Pro Perspectives 6/10/21

June 10, 2021

The inflation data this morning came in hot, as expected.

Still, the Treasury market moved in the opposite direction of what would be considered intuitive, in a world where the Fed looks to be almost certainly behind the curve on inflation (already).

Again, as we discussed yesterday, this has people debating over whether or not the bond market has it right.  After all, Wall Street likes its adages, and this one is an industry favorite:  "The bond market tends to be smarter than the stock market." So they say.    

Within this debate, there are plenty of believers in the theory that the decades-long structural low inflation environment 1) remains intact, and 2) doesn't change "on a dime" (in the words of Jay Powell). 

And a 10-year yield sliding back down to 1.45% today emboldens the view of those in that camp.  And it has swayed others into the camp.  

But they are all somehow ignoring the fact that the (smart) market isn't dictating the direction and level of yields (interest rates), the Fed is. The Fed is explicitly manipulating the interest rate market.  This is no secret. 

Despite watching an economy accelerate at nearly a double-digit growth pace, despite watching house prices balloon to new record highs, and despite seeing an inflation reading this morning that is as hot as we've seen in thirty years, the Fed continues to push down interest rates, by gobbling up more than $80 billion of Treasuries each month.  Why?  To "encourage lending and investing." 

On that note, while trying to "encourage lending and investing," the Fed, at the same time, reports that Debt Securities and Loans across all sectors ("lending") is at record levels, and Gross Private Domestic Investment ("investing") is a record levels.  So, mission accomplished.  Yet, the Fed stays at it.   

Meanwhile, the "structural environment" is changing quickly, through an unprecedented ballooning of the money supply and a broad-based reset of wages (higher). With that, the longer the Fed pins down market interest rates, the uglier and uglier the inflation damage will be. 

Pro Perspectives 6/9/21

June 9, 2021

We have a big inflation report tomorrow, and it's going to be hot (again). 

And yet, the market that should be reflecting the increasingly dangerous inflation outlook, Treasuries, have been moving higher, not lower. 

That means interest rates have been moving lower, not higher.

As you can see in the chart below, 10-year yields closed below 1.50% for the first time since March 3rd…

Just in case we think the interest market is perhaps telling us that the hotter inflation data should start petering out, let's take a look at what's happening in China, where the products are made that we will be buying in the many months ahead…

Overnight, China reported the hottest prices for producers in 13 years …
And when the producers get those final products on a ship, you can see in the next chart, what has happened to freight container prices coming from China …
So, if you are lucky enough to get your product on a ship, you're paying nearly three times as much to get it here, compared to a year ago.  To be sure, these prices, along with rising wages, will be passed through to consumers. 

Pro Perspectives 6/8/21

June 8, 2021

We looked at three bubble charts a few weeks ago (bitcoin, Tesla and Lumber), each of which continue to look like the air is coming out.

On that note, bitcoin has taken another few punches in recent days.  Over the weekend, a big bitcoin event was held in Miami which included a lot of dogmatic commentary (typical of bubble markets).  

Then yesterday, the Justice Department announced that they had recovered $2.3 million of the ransom collected from the Colonial Pipeline hack.  It turns out bitcoin isn't safe from government seizure. 

Add to that, today the IRS is asking Congress to require large crypto currency transfers to be reported to the IRS.

With the cracks in the security benefit of the bitcoin armor, this morning it traded back down the May crash lows… 

As you can see in the chart, the price of bitcoin looks very vulnerable to a bigger slide on a break below $30,000.  If that happens, gold should start to accelerate higher, as money moves from the “new inflation hedge” to the more trusted, historic inflation hedge.

As I've said before, bitcoin continues to look more like a tool of speculation and corruption, on the path for a typical bubble outcome (i.e. crash and irrelevance). 

Pro Perspectives 6/7/21

June 7, 2021

We get more inflation data this Thursday.  As we discussed the past few weeks, when the Q2 data starts rolling in (in early July), we are going to see charts that look like these big spikes from the early 70s and 80s.

