Pro Perspectives 12/2/22

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December 2, 2022
 
After hearing from Jerome Powell on Wednesday, the markets were set for liftoff this morning, upon the catalyst of a weak jobs report. 
 
Remember, in this world, bad news is good news (for stocks and the economy), as it builds the case for an end to this Fed tightening cycle. 
 
The catalyst didn't happen. The November jobs report came in mostly on trend, but (a big but) the wage growth was hotter. 
 
If we were to believe what the Fed has been selling, up to this week, we would expect such a report to embolden the Fed to follow through on their rhetoric, "to keep at it" (i.e. keep raising rates).
 
With that, after falling 85 basis points from the highs of just six weeks ago, with a hot wage number this morning, most would have expected the 10-year yield to rocket higher. 
 
Indeed it had a bounce this morning.  But by the end of the day, the 10-year yield completely reversed and closed at the lowest level since September 20.  That's below 3.5%. 
 
So, the market-determined interest rate (widely viewed to be the smart money) has returned to levels prior to the last 150 basis points of Fed tightening. 
 
My view: The Fed has gone too far already.  The 10-year yield is telling us the lag effect from the Fed action hasn't hit just yet.  But it's coming.  And Jerome Powell, in his discussion on Wednesday, definitely (finally) showed more humility about how this lag may play out.
 
When you take the Fed Funds rate from zero to 3.75% in eight months, and spike mortgage rates from 2.75% to near 8% that quickly, you're going to get damage, and a retrenchment in economic activity — and maybe even deflation. 
 
We've seen the damage in the global financial system, with a near blow up in UK and European sovereign debt over the past several months.  We've seen some retrenchment in the economy (U.S. and global manufacturing/PMIs back in contractionary territory). 
 
We haven't seen falling prices yet in the stale government inflation data.  But we may see it finally showing up, when we get the next inflation report, which will come on December 13th.  Again, the 10-year yield may be giving us that message.    
 
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Pro Perspectives 12/1/22

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December 1, 2022
 
Yesterday Jerome Powell told us "I don't want to over tighten, and that's why we're slowing down."  And he said there was still a path of a soft landing, without a severe recession.  
 
As we know stocks had a huge day.  And now we sit on this big trendline heading into tomorrow's big job report. 
What markets are giving us clues that this line will resolve in a breakout (higher) in stocks?
 
Yields, gold and the dollar. 
 
As of today's close, Powell's speech and Q&A session yesterday has triggered more than a quarter point drop in the benchmark 10-year Treasury yield.  This is now 85 basis points off of the highs of October. 
 
Related to this, the dollar looks very vulnerable to a much deeper decline (this, after already falling 8% since late September).
 
And gold has been on a tear the past 24 hours.  Gold has now bounced 11% from the lows of just weeks ago.
 
What have these markets been telling us since putting in respective highs (dollar and yields), and lows (gold)?  The Fed will be forced to take its foot off of the brakes.  And that's what Powell indicated yesterday.   
 
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Pro Perspectives 11/30/22

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November 30, 2022
 
Second only to the midterm elections, inflation and (related) Fed policy continue to be a key theme influencing the market and economic outlook.
 
On that note, we heard from the central figure in this theme today, Jerome Powell. 
 
He gave a prepared speech at the Brookings Institution, and took questions.  
 
Unlike the very friendly post-FOMC Q&A sessions, where financial media tend to lob soft questions at Powell, in this Brookings environment, he's speaking to peers, and was questioned by market participants (banks, funds).
 
The outcome?  Markets liked it. 
 
We've been watching this big 200-day moving average in stocks (the purple line)…  
As you can see, that broke today.  Not only do we get a close above this important technical level, but it's the only close above the 200-day moving average since the Fed has been engaged in this rate hiking cycle.
 
And as you can see in the chart, we should get a test, over the next two days, of the big descending trendline, which frames this Fed-induced drawdown in stocks.  
 
