seasonally adjusted). The chart below, courtesy of Arbor, provides another clue that this week’s labor reports may live up to their poor consensus expectations.
February 1, 2021
Silver, and in particular the $SLV ETF, is the squeeze du jour. It is important to understand that the dynamics behind squeezing SLV is different than GME or other short stock squeezes. SLV is an ETF, meaning that large dealers can create shares easily. Such makes it more difficult to squeeze. However, in order to create shares, the dealer must deliver silver in exchange for the new shares. While GME and others, by and large, only affect the longs and shorts of those stocks, SLV is affecting the price of silver itself. If this continues, it will brighten the outlook for silver miners but also raise input costs for manufacturers that use silver in their production process. Silver is required to produce many high tech goods. The graph below courtesy of the Financial Times shows the creation of SLV shares recently is massive.
Per Dow Jones: DTCC THE MAIN U.S CLEARINGHOUSE FOR U.S STOCK TRADES RAISED THE CAPITAL REQUIREMENTS INDUSTRYWIDE TO $33.5B FROM $26B THURS, A 30% INCREASE
This action requires brokers to put up more capital and/or sell assets to abide by the increased margin requirements. It was likely responsible for Friday’s decline. It also explains why Robin Hood and others are limiting or excluding shares in which clients can purchase. Recent activity in GME and other popular short squeezes are a sign that margin debt was at its limits.
This week will provide fresh employment data. On Wednesday, ADP will release their jobs report. Expectations are for a gain of 40k jobs. While better than the -123k last month, it would point to very tepid growth in the labor market. Expectations for the BLS report on Friday are equally weak with a gain of 20k jobs expected.
The national manufacturing and service sector surveys will also come out this week. In general, manufacturing is expected to show slight increases, while services retreat. Both should remain well in expansionary mode.
Fed members are out of their media blackout periods. It will be interesting to hear their take on recent market volatility, weak inflationary data, and any discussion on why they ended the repo funding program. Earnings reports will continue this week, with larger companies shown below.
January 29, 2021
We leave you for the weekend with a timely quote from Bernard Baruch:
“The main purpose of the stock market is to make fools of as many as possible.”
9:30 am ET
REVISED. We had a bad data feed earlier this morning and deleted our prior commentary on personal income and spending. The correct data is as follows: Personal income rose .6% and Personal Spending only fell 0.2%. The Employment Cost Index was +.9% versus +0.4% last month. This gives us hope that payrolls, reported next Friday, will be back on the upswing.
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8:10 am ET
Last week we published The Fed’s Inconvenient Truth- Inflation is M.I.A. The gist of the article is that while the money supply is soaring, the velocity, or turnover, of the money is plummeting. To wit: “Herein lies an inconvenient truth for the Fed. They are boosting the money supply, and it’s having an equally negative effect on velocity. As such, it’s hard to forecast much inflation given current Fed policies.”
With yesterday’s GDP data we now have fresh velocity data for the fourth quarter. The graph below is updated to show that velocity (orange) fell sharply once again and counteracted the sharp rise in the money supply. Not surprisingly, the GDP deflator (change in prices) fell short of estimates at 1.9% versus expectations of 2.5%.
7:15 am ET
The short squeezes that got crushed yesterday recovered strongly overnight. GME and AMC are up 100% and 50% respectively. Janet Yellen is scheduled to brief Joe Biden at 11 am ET today about the situation in the financial markets. It appears yesterday’s actions by the brokers to restrict trading was possibly the one thing Democrats and Republicans can agree on- Per The Street: Rep. Ocasio-Cortez (D-New York) called Robinhood’s trading restrictions ‘unacceptable.’ Sen. Cruz (R-Texas) responded: ‘Fully Agree.’
We start the day with a graph from Jeff Gundlach at Doubline. The chart below shows that passive investing and buying and holding, despite recent popularity, may not always be winning strategies. As shown, Japan’s Nikkei 225 Index peaked in 1990 and has yet to get back to that level. Europe’s STOXX 50 and the MSCI Emerging Markets Index peaked in 2000 and 2007 respectively and similarly have yet to return to said levels. This is not a dire warning that the U.S. markets are peaking but it should serve as notice that markets can go long periods without reaching new highs. Valuations do matter in the long run!
January 28, 2021
1:05 pm ET
Is the short squeeze game over? Interactive Brokers and other trading firms, including Robin Hood, are not allowing their clients access to trade some of the “hot” short squeeze stocks and, even worse, in some instances they are forcing them to sell. As a result, GME is down 50% from this morning’s high of $500. Other “favorites” have similar losses. The broker’s trade limitations and forced liquidations expose their clients to massive risks. These actions may have lasting consequences.
“Interactive Brokers has put AMC, BB, EXPR, GME, and KOSS option trading into liquidation only due to the extraordinary volatility in the markets. In addition, long stock positions will require 100% margin and short stock positions will require 300% margin until further notice.“
*ROBINHOOD RESTRICTING TRANSACTIONS FOR GME, AMC, BB, OTHERS – Bloomberg
9:35 am ET
GDP was slightly weaker than expected at +4.0% annualized growth for the fourth quarter. While the economy has recovered nicely, the 2020 growth rate declined by 3.5%, the worst since 1946. As a point of reference, the “great recession” of 2008/09 only saw GDP decline by 2.5%.
Personal Consumption, typically accounting for 2/3rds of GDP, only contributed 1.7%, down sharply from over 25% last quarter. Given the last two retail sales data points and the increase in COVID restrictions late last year, this should not be surprising. Inflation is not showing to be problematic. The GDP deflator (implied price changes) rose 1.9%, versus a forecast of 2.4% and prior quarter reading of 3.7%.
Per Zero Hedge here are the main contributors to GDP:
- Personal Spending added 1.7% to the bottom line in Q4, down from 25.44% in Q3
- Fixed Investment added another 3.02%, also a drop from the 5.39% last quarter
- Private Inventories contributed 1.04%, down from 6.57% in Q3
- Net Trade subtracted -1.52% from the bottom line print, down from -3.21% in Q3
- Government reduced GDP by -0.22%, vs -0.75% in Q3.
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6:45 am ET
Fourth-quarter GDP, due out at 8:30 am, is expected to show an annualized 4.1% growth rate. The Atlanta Fed GDPNow forecast expects significantly more growth (+7.5%). Initial Jobless Claims, also due at 8:30 am, is expected to show 875k jobs were lost last week.
The graph below, courtesy of Jim Bianco and Goldman Sachs, speaks volumes about the last short squeeze fad on Wall Street. Many of the most shorted companies in this index, like Game Stop, AMC Theaters, and Bed Bath and Beyond are the most shorted for a reason- they are on the verge of bankruptcy.
January 27, 2021
2:10 pm ET
The Fed Statement was largely left intact from the last meeting 6 weeks ago. They did, however, alter their assessment of the recovery by saying the pace of recovery has moderated. Further, the Fed announced they are taking a first step in removing liquidity by ending overnight repo operations at the end of the month. The redlined text is shown below, courtesy ZeroHedge.
1:35 pm ET
We promise this is our last note about Game Stop (GME). The following headline just crossed the wires. *BIDEN TEAM IS ‘MONITORING THE SITUATION’ WITH GAMESTOP
11:15 am ET
China is the only developed nation to experience a full economic recovery from COVID. Given they are the second-largest economy in the world and their growth rate has been running well above other developed nations, they are, and have been, a tailwind for global economic growth.
Over the last week China’s short-term borrowing rates, a measure of supply and demand for cash, have spiked to five-year highs as shown below. The rate can be volatile at times so be careful reading too much into the recent action. That said, if this is truly signaling a cash crunch in China, the dollar may start rising which will bring with it negative side effects for many other asset markets. The dollar index is up .50 cents this morning and approaching a one month high. Technically it has stabilized from a 9-month downturn but has yet to fully signal the trend is broken.
10:30 am ET
The only decent explanation for this morning’s decline that we have seen is that some hedge funds are being forced to liquidate long positions to cover losses on the short side of their books. We wonder if some of the sell-off is also based on concerns for what the Fed may say regarding recent trading activity. We will share more as we learn more. Stay Tuned!
9:00 am ET
8:05 am ET
Per CNBC- Mar 21, 2018 — Fed Chair Powell warns some asset prices are ‘elevated’ including stocks.
Per CNBC Dec 16, 2020 – Powell says that stock prices are not necessarily high.
Unfortunately, the data shown below, courtesy Macrobond and Nordea, argues that asset prices/valuations are much higher today versus his comments from 2018. Will Powell and the Fed change their stance at today’s meeting/press conference?
7:25 am ET
The Fed will conclude its two-day policy meeting at 2 pm ET with the FOMC statement and Jerome Powell press conference at 2:30. We do not expect much new in the statement; however, we will pay close attention to any changes in how they characterize rising inflation and inflation expectations. In recent weeks, they have backed off their “letting inflation run hot” mantra, instead of retreating to their standard 2% target.
The press conference could be a little more interesting, especially if Powell is asked about recent bouts of excessive risk-taking in the equity markets, higher interest rates, and/or details on how or when the Fed will taper in the post COVID economy.
Quick update on $GME: it is now trading at $250 a share this morning, up over $150 from where it was trading at noon yesterday.
January 26, 2021
2:10 pm ET
A little more perspective on today’s consumer confidence number.
11:00 am ET
Consumer Confidence rose from last month’s level (87.1 -revised) and slightly beat expectations (88.5) at 89.3. The combination of vaccines, the new round of stimulus checks, and rising home prices are brightening the mood of consumers.
The Richmond and Dallas Fed Manufacturing Indexes were both slightly lower on the month.
The Case-Shiller home price index rose 9.1% year over year. The graph below shows pricing trends in the 20 largest metropolitan regions.
9:30 am ET
8:20 am ET
As we have mentioned on a few occasions, SPACs (Special Purpose Acquisition Companies) have become very popular over the last year. These private equity-like public stocks raised over $21 billion in January alone. Compare that to $83 billion for all of 2020, and $9 billion for 2019. While the potential returns of these entities are large, the expenses and risks are outsized. Like record-breaking call buying, cryptocurrencies, short squeezes, SPACs help us quantify the massive risks investors are more than willing to take on.
7:20 am ET
A brief update on GME, which we discussed in yesterday’s comments. After opening up yesterday in the mid-90s (+40% from the prior close) it rose to 159. Within two hours it fell back to 62, before closing the day at 77. Melvin Capital, a $12.5 billion hedge fund is one of the short-sellers that suffered from the surge in GME. Per Bloomberg, Citadel and Point 72 Capital are investing $2.75 billion into Melvin to help it stay afloat. Melvin is purported to have lost 30% of its principal year to date.
Will the Fed finally generate inflation up to and beyond their 2% target rate? That is the million-dollar question facing investors. Making answering the question tricky is so-called transitory inflation. Transitory inflation refers to temporary bouts of inflation that are likely not to be persistent. The Washington Post published a great article (Why the pandemic had driven global shipping costs to record highs) explaining how COVID and changes in consumption habits due to COVID have wreaked havoc on supply lines and shipping. The result is higher prices. We believe these cost increases are transitory but likely to persist until the vaccine is widely distributed worldwide. The Fed may have some comments on this topic at tomorrow’s FOMC meeting.
January 25, 2021
4:30 pm ET
Today provided further hints that the reflation trade may be fading. The graph below is a heat map, courtesy of FINVIZ, showing how S&P 500 sectors and individual stocks fared on the day. Note that Utilities, Real Estate, Consumer Staples had good days, while Financials, Industrials, Energy, and Materials were lower. Bond yields were also notably lower on the day. The recent activity does not necessarily mark the end of the reflation trade. It could easily be a healthy decline/consolidation before the reflation trade picks back up again.
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8:00 am ET
On Friday, Game Stop (GME) rose over 50%. This morning it is trading up an additional 40%. What was a $5 stock last fall is now worth $100. The reason is not good earnings, a takeover, or even positive news. What appears to be driving GME higher, as well as some other notable stocks such as BBBY and DDD, is a short squeeze. Short interest in these stocks is huge as their fundamentals are poor and many investors are betting on lower prices if not bankruptcy in some cases. The first graph below shows that while companies like GME and BBBY may have poor outlooks, their price performance has been stellar.
What we are witnessing is the latest market craze. While some investors are short, other investors see the massive short interest and try to squeeze the shorts. They try to push the stock higher, which in turn creates losses and margin calls for the shorts. In turn, this forces many shorts to cover and can drive the price significantly higher in some cases. Investors on the long side are not buying fundamentally sound or cheap companies but simply playing them in hopes of squeezing short investors.
Making short squeezes even easier than in the past are Gamma Squeezes. For more on how traders are able to push GME higher, squeezing options traders, and then short traders we recommend the following article- Game Stop and the Dangerous Game of Gamma Squeezes.
7:15 am ET
This week is shaping up to be a busy one with a lot of economic data, the Fed meeting on Wednesday, and plenty of corporate earnings reports scheduled throughout the week.
On the economic docket, the health of the manufacturing sector via the Dallas and Richmond Fed surveys will be released on Tuesday, and the widely followed Chicago PMI on Friday. All three are expected to decline but remain in expansionary mode. Also of note, will be today’s release of the Chicago Fed NAI, a broad measure of economic activity, the Case Shiller Home Price Index on Tuesday, Durable Goods on Wednesday, Jobless Claims and GDP on Thursday, and Personal Income and Spending on Friday.
The Fed will meet on Tuesday and Wednesday, followed by the standard FOMC statement and press conference by Jerome Powell.
A large number of corporations announce Q4 earnings as shown below.
January 22, 2021
10:15 am ET
Existing Home Sales were very strong once again rising to the highest level in nearly 15 years. The median selling price was up 13% on a year over year basis. While the housing market is on fire, the report had an interesting bearish comment that accompanied it. Per Lawrence Yun, Chief Economist for the National Association of Realtors, stated the following: “Today’s market is unhealthy, people are making hurried decisions and prices are rising way above income growth,”
9:30 am ET
Today we introduce a lesser followed inflation expectation measure published by the Fed. The 5×5 Forward Inflation Expectation Rate compares 5yr and 10yr nominal and TIP bonds to arrive at an average implied inflation rate that covers the 5 year period starting 5 years from now. What we find interesting about the index, as shown below, is its high correlation to the price of crude oil. Crude oil is used directly and indirectly in many facets of the economy. It is therefore not surprising that energy prices play a large role in the market’s inflation expectations. As such, we recommend following the price of crude oil, along with bond yields, consumer/manufacturing inflation surveys, and implied breakeven inflation rates to help form opinions on the rate of inflation going forward.
9:15 am ET
7:15 am ET
Yesterday, the 10-year implied inflation rate hit 2.18%, a level which was last seen in 2017 and 2018. As shown in the box below, the Fed was aggressively raising rates at that time. Today, despite similar implied inflation levels and an upward trajectory, the Fed insists on keeping rates at zero for a long time. With unemployment still high and a desire to run inflation hotter than their 2% target, this should not be surprising. The question, however, is how high do inflation expectations have to rise before the Fed reacts?
January 21, 2021
2:00 pm ET
We stumbled across this valuable table below on Twitter which serves as a good identifier of companies involved in the “green trade.”
10:00 am ET
The following commentary from Tom Demarco of Fidelity may help explain some of yesterday’s euphoria-
“Yellen’s Senate confirmation hearing received a lot of focus on Tuesday, but none of her remarks were surprising. That said, her commentary on taxes was a big relief for the market in my opinion. Yellen wants to “go big” on fiscal policy as low rates for a long time should mean the US has the capacity for such a program. She felt the initial focus should be on bolstering economic growth instead of raising taxes. Somewhat heretically for a Democrat, Yellen acknowledged the ’17 corporate tax cut helped improve the competitiveness of American business and she vowed to keep corporate rates below pre-2017 levels, although she repeated that companies and wealthy individuals pay their “fair share”.”
9:25 am ET
Initial Jobless claims fell from last week’s 926k (revised lower) to 900k. While the decline is good, the number of people being laid weekly remains stubbornly high.
Housing data remains strong. Housing starts grew 5.8% rate versus 0.8% expected. Building permits were also higher, denoting that builders are likely to continue to ramp up construction to offset a near record low supply of homes for sale.
Prices paid in the Philadelphia Fed Manufacturing Index rose sharply as did the overall index.
9:20 am ET
6:45 am ET
While on the topic of inflation, investors are clearly betting on inflation as witnessed by the chart below courtesy of the Daily Shot.