This is the type of inflationary environment (and what followed) that put trend-following, as an investment strategy, on the map.
 

Two pioneers of rules-based trend investing became among the biggest and wealthiest in the hedge fund business by  the 1990s (John Henry and Bill Dunn).  And it was because of the returns they generated from commodities price trends (booms and busts) surrounding the early 80s spike in inflation.

That said, trend following as a strategy has been an underperformer for the better of the past two decades. It's even been thought of as a defunct strategy.  But it may be back.  To date, the IASG trend following is the leading CTA strategy, up 12%.  And that outpaces broad hedge fund performance by about four percentage points on the year. 

And it may be just getting started for the trend followers. 

In a boom period for the strategy, the returns can be high double-digits, if not triple-digits.  And that is driven by an adherence to rules, rather than emotions — which keeps them in trades that continue to trend, as long as they trend.  As John Henry once said, "trends always go further than rational people expect, or even imagine."

Pro Perspectives 6/4/21

June 4, 2021

Like last month, the jobs report this morning continues to show a labor shortage, as employers are unable to compete with the wages paid by the Federal government (through the unemployment subsidy).

These two charts tell the story …  

Existing workers are having to work longer hours in attempt to satisfy hot demand, especially in the industry that was hardest hit in the pandemic (leisure and hospitality) …

And its because employers are unable to fill open jobs …
There are about a million more job openings today than there were in February of last year (pre-pandemic).  But there are 3.4 million more unemployed. 

As about half of the states in the country begin rejecting the additional federal unemployment compensation, we'll see in the months ahead how this shakes out. 

 

For now, markets see the jobs numbers as: 1) giving the Fed justification to continue its aggressive policy, and 2) giving the administration the cover it needs to push through another big spending package.  

With that, yields remain tame at 1.55% as we end the week, and stocks are going out this week near record highs again.
 

Pro Perspectives 6/3/21

June 3, 2021

Yesterday we talked about the Fed's announcement that they would be exiting the corporate bond market (i.e. selling their corporate bonds).
  
Again, this was the most extreme of the Fed's emergency policy moves made last year — where the Fed intervened via the stock market, buying corporate bond ETFs.  And again, this recent decision to exit is a signal of the beginning of the end of these emergency policies — the policies that have been underpinning/promoting risk taking and the persistent rise in asset prices. 
 
But don't worry, the unwinding will be slow and methodical.  The next move will be scaling back treasury and mortgage purchases.  And finally, they will move interest rates off of the zero-line. The timeline on rates moving is a year out, if not years out (if we were to believe the Fed's guidance). 
 
Meanwhile, we are just a month away from seeing Q2 data that will blow away, both the expectations, and the comparable data of a year ago (economic data and corporate earnings).  And inflation data is already moving at a pace not seen, in some cases, in over forty years. 
 
So, the point is, the Fed is already behind the curve — well behind. 
 
Add to this, starting next week and carrying on through the next four weeks, nearly half of U.S. states will voluntarily end the federal unemployment subsidy.  With that, we've yet to see how dramatic the upward reset in wages will be, when employers are finally able to fill jobs. 
 
To be sure, soon employers will be passing along higher employment costs to consumers.  That "wage component" will be like pouring gasoline on the inflation data fire — already stoked by pent-up demand meeting supply chain bottlenecks.    
 
So, despite the pull back today in commodities and most global stock markets, on the premise of the Fed's baby step toward the emergency policy exit doors is somehow bad for the “risk environment”, the policy stance will continue to highly accommodative. 
 
Real interest rates (inflation minus nominal rates) will continue to negative for some time (likely on path to go more negative).  That promotes spending, not saving.  And in this environment, we've seen (in some asset classes) that the spending behaviors are turning into competitively chasing prices higher and higher.    

Pro Perspectives 6/2/21

June 2, 2021

The Fed said this afternoon that it will begin selling its portfolio of corporate bonds.

Let's talk about what that means … 

Back in March of last year, the Fed's response to the pandemic started with some massive action on a Sunday night, where they slashed rates to zero and started a big bond buying program (Treasuries and Mortgages). 