In this world, where the Fed has been pursuing a weaker job market, a negative surprise in Friday's jobs report would be a positive catalyst for stocks.  For clues, we can look at this morning's ADP jobs report.  It was weak.  In fact, it showed the weakest job gains since the start of 2021.  Again, bad news is good news.
 
So back to Powell.  What did he say today that markets responded so well to?
 
Mostly, that it now "makes sense to moderate the pace" of rate increases.  Moreover, the "time for moderating the pace of rate increases may come as soon as the December meeting."
 
Now, in the Q&A session (where there's a chance for some candor to slip through the typically well measured words of the Fed chair), Powell said two very important things:  
 
1) He said, "I don't want to over tighten."  This is news.  To this point, the Fed has told us they would err on the side of over tightening.  
 
2) He said, it's "not appropriate (to execute some shock and awe strategy) to crash the economy and clean up afterwards."  That's good news, given that their language to this point, has suggested that destroying the economy is precisely the strategy.
 
So, we enter December with some positive developments.  As we've discussed in my notes, stocks historically do well in the twelve months following midterm elections.  Now, add to this, the data is beginning to reflect the impact of the Fed's rate hikes, which should give the Fed impetus to take its foot off of the brakes on the economy.
 
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Pro Perspectives 11/29/22

 

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November 29, 2022
The month ends tomorrow, and as it stands, the price of crude oil is down 9% in November.
 
This will factor into the inflation number we’ll see on December 13th.
And it will factor in favorably (i.e. a negative drag on inflation).  And, of course, that will factor into the Fed’s view of the rate path.  Conveniently, the Fed’s next decision on rates is December 14th (a day after the inflation report).
 
Remember, last month Jerome Powell said, “we do need to see inflation coming down decisively, and good evidence of that would be a series of down monthly readings.”
As we’ve discussed here in my daily notes, observing real-time inflation data over the past few months (on things like car prices, housing prices and rents, etc), rather than relying on the stale data within the government’s inflation report, we should expect negative monthly price changes coming down the pike.
Indeed, this November report is setting up for a negative monthly reading (i.e. a decline in prices from October to November).
 
We’ll have a big negative input for energy prices.  And if the spike in layoffs in the tech industry, in November, are any indication that the job market is softening, we have a formula for a retrenchment in prices.
 
On the jobs front, we’ll get more information over the next three days.  

 

Pro Perspectives 11/28/22

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November 28, 2022
 
We looked at the chart below heading into the Thanksgiving Day holiday.
Stocks, for a third time since the Fed started it's tightening campaign earlier this year, were testing the big 200-day moving average (the purple line).  And as of today's close, we're 2% off of this level (i.e. lower).
 
​What's going on?  Is it social unrest in China?  Is it a potential railroad strike looming next month?
 
Nothing is more important for markets, at the moment, than the inflation outlook, and (related) Fed policy.  On that note, the geopolitical landscape continues to be noisy, and a potential contributor to the inflation picture.  But we also have meaningful data lined up this week for the Fed to digest.  It's jobs week. 
 
And what has Jerome Powell (Fed Chair) told us, explicitly, about jobs?  
 
He wants to bring the number of job openings into balance with the number of job seekers.  The prior report shows 1.7 job openings for every job seeker.  
 
Why does the Fed want to induce a softer job market?  Wages.
 
In a labor supply shortage, employees have leverage in negotiating higher wages, particularly in what has been a hot inflation environment.  With that, the Fed fears an upward spiral in wages, where wages feed into higher prices, which feed into higher wages … and so the self-reinforcing cycle goes. 
 
So, on Wednesday we'll get the October JOLTS report.  This will tell the Fed if the job openings/job seeker gap is narrowing.  But again, it's an October report.  If we look at more current data, covering the month of November, clearly the jobs market is softening. 
 
Here's a look at a chart of layoffs in the tech industry …
The tech industry shed as many jobs in November as in the prior four months combined. 

Pro Perspectives 11/23/22

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November 23, 2022
 
We head into Thanksgiving Day with stocks trading back into this key technical level …  
The purple line in this chart is the 200-day moving average.  As you can see, it rolled over in April, and has been declining ever since (i.e. the trend is down).  And you can also see, it has contained any rallies, since.  