6:30 am ET
It seems a day doesn’t go by in which we are asked if we are concerned about inflation. Often the question is prompted by a graph of the surging money supply. We fully acknowledge money supply plays a big role in price changes, but often forgotten and equally powerful is monetary velocity. Yesterday we published The Fed’s Inconvenient Truth: Inflation is M.I.A. to help our readers understand the interaction between inflation, money supply, and velocity. The article provides a framework to watch the actions of the government, Federal Reserve, consumers, and corporations to better assess whether or not inflation is a risk.
January 20, 2021
2:00 pm ET
Earlier we showed how President Biden is entering office with record-high equity valuations. We add another headwind to his presidency, courtesy of the Peterson Foundation, as shown below. The ratio of public government debt to GDP is nearing in on the debt explosion and weak GDP that accompanied WWII. At that time, the spike in the ratio fell just as quickly as it rose as GDP flourished in the booming post-war economy. Strong productivity growth, pent up demand, suburbanization, and positive demographic effects greatly accelerated economic growth. As the graph projects, the ratio will worsen this time as there are far fewer drivers of growth and large headwinds in the form of debt, demographics, and weak productivity growth.
1:00 pm ET
Interest rates declined over the last five years and corporate treasurers’ responded by issuing longer maturity bonds to take advantage of the situation. As a result, and shown below, the duration of corporate bonds in the market increased by nearly 50%. Duration is a measure of when investors can expect the average cash flow (coupon/principal) from a bond. Duration is also a measure of risk as it approximates how much a bond’s price will move for a given change in yield. Considering that duration is high and yields are low, the risk per unit of yield for corporate bonds is extreme.
8:20 am ET
As we welcome Joe Biden to the White House and think about what the next four years may bring stock investors, Sven Henrich provides important valuation data to put the discussion in proper context versus what each of the last 8 Presidents faced on their inauguration day.
“Total stock market capitalization vs GDP on inauguration day of a new president: Ford: 40% Carter: 47% Reagan: 43% Bush I: 53% Clinton: 64% Bush II: 117% Obama: 60% Trump: 125% Biden: 190%”
7:15 am ET
The graph below, courtesy of Advisor Perspectives, shows Tobin’s Q Ratio is now at its highest level in at least 120 years. The ratio is a proxy for the market value premium or discount to a company or index’s worth. Prior to the last 20 years, anything over 1.0 was considered a bubble.
January 19, 2021
Top 10 Buys And Sells
From TPA Research (Click on RIAPro+ today to add TPA Research to your subscription.)
Click To Enlarge
Treasury Secretary nominee Janet Yellen was in Congress this morning for her confirmation testimony and questioning. The following headlines and quotes from the meeting caught our attention:
- BIDEN ADMIN FOCUS WIlL BE ON MAIN STREET AND NOT WALL STREET
- I would be very pleased to take a look” at issuing longer-term debt, including a 50-year Treasury bond
- TREASURY NOMINEE YELLEN SAYS PREPARED TO USE FULL ARRAY OF TOOLS TO CHALLENGE CHINA’S ABUSIVE, UNFAIR AND ILLEGAL PRACTICES
- Our focus should be Main Street, not Wall Street
- TAXING UNREALIZED GAINS MAY POSE TECHNICAL CHALLENGES
- We don’t seek a weaker dollar
10:35 am ET
No comments required.
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8:10 am ET
Corporate executives, those with the most knowledge of the workings of their respective companies, are not as optimistic about their company’s stock valuations as one would expect given the excessive sentiment exhibited by investors.
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7:10 am ET
With employment, inflation, and retail sales data for December already released, the pace of economic data for the remainder of the month will slow. Of interest, this week will be weekly initial jobless claims and an assortment of housing data on Thursday.
The Fed is entering their self-imposed media blackout period for voting members in anticipation of the FOMC meeting next Wednesday. Non-voting members are allowed to speak publically, but their opinions tend to carry less weight in the markets.
The corporate earnings calendar will pick up in earnest this week, with banks and transportation companies predominately on the calendar.
This past weekend, Neil Irwin of the New York Times published an interesting article. He provides a better appreciation of the potential inflationary impacts based on how consumers might react to the vaccine, large stimulus, and high savings rates.
NEWSLETTER IS OUT!
New Momentum Growth Stock Screen Included
January 15, 2021
**Markets will be closed on Monday for Martin Luther King’s birthday.
11:00 am ET
The quote of the day comes from Danielle DiMartino Booth in regards to the Fed tapering QE.
“I think investors are getting a little ahead of themselves, anticipating the Fed beginning to tighten when they are not even thinking about thinking of taking such measures.”
10:20 am ET
9:10 am ET
Retail Sales and PPI came out at 8:30 as shown below. Retail Sales were much weaker than expected for a second month. Most noteworthy, the control group which feeds about 30% of GDP, was down -1.9% and last month’s figures were revised lower from -.5% to -1.1%. PPI was a mixed bag, but like CPI, is not showing concerning signs of inflation. PPI excluding food and energy fell from 1.4% to 1.2% on a year over year basis but was up .4% on a monthly basis versus .1% last month.
The graph below courtesy of Bespoke is very interesting. Per their tweet- “Third largest decline in Non-Store (Online) sales in the last 20+ years? During a pandemic when people are staying at home?”
7:30 am ET
Last night, Joe Biden released details of his $1.9 trillion stimulus program. A summary, courtesy of CRFB, is shown below. Of note, the stimulus will release about a third of the money in the next few months and delay the rest of the stimulus toward the latter half of the year. This should help even out economic growth through 2021.
7:15 am ET
We start the day with an interesting Bloomberg article which was focused on a survey conducted by the ECB. The survey asked 72 European non-financial companies the following question- “Focusing on your own business/sector, how would you assess the overall long-term effects of the Covid-19 pandemic on the following?” Based on the results below, it appears, in aggregate, they expect to be suffering from the pandemic well into the future. From a profit perspective, they are counting on enhanced productivity to offset lower prices and sales. Employment and wages may suffer as a result of a weaker business climate. Reduced sales and potentially higher input costs are a distinct possibility in the U.S. as well. As such, we presume many U.S. companies will try to boost margins in a similar fashion. Such a paradigm does not bode well for labor.
January 14, 2021
3:25 pm ET
For the most part, Jerome Powell continues to shy away from putting a timeline on when the tapering of QE purchases might begin. Today he said: “The Fed will communicate exit early and clearly when it is time.” That said, he did acknowledge the economy could be back to the pre-COVID peak “fairly soon“, which could imply the Fed might be tapering “fairly soon.”
12:45 pm ET
Yesterday we shared the absurdity of Door Dash’s (DASH) valuation. Today we share another. With a market cap of $110 billion, Airbnb now has a market cap higher than the 6 largest hotel chains combined– Marriott, Hilton, InterContentintal, Hyatt, Wyndham, & Choice).
11:30 am ET
We recently found a series of charts in FINVIZ that help visualize valuations of S&P 500 companies and the current behavior of Wall Street analysts and investors. Instead of cluttering up the commentary space on RIA Pro, we thought you would better appreciate the charts and can share them more easily in an article format. Click on the heat map below to access the graphs.
10:05 am ET
10:00 am ET
Initial Weekly Jobless Claims were much higher than expected at +965k versus +784k last week. Of note, covered employment was reduced by 4.4m. These are jobs being permanently reduced. We do not know if this was a seasonal adjustment or year-end issue but if it’s real, it points to a weak jobs report next month.
6:45 am ET
After two strong Treasury Auctions of 10 and 30-year bonds on Tuesday and Wednesday, which helped push long-term yields lower by 10bps, Biden upset the trend with word that his new stimulus plan will be around $2 trillion. That is much more than the $800bn to $1.3tn range which was widely expected. The 10yr UST yield backed up to 1.11% overnight from 1.07% yesterday afternoon. Stocks rose overnight on the news but have since given up their gains and look to open flat.
January 13, 2021
1:40 pm ET
Just when you think things can’t get crazier, Door Dash (DASH) is up another 6% today making it nearly 50% for the year to date. More startling, it now has the same market cap as FedEx (FDX).
1:15 pm ET
Yesterday’s 10-year UST auction and today’s 30-year auction were met with strong demand. As a result, the 10-year is down over 10bps from yesterday’s pre-auction high. It’s too early to know if bond yields peaked, but the strong demand for the auctions shows significant demand at current levels. This affirms what we have been watching with money flows as well.
1:00 pm ET
It appears the meteoric rise in cryptocurrency prices is on the central bankers’ radar. Reuters put out the following article this morning, ECB’s Largard calls for regulating Bitcoin’s “funny business”, in which ECB President Largard calls for regulations. Her concern appears to be money laundering but their regulatory authority will surely intensify if crypto continues to impinge on sovereign currencies. As we wrote two years ago in Salt, Wampum, Benjamins – Is Bitcoin Next? :
“If BTC continues to gain in popularity there is little doubt in our opinion the government will seek control or at a minimum the personal data from the transactions. In fact the SEC has recently opined on the matter claiming that “tokens” such as BTC can be deemed securities and may need to be formally registered. This is just a first step but given the potential threat, we envision government will impose a way to remove the secrecy BTC offers, allowing taxation and legal supervision to occur.”
10:45 am ET
9:25 am ET
CPI was slightly higher than last month, meeting expectations for a 0.4% monthly increase. The Fed tends to rely on CPI excluding Food and Energy, as they consider price changes in those goods transitory. CPI ex-food and energy was underwhelming with the monthly rate at +.1% below last month’s +.2%. Year over year it was +1.7% versus +1.6% last month. There is little in this report that warns of pending inflation. All eyes to Friday’s PPI report.
8:05 am ET
As shown below, courtesy FINVIZ, the price of grains has risen sharply over the last few months. As a result, many producers of food products using grains or those relying on grains have stumbled. Kelloggs (K) for instance is down nearly 20% and sits much closer to its March lows versus its recent July highs. The price action of GIS, CAG, and HRL among others, looks similar to K (shown below). When the “reflation” trade ends these will likely be good purchases but we warn that might be a while longer.
7:10 am ET
CPI will be released at 8:30 am. The current expectation is for monthly inflation to uptick to .4% from .2% last month. Year over year inflation is also expected to increase from 1.6% to 1.7%.
Fed members, Brainard, Bullard, and Vice Chair Clarida will speak today. Over the last couple of days, a few Fed members have mentioned the possibility of tapering QE by year’s end. We will closely follow upcoming Fed speeches to see if this becomes a more common theme. Here are a few examples:
- Bloomberg- Fed officials said that more fiscal support and vaccines could lead to a strong economic recovery in the second half, setting the stage for a discussion of tapering
January 12, 2021
1:45 pm ET
The graph below compares 10-year implied inflation rates (blue) to 10-year UST yields (red). The difference between the two is called the real yield. As shown, implied inflation has risen about 50bps more than UST yields over the last 7 months, therefore real yields have fallen. Fed purchases of TIPs drive the implied interest rate up and purchases of nominal USTs drive nominal yields down. In a normal market, without interference by the Fed, nominal yields would trade higher than inflation expectations. With Treasury debt levels at historical extremes, the Fed cannot tolerate UST yields over 2% as this graph implies. Expect this divergence to continue and likely widen if the Fed has their way.
1:00 pm ET
Over the last month or so, we have shown a good number of sentiment measures at extremes (including the one from first thing this morning), and in some cases at levels never been seen before. The table below, courtesy of Crescat Capital, shows that a multitude of valuations measures also sit at record highs. The market can keep chugging higher but it worth reminding yourself that sentiment and valuations are in rarefied air.
10:15 am ET
7:40 am ET
The NFIB small business optimism index took a hit falling 5.5 points to 95.9. Of the ten survey components respondents were asked about, nine were lower than the prior month. From an inflation perspective, the NFIB writes: “The net percent of owners raising average selling prices decreased 2 points to a net 16% (seasonally adjusted). Price hikes were the most frequent in retail (30% higher, 6% lower) and wholesale (26% higher, 13% lower). A net 22% are planning price hikes (seasonally adjusted).” This report jibes with other data pointing to no current inflation but the anticipation of inflation in the future.
Key findings from the NFIB are as follows:
- The percent of owners thinking it’s a good time to expand decreased 4 points to 8%.
- Sales expectations over the next three months declined 14 points to a net negative 4%.
- Earnings trends over the past three months declined 7 points to a net negative 14% reporting higher earnings.
Small businesses account for over 60% of employment in America. This survey provides important data on the state of small business and what that may mean for inflation and employment trends.
7:00 am ET
The fourth-quarter earnings season kicks off this week with a handful of companies reporting earnings. Of note will be Delta Airlines and Blackrock on Thursday followed by a few large banks on Friday – JPM, Citi, and WellsFargo.
The following chart, courtesy of Citi, was making the rounds on Twitter yesterday. It shows that market sentiment is literally off the charts!
January 11, 2021
1:45 pm ET
Per BofA- Bitcoin “blows the door off prior bubbles.” On the topic of bubbles, Tesla is up over 200% in less than two months. The only news of note was two Wall Street analyst reports which both set a price target lower than the current price.
1:30 pm ET
7:10 am ET
The week ahead will be important as the BLS releases consumer and producer price data for December. The reports will provide some evidence as to whether higher inflation expectations are playing out in the economy. CPI, due out on Wednesday, is expected to rise at a year over year rate of 1.2%, the same as November. PPI, being reported on Friday, is also expected to be flat versus November at 1.4% annually. Also on Friday, the University of Michigan will release its consumer sentiment survey which has an inflation subcomponent. Retail Sales will also be released on Friday.
Fed members have an active speech schedule this week. Of note will be Fed Chair Powell on Thursday afternoon and Vice Chair Clarida on Wednesday.
It could be another volatile week for bond yields. The Treasury will conduct its 10-year auction on Tuesday and 30-year auction on Wednesday. Both auctions may exert further downward pressure on bond prices. Biden’s stimulus plan is expected to be released later in the week. Bond investors will pay attention to the size and composition of spending, as well as any details on potential tax increases. Initial rumors of a spending package “in the trillions” pushed yields higher Friday afternoon.
January 9, 2021
(Good comments on why we sold IAU and GDX yesterday.)
January 8, 2021
1:00 pm ET
Earlier this week we showed the dollar on a long-term scale to show that the recent sell-off is well within historical norms. Today we share 10 year UST yields. As shown, yields have certainly risen over the last few months, but remain well below all instances on the graph going back to 1970. Simply, the recent increase is meaningless on a historical basis.
The problem however is that as the economy has become more dependent on debt and lower interest rates to service the debt, the threshold for economic pain due to higher rates has increased markedly. We find it highly unlikely that the 10-year yield could get back to even 2% without economic weakness and problems in the financial markets.
11:35 am ET
Fed Vice Chair Clarida put to rest the notion that the Fed might taper QE purchases this year, saying “can be quite some time before we think about tapering” & “my economic outlook is consistent with us keeping the current pace of purchases throughout the rest of this year.” He does expect an uptick in inflation in the months ahead but also believes it’s transitory. He also stated that he is not concerned with the 10-year Treasury yield above 1%.
10:00 am ET
The graph below, courtesy of Goldman Sachs, shows a large gap between actual volatility (light blue) and implied volatility (dark blue) which is what investors are pricing into options contracts. Will implied volatility fall back to the teens, where it was for the large majority of the post GFC era, or are VIX futures correct in implying a significant level of volatility lies ahead? It is worth noting that the surge in call option activity is providing a bid to the VIX and possibly distorting the historical relationship.
9:30 am ET
9:00 am ET
Like the ADP report on Wednesday, the BLS employment report was weaker as the economy lost, in aggregate, 140k jobs. On a positive note, hourly earnings increased sharply. As we warned last month, December’s data has large seasonal adjustments which are likely greatly flawed due to irregular hiring patterns for the holidays. For example, earnings were probably higher solely because traditional brick and mortar retail and restaurants, which tend to pay low wages, did not staff up like prior years. To that end, food services and drinking establishments lost 372k jobs.
7:15 am ET
January 7, 2021
1:30 pm ET
The graph below, courtesy of Arbor, compares 2yr and 10yr implied inflation levels. As they highlight with the dotted lines, a peak in inflation expectations occurred the last 7 times short term inflation expectations (2yr) equaled or rose above long term expectations (10yr). The chart argues that inflation expectations should decline rapidly in the near future or this time is different and inflation is truly taking hold.
10:10 am ET
Jeremy Grantham’s article, Waiting for the Last Dance, can be found HERE.
10:00 am ET
The following headline just hit the wires: “FED’S HARKER: COULD DISRUPT MARKETS IF WE TAPERED TOO SOON.” It’s clear from that comment the Fed knows QE is driving markets and the situation is hemming them into policies driven by markets, not economics.
Initial Jobless Claims last week were 787k versus 790k the prior week. Claims continue to stay at a stubbornly high level despite economic recovery. Just to reiterate prior comments, nearly 800k people were laid off just last week alone. Prior to the recent experience, the number had never been above 700k since at least 1967.
7:00 am ET
With a Democrat-led Congress and with it, projections for even greater deficit spending, the following WSJ editorial –Welcome to the Era of Non-Stop Stimulus is worth considering. The prospect of trillion-dollar deficits well into the future is high and with it comes benefits and consequences. In the short run, government spending drives the economy/ reduces recessionary impacts, but in the long run, it detracts from economic growth. Further, the Fed is all but forced to stay very active to help ensure the interest rate on the debt stays at very low levels. This is the macro trap facing our fiscal and monetary leaders. The graph below the quote from the editorial shows deficit spending has far outpaced the tax revenue, which in part highlights that the rate of spending is unsustainable without consistent help from the Fed.
“But with President-elect Joe Biden now making it clear that the recent $900 billion stimulus will “at best only be a down payment” and the now $3.3 trillion of total stimulus spending “is just the beginning,” it sounds like America is headed into a program of permanent stimulus.”
January 6, 2021
2:25 pm ET
The Fed minutes from their December meeting were largely as expected. They continue to worry about “considerable” risks to the economy due to COVID and have no intention of slowing up QE in the near term. That said they seem to be a little more comfortable with the longer-term outlook. “The recent sharp resurgence in the pandemic suggested that the near-term risks had risen, while the recent favorable developments regarding vaccines pointed to some reduction in the downside risks over the medium term.” The Fed is also showing some concern with rising long term interest rates- “a couple of participants indicated that they were open to weighting purchases of Treasury securities toward longer maturities.”
11:30 am ET
The table and graph below provide guidance on how 12 month forward P/E ratios for the S&P 500 and its sectors, compared to their respective averages of the last 20 years.
10:15 am ET
Bond yields are rising sharply this morning on concerns that a Democrat-led Congress will further increase fiscal spending, resulting in even more debt issuance. As shown below TLT, an ETF proxy for 20 year UST, was tightly wound and reaching the pinnacle of a pennant pattern. This morning it clearly broke lower out of the pattern. Fed minutes from their December meeting will be released this afternoon. While unlikely, it will be interesting to see if there are any concerns about rising interest rates.
9:15 am ET
8:20 am ET
The ADP labor report showed a loss of 123k jobs in December versus expectations for a gain 130k of jobs and a prior addition of 307k jobs. The correlation between ADP and Friday’s BLS employment report has been historically strong, but over the last 9 months, it has weakened considerably. As such we must be careful not to read too much into today’s report.
7:25 am ET
The markets, with the exception of bond yields, are relatively calm following what appears to be a Democrat sweep in Georgia. 10-year U.S. Treasury yields are up 6.5 basis points last night to 1.02% as the market presumes more stimulus is likely with full Democrat control of Congress. Stocks are flat and the dollar is slightly lower.
Crude oil and the energy sector (XLE) were both up nearly 5% yesterday. XLE now sits at about 15% above its 50 dma and 200 dma. It is not quite at 2 standard deviations above each moving average so there is some more room to keep running.
Last night a subscriber asked us, per our commentary yesterday on the ISM prices index, how well correlated the index is to manufacturers’ input prices. As shown below, the correlation was relatively strong before 2017 but has tailed off over the last few years. We will pay close attention to next week’s PPI data to see if the survey truly reflects rising prices or just a “feeling” that prices are rising like in 2018. We remind you this survey simply asks the respondents to make a comparison versus last month and not to quantify the degree of change. The other factor to consider is whether or not price changes are due to temporary supply line constraints or more sustainable inflationary forces.
January 5, 2021
12:45 pm ET
The graph below is a monthly graph of the U.S. dollar since 1990. As shown, the dollar is declining but it is well within its 30-year range. Reports saying the dollar is crashing are not apparent by looking at the chart.
10:05 am ET
The ISM Manufacturing Index rose nicely to 60.7 from 57.5 last month and 56.7 as expected. On the positive side, the employment sub-index rose back above 50 denoting an expansion of hiring. The fly in the ointment in the report is the Prices Paid sub-index rose sharply to 77.6 from 65. If manufacturers can not pass on higher production costs, profit margins will decline. If they can, we should see increases in CPI and other consumer inflation gauges.
9:50 am ET
Crude Oil is rocketing higher by nearly 4% and approaching $50 a barrel after Russia is ending its push for an increase in production for February. Per Investing.com – “Newswires reported that Russia’s deputy prime minister Alexander Novak had agreed to ‘roll over’ the current level of production for another month, in view of an expected shortfall in demand from key economies due to the resurgence of the Covid-19 virus and spreading lockdown measures to contain it.”
9:40 am ET
8:15 am ET
It appears Atlanta Fed President Raphael Bostic floated a trial balloon by raising the prospect that the Fed could taper, or reduce its pace of QE purchases. Per Reuters:
- “I am hopeful that in fairly short order we can start to recalibrate,” the $120 billion in U.S. Treasury and mortgage-backed securities that the U.S. central bank is currently buying each month, Bostic said in an interview with Reuters.
- The Federal Reserve could begin to trim its monthly asset purchases this year if distribution of coronavirus vaccines boosts the economy as expected, Atlanta Fed President Raphael Bostic said on Monday in what amounted to a bullish outlook for the coming months.
7:35 am ET
Reading through market conjecture about why equities sold off yesterday, it appears some are blaming today’s Georgia Senate runoff. The thought is that a blue sweep would give the Democrats full control of Congress thus allowing for greater fiscal spending, which can be inflationary. To that end, 10-year implied inflation expectations hit 2% yesterday, a two-year high, and the materials and energy sector, as shown below courtesy of Finviz, rose despite large drops in the other sectors. Materials and energy stocks, and in particular producers of raw materials, should outperform in an inflationary environment.
While some inflation and a short-term economic surge may benefit stocks, the flip side is that more inflation will force the Fed to take their foot off the monetary pedal by reducing QE or even raising rates. The market has run well ahead of fundamentals, leaving QE and excessive monetary policy as key drivers of asset prices. As such the market will be increasingly sensitive to changes in monetary policy.
January 4, 2021
3:00 pm ET
As we noted last week, it is typical at year ends to see window dressing trades and tax-related buying and selling. Some of these trades tend to be reversed in the new year. We believe that helps explain today’s sell-off. However, a newly announced 6-week national COVID-related lockdown in England and jockeying ahead of the Georgia Senate runoff election are also playing roles.
12:40 pm ET
In a speech this morning, Chicago Fed President Evans downplayed the market’s inflation forecasts. The following headlines make it clear he thinks the Fed still has a lot of work to do in order to get inflation up to its goal:
- “will take years to achieve average 2% inflation goal”
- “important for the Fed to get inflation moving higher with momentum”
- “Fed likely to continue with bond-buying for some time”
- “monetary policy will be accommodative for a long time”
11:35 am ET
The chart below plots 2020 price returns for the most popular exchange-traded commodities. The data is in strong opposition to deflationary data from the BLS Producer Price – Commodities Sub-Index (PPI), which is actually down .4% for the year through November. Excluding gold, as it not used heavily in the production of goods, the average change in commodity prices shown below is +12.6%. Energy products, excluding Natural Gas, were the only commodities lower on the year.
10:40 am ET
9:15 am ET
7:15 am ET
In this first week of the new year, ADP and the BLS will update the employment picture. ADP releases their employment index on Wednesday. Current expectations are for the addition of 170k jobs, following 307k in November, 404k in October, and 754k in September. Following last month’s weaker than expected reading, the BLS Employment report on Friday is forecast to show a gain of only 112k jobs in December. The unemployment rate is expected to tick up by .1% to 6.8%. As shown below, 22 million jobs were lost in March and April of which 12.3 million were recovered. The road back to full employment will be lengthy if payrolls only grow by 100-200k a month.
January 1, 2021
Happy new year!!
December 31, 2020
The team at RIA Pro wishes you and yours a very happy and healthy new year. We look forward to navigating markets and sharing our insights in 2021.
10:15 am ET
The Technical Value Scorecard is published.
7:20 am ET
The next big risk event will be the January 5th run-off Senate election in Georgia. While the Republicans are expected to win and hold the Senate, a surprise victory by both Democrats could supercharge the equity markets and push yields higher as the prospects for a much larger stimulus deal in the months to come increases significantly.
If you are looking for things to worry about, the following survey provides a list of possible events that concern investors in the year ahead.
December 30, 2020
12:00 pm ET
This morning we published Plus ça change: A French Lesson in Monetary Debauchery which tells the story of monetary and fiscal failures that led to the French revolution. While there are many similarities to the current situation there are also important differences. “This story is not a forecast but a simple reminder of what has repeatedly happened in the past.”
11:20 am ET
Keep an eye on bonds. In particular, the price of TLT has been consolidating with slowly rising bottoms and surging money flows over the last two weeks. A breakout in TLT (falling rates) might be the surprise no one is expecting in January. We would like to see TLT (156.75) trade above its 20 dma (157.10) and 50 dma (157.92), before betting on a bounce higher.
10:00 am ET
It appears the ECB is finally showing some concern about a stronger euro versus the dollar. Per Ollie Rehn, Governor of the Bank of Finland-“ECB Is Monitoring Euro Exchange Rate Very Closely.” A stronger euro is deflationary which poses problems for the region which already has a deflation problem and employs negative rates. We suspect that the eurozone will not tolerate much more dollar weakness.
7:30 am ET
Yesterday we ran across the following Bloomberg article – Treasury Market’s Inflation Gauge Nears 2%, Highest Since 2018. We ask, does the inflation gauge still have credence?
The Fed closely monitors and bases monetary policy on inflation expectations as measured by the TIPs market. This gauge used by the Fed and investors is becoming a questionable forecasting tool as the Fed now owns over 20% of the TIPs market. Due to massive QE, their outsized demand for TIPs over the last 6 months has pushed inflation expectations higher than that which would have been the case without their interference. The Fed can own up to 70% of any security, meaning they have plenty of room to buy more TIPs and further distort inflation expectations.
The graph below compares 5 year implied inflation data with actual CPI data occurring 5 years from that point. As shown implied inflation expectations have been a reliable gauge for the last four years. Unfortunately, the value of this important data point will lessen as the Fed, not the market, increasingly dictates inflation expectations.
December 29, 2020
11:40 am ET
The chart and commentary below from Siblis Research serve as yet another reminder that valuations, in many cases, are at or near record levels.
10:30 am ET
Next Tuesday Georgia will conduct run-off elections for both Senate seats. Given that a Democrat sweep can tip the Senate in the Democrat’s favor, this election has big implications. The polls below, courtesy 538, show that both Republicans have slight leads in the most recent poll. However, based on their prior two polls, conducted before Christmas, the polls have fluctuated back and forth. From an economic/investing perspective, a Democrat sweep will likely mean more stimulus, but potentially higher taxes for the wealthy. It also makes a roll-back of the corporate tax cut of 2018 more likely.
10:15 am ET
Case Shiller’s 20 city home price index for October was up an annualized 7.95%, beating expectations by 1%, and showing the sharpest one-month increase in over 5 years.
8:10 am ET
The price of cryptocurrency Ripple fell below 20 cents last night, down nearly 70% over the month of December. The sharp decline is based on an SEC allegation that Ripple is a security. Ripple is not Bitcoin, but this action and the proposed legislation to regulate stablecoins raises our concern that regulatory actions can cause severe drawdowns in cryptocurrency space, including Bitcoin.
It is worth noting, as we consider potential potholes, Ripple is centralized (ie. controlled by an entity) and Bitcoin is decentralized (not controlled by anyone).
7:50 am ET
Top 10 Buys And Sells
From TPA Research (Click on RIAPro+ today to add TPA Research to your subscription.)
7:30 am ET
The low volume equity melt-up continued overnight with further gains of half a percent. Yesterday’s nearly 1% gains were impressive, but there are some concerning factors under the hood. For one, the VIX and bond prices both ended higher on the day. Advancing NYSE stocks only beat out declining stocks by 53.5% to 44.5%. We would have expected a much larger margin/better breadth. Lastly, the Russell 2000, which has been leading the market over the past few weeks, fell by .37%. That being said, we are careful not to read too much into this week’s trading due to light volumes and year-end related trading pressures.
December 28, 2020
12:00 pm ET
One of our primary concerns of investing in cryptocurrency is the governments’ ability to regulate or even abolish it if the government deems it detracts from their ability to control monetary issuance and therefore manage the economy via their own currencies. To that end, a bill was introduced that would heavily regulate stable coins. Unlike the more popular bitcoin and other cryptocurrencies, stablecoins peg their market value to an external index such as the dollar or a commodity. This new bill would require stablecoin issuers to become banks with the approval of the Federal Reserve and FDIC.
10:10 am ET
Gamma Band Update is published
10:00 am ET
Per Troy Bombardia @bullmarketsco – “Something to watch out for in 2021: Margin Debt soared 50% in the past 8 months. In the past 30+ years, such investor euphoria happened exactly twice:
On Sunday, the WSJ published an article on Margin that is worth reading- Investors Double Down on Stocks Pushing Margin Debt to Record High.
7:40 am ET
Equities are opening up strong this morning as President Trump signed off on the $900 bn stimulus deal including $600 checks to individuals. This morning the House will vote on Trump’s request for an increased $2,000 for each qualifying individual. Bonds are weaker and the dollar is flat. Gold was up over $25 last night but gave back most of those gains. Conversely, crude oil opened up down 2% and is now up over 1%.
7:25 am ET
This will be another quiet week for economic data. On Monday and Wednesday, we get our first look at December’s manufacturing surveys, as the Dallas Fed and Chicago PMI report data respectively. Both are expected to show declines but stay above 50, denoting expansion. Jobless Claims on Thursday are expected to uptick slightly from 803k to 815k. Markets will be closed on Friday for New Years Day.
December 25, 2020 – Merry Christmas
The REAL INVESTMENT REPORT is OUT!
December 24, 2020
11:25 am ET
Freddie Mac reported 30 year and 15 year mortgage rates hit new record lows this week. As shown in the graph below, a conforming 30 year mortgage is now 2.66%, almost 1% lower than the lows set in 2012. In case you are wondering why mortgage rates are declining while longer-term Treasury yields are rising, the answer lies in the duration of a mortgage. Due to significant refi and purchase activity, the duration of a mortgage is now below five years. As such mortgages are priced off of 3 and 5 year Treasuries bonds which have seen stable to declining yields over the last month.
9:30 am ET
The Technical Value Scorecard is published.
7:20 am ET
Yesterday we showed how household income has risen sharply during the pandemic due to the Cares Act. Last night we stumbled upon the graph below, courtesy of @ernietedeschi, giving a much more detailed breakdown of the factors driving the increase in household incomes. Per Ernie, the average citizen has gained $5,439 of extra income due to government stimulus. This compares to what would have been a decline of $4,074 without said benefits.
Equity markets close at 1 pm and the bond market at 2 pm today.
December 23, 2020
10:00 am ET
Three Minutes on Markets & Money
9:50 am ET
The graph below shows Disposable Income surged on the original Cares Act and has now retreated to the prior running rate. The $2.2 trln increase in income was solely due to the $2.4 trln increase in government transfer payments (benefits to citizens). It should be no surprise with incomes back to normal and most Cares Act related spending used, the recovery is faltering. While the new stimulus bill will boost incomes and provide a spark for short term growth, it should be recognized that the natural organic rate of economic growth is low.
8:45 am ET
Initial Jobless Claims fell from 892k to 803k. Over 20 million people are receiving Federal and/or State unemployment aid. About two-thirds of those people will lose aid on December 26th if the lastest stimulus act is not finalized. That is a primary reason Congress is rushing the legislation.
Personal Income fell 1.1% versus expectations of a .3% decline, and a decline of .6% last month. Personal Consumption (spending) fell 0.4%. Bottom line is that fiscal stimulus is wearing off quickly. The new stimulus bill will boost income and spending but only on a temporary basis.
7:00 am ET
On a few recent occasions, we have warned that the dollar is very oversold technically as well as from a sentiment perspective. To wit:
“Let’s start with the dollar. The dollar is so extremely oversold, with a very large net-short position against it, that any event which causes a flight to safety is going to lead to a sharp counter-trend rotation in the dollar. While there is not a tremendous move in the dollar to the upside, the ramifications of that move would ripple through the current “reflation bets” of emerging markets, international, energy, and commodity stocks.” -12/15/2020 Portfolio Trading Diary
The table shows why a dollar rally could prove problematic for the S&P 500, crude oil, and their related stocks. As circled below, crude oil and the S&P 500 are running at relatively strong negative correlations to the dollar. Over long periods (bottom line) little to no correlation exists between these pairs. If the dollar reverses course and the negative correlation holds, crude oil and the S&P will surely decline. A dollar rally might also spell trouble for Gold, which also has a strong negative correlation, albeit near historical averages. If the dollar turns upward in a meaningful way, the port in the storm could be U.S. Treasury bonds, as there is no correlation to speak of between Treasury yields and the dollar.