 
So, now we’re testing this 200-day moving average again. 
 
Will we get a technical breakout into the end of the year?  We will see.
 
What we do know, is that the odds are lining up in favor of positive stock performance over the next twelve months.
 
As we discussed last month, heading into the midterm elections, among the many major influences on markets in this environment, none are bigger than what happened on November 8th.
 
Remember, the midterm elections are historically good for stocks. 
 
How good?  Going back to 1950, there has never been a 12-month period, following a midterm election, in which stocks were down.
 
So, according to history, the probability of a positive return for the stock market one-year after a midterm election is 100%.  And the average one-year return following the eighteen midterm elections of the past seventy years was 15% (about double the long-term average return of the S&P 500).
 
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Pro Perspectives 11/22/22

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November 22, 2022
 
Yesterday we talked about an important dissent at the Fed, with the San Francisco Fed President being the first to push back against the tide of Fed voices that have, for the better part of the past year, relentlessly promoted the idea of suffocating the economy with higher and higher rates.
 
That’s the monetary policy side.  On the fiscal policy side, similarly, we’ve had two years of unrestrained transformational policy execution in Washington, with virtually no dissenting voice.  That’s changing too.  
 
The next two years, with a divided Congress, we will get gridlock on Capitol Hill, and, as important, we will get scrutiny of the excesses of the past two years.  That scrutiny will likely come in the form of investigations and legal challenges to Biden’s executive orders.
 
The question is:  How many dominoes will fall?
 
For markets and the economy, probably the more the merrier (as it will dampen the destabilizing overreach).  
 
We are just two weeks removed from the midterms, and already:
 
> The Biden student loan cancellation has been blocked by a federal judge, as unlawful.  This cools the inflation outlook, as it removes the prospects of half a trillion dollars worth of consumer liabilities, being freed up to become consumption. 
 
> We have several dominoes falling that are deconstructing the abused power dynamic in DC.  CBS News has suddenly (after two years, and just after the midterm elections) found it quite easy to verify the validity of the Hunter Biden laptop, which is said implicate the President in corrupt business dealings.
 
>  The private cryptocurrency market is unraveling.  As I said throughout the years, here in my Pro Perspectives notes:  “in its short history, Bitcoin has a record of being a tool of corruption and money laundering.”
 
With the failure of the biggest crypto exchange, FTX, we’re finding that the crypto market indeed looks like a tool of corruption and money laundering.  At the very least, at this point, we know that the founder was heavily funding democrat political campaigns.  The question is, with whose money?    

Pro Perspectives 11/21/22

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November 21, 2022
 
We spend a lot of time talking about the inflation picture here in my daily notes, and for good reasons. 
 
Among the reasons:  We had record money supply growth, driven by the monetary and fiscal response to the pandemic, and related lockdowns.  When the money supply grows faster than the economy’s ability to produce goods and services, you get inflation (too much money, chasing too few goods).  It’s that simple. 
 
With that very simple formula, in plain sight, it’s hard to believe that Fed officials, in unanimity, could call the inflation of last year “transitory.” 
 
Equally as hard to believe, they unanimously flip-flopped late last year, becoming tough-talking inflation fighters, yet they started their inflation fight (against a forty-year high inflation rate of 8.5%), by raising interest rates a whopping 25 basis points — that’s from zero interest rates.  Meanwhile, they continued with their inflationary bond buying program (i.e. QE).  
 
They’ve since, in unanimity, outright threatened to crush demand and jobs, and have promoted a draconian interest rate outlook.  In doing so, they’ve crushed the stock market.  They’ve crushed economic growth.  And they’ve produced an inverted yield curve (which has a history of preceding recession). 
 
And now, as we discussed in my Friday note, inside of one year, the pendulum has swung.  A year ago, they were executing inflationary policy in a hot inflationary environment.  Today, instead of just slowing inflation, they are now executing deflationary policy into an environment of declining prices.
 