December 22, 2020
12:15 am ET
Top 10 Buys And Sells
From TPA Research (Click on RIAPro+ today to add TPA Research to your subscription.)
10:40 am ET
Per Marketwatch: “The index of consumer confidence fell to 88.6 this month from a revised 92.9 in November, the Conference Board said Tuesday. Economists polled by MarketWatch had forecast confidence would rise to 96.7 in December. The index had hit 101.4 in October.” Given personal consumption is over 60% of GDP, this latest confidence survey, and its recent trend, serve as a warning that the recovery is in jeopardy. The survey was taken before the latest round of stimulus, so we will see if confidence, and hopefully spending, improve in the next round of surveys.
10:30 am ET
Three Minutes on Markets & Money
9:20 am ET
Gamma Band Update is Published
8:30 am ET
With another round of stimulus checks to households on the way, we were curious to see how many of our Twitter followers think that checks to the public become the norm. As shown almost three-quarters of those that replied think they will become a new fiscal tool for fighting economic slowing.
7:30 am ET
Corporate yields rose marginally on Monday despite the stimulus bill which takes away the Fed’s ability to buy corporate bonds without new Congressional approval.
As shown below courtesy of Goldman Sachs, Investment Grade bonds now yield a paltry 1.80%. At the same time, their duration has soared to nearly 9 years. In combination, the two figures point to a significant increase in the amount of risk in the corporate bond markets. Duration measures the change in price for a given change in yield. If yields were to rise from 1.8% to 3.8%, bond prices in aggregate would fall approximately 18%. That compares to an approximate 13% decline in 2018 for a similar 2% increase in yields. Investors are clearly putting a lot of faith in the Fed to ensure yields don’t rise significantly. At the same time, they are betting against the Fed being able to deliver meaningful inflation which would push yields higher.
Doublethink- Doublethink is a process of indoctrination whereby the subject is expected to accept a clearly false statement as the truth, or to simultaneously accept two mutually contradictory beliefs as correct, often in contravention to one’s own memories or sense of reality.
December 21, 2020
12:15 pm ET
The graph below shows economic activity has overtaken pre-COVID levels in China, while the U.S. and Europe have not only failed to regain lost economic activity but are losing momentum over the last few months. The combination of waning stimulus, stricter lockdown rules, and a much slower organic economic growth rate are the primary culprits driving the divergence.
9:45 am ET
3 Minutes on Markets & Money
7:30 am ET
The passage of a $900 billion stimulus bill appears to be a buy the rumor/ sell the event trade. Most U.S. equity indexes are down sharply but have recovered somewhat since last night’s lows. The S&P for instance is down 1.6% but about over 1% higher from the lows. The dollar and bonds are rallying, precious metals are flat, and crude oil is down over 3%. Also weighing on the market is a new more potent strain of COVID breaking out in England. Bear in mind, as discussed below, TESLA related rebalancing is also responsible for some of this morning’s volatility.
While $900 billion was widely expected the market appears to be concerned with some restrictions that the bill puts on the Fed. Per Zero Hedge: “But the Fed wouldn’t be able to replicate programs identical to the ones it started in March at the beginning of the pandemic without the approval of Congress; in short if the Fed is to restart any of the 4 emergency 13(3) programs and lending programs that are set to expire on Dec 31 (shown in red below), it will have to get Congressional approval. These four programs are the market corporate credit facility, the secondary market corporate credit facility, the Main Street lending program and the municipal credit facility.”
The Fed will not be able to buy corporate bonds without Congressional approval. Without the Fed backstop, and with spreads and absolute yields sitting at or near record lows, we expect corporate yields to increase.
7:15 am ET
Starting today, Tesla (TSLA) is a member of the S&P 500. Tesla represents about 1.5% of the index and is the 7th largest contributor (behind Google and in front of Berkshire Hathaway). We suspect the index will see some volatility today as a result of index rebalancing by many investors and funds. The inclusion of Tesla pushes valuation measures on the index higher due to the extreme valuations of Tesla. Tesla has a P/E north of 1300, versus 37 for the S&P.
After the market closed on Friday, the Fed announced it will once again allow banks to resume stock buybacks. JPMorgan immediately announced $30 billion of share repurchases. One must ask why the Fed continues to pump in massive amounts of reserves to the banking system via QE and at the same essentially admitting the banks have excessive levels of capital.
This week’s economic calendar is light. Of note will be Personal Income and Spending on Wednesday, and Jobless Claims on Thursday. Given the holiday, there are not many Fed members scheduled to speak.
December 19, 2020
Trading Desk Notes for December 18, 2020 – by Victor Adair
Latest 3-Minutes On Markets And Money
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December 18, 2020
4:15 pm ET
Tesla’s price action was crazy in the last few minutes of trading before becoming an S&P 500 member.
2:20 pm ET
Much ado has been made about extremely low put/call ratios. While it is a concern as it highlights extreme sentiment, it is also worth noting that the ratio can stay low for a while. As shown below, the ratio was actually lower than current levels for a few years preceding the tech bust of 2000.
11:30 am ET
The price of crude oil continues to rise on a seemingly daily basis and is quickly approaching $50. Despite the steady gains energy stocks (XLE) have begun to lag. As shown in the graph on the right, the ratio of XLE to crude oil has fallen by nearly 10% in the past 6 trading days. The graph on the left shows the price of XLE and crude. Note that the last two significant increases in crude oil were preceded by strength in XLE. XLE might be ahead of the curve and signaling future weakness in oil prices. That said, energy stocks are up well over 50% since early November and grossly overbought on all technical readings. As such, a consolidation or decline should not be surprising despite improving fundamentals.
9:15 am ET
The Technical Value Scorecard is published.
Stimulus negotiations are ongoing with a deal probable over the next few days. It is worth noting, that funding for the government lapses at midnight, and, as such, about 12 million people will lose their federal unemployment benefits in the coming week if a deal is not struck by Christmas.
Today is a quadruple witching day as a slew of stock and futures options expire. Per Goldman Sachs, almost 50% of all S&P options expire today. Goldman is not expecting fireworks as a good percentage of the options are well in the money.
December 17, 2020
10:50 am ET
A few weeks ago we shared the chart on the left which shows that when most investors expect a steepening yield, local highs in longer-term bond yields occur. We continue with the same yield curve expectations graph, but instead, compare it to gold prices over the last few years. As shown, when a large majority of investors think the yield curve will steepen, gold tends to show local weakness. Following two of the three prior peaks in expectations, gold prices surged. As we think about the yield curve, we must remember the Fed will only tolerate so much yield curve steepening, as higher long term interest rates are damaging to the economy. Might we once again be on the precipice of lower yields and higher gold prices?
8:40 am ET
Initial Jobless Claims rose 32k from last week to 885k, versus an expectation for a sizeable decline to 806k. The Philadelphia Fed Manufacturing Index also points to employment problems as the employment subindex fell from 27.2 to 8.5. The overall index also fell sharply from 26.3 to 11.1. Expectations were for a decline to 20. Housing Starts and Building Permits were both stronger than expected as record-low mortgage rates continue to drive the housing markets.
6:45 am ET
The U.S. dollar is opening up considerably weaker this morning at $89.80 and precariously sitting on an important support line in a wedge pattern. The next level of key support should be the lows of the first few months of 2018 at $88.50. A break below those levels could portend serious weakness for the dollar and renewed inflationary pressures. The flip side of the argument is that the same pattern of 2017/2018 is playing out again and the dollar will break higher.
The consensus estimate for today’s Initial Jobless Claims (8:30 am ET) has been lowered to 806k versus last week’s reading of 853k.
While stocks traded in a narrow range yesterday, bond yields were volatile. The 30-year Treasury bond opened Wednesday morning 7 basis points higher than Tuesday’s close. It then spent most of the session declining back to flat on the day. Upon Jerome Powell’s statement that the Fed has no plans to expand their purchases of long term bonds, yields rose back to the day’s highs. The spike higher did not last long and was met with an equal decline in yields. This trading activity is noteworthy as there seems to be a big buyer of bonds on every dip. Whether it is enough to reverse the recent trend higher in yields, however, has yet to be seen.
December 16, 2020
3:15 pm ET
Jerome Powell’s Press Conference Notes:
- Per the Fed’s new economic projections, they expect unemployment to fall to 5% at end of next year and 4% by the end of 2022. The current rate is 6.7% and the pre-COVID level was 3.5%.
- Half of the Fed members still see downside risks to their 2% inflation goal.
- Powell links the maturity of bonds they purchase via QE with economic performance. If the economic recovery falters and the Fed thinks it needs “stronger accommodation” the Fed may likely shift purchases to longer-term bonds versus shorter-term bonds. Currently, he seems content with the distribution of maturities in their purchases. This statement explains the sell-off in bonds this afternoon.
- Powell strongly supports and welcomes fiscal support.
- High-frequency data shows the recent surge in COVID cases is slowing economic activity.
- He is hopeful that the vaccine will help the economy run “strongly” in the second half of 2021.
- The bottom line per Powell- “NO ONE SHOULD DOUBT’ FED COMMITMENT TO AID ECONOMY”
2:10 pm ET
The only statement change of note in the FOMC minutes was the following in regards to sustaining the Fed’s $120 bn QE pace- “until substantial further progress has been made toward the Committee’s maximum employment and price stability goals.” Prior to today, the statement based QE operations on credit market functioning and financial stability. Needless to say, QE will be with us for a long time. The red-lined statement is below. Click to enlarge.
9:15 am ET
Per Politico- “Congressional negotiators are on the brink of a coronavirus rescue package that would include a second round of direct payments, but would likely leave out state and local funding and a liability shield, according to multiple sources involved with and briefed on talks.”
This helps explain why stocks are maintaining their bid and bonds are trading weaker following the Retail Sales data.
9:05 am ET
Retail Sales were much weaker than expected as shown in the table below. With a consistent weakening theme emerging throughout the economy and higher interest rates, will the Fed discuss shifting more QE purchases to longer-term notes and bonds? Shifting purchases away from the Bill sector would also alleviate downward yield pressure on Treasury Bills as discussed in the comment below.
7:30 am ET
Chris Whalen, author of the Institutional Risk Analyst, put out an important article entitled Wag the Fed: Will the TGA Force Rates Negative. The gist of the article is that the Treasury pre-funded COVID relief efforts and end up borrowing more money than it spent. The Treasury now finds itself with a severely bloated account at the Fed (TGA) as shown below. The nearly $1.6 trillion cash balance should fall over time but will “remain well above historical norms.” Chris fears that if a sizeable stimulus bill can’t be agreed upon, the Treasury will reduce debt issuance and use the excess cash to fund expenditures. As a result of less debt issuance, primarily in the T-bill sectors, Fed Funds and short term rates could go negative.
In such a scenario, the Fed in its goal to manage Fed Funds within its 0-.25% target, would need to reduce QE to offset the Treasury’s reduced supply. “This bizarre situation illustrates the fact that once the FOMC turned to the dark side by embracing QE, it essentially lost control of monetary policy. More than ever before, the Treasury is the fiscal policy dog and the Federal Reserve System is the increasingly superfluous tail. “
It will be interesting to hear Jerome Powell’s response if he is asked about this problem at his 2:30 pm press conference.
December 15, 2020
2:20 pm ET
Stocks took a turn higher on stimulus optimism from Mitch McConnell. Per McConnell “We’re not leaving here without a covid package. It’s not going to happen. .. no matter how long it takes, we’ll be here”
1:53 pm ET
Top 10 Buys And Sells
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11:20 am ET
It appears the best shot for passing a stimulus bill is a “lite” version of the $910bn bill that was in play last week. Currently, a $750bn spending bill is on the table with spending on more difficult aspects being put off until after the inauguration. Of the most noteworthy items are stimulus checks to individuals. It is likely a bill will contain more small business support, a continuation of unemployment programs, and possibly an extension of student loan forbearance and the housing eviction ban.
The market feels like it wants to run on a deal announcement but will a watered-down deal pass muster?
8:20 am ET
In the most recent December Oil Market Report, the International Energy Agency (IEA) downgraded its 2021 oil demand forecast by 170k barrels per day, in large part (80%) due to jet fuel and kerosene. Essentially the agency believes it will take longer than the market expects for the vaccines to bring normality to daily lives.
“The understandable euphoria around the start of vaccination programmes partly explains higher (oil) prices but it will be several months before we reach a critical mass of vaccinated, economically active people and thus see an impact on oil demand. In the meantime, the end of year holiday season will soon be upon us with the risk of another surge in Covid-19 cases and the possibility of yet more confinement measures“
7:30 am ET
With the December Federal Reserve Monetary Policy meeting kicking off today, an update on Fed Funds futures is worthwhile. Currently, the front contract, December 2020, trades at .08%, and the monthly contracts out through October of 2021 sit at the same level. Beginning in late 2021 the rate increase ever so slightly. By July 2022, the rate is .10% and about .14% by year end 2022. Essentially, the market is saying there will be no rate hikes in 2021 and an approximate 33% chance of a 25bps hike by the end of 2022. These prices can change rapidly, but for now, it appears the Fed has made it clear to traders they have no intent on raising rates anytime soon. As we will likely hear tomorrow, the odds a reduction in QE amounts in the near future are also very slim.
The chart below shows why a renewal of the stimulus CARES Act is so important. Per Liz Anne Sonders (Charles Schwab) -“When CARES Act protections run out, many landlords will have no choice but to evict some tenants”
December 14, 2020
2:30 pm ET
The surge of housing prices in the suburbs is being partially offset with sharp declines in urban housing activity. The graph below shows rents in Manhattan have fallen by nearly a third and are now back to levels from ten years ago.
12:20 pm ET
A few subscribers have asked us for more information on SPACs. As such, we share the following short video from the Financial Times.
10:30 am ET
The Weekly Gamma Band Update is published.
10:10 am ET
As shown below, the Euro (versus the USD) has been in a downtrend for 12 years. Since 2008, the upper end of the trend is defined with a series of lower highs. Currently, the Euro is bumping up against a significant resistance trend line (gold line). If it can breach resistance and 1.25 to the dollar (red line), the prior high from 2018, significant dollar weakness may lie ahead. That said, the dollar is grossly oversold and bearish sentiment is extreme, so at least in the short run, we suspect resistance will hold.
8:00 am ET
19 IPO’s have doubled on their first trading day in 2020. There were a total of 25 IPO’s that did that from 2010-2019!!
Per the graph below, courtesy of Bloomberg, over 80% of IPOs issued this year have negative earnings. Despite questionable fundamentals, opening day trading returns on IPOs this year are the highest in 20 years. Bottom line: investors are chasing hope and promise with no regard for risk. The riskiest of assets have been the best performers as of late- IPO’s, SPACs, and zombies.
7:15 am ET
This week’s significant economic data will include Retail Sales on Wednesday, and Initial Jobless Claims Thursday. After a relative paltry gain of 0.3% last month, November Retail Sales are expected to decline by 0.3%. The forecast for Jobless Claims is also concerning, showing a further rise after last week’s large gap higher.
The Fed will meet Tuesday and Wednesday, with the FOMC statement of monetary policy and Powell press conference at 2:00 pm and 2:30 pm respectively. It is possible the Fed downgrades the current status of economic activity and possibly their 2021 growth forecast. The wild card will be whether the Fed discusses additional QE and/or other forms of monetary stimulus to counteract the slowing recovery and lack of additional fiscal stimulus.
December 12, 2020
The Trading Desk Notes by Victor Adair
December 11, 2020
2:30 pm ET
The Value Seeker Report (VMC) is published!
“Construction aggregates form the backbone of much of the infrastructure making up today’s world. Headquartered in Alabama, Vulcan Materials Company (VMC) is the leading producer of construction aggregates in North America, primarily dealing in crushed stone, gravel, and sand.”
12:30 pm ET
As shown in the Energy Information Administration (EIA) table below, this past week saw a sizeable build of oil inventories, predominately due to imported oil. Regardless of this recent trend, the price of crude oil continues to grind higher. In a nutshell, demand is not keeping pace with the increasing stocks of oil. We suspect the price of crude oil has limited upside unless demand picks up meaningfully. Inventories are still down versus 2019 levels, but on a longer-term basis, they are running decently higher than average. Per the EIA’s weekly report:
- “At 503.2 million barrels, U.S. crude oil inventories are about 11% above the five year average for this time of year.”
- “Total motor gasoline inventories increased by 4.2 million barrels last week and are about 5% above the five year average for this time of year.”
- “Distillate fuel inventories increased by 5.2 million barrels last week and are about 11% above the five year average for this time of year.”
- Propane/propylene inventories decreased by 4.1 million barrels last week and are about 4% above the five year average for this time of year.”
10:30 am ET
University of Michigan Consumer sentiment rose but inflation expectations, both near term and long term, fell. With CPI, PPI, and now the Michigan consumer survey pointing to price stagnation, it may only be a matter of time before the inflationary stock market rotation comes to an end.
10:00 am ET
The Technical Value Scorecard is published.
9:30 am ET
PPI, like CPI, shows no signs of inflation pressures. Core PPI was +0.1%, matching consensus. Year over year the Producer Prices are only growing +.08%.
7:30 am ET
The chart below, courtesy of Bull Markets, shows that the ratio of insider buying versus insider selling is at or near record lows. Per the report- “There were only 8 other historical cases in which the S&P 500 Insider Buy/Sell ratio was this low. The S&P 500’s forward returns over the next 2-6 months were poor and usually faced pullbacks/corrections.” Lastly- “Corporate insiders are incredibly good at trading their own stocks. They know their companies’ situation better than outsiders do, and thus can profit from this information-advantage. Corporate insiders have a consistent track record of buying their stocks near market bottoms and selling their stocks near market tops.”
The yield on Portugal’s ten-year Notes and Australia’s Treasury Bills turned negative this past week, pushing the amount of global negative-yielding debt above $18 trillion, a new record. The increasing yield spread between most developed sovereign debt and U.S. Treasuries has the potential to create a surge in demand for U.S. Treasuries on any sign of economic weakness and/or the emergence of a stronger dollar trend. For foreign buyers of assets denominated in the dollar, a weaker dollar reduces their returns and can partially or fully negate the benefit of the higher yield. The opposite holds true when the dollar is stronger versus the investor’s home currency.
December 10, 2020
12:15 pm ET
In the latest sign of market exuberance, DoorDash (DASH) went public on Wednesday at $102 per share and closed the day at $188, leaving it with a market cap of approximately $60 billion. Today, Airbnb (ABNB) IPO’d at $68 and the stock is indicated to open later today at $145. With a potential market cap of over $100 billion, Airbnb is now the world’s largest online travel company.
9:05 am ET
CPI was slightly higher than expected, increasing 0.2% last month versus 0.0% the prior month, and expectations for a .01% increase. Year over year CPI and CPI excluding food and energy were both unchanged at 1.2% and 1.6% respectively. Unlike what the equity markets seem to be pricing in, there are few signs of actual inflation. That said, official inflation data tends to lag, so we must also keep an eye on alternative price data.
Due to our large trade deficit with China, it is worth noting that China’s most recent CPI report was -0.5%, the first time it turned negative in over 10 years.
The charts below, courtesy of Brett Freeze, show that year over year inflation, broken down between commodities and services, is not showing an inflationary push.
9:00 am ET
Initial Jobless Claims rose sharply to 853k from 712k, and well above expectations of 724k. The increase brings the weekly number of newly unemployed back to levels from mid-September. The non-seasonally adjusted number was also much higher at 947k versus 718k last week. Of concern, continuing claims increased from 5.53k to 5.76k. The upward trend may continue in the coming weeks due to new COVID lockdowns.
8:00 am ET
As expected, the ECB increased the size of its Pandemic Emergency Purchase Program (PEPP), aka QE, by 500 billion euros through March of 2022. They will also re-purchase maturing bonds through 2023, effectively keeping the size of the program intact for three years. Even with the increase, ECB asset purchases are still only running at about a quarter of the pace of the Fed. The initial reaction in the currency market is a strengthening of the euro versus the dollar.
7:30 am ET
The table below shows the consensus expectations for the CPI report due out at 8:30. Jobless Claims, also out at 8:30, are expected to rise from 712k last week to 724k.
December 9, 2020
12:00 pm ET
With 300-year low yields for bonds and zero returns on cash, investors have no choice but to chase stocks. That is the popular justification at least. The graph below shows that is exactly what investors are doing. Equity allocations amongst four major investor groups are nearly the highest ever, while allocations to bonds and cash are at the lower end of historical allocations. While the narrative’s logic makes sense at first blush, investors would be wise to consider current valuations and the expected returns for equities.
In today’s article, Half Truths are Half Lies By Definition, we explore the common misconception that lower interest rates are necessarily good for stock prices.
“As such, the expected returns per unit of risk greatly favor bonds, even bonds with near-zero yields. Bonds may be rich, but stocks are richer.”
11:15 am ET
The BLS JOLTs data reiterated the slowing progress of job gains as we saw in the monthly payrolls report. There are now 4.2 million unemployed workers than there are job openings. The reports also shows that hiring has slowed dramatically since June and is now lower than before COVID lockdowns occurred. This is a tough situation given the huge amount of jobs that need to be filled to get unemployment back to pre-COVID levels.
Per the BLS: “The number of job openings was little changed at 6.7 million on the last business day of October, the U.S. Bureau of Labor Statistics reported today. Hires were little changed at 5.8 million while total separations increased to 5.1 million. Within separations, the quits rate was unchanged at 2.2 percent while the layoffs and discharges rate increased to 1.2 percent.”
9:15 am ET
The U.S. Treasury will auction $38 billion of 10 year notes this afternoon and $24 billion of 30 year bonds tomorrow. Both auctions are $3 billion shy of last month’s record-sized auctions. Yields are higher this morning as banks/dealers that bid in the auctions frequently short notes and bonds to hedge what they will buy in the auction. The weaker the end-user demand the more hedging is required.
7:00 am ET
Yesterday’s exuberance was sponsored by the Russell 2000 small-cap index. The index rose 1.5%, over 1% more than the larger cap S&P, Dow, and NASDAQ indexes. The graphs below show the Russell index (IWM) is now 2.5 standard deviations and 31% above its 200-day ma. Notable, the difference between the upper and lower Bollinger Bands (2.5) is now 50%. As you can see it is common for the index to hit the upper band and ultimately retreat to the lower band. The index can certainly go higher, but the risk is palatable at current levels.
December 8, 2020
1:45 pm ET
In yesterday’s commentary, we presented a few facts on Tesla’s valuation and shared some views on what needs to occur to justify current valuations. Of them were 1) Tesla becomes the world’s dominant automaker 2) Other automakers, including upstarts, can not create viable electric vehicle competition. This morning we saw the following headline- “In the year 2026 will be the last product start on a combustion engine platform,” Michael Jost told the Handelsblatt automotive summit conference at Volkswagen’s headquarters in Wolfsburg, Germany, NBC News reported. Either Volkswagen fails miserably in the EV market or Tesla has real competition. Many other automakers are also aiming to reduce combustion engine production in the coming years.
12:45 pm ET
The chart below, courtesy of Sven Henrich @northmantrader, shows the Russell 2000 is now in unchartered bullish territory. On a monthly basis, the Index is 3% above two standard deviations, an occurrence that has not happened since at least 2000. At the same time, the Percentage Price Oscillator (PPO) is also at a 20 year+ high. Similar to the MACD, the PPO is a momentum oscillator that measures the difference between two moving averages as a percentage of the larger moving average. The CPCE indicator, at the bottom, is the put/call ratio, showing that investors are buying calls at nearly three times the rate as puts. To quote Sven- “We have nothing to fear but the lack of fear. And maybe gravity.“
10:05 am ET
The chart below, courtesy Otavio Costa, shows investment-grade corporate bonds now provide a lower yield than inflation expectations. A few things worth considering:
- Current yields do not factor in potential losses due to credit events. As such actual yields will be lower than advertised.
- Assuming inflation expectations are correct or underestimate inflation, investors holding investment-grade bonds will lose purchasing power with their “investments.”
- Lower spreads typically occur when investors are comfortable with the economic outlook. Today we are in a recession and all but guaranteed to have slower economic growth over the next ten years.
- Notice the exact opposite behavior between the current instance and that of the Financial Crisis in 2008. For what it’s worth, the anomaly is today’s instance, not the 2008 experience.
8:20 am ET
Technically Speaking: Margin Debt Confirms Market Exuberance is published!
7:15 am ET
Strategas recently polled 54 fixed income analysts about their yield forecast for 2021. Only 4 of the 54 analysts believe that the 10-year UST yield can get above 1.50%. Like most of these analysts, we believe yields will stay very low as the Fed has little choice but to keep them low if they are to keep the economy humming. That said, we are well aware of Bob Farrell’s rule #9 “When all the experts and forecasts agree — something else is going to happen.”
December 7, 2020
3:30 pm ET
Canceling student debt as a “stimulus” of sorts has been raised over the last few weeks. Recently, the CRFB wrote a great article showing that canceling student debt is far less effective than other forms of stimulus. To wit:
Student debt cancellation will increase cash flow by only $90 billion per year, at a cost of $1.5 trillion.
Student debt cancellation is poorly targeted to those most likely to spend, given that nearly three-quarters of repayments would come from the top 40 percent of earners.
Forgiving the full $1.5 trillion in loans will likely boost economic output during the current downturn by between $115 and $360 billion, a multiplier of 0.08x to 0.23x.
Partial loan forgiveness would cost less than total forgiveness but also offer a smaller economic boost. We don’t expect a significant improvement in the multiplier.
Simply extending the current executive action to defer loan repayments and cancel interest would achieve much of the economic benefit of loan cancellation at only a very small fraction of the cost.
There are a number of benefits and costs associated with canceling student debt. But as a stimulus measure, its “bang for the buck” is far lower than many alternatives under consideration or the COVID relief already enacted.
12:47 pm ET
Top 10 Buys And Sells
From TPA Research (Click on RIAPro+ today to add TPA Research to your subscription.)
10:00 am ET
TESLA SHARES HIT RECORD HIGH, LAST UP 3.3%
Tesla’s (TSLA) stock has risen over 600% this year, including a surge over the last few weeks as it was announced Tesla will be joining the S&P 500. As shown below, Tesla now has a market cap equal to the next 6 largest automakers combined, yet it only has 1% of the market share of those automakers in aggregate. For Tesla to have a sales/market cap ratio equal to the average of the top 6, they would need to sell 39 million cars per year. To put that differently they would need to sell 60% of all cars sold in the world. At current valuations, Tesla shareholders are betting on the following:
- Tesla becomes the world’s dominant automaker
- Other automakers, including upstarts, can not create viable electric vehicle competition
- Electric vehicles become a large majority of cars sold globally
- The U.S. and/or other countries do not enforce monopoly laws
Needless to say, buyer beware!
9:30 am ET
The Weekly Gamma Band Update is published.
With inflation expectations on the rise, and stocks rising on a reflation narrative, the market will get to see if actual inflation is picking up this coming week. On Thursday, the BLS will release CPI and follow it up Friday with PPI. The current consensus estimate for CPI is +1.1% annually versus 1.2% last month. We will also keep an eye on the inflation expectations component of the University of Michigan survey on Friday, to see if consumers believe inflation is brewing. Other than inflation, the JOLT report due on Wednesday, and Initial Jobless Claims on Thursday, will help better assess the employment picture.
The graph below shows yet another market anomaly and the extreme technical levels many indexes are reaching.
December 6, 2020
Victor Adair’s Trading Desk Notes – Week Of December 5th
December 4, 2020
12:00 pm EST
The graph below, courtesy of Brett Freeze, helps explain why negative real rates dampen economic growth. The green shaded areas in the graph represent periods in which the yield on the 3 month Treasury Bills was below the expected inflation rate. In other words, anytime real rates are negative. As shown by the blue line, productivity growth tends to decline when real yields are negative and increase when positive. Currently, the implied rate of inflation is 1.86% and the 3-month Bill trades below .10%, meaning real yields are -1.76%. For more on the importance of productivity to economic growth, we share an article we wrote in January of 2019 – Productivity: What it is & Why it matters.
10:05 am EST
The Technical Value Scorecard is published
9:30 am EST
The Value Seeker Report (CSOD) is published
“As the pandemic and associated lockdowns have temporarily transformed the economy, many companies have been forced to adapt to new challenges by managing employees remotely. Cornerstone OnDemand (CSOD) provides software-as-a-service (SaaS) to firms, which may help them through some of these challenges.”
9:10 am EST
The BLS jobs report showed a further deceleration in jobs growth with payrolls growing by only 245k versus expectations of 500k, and a revised lower 610k last month. The unemployment rate fell from 6.9% to 6.7% but largely due to a decline in the labor participation rate from 61.7% to 61.5%. The labor force shrunk by 400k accounting for the drop.
The graph below, courtesy Evercore ISI, shows that at the current pace of job gains, employment will not get back to February levels for about four years. The current gap is approximately ten million jobs.
The following are a few interesting facts:
- 21.8% of employees teleworked in November, up from 21.2% in October
- The household survey declined in November by 74k
- The number of people out of work for more than 6 months increased by 385k to just under 4 million
- The participation rate has been steady for the last 6 months at about 2% below the pre-COVID running rate
7:40 am EST
How Bipartisan Stimulus, McConnell Plans Stack Up: Side by Side
The article linked above from Bloomberg provides a nice summary comparing the two stimulus plans currently being debated by Congress. A deal will probably get done but any such deal will likely fall short Democrat lawmakers and Biden expectations. As such we should expect renewed stimulus discussions following the inauguration.
December 3, 2020
4:20 pm EST
PFIZER EXPECTS TO SHIP HALF THE DOSES IT HAD ORIGINALLY PLANNED AFTER FINDING RAW MATERIALS IN EARLY PRODUCTION DIDN’T MEET ITS STANDARDS – WSJ
That headline caused the market to give up decent gains and close flat on the day.
1:15 pm EST
The Bureau of Labor Statistics (BLS) seasonally adjusts monthly employment data to smooth it over time. In the retail trade sector, which is heavily influenced by holiday spending, they traditionally apply a negative multiplier to the number of retail jobs added in November and December and a positive multiplier to almost every other month. For instance, in 2019, payrolls in retail trade increased by 432k from October to November, however when seasonally adjusted it actually fell by 14k. In normal times these adjustments are easy for economists to factor into their forecasts.
This year will be very different. In the last two years the BLS reduced the actual number of retail of jobs by 2.8% or approximately 450k jobs. If economists use the same seasonal adjustment factor this year and a lower estimate for the number of jobs added than years past, they run the risk of underestimating retail employment. Seasonal adjustments hold true for all employment sectors. As such, we suspect the actual number of net jobs reported from the BLS and economists expectations could vary widely tomorrow.
10:30 am EST
Below is yet another chart for our recent collection showing just how exuberant markets have gotten.
8:50 am EST
Initial Jobless Claims fell nicely to 712k from 787k last week. Claims are now back to the same level as the beginning of November. Given typical hiring tendencies around Thanksgiving, Black Friday, and Christmas as compared to this year, we suspect seasonal adjustments to the data will flaw the output. Seasonal adjustments are also likely to have a big effect on tomorrow’s BLS employment data.
6:40 am EST
The graph below is yet another indicator showing the current state of extreme sentiment and fearlessness by investors. In the words of Peter Atwater- “At peaks in sentiment, it is less an abdication of risk management than it is the belief that there are no risks.“
December 2, 2020
3:00 pm EST
The graph and commentary from The Market Ear paint a grim picture of Black Friday spending. Credit Card spending, based on data from JPM Chase cards, shows a significant 8%+ reduction from the same period last year. While some decline is expected, the size of the decline is very surprising given that online spending (almost all credit based) increased 20% versus last year.
2:10 pm EST
Gasoline demand has rebounded sharply from the March-April lows but still remains about 10% below where it was running pre-COVID. Clearly, a vaccine and return to more normal activity levels will boost demand further, but will the work-from-home trend result in a more permanent reduction in gasoline demand?
12:20 pm EST
Analysts are expecting a 43% decline in international students enrolling in U.S. colleges this fall. Foreign students typically pay full tuition and room and board. Colleges, lacking this income, will have to rely on their endowments, donations, and will also likely be under pressure to raise prices. The graph below shows how the cost of education has easily outstripped CPI over the last 25 years
8:30 am EST
The ADP jobs report fell well short of the +440k estimate, coming in at 307k. While still a very strong number, the weakening trend along with the bump up in jobless claims and weak ISM employment data is a reason for concern. The correlation between ADP and the BLS employment report, while traditionally strong, has been weak throughout this recovery. As such we must not read too much into ADP, however, we would not be shocked if this Friday’s BLS report is well below expectations given holiday seasonal adjustment factors and recent aforementioned labor trends.