It all looks like mismanagement at every step.  And, again, the policy path has been unanimously supported and promoted by the Fed Governors and Fed Presidents … until today. 
 
Finally, we may have a dissenting voice from the Fed (though not from a voting member) — introducing some sanity.  San Francisco Fed President, Mary Daly, in a prepared speech today, said that the “markets are acting like [the Fed Funds rate] is around 6%.” 
 
She’s saying that financial conditions are much tighter than the 3.75%-4% Fed Funds rate.  And her 6% “proxy rate” (as she called it) happens to be right in line with the core inflation rate.  It’s an important dissent in what has been an unexplainably agreeable Fed. 
 

Pro Perspectives 11/18/22

November 18, 2022

Let’s continue our discussion from yesterday on the difference between a deceleration in rate-of-change in prices, and outright price declines(i.e. deflation).

The Fed’s stated goal is to slow the rate-of-change in prices to their inflation target of 2%.   However, they are inducing a decline in prices/deflation, rather than just a slow down in inflation.

Is it by design?

That brings me to a very important statement made by the Fed Chair in the last post-FOMC press conference.  In response to a question about the lag effect between policy and prices, Jerome Powell said “we do need to see inflation coming down decisively, and good evidence of that would be a series of down monthly readings.”

“Down monthly readings” means, negative change in prices.  He wants to see deflation (at least for a period of time).  And that suggests the Fed wants to move the level of prices lower, not just the rate of change.

Well, he’s getting it.

They nearly returned stocks to pre-pandemic levels this summer …

Gold, the historic inflation hedge has fully retraced to pre-pandemic levels …

Energy?  Crude oil prices are not too far off from pre-pandemic levels …

Here’s a look at global food prices … falling, but still 35% above pre-pandemic levels …

What about housing?Housing prices have rolled over.

A return to pre-pandemic prices in housing would inflict major pain.

 

 

 

 

Pro Perspectives 11/17/22

November 17, 2022

We may have hit peak Fed lunacy today, with voting Fed member, Jim Bullard, suggesting that the Fed Funds rate could need to go as high as 7%, in order to beat inflation.

Keep in mind, the nonpartisan Committee for a Responsible Federal Budget projects for every 100 basis point rise in the U.S. 10-year yield, the U.S. government adds $285 billion annually in interest costs.  This adds, materially, to a record, and already unsustainable government debt load.

Of course, we don’t have the money.  We will borrow it.  From whom?  Mostly, it will be the Fed that will have to be the buyer of last resort.

When we’re financing our own deficit, and therefore expanding our government debt bomb (via the Fed), you get more inflation, not less, as traditional holders and buyers exit, and/or just reject it as an investment.

Don’t worry, as we’ve already seen, well before that level (of 7%) would be reached, the global financial system would implode (sovereign debt defaults, currency devaluations and other vulnerabilities within the system would be revealed).

And we don’t need to pontificate about outcomes, it’s already happened — at just half of the level on the Fed Funds rate that Bullard theorized today.

Conversely, what looks far more likely than a 7% Fed Funds rate?  A swing from record inflation, back to deflationary pressures.

By early December, when we see the November inflation report, I suspect we will see a negative monthly inflation number (i.e. a price decline in the month).

Used car prices peaked earlier this year.  Food prices, globally peaked in February.  The median house price peaked in May.  Rents have fallen for two straight months.  Oil prices peaked in June.

These prices have all been consistently falling since peak levels.

There’s a difference between deceleration in the rise of prices (i.e. cooling inflation), and a decline in prices (deflation).

The Fed is inducing deflation.

With this in mind, let’s take a look at this chart of “six-month change” in money supply…

 

Money supply is declining, and at the fastest rate on records going back over 60 years of history.  Moreover, as you can see in the chart, a negative six-month change in money supply is highly unusual. It’s only happened twice prior to this recent episode (’92 and ’93).

Deflation is typically associated with a contraction in the supply of money and credit (the former is happening, the latter not yet).