7:25 am EST
A stimulus package is in the air again-
- MCCONNELL SAYS WAITING UNTIL NEXT YEAR FOR FRESH COVID-19 RELIEF “IS NOT AN ANSWER”
- Bipartisan Senate group to unveil $908B stimulus compromise. Details fluid
BIDEN on stimulus: “Any package passed in lame-duck session is – at best – just a start”
CNN posted a nice summary of recent negotiations, their importance, and the roadblocks they potentially face. Below are two key paragraphs:
“There are only two weeks left on the legislative calendar. That doesn’t mean members couldn’t stay longer on Capitol Hill and try to sort out an agreement before Christmas. But, the only hope for a stimulus deal right now is to attach it to the spending bill that has a deadline of December 11.”
“Congress might be able to kick the can down the road for a few days, but at the end of the month, there is a massive cliff when the expiration of unemployment benefits, student loan payment deferrals and a federal eviction moratorium all run out.”
December 01, 2020
2:24 pm EST
From TPA Research (Click on RIAPro+ today to add TPA Research to your subscription.)
WHAT DOES A +10% MONTH MEAN HISTORICALLY? WE LOOK BACK 70 YEARS.
Last month the S&P500 was up 10.75%. There are many analysts and pundits out with their own take on what that means for stocks going forward. Many analysts like Tony Dwyer of Cannacord believe we are in for a “choppy stretch ahead” and that “the ramp has become a little too extreme.” Sam Stoval of CFRA sees muted gains for December after a 10% gain in November.*
Many of TPA’s indicators in the Canaries in the Coalmine and Marketscope are also flashing extreme alerts, but historically the numbers tell a more nuanced tale of what to expect.
TPA looked at the past 70 years of monthly performance for the S&P500. Before November 2020, there were 12 times in which the S&P500 has registered gains of 10% or more. TPA looked that the performance for the next 1, 2, and 3 months after a +10% month to tease out any patterns. TPA then looked at all months since 1950 to compare the average performance to that following an up 10% month. The results are not overwhelming, but certain patterns do appear.
- The month after the +10% month has an average performance of 0.60% and is positive 50% of the time.
- The average performance of 0.60% for the month after the 12 occurrences of an +10% month is slightly less than the 0.70% performance for the entire sample of 836 months.
- The month after a +10% occurrence is less likely (50%) to produce a positive performance than after a normal month in the 70 years (positive 60% of the time).
- If you move out further away from the +10% month, however, the evidence for better than average performance increases. The average 3-month performance after a +10% month is +4.73%, while the normal average performance is just +2.11%.
- In addition, the chance of positive performance for the 3 months after a +10% month is higher, 75% of the time, versus only 65% of the time for all 836 months.
Although these results are far from conclusive, TPA’s takeaway would be that there could be a short-term pullback due to extremes, but the chances are pretty good that 3 months from now the S&P500 will be higher.
11:00 am EST
The ISM manufacturing survey was slightly weaker than expected at 57.5 versus expectations of 58 and a prior month reading of 59.3. While sliding, the index is still well into expansionary territory so the decline should not be overly concerning. The only real blot on the report was the employment sub-index which fell back into contraction at 48.4 vs. 53.2 last month. The PMI survey was unchanged from last month at 56.7.
10:00 am EST
December’s Cartography Corner is published.
9:40 am EST
The Gamma Band Update is published.
9:00 am EST
Is The “Narrative” Already Priced In?
7:50 am EST
The chart below shows the 11.84% gain for the Dow Jones Industrial Average in November was the largest monthly gain since January of 1987. It was also the only time in at least 50 years in which the index was up over 10% in two months within the same year. The index has seen its fair share of losses and volatility as well this year. On a 6-month annualized basis, the recent instance has witnessed greater volatility than any time since late 1987 and early 1988.
7:30 am EST
The graph below shows that short interest, as a percentage of market cap, is now well below anytime in at least the last 15 years. The reduction in short interest provides a boost to the market as those that were short have had to buy back stocks to cover their shorts. The flip side is that active traders that can trade from the short side now have plenty of room on their books to initiate short sales.
November 30, 2020
2:30 pm EST
With Bitcoin hitting record highs we have gotten a few emails and calls asking our thoughts. In particular, one reader asked if GBTC is a good proxy for holding bitcoin? Without going into details of the trust, the primary problem with the ETF is that it trades at an enormous 100% premium ($18.83 vs $9.1) to the value of the bitcoin it holds. The premium could easily collapse to fair value and result in a 50%+ decline despite no movement in the price of bitcoin. Below the table please find our thoughts on Bitcoin.
Salt, Wampum, Benjamins – Is Bitcoin Next? A Primer on Cryptocurrency
Bitcoin: Investment Or Speculation? Let’s Talk
12:15 pm EST
The two graphs below help explain why gold prices have been declining recently. The graph on the left shows the strong correlation between gold and real rates. Real rates are nominal Treasury yields less inflation expectations as implied from TIPs. The scale on real rates is inverted to highlight the correlation. Over the last 3 months, real rates have risen 22bps and gold has declined by almost $200.
The second graph shows the composition of the change in real rates since September. The 10yr real rate rose 22bps from -1.08% to .86%, almost entirely due to nominal 10yr yields rising 20 bps. Implied inflation expectations over the period fell 2 bps. If you think yields can keep rising without inflation expectations rising, real rates will increase and gold should continue to trade poorly. If bond traders start buying into the equity reflation trade, real rates may fall, or stabilize, as inflation expectations rise.
10:15 am EST
The chart below, courtesy of John Hussman, compares today’s extreme level of market exuberance, using his indicator, to the last time the market reached such levels in 1999.
9:20 am EST
3-Minutes on Markets & Money
9:15 am EST
Top 10-Buys and Sells From TPA Research
Click on RIAPro+ today to add TPA Research to start your subscription for just $20/month.
7:45 am EST
The state of the economy, COVID lockdowns, and political wrangling over additional stimulus to consumers should weigh on holiday spending this year. Early Black Friday estimates show foot traffic at retailers was down over 50% while online shopping rose by over 20%. Again, typical seasonal spending patterns will sharply deviate from years past, so we must be careful reading too much into early spending data. The National Retail Federation forecasts a 3.6% increase in holiday sales versus last year. The map below, along with jobs data, and the fact that there will no stimulus given to consumers before the end of the year, makes such a rosy forecast hard to believe.
7:15 am EST
Starting today, with the Chicago PMI and followed up tomorrow with ISM and PMI, the state of the manufacturing sector will be reported on. Chicago PMI and ISM are expected to slip slightly but stay well in expansion territory. The ADP labor report is scheduled for Wednesday, followed by the all-important BLS payrolls report on Friday. ADP and the BLS are both expected to show net payroll growth of 450-500k jobs.
Jerome Powell is scheduled to speak at 10 am on both Tuesday and Wednesday, along with a host of Fed speakers throughout the week. It will be interesting to see if he, or other speakers, bring up Janet Yellen’s appointment as Secretary of Treasury and what that might mean for future Fed-Treasury working relations.
November 27, 2020
The Technical Value Scorecard is published.
11:00 am EST
We stumbled upon the picture below showing prices of certain goods from 1938. We made the table below it to compare today’s prices and the ratio of prices to income. As shown, the ratio has increased substantially in all 6 instances, meaning goods are more expensive today on an income adjusted basis. Any wonder why consumer debt has exploded?
7:30 am EST
Bloomberg recently published an article entitled America’s Zombie Companies Have Racked Up $1.4 Trillion Of Debt. The article discusses how Zombie companies have grown substantially due to the COVID recession. They state that over 200 corporations of 3000 analyzed have recently joined the ranks of Zombies. “Even more stark, they’ve added almost $1 trillion of debt to their balance sheets in the span, bringing total obligations to $1.36 trillion. That’s more than double the roughly $500 billion zombie companies owed at the peak of the financial crisis.” Adding more debt to entice economic activity and stave off bankruptcy is part of the Fed and government playbook. What they repeatedly fail to understand from such policy is the unintended longer-term consequences. Per Bloomberg: “policy makers may inadvertently be directing the flow of capital to unproductive firms, depressing employment and growth for years to come, according to economists.” This is one reason we believe GDP growth will necessarily be slower in the coming economic expansion than it was in the last.
***Reminder- The NYSE will close at 1 pm and the bond markets will close at 2 pm. With no economic data or Fed speakers, and many traders taking the day off, today’s trading sessions should be quiet.
November 25, 2020
3:30 pm EST
The FOMC minutes from the November 5th meeting were just released. While the minutes largely duplicate Chairman Powell’s press conference and many speeches by Fed members in the days following the meeting, there seems to be an emerging concern that massive amounts of liquidity might distort markets. The Fed would never tell us their actions have already distorted markets but equity valuations, credit spreads, and the housing market to name a few markets, have the tell-tale signs of Fed actions. To wit (per Zero Hedge):
- Several participants noted the possibility that there may be limits to the amount of additional accommodation that could be provided through increases in the Federal Reserve’s asset holdings in light of the low level of longer-term yields, and they expressed concerns that a significant expansion in asset holdings could have unintended consequences.
- A few participants expressed concern that maintaining the current pace of agency MBS purchases could contribute to potential valuation pressures in housing markets.
2:15 pm EST
Tesla will be joining the S&P 500 on December 21st as the 7th largest company in the index. Its stock price and valuation have gone well beyond what is justified using fundamental metrics of other car companies. With such an extreme valuation, a headwind facing shareholders going forward is competition. As shown below, the number of new electric vehicle (EV) launches in 2021 is expected to be 60, nearly double that of 2020, which was triple that of 2019. By market cap, Tesla is the world’s largest car company, but as measured by sales, they are dwarfed. Two important questions facing TSLA shareholders are 1) will EV command a large market share of all auto sales? & 2) can other car companies compete with TSLA?
11:45 am EST
Even Jim Cramer agrees with us that this market is grossly overbought.
9:58 am EST
The following graphs show that most sectors and factor/indexes are grossly overbought (>80%). The S&P graph at the bottom right shows the index is now more overbought than any time since the rally began in March.
8:58 am EST
Initial Jobless Claims rose again to 778k from 748k last week and 711k the week before that. Total claims, including Federal assistance, stand at 20.452 million, a slight uptick from last week. The 20.452 million total claims imply an approximate 13% unemployment rate.
In another market rarity, 91% of S&P 500 stocks are now trading above their respective 200 day moving averages. The last time this occurred was 6 years ago.
The graph below, courtesy of Brett Freeze, compares 6-month changes in the quantity, velocity, and total system liquidity to the movements of the U.S. dollar (inverse scale). When liquidity is rising, the dollar tends to fall and vice versa. Currently, we are witnessing the rate of liquidity change declining (green line). This will continue assuming the Fed and other central banks do not do more QE, but keep injecting the same amount or possibly less liquidity into the system. If this occurs, total system liquidity (TSL- green line) will continue to decline which should boost the dollar (gold line).
November 24, 2020
4:35 pm EST
Dick’s Sporting Goods (DKS) reported quarterly earnings today before the market open. DKS reported quarterly revenue of $2.41B (+23% YoY), which beat analyst estimates by $180M. Further, the company reported GAAP EPS of $1.84, which beat estimates by $0.80. The strong quarterly results came on the back of surging e-commerce sales (+95% YoY). Despite reporting a great quarter, the stock closed modestly higher, up 0.3% on the day.
Our Value Seeker Report on DKS can be found here.
4:15 pm EST
Equity mutual funds are “all in” so to speak. The graph below shows total assets at a record high while liquid assets (cash) have fallen to levels last seen in 2013. Cash now accounts for only 2.2% of assets, nearly half of where they were 8 years ago.
12:10 pm EST
Per The Market Ear, “abandon puts- put/call ratio needs no commenting.”
10:40 am EST
Consumer Confidence fell from 101.4 to 96.1. The index remains well off the pre-COVID highs of 131. The University of Michigan Consumer Sentiment Index also shows a lack of consumer optimism about their economic prospects. Weak confidence does not appear to be slowing homebuyers. The Case Shiller Home Price Index (20 city composite) was up at an annualized rate of 6.6%, a further gain from +5.3% last month. This month’s increase was the largest in over 5 years. The pricing surge is in large part due to record-low mortgage rates, pent up demand from the spring months, and a record low 2.5 months of housing inventory (NAR).
8:26 am EST
The graph below shows three reliable measures of bond market inflation expectations. Despite the reflation trade in the equity markets occurring over the last few weeks, all three measures in the graph imply no such change in the inflation expectations of bond traders/investors.
7:11 am EST
In a CNBC interview Janet Yellen, Treasury Secretary nominee, finally laid the groundwork for what we knew was eventually coming. “It would be a substantial change to give the Federal Reserve the ability to buy stock,” Yellen told CNBC’s Sara Eisen on “Squawk on the Street.” “I frankly don’t think it’s necessary at this point. I think intervention to support the credit markets is more important, but longer-term it wouldn’t be a bad thing for Congress to reconsider the powers that the Fed has with respect to assets it can own.”
6:45 am EST
Typically at this time of year investors are eagerly anticipating Black Friday sales figures as they serve as an indication of the pace of holiday sales. This year will obviously be very different as a much larger percentage of sales will be online. The thrill and urgency of finding bargains in the early morning hours on Black Friday will be replaced with at-home online shopping at the buyer’s convenience. As such, we must be careful about interpreting and extrapolating early sales data.
November 23, 2020
4:18 pm EST
Top 10-Buys and Sells From TPA Research
Click on RIAPro+ today to add TPA Research to your subscription for just $20/month.
3:45 pm EST
Its official– President-elect Joe Biden plans to nominate former Federal Reserve Chair Janet Yellen to serve as his Treasury Secretary. This is a big deal as it will further strengthen the relationship between the Fed and the Treasury.
1:30 pm EST
Equity Market to Harvest Best November Since 1933
by CIO Larry Adam/Raymond James
• #4: Equity Market Harvesting New Post-COVID Highs | The equity market had a strong start to 2020 due to trade resolutions, but ever since the ~34% virus-induced decline, the S&P 500 has notched 11 new record highs and the strongest start to a bull market due to an improving macroeconomic backdrop, stronger than expected earnings, and positive vaccine developments. With supportive factors still in place, we maintain a positive outlook for equities over the next 12 months.
• #8: Seasonality Sweet as Apple Pie | The S&P 500 has rallied nearly 9.7% so far this month, more than 5x the index’s average November return over the last 30 years. In fact, at this juncture, the S&P 500 is having its best November since 1933! Seasonal trends should continue to support the equity market, since the November to April timeframe is historically the best 6-month period, with the S&P 500 posting an average return of 7.7% and being positive 83% of the time.
10:50 am EST
The graph below shows that the Goldman Sachs Financial Conditions Index (GSFCI) is at its lowest level in at least 25 years, denoting ease in the ability to borrow. The shaded bars highlight periods where the GSFCI was weak, along with poor market breadth, high volatility, and toppy valuations. As shown, this condition can persist for a while but it’s not likely to end well for the S&P 500.
9:30 am EST
New Post – Viking Analytics Gamma Band Update
8:05 am EST
The chart below shows AAII Bullish Sentiment has recently surged to prior peaks. More interesting is that those investors claiming to be neutral, neither bullish nor bearish, are at levels typically seen when sentiment is decidedly bearish. This data set is just another quirk in a long line of anomalies we are witnessing in the markets.
7:40 am EST
For the third Monday in a row, we wake up to a new COVID vaccine and the markets rallying in response. This week AstraZeneca released news that their vaccine is 70% effective.
Economic data will be light this week due to Thanksgiving. Today at 8:30 the Chicago Fed National Index, covering 85 indicators of economic activity, will be released. The consensus is 0.1, versus 0.27 last month, and a three month average of 1.33. This index likes others points to a stalling of the recovery. Durable Goods and the Fed Minutes from the last FOMC meeting will be released on Wednesday.
November 20, 2020
1:45 pm EST
Value Seeker Report (RTX)
“RTX has been on a wonderful run since the encouraging news broke on the vaccine front. After a 22% gain since the beginning of November, we believe the stock is slightly overvalued. Based on our forecasts, RTX has roughly 4% of downside remaining before reaching its intrinsic value.”
Nick Lane: The Value Seeker Report- Raytheon Technologies Corporation (NYSE: RTX)
12:30 pm EST
The graphic below shows that the two frontrunners in the betting markets for the next Secretary of Treasury are former Fed Chair Janet Yellen and Current Fed President Lael Brainard. It appears that the link between the Treasury and the Fed will only grow stronger in the years ahead.
10:34 am EST
MacroView – A Vaccine and the NEW New Normal.
While $PFE and $MNRA announced potential vaccines, it won’t fix the damage caused by the lockdowns. While the #economy will recover, it will be a new normal that is weaker than the old “new normal.”
9:15 am EST
Technical Value Scorecard Report
- On a relative basis versus the S&P 500, the reflation sectors (Materials, Industrials, Banks, Energy, and Transportation) remain the most overbought. Tech and traditional lower beta conservative sectors (Staples, Utilities, Healthcare, and Realestate) are slightly oversold versus the S&P. If you are looking to fade the reflation trade, Tech and Momentum are the most oversold indexes versus the S&P.
- Utilities were the most overbought sector a few weeks ago. At the time we reduced our exposure to the sector and recommended doing the same. It has underperformed the S&P 500 by 5.35% over the last 20 days. XLU is not grossly oversold but bears closely watching to potentially add back positions. It is the only sector or index below its 20 day moving average.
Technical Value Scorecard Report For The Week of 11-20-20
Treasury Secretary Mnuchin is declining to extend most of the Fed’s emergency credit programs beyond December 31st, and he is asking the Federal Reserve to return all of the capital ($598 billion) allocated to unused CARES Act lending programs. While these programs are not being used extensively, this action will on the margin hurt the credit markets. In the words of Jeff Gundlach- “So the training wheels are coming off.”
Initial Jobless Claims rose for the first time in four weeks to 742k, from 711K last week. We suspect the next two months of Jobless Claims and the next two BLS employment reports will be difficult to decipher as seasonal adjustments will not accurately account for the difference between normal seasonal hiring patterns and COVID related hiring. Clearly, many retail service industries will hire less this holiday season than in years past. That said, companies like Amazon and UPS will need to hire additional staff beyond what is average.
Expectations for a steeper yield curve have only been this high three other times in the last 15 years. As shown below, in all three instances, the yield curve flattened considerably shortly thereafter. Given that short term rates are stuck near-zero due to Fed policy, overwhelming investor expectations may be a warning that 10-year UST yields are about to decline sharply. One potential driver of a flatter yield curve is the Fed. To wit, MarketWatch published the following article yesterday- Bond traders talk up possibility of December Fed ‘twist’
November 19, 2020
Housing starts were stronger than expected, growing at 4.9% versus expectations of 2.5%. These houses will take approximately 6-9 months to complete and come onto the market. In the summer of 2021, when they are ready for sale, it is possible they will have to compete with a newly-formed glut of existing houses. Higher house prices and the vaccine will incentivize current homeowners to sell. It is worth adding that there are a lot of baby boomers likely to downsize over the coming years. The recent surge in prices may pull forward that supply. Simply a shortage is likely to cause a glut tomorrow. For more on this topic please read our article- 3-Reasons Why There Really Is No Housing Shortage.
The graph below shows the “K-shaped” recovery in real estate. Single-family housing permits are soaring while multifamily permits are at 5-year lows.
The graph and table below, courtesy of Ned Davis Research, show that the percent of “multi-cap” stocks trading above their 200 dma is extreme at 87.3%. The table below the graph shows that nearly 50% of the time when more than 61% of the stocks are above their respective 200 dma gains are limited. Not surprisingly, the largest gains occur when most stocks are below their 200 dma.
After reading our recent comments about Fed members raising the prospects for a national digital currency, a subscriber asked us how big the aggregate cryptocurrency market is. The graph below shows it at approximately half a trillion, or about a quarter of the size of Apple. Bitcoin is about 60% of the total. Digital currencies have been hot recently. The second graph shows the price of Bitcoin is fastly approaching record highs.
November 18, 2020
Retail Sales were weaker than expected coming in at +0.3% vs. a +0.5% consensus. Last month was revised lower from +1.9% to +1.6%. The control group, used to calculate GDP, was weak at +0.1% and last month was revised lower from 1.5% to 1.0%. The bottom line, as we are seeing with other data, the sharp rebound in economic activity is plateauing.
Import and Export Prices showed some deflationary trends. Import prices fell 0.1% versus +0.2% last month. Year over year they are -1.0%. Export prices are fairing a little better on a monthly basis up 0.2%. However, they are down 1.6% year over year.
The bright spot yesterday was Industrial Production which came in at +1.1%, a healthy increase from last month’s -0.4% decline. The Capacity Utilization rate increased from 71.5% to 72.8%.
Chairman Powell spoke yesterday and made it clear that QE and other “emergency programs” are here for a long time. To wit, he said it is “Premature to even think about normalizing the size of the Fed Balance Sheet.” Powell claims that they will deal with government deficits when the crisis is over.
HomeBuilder Sentiment continues to soar and is now at record highs as shown below.
In our article, The Fed’s Bazooka Is Broken Will Direct Lending Be Next? we discussed the process in which money comes into existence. To wit:
“With each additional loan, the money supply increases. If a bank does not lend, the money supply does not grow.
In the same way that banks create money, it can vanish. Money dies when a debt is paid off or when a default occurs.”
A key point of the article is QE is not money printing and therefore not inflationary. For inflation to occur the money supply must increase and this, under the current construct, requires banks to lend the reserves supplied by the Fed from QE. One of the reasons we are not overly concerned about inflation is because banks are not lending money. The graph below shows loans and leases, as a percentage of bank assets, continue to decline despite ever-increasing amounts of QE.
November 17, 2020
Like last week’s Pfizer’s vaccine announcement, Moderna’s vaccine news boosted many stocks. However, the severe sector rotation trades and large divergences, as seen last Monday, were not nearly as distinct. The Dow Jones Industrial Average set a record high (+1.60%) and beat the NASDAQ by about 1%. Last Monday, many Tech stocks fell sharply, gold was off nearly $100, and bond yields rose. Yesterday tech stocks rallied and gold and bonds were largely unchanged. The Energy sector (XLE) was up over 6% on the day and is now up over 25% for the month to date.
Moderna’s vaccine is more practical as it can be stored in a refrigerator for 30 days compared to Pfizer’s which must be stored in a deep freezer. Transportation and storage play a significant role in terms of distribution and logistics, giving Moderna a major advantage and speeding up distribution considerably. Moderna’s vaccine was slightly more effective at 94.5% versus 90% for Pfizer’s.
While the vaccines will undoubtedly help the economy in the future, more and more states and local jurisdictions are locking down as COVID spreads rapidly. Markets in general and in particular the buying of economically sensitive, beaten-down stocks are clear sign investors are looking beyond what is shaping up to be a tough few months. With the S&P 500 now over 10% above levels from February, we must ask ourselves if the market is getting too far ahead of itself.
To that point, we ask you to consider a few factors that are not part of the bullish market narrative.
- What if vaccines fail or the timeline is pushed out.
- President Trump plans on enacting a series of hardline actions against China.
- The brighter the vaccine promises the dimmer the hope for stimulus.
- Economic growth post-COVID will be less than it was prior to COVID. As such, future earnings will also be reduced.
- Equity valuations are higher than pre-COVID levels, which at the time were at or near records.
Retail Sales will be released at 8:30 followed by Industrial production at 9:15. Retail Sales are expected to increase by 0.4% and 0.5% excluding autos and gas. The control group, a large component of GDP, is also expected to rise by 0.4%. On Wednesday Housing Starts and Permits will be released followed Thursday by Existing Housing Starts. As we have seen over the last month, there will be a large number of Fed members speaking this week. Fiscal stimulus, monetary policy, economic activity, digital currency, and inflation are likely to be discussed.
November 16, 2020
PPI ex-food and energy was up 0.1% versus expectations of 0.2% and a prior reading of 0.4%. Like CPI the day prior, these key inflation data releases point to a weakening of the reflation trend. Bond yields took notice, with the ten year UST yield falling .12% since Wednesday. Gold was higher, as its price is well correlated to the level of real yields, as discussed in the commentary from last Thursday.
The University of Michigan Consumer Sentiment Survey fell from 81.8 to 77. Prior to COVID, it was running near 100, and at its trough, in the lower 70s. The bulk of the decline came from the Expectations index which fell from 79.2 to 71.3. The Current index was unchanged. Per UM, the resurgence of COVID cases and the election were responsible for the decline. We would add that declining stimulus is also starting to weigh on individuals.
In addition to discussing the economy and need for fiscal stimulus, quite a few Fed speakers have mentioned a digital currency alternative. To wit, The American Banker published the following a month ago- “The Federal Reserve is primarily interested in looking at a central bank digital currency that would improve the payment system, rather than one that would replace the physical dollar, said Chair Jerome Powell.” This past week he stated “There’s quite a lot of work yet to be done. The Fed is still considering a central bank digital currency (CBDC) but it’s in no rush”
Last week a few Fed members reiterated his thoughts on a digital currency. Last Friday for instance, NY Fed President Williams stated- “digital currencies are getting a lot of attention. These are issues front and center for the next few years.” Digital currencies have benefits such as ease of payments and crime enforcement, but they are not without fault. For one, digital currencies, without a physical alternative, make negative rates much more effective as the threat of withdraws from the banking system is greatly diminished. Digital currencies also allow the Fed to more easily print and distribute money directly to the people. While illegal today, it would be a powerful tool to generate inflation.
November 13, 2020
October’s CPI was weaker than expected, coming in at 0% versus expectations of a 0.2% increase in consumer prices. Excluding food and energy, the inflation rate was also flat. There has been a lot of data showing that the housing market is red hot and prices are rising. Interestingly, as shown below, the growth rate of shelter prices (purple), a component of CPI, continues to decline despite the recovery. Earlier this week China, reported that their CPI was 0.5%, below expectations, and the lowest in over three years.
Initial Jobless Claims fell by 48k to 709k, the largest drop in five weeks. This is a good sign given the recent surge in COVID cases and new restrictions being put into place in many areas. We shall see if the improvement continues given the growing number of COVID restrictions being resurrected. While the trend remains favorable, we remind you that prior to recent data, the largest weekly claims number in the 2008/09 recession was 665k.
The graph below shows the daily changes in the ratio of Value (IVE) and Growth (IVW). As shown, Monday’s startling 9% outperformance of value was one for the record books. In over 5,000 trading days since the year 2000, there have only been 4 days with a greater outperformance. Three of the four occurred in early 2000 as the Tech Bubble popped and investors rotated from growth to value.
The Wall Street Journal had an interesting article yesterday entitled What Biden’s Election Means for the Fed. The bulk of the article deals with the Fed’s current personnel and how that may change. Chief among those changes is the question of will Biden reappoint Powell when his term expires in a little more than a year. Biden will also have two and maybe three Federal Reserve seats to fill. The important takeaway, and one we strongly agree with, is as follows: “There is therefore little reason to expect monetary policy to change, no matter who joins the Fed’s board in the next year.”
November 12, 2020
Bloomberg’s Smart Money Flow Index is a measure of how “smart money” is positioning itself in the S&P 500. The logic behind the index is that smart investors tend to trade near the end of the day, while more emotional-based traders dominate activity in the first 30 minutes of the trading day. The index is calculated as follows: yesterday index level – the opening gain or loss + change in the last hour. As shown below, the Smart Index and the S&P were well correlated until late August. Since then, as highlighted by the red arrow, they have diverged sharply. Over the last ten years, the S&P 500 and the Smart Index have a strong correlation of .65. As such, we expect they will converge in time. The light blue circle shows they also diverged, albeit to a much lesser extent, in January and February as the smart money correctly sensed problems.
The graph below compares 10 year UST yields versus 10 implied breakeven inflation rates. The current gap between the two is relatively wide but even wider, considering that UST yields are usually higher than the inflation rate, not lower. In other words, real rates are negative. If the economy is going to fully recover, we should expect the UST yield to gravitate to and above the inflation rate. If that were to happen, it would imply 10-year yields of approximately 1.50-2.00%. We do not think the odds of that occurring are high because such “high” rates would heavily weigh on the economy. It is more than likely the Fed continues to aggressively buy bonds to keep yields much lower than where they should be. The other way the gap potentially closes is if the market has inflation expectations wrong and the implied inflation rate falls. This scenario suggests the recovery falters.
The graph above shows the two components used to calculate real yields. As shown above, the blue line (UST yield) has made recent progress toward closing the gap with inflation expectations, ie real rates are now less negative. The next graph shows the strong negative correlation between the level of real rates (blue line) and the price of gold. If real rates continue to rise and become less negative or even positive, we should expect the price of gold to suffer, and vice versa if real rates reverse the recent trend.
November 11, 2020
The “end of pandemic trade” continued yesterday as the Dow added another 1% on to Monday’s gains while the NASDAQ fell by 1.75%. The S&P 500, with stocks representing both tech/momentum and value, fell slightly. Yields continued to rise while oil added 2.70%.
The graph below, courtesy of Indeed, is another “K-shaped” recovery graph. The country’s largest cities (>5 million) are witnessing the slowest recovery in job postings, while the smallest metro areas (<500k) are seeing job postings nearly back to pre-COVID levels.
We often talk about stimulus and the enormous role it is playing in this economic recovery. Because of its role, an extension of the CARES Act to replace or extend the current stimulus is vital if the economy is to continue on its current trajectory. To that end, CNBC recently ran an article entitled More than 13 million people could lose their unemployment benefits at the end of December. The gist, as quoted from the article, is as follows: “The number of workers claiming these federal benefits make up more than half of the total 21.5 million people receiving unemployment benefits as of October. However, these CARES Act programs expire at the end of December 2020.”
It’s also worth reminding you that at the end of the year and during the first quarter of 2021, mortgage and student loan forbearance programs will end, forcing millions to make payments on loans or default. Per the MBA– “By stage, the 30-day delinquency rate decreased 33 basis points to 2.34 percent, the 60-day delinquency rate increased 138 basis points to 2.15 percent – the highest rate since the survey began in 1979 – and the 90-day delinquency bucket increased 279 basis points to 3.72 percent -the highest rate since the third quarter of 2010.” Further- “The FHA delinquency rate increased 596 basis points to 15.65 percent – the highest rate since the survey began in 1979. The VA delinquency rate increased by 340 basis points to 8.05 percent over the previous quarter, the highest rate since third quarter of 2009.”
November 10, 2020
In over 30 years of investment experience, I have never seen such a divergent day in the markets. The stock market heat map below shows the large number of bright reds and bright greens, representing gains or losses of 3%. The markets opened significantly higher on news that Pfizer and BioNTech have an effective vaccine. However, as the day went some stocks kept going up and others fell rapidly. The S&P closed up 41 points but that is over 100 points lower than the highs of the day. The Dow Jones ended up 3% while the NASDAQ was down 2%.
It appears as if investors sold those stocks that outperformed over the past few months and bought the laggards. Banking, industrials, and oil stocks did particularly well while tech and communications fell sharply. Even within some sectors, there were huge divergences. For instance, in the communications sector, Netflix was down 8.6% while Disney was up by nearly 12%. It’s not just the divergences that caught our attention, but the size of the percentage moves up and down for many very liquid large-cap stocks.
The volatility was not just in the equity markets but also showed itself in many asset classes. Bonds and gold got hit hard, while oil and the dollar had strong days. At one point crude oil was up over 10% on the day. The VIX (volatility index) closed the day down slightly after being 10% lower earlier in the session.
Inflation data will be released later this week with CPI on Thursday and PPI on Friday. Other than those two figures it will be a quiet week for economic data. Jerome Powell is scheduled to speak on Thursday at 9:30 am. The blackout on speeches by Fed voting members is over so we suspect they will become active on the speaking circuit as they were before the blackout. As we saw prior to last week’s FOMC meeting, the bulk of their speeches will likely revolve around the need for more fiscal stimulus.
The combination of a resurgence in COVID cases and resulting stricter rules around dining, along with colder weather has put a halt to the recovery in the restaurant industry as shown below.
November 9, 2020
Both Georgia Senate seats appear to be headed for a January 5th runoff election as neither candidate received more than 50% of the vote. This will leave the Senate in limbo for two months and, while not likely, leave the potential for a Democrat-led Senate if both Democrats can win the runoff elections. Bond yields and energy stocks were under pressure Friday as the possibility of a blue Senate came back to light. For what it’s worth the betting odds for a Democrat majority and a Trump victory are nearly equal at around 10%.
Various members of Congress are again bringing up a stimulus deal. Mitch McConnell does not appear overly enthused as he stated “the economic recovery should temper the size of an aid package.”
Per the BLS employment reports, aggregate job growth was slightly stronger than expected at +638K but below last months +672k. More promising, the unemployment rate fell sharply from 7.9% to 6.9%. A large portion of the gains are coming from the number of workers that the BLS deems as temporary layoffs. The number fell from 4.64mm to 3.21mm in the last month.
The graph below, courtesy of Brett Freeze, shows that employment in the service sector continues to greatly lag good producing sectors. This is not a surprise given COVID and the damage it has done to many industries that rely on person to person contact. The graph also serves as a reminder of our “K”- shaped recovery in which there are stark discrepancies in economic activity.
It appears the virtual/remote workplace may be more than a temporary COVID-related measure. The graph below, from the Conference Board, shows that of 313 HR executives polled, 34% of them think that over 40% of their employees will be working from home one year after COVID subsides. This study has meaningful consequences for commercial real estate and some of the larger urban economies.
Per Freddie Mac, the recent surge lower in yields pushed mortgage rates to 2.78%, a new record low.
November 6, 2020
As expected the Fed’s FOMC statement was largely unchanged from the prior meeting. The red-lined paragraph below shows the entirety of the changes. The only surprise was they did not include a sentence or two about election contingencies in case the final results are held up which could likely preclude the passage of more stimulus.
The following are some bullet points regarding Powell’s press conference:
- He voiced concern that the economic recovery is moderating. He stated that while this was expected, it raises the downside risks as moderation can turn into decline.
- The Fed will maintain interest rates at zero and keep QE running hot until employment fully recovers and inflation hits 2% and appears to be heading higher.
- He vowed to “put the tools back in the toolbox once the crisis is over.” Sounds reasonable, but keep in mind after the financial crisis QE didn’t end until 2014, and rates were held at zero for 7 years. When QE was introduced to the public Ben Bernanke said it was temporary and would be removed as quickly as it was employed. It has never been removed.
- Powell would not comment on the state of the election.
- He said the Fed is “not taking the gains in financial market functioning for granted.” His response alluded strongly that one of the goals of QE is to support asset prices.
- “If the idea is money-financed fiscal policy, then that is not something we would consider.” The problem with his statement is the Fed is already financing the Treasury, albeit indirectly.
Powell was asked if the Fed was in a liquidity trap as Christine Lagarde (President of the ECB) recently warned in the Financial Times. He sees no such threat and said “we do not doubt the power of the things we may do.”
On this topic, it’s worth sharing recent comments from Bill Dudley, ex-President of the New York Fed, from the WSJ- “No central bank wants to admit that it’s out of firepower. Unfortunately, the U.S. Federal Reserve is very near that point. “
The monthly BLS employment report will be released at 8:30 this morning. As shown below, the consensus estimate is for a net gain of 600k jobs and a reduction of the unemployment rate from 7.9% to 7.7%. Initial Jobless Claims have been running at approximately 3.2 million jobs a month, so assuming the consensus proves accurate, the economy is adding new jobs at a rate of about 3.8 million jobs a month. As a comparison, in 2019, the average monthly initial claims were 945k and the number of new jobs averaged 168k per month. Accordingly, the economy is currently adding jobs at almost 3.5 times the normal rate. Keep in mind, layoffs are also occurring at 3-4 times the average. The abnormalities in hiring and layoffs make employment data very difficult to estimate.
November 5, 2020
The impetus behind yesterday’s and last night’s additional stock gains appear to be based on the prospects for a divided Congress. It’s likely that the Republicans will hold on to a majority of the Senate and the House will stay with the Democrats. The obvious beneficiaries are the Healthcare and Technology sectors as it becomes less likely that that recent regulatory/policy challenges facing those industries come to fruition. Industrials and Materials lagged as the odds of a big infrastructure deal are compromised.
From a macro perspective, it is worth highlighting that the odds of a large stimulus bill probably took a hit yesterday. While we think Congress and the President will eventually agree on a deal, its timing and size are tough to handicap. The other risk facing investors is if the fight for the White House is contested in multiple states and an official decision is held up for weeks or possibly longer. The Bush-Gore decision, which only hinged on one state, was not settled until December 12th, over a month after the election.
Longer-term bond yields plummeted yesterday as the odds of larger stimulus and/or infrastructure bills are diminished. Markets are trading with a more deflationary narrative post-election. Volatility (VIX) fell sharply as it appears many investors removed hedges despite the uncertainty hanging over markets.
ADP reported that payrolls grew by 365k versus expectations for a gain of 600k. Last month ADP reported a gain of 735k.
The Fed will release their FOMC statement at 2 pm today and follow it up with Jerome Powell’s press conference at 2:30. Again we are not expecting much change, but we do expect the Fed to continue with their full-court press on Congress for additional stimulus. It will be interesting to see if Powell addresses what the Fed may or may not do if a delay in election results holds up additional stimulus.
November 4, 2020
As of this morning, the presidential election hinges on a few key states. Markets are very whippy with stocks rising. Of interest, the NASDAQ is up over 2%, S&P +.6%, and the Dow is nearly flat. More notable, long term bond yields are plummeting with the 10yr UST yield down roughly 10bps. Commodities are mixed with oil up over $1 and gold down about half a percent. Based on those moves we believe the markets are leaning toward a Trump victory. We caution, the election is still up in the air and asset prices will be extremely volatile.
ADP, a strong proxy for Friday’s employment report, will be released at 8:30. The current consensus estimate is for a net gain of 600k jobs. The estimate for the BLS report is also +600k jobs.
Over the last year, we have written a number of articles in which we quantify the historical underperformance of value stocks. Our analysis has been based on French/Fama data going back to 1938. The Financial Times has one-upped us in the graph below. They show that value stocks are now experiencing the most significant drawdown versus growth stocks in 200 years. Either the concept of buying what is cheap (value) is dead, or it is setting up for a period of incredible outperformance versus growth stocks.
On Monday we published 3-Reasons Why There Really Is No Housing Shortage, which discusses the current state of the housing market. We stumbled upon the graph below which adds to the article. As shown it is as hard to get a mortgage today as it was in the aftermath of the Financial Crisis. The difficulty in getting mortgage credit, especially for lower-priced housing, weakens demand. Given the current supply/demand imbalance, any improvement in credit availability will increase demand and add more fuel to real estate prices. That said, and as mentioned in the article, it may take a while longer but elevated housing prices will incentivize potential sellers to come to market. It is also worth noting that many baby boomers are at or nearing retirement. A good many of these people will trade down to a smaller house/apartment in the coming years. Given a deficit in aggregate savings for this population group, many may be tempted to sell by the recent uptick in prices.
November 3, 2020
This week, in addition to the election, investors will also contend with the Fed meeting/Powell press conference on Thursday and the BLS employment report on Friday. On top of that, 128 S&P 500 companies will report earnings. Regarding the Fed meeting, we suspect they will once again lean on Congress for more fiscal stimulus. The tone is likely to be more pressing this time as additional stimulus is already being delayed, and could be in further doubt depending on the election results or possibly the lack of a definitive outcome when they release their statement on Thursday.
The ISM Manufacturing Survey was much stronger than expected and now sits at a two year high. Even more encouraging, the employment sub-index, which has been below 50 since March finally rose above 50, denoting an expansion of employment. The graph below, courtesy of Zero Hedge, shows the historical and current relationship between the ISM index and the employment sub-component. There was an interesting comment from the report as follows: “There is increased production due to stores stocking up for the second wave of COVID-19.”
As we prepare our portfolios for the election and post-election trading we share a graph from @macrocharts that offers caution. As shown, short open interest in VIX futures is near a record level. If the election turns out unfavorable in the market’s eyes, investors that are short the VIX may have to cover their trades en masse. In such a case, it would provide more fuel for a sell-off. This is just one of many factors that have led us to reduce risk until the election is over.
We leave you with a graph showing how the S&P 500 did in the ten days following the last 5 presidential elections.
November 2, 2020
As a follow on to our election comments from last Friday, bonds have traded poorly during recent equity sell-offs. This may be a signal that bond traders are concerned about the possibility of either a blue sweep or a Trump win but a Democrat majority in the Senate. Either outcome would likely produce vast amounts of stimulus. Per Tom Demarco from Fidelity- “Pelosi was out yesterday saying she would like to pass a massive COVID stimulus bill during the lame-duck session before Biden takes office.” She is putting the cart before the horse, but if she is correct bond traders have every right to be worried.
The Atlanta Fed put out their first estimate of Q4 GDP. They currently expect GDP growth of 2.2%. They overestimated Q3 GDP by 3.9%, which given the extreme data and unusual conditions, is much better than it appears.
The Fed made its emergency lending program for businesses & nonprofits available to more small firms. It’s lowering the minimum loan amount under its “Main Street” program to $100K from $250K. The change is due to the inability of Congress to approve more stimulus.
The graph below compares monetary velocity and GDP. Velocity measures the rate, or how often money is spent in the economy. As shown, GDP and velocity tend to be well correlated. With Thursday’s Q3 GDP data in hand, we see the GDP is well ahead of where one would expect given velocity. This tells us that stimulus funds were widely used by the recipients of the funds but then not recirculated. It hints that economic activity from the stimulus is one time in nature and not generating further activity, as is typical. If velocity stays weak, economic activity will curtail sharply unless more stimulus is not enacted.
In Friday’s commentary, we discussed the Euro and how a breakout higher versus the dollar would heighten its deflationary problem. On Friday, the Eurozone recorded its 3rd consecutive monthly decline in consumer prices, as shown below. It’s clear that negative interest rates are not solving the deflationary problem but worse, they negatively affect their banks. As we consider potential ECB policy, especially in light of new COVID-related shutdowns, they can lower rates to even more negative rates and worsen banking problems or try to generate inflation in other ways. A weaker euro is one such way.
October 30, 2020
GDP rose 33.1% in the third quarter, slightly above expectations. The recovery was led by personal consumption, which rose over 40%. The surge was widely expected given the massive stimulus, via generous unemployment benefits and outright checks, provided to many citizens. Looking forward, the stimulus has mostly been spent so without more aid, economic growth will be harder to come by. As we discuss below, the election outcome will provide better visibility on whether or not more stimulus is likely.
The recovery is encouraging, but the economy is still 5.2% below the peak in the fourth quarter of 2019. To put that in context, GDP was down 4% from its prior high at its trough.
The graph below shows a downward Euro/USD channel over the last 12 years. The Euro is currently bumping up against the upper resistance line. When this occurred in the past, the trend reversed. The odds are that will occur again, especially as Europe begins to reinstate lockdowns and enact stimulus plans to aid their citizens and businesses. However, if the Euro does break out higher against the dollar it could prove destabilizing to the Eurozone as it would induce further deflation. Such a move would also push the dollar lower with inflationary implications.
With a weekend to think about the election and how the results may affect markets, we provide a few thoughts. Before progressing, it’s important to consider that the Cares Act, which fueled the recovery, is quickly waning. Without further aid, or “not enough” aid, economic growth is likely to slip backward and stocks are likely to follow. As such, our points below are largely predicated on the timing and amount of more stimulus.
- A very tight election, with no decision and the prospect of a long period of counting votes and legal wrangling, is the worst potential outcome. Not only will it incite outcry from both parties, induce protests, but more troubling from an economic/market perspective, it will further stall an additional stimulus package.
- A decisive and uncontested Biden win but Republican Senate may not be a good scenario either. Such an outcome will make additional stimulus difficult to pass. While a bill will ultimately pass under this scenario it may fall well short of expectations.
- A Trump win but Democrat Senate will be a little more conducive to pass a bill.
- A scenario where the President and the Senate are from the same party are the best-case scenarios for the market as stimulus will likely happen fast. A Democratic sweep is easiest as the bill will likely be bigger, but importantly the House is Democratic so there should be little infighting between the houses of Congress.
From a bond yield perspective, any combination that helps the passage of a bill would likely push yields higher due to the additional supply of debt needed to fund stimulus. A Democratic sweep could cause a sharp jump in yields. Conversely, a no outcome/contested election result, with slims odds of additional stimulus might cause yields to fall.
Having said all of that, we admit this election is hard to handicap and even harder to forecast how the markets will react. The election four years ago was a humbling experience for many market “experts” that feared the market would crater if Trump won.
October 29, 2020
Election jitters and European lockdowns (more below) pushed most risk assets significantly lower yesterday. The S&P was down 3.5%, Crude Oil down 5.6%, and Gold down 1.8%. Bonds struggled for minimal gains while the dollar and VIX soared. The VIX is now over 40, its highest point since mid-June. We should expect extreme volatility to continue through the week and early next week. The next levels of support for the S&P 500 will be 3200 (mid-September lows) and the 200 dma (3130).
Economic concerns are rising in Europe as it sees a resurgence of COVID cases. To that end, Germany unveiled one month “partial lockdown” restrictions starting on November 2nd. The new rules put limitations on large events as well as the closing of restaurants and bars. There is also talk that France is considering a month-long lockdown. Like Germany, this one would not be as onerous as they saw in the spring.
A few months ago, we introduced the Chapwood inflation Index. The index compiled by a private sector firm seeks to calculate an alternative inflation rate to what the government reports. They describe it as “a true cost of living” for each metropolitan area. The chart below shows the respective inflation rate for the five largest cities for the first of 2020. To get more information on how they compile and calculate the data on 100 cities, visit them at the following LINK.
Retired New York Fed President Bill Dudley wrote a startling editorial in Bloomberg Yesterday (LINK). The first paragraph was as follows: “No central bank wants to admit that it’s out of firepower. Unfortunately, the U.S. Federal Reserve is very near that point. This means America’s future prosperity depends more than ever on the government’s spending plans- something the President and Congress must recognize.” Dudley essentially argues that the Fed is limited in their ability to boost economic activity and worse that prior Fed actions have sapped future economic activity and asset returns. He heavily leans on the government to deficit spend. While we agree with his views on the Fed and their future ability to boost growth, he doesn’t explain the other trap, in that government spending is solely reliant on the Fed to buy the debt ensuring low-interest expenses.
October 28, 2020
Courtesy of Bloomberg: “U.S. senators depart Washington for a break, making the logistics for passing a fiscal stimulus package before the election practically impossible” As the benefits of prior fiscal stimulus fade, the need for additional stimulus to support the recovery will become more evident. While there is optimism for a post-election deal from both parties, we offer caution as the election results and the possibility of contested and/or delayed election results may incentivize one or both parties to hold off until after the inauguration.
Expect to find some coal in your stocking this Christmas. Per a Gallup poll, consumers plan to spend $805 this holiday season, down from $942 last year. They also highlight the October estimate of spending ran 10% higher than the November estimate over the past two years. Stay tuned for their next holiday poll to be released in late November.
The tweet and graph below, courtesy @macrocharts, shows that hedge funds have the most exposure to commodity futures in at least the last 15 years. There are a few takeaways from the graph and messages the hedge funds are sending us as follows:
- First, large positioning in one direction by hedge funds has not historically resulted in a decline in commodity prices.
- Second, the S&P Commodity Index is based on an aggregate of all commodities and therefore not representative of each commodity or commodity type. For example, agricultural commodities are currently not showing massive long interest.
- Third, the recent pick up in exposure may be partially the result of the hedge funds betting on Joe Biden and the prospects for a large infrastructure deal. A Trump win, or a Biden win but Republican Senate, could greatly limit an infrastructure deal.
- Fourth, the hedge funds may be betting on or hedging for inflation. The Federal Reserve is serving up massive amounts of QE and the government is running unprecedented deficits. Many investors believe that is the recipe for inflation.
October 27, 2020
As a result of yesterday’s sell-off, the S&P 500 broke through important technical support. As shown below, the S&P (3401) now sits below the 20 dma (3433) and its 50 dma (3408). It rallied late in the day to close just above the pre-COVID high (blue line) and the red support line starting at the March lows. The next levels of support are the dotted blue and orange lines and then the important 200 dma (3129). Last week we reduced equity and fixed income exposure in anticipation of volatility surrounding the election.
The economic highlight this week will be Thursday’s third-quarter GDP report. The current consensus is for a gain of 31%. That compares to a 31.4% decline last quarter. While upon seeing the number the media may declare the economy has fully recovered, it is important to consider the optics of economic growth/decline as measured in percentage terms. Math dictates that GDP, even with equal percentage gains and losses, would still be about 10% below where it stood after the first quarter. As an example, start at $100 and you instantly lose 50% bringing your balance to $50. From that point, it will take a 100% gain, not 50%, to get back to the original $100.
The Fed will be quiet after two weeks of a large number of speeches due to a self-imposed media blackout heading into the next FOMC meeting. Get some rest this week because next week will have plenty of potentially volatility inducing events. The election is on Tuesday, followed by the Fed meeting on Wednesday and Thursday, and on Friday the BLS will release the employment report.
Yesterday we showed that cash as a percentage of equity mutual funds holdings is now at decade lows. While we attributed some of it to the bullishness of fund managers, we should note that low cash holdings are also due to the shift from active to passive strategies. Active investors tend to hold more cash as they sell when holdings get too expensive and hold cash for future opportunities. Passive investors, with no need to trade and good liquidity in large ETF’s/Funds, have little need for extra cash. From a market perspective, the reduction in aggregate cash holdings (more investable cash) helps further explain high valuations. The negative, as we wrote in