But they didn't address the troubled corporate bond market.  And that threat was rattling markets and the economy.  Stocks were continuing to plunge, and the Fed was losing control of the Treasury market. 

With that, a week later, they backstopped the corporate bond market. 

They made the announcement on March 23rd, that they would move beyond the Treasury and MBS market, and start buying corporate bonds, namely bond ETFs.  That was the relief valve for markets, which was a big deal.  But the message from this action was maybe even more significant.  It was the explicit signal to markets that they will do "whatever it takes" and they will backstop everything, if they have to.

So, with the addition of bond ETFs, the Fed had crossed the Rubicon.  They were now explicitly in the stock market.  Stocks bottomed that day …  

And for the reasons described above, any dip in stocks, thereafter, was a buy.  Why?  The Fed had told us they would do whatever it takes, and losing the stock market would have been an undoing of all of the rescue and emergency policies.  If needed, they would have bought stocks. And that threat/promise continues. 

Interestingly, as we learned from the European Central Bank's similar tactic in 2012, when Mario Draghi vowed to do "whatever it takes" to save the sovereign debt market in Europe, when the central banks make these promises, they don't have to deliver on them.  Just the threat of their presence in a market is enough to get lenders lending again, buyers buying again.  In this case, within months of the announcement, even crippled airline companies were able to issue billions of dollars of bonds.  All told, the Fed only had to buy $13.8 billion worth of corporate bonds – a tiny fraction of the total market. 

What's the takeaway from this move today?  It symbolizes the first move in unwinding emergency policies (though they say it doesn't).  

Pro Perspectives 5/28/21

May 28, 2021

As we’ve discussed here in my daily Pro Perspectives notes, we are entering a period where we could very well see a huge spike in inflation (maybe double-digits).

Yesterday, we looked at the inflation component of Q1 GDP, and we talked about the prospects of a double-digit number when the Q2 data arrives.

Today the report on the Fed’s favored inflation guage, core PCE, showed a spike to 3.1%.

Going back through monthly core PCE data to 1960, this 1.2 percentage monthly change in the YOY Core PCE number is the biggest on record.

Now, let’s juxtapose this to the personal savings rate at 15%.  That remains near pre-pandemic record levels, thanks to government subsidies.

So, the policies that have driven record levels savings are now destroying the buying power of those savings. That’s why, despite easy access to money, and despite rising stock and housing prices, and despite a tightening labor market, this type of economy is not a “feel good” economy. In an inflationary economy consumers feel like they are sprinting on a treadmill just to maintain status quo.

That’s why consumer confidence tends to plunge in high inflation times, as you can see in the chart from the early 70s and early 80s.

These are the moments when wealth can be destroyed, by holding cash — and wealth can be created in key asset classes.

With that in mind, I do my best to navigate the path in my daily Pro Perspectives notes.  If you have family and friends in mind that might benefit from reading my daily Pro Perspectives notes, please forward along this link, and we’ll get them added to the distribution list.

Have a great holiday!

Pro Perspectives 5/27/21

May 27, 2021

The second reading on Q1 GDP came in this morning.  The economy grew at a 6.4% annual rate.

The inflation data in the report came in hotter than in the first estimate.  

 

Here's a look at the chart …

In this chart, you can see the measure of inflation in the prices of goods and services produced in the U.S. for the period. 
 

It's as hot as we've seen over the past forty years. 

But when the Q2 data starts rolling in (in early July), the right side of this chart will look more like the big spikes from the early 70s and 80s.

The Q2 GDP will be double-digits, or close to it (right now the Atlanta Fed is projecting 9.1% growth).  And the inflation data may be double-digits, or close to it, as well. 

If the Fed has had a hard time defending its position in the face of Q1 data, they will lose the inflation expectations battle when the Q2 data hits.  

With that in mind, with only a month left in Q2, we have a 10-year yield that, as of yesterday, was trading as low as 1.55%.  It's higher today on the hotter inflation data.  And this bump in yields today may be the start of the next leg higher in yields.  As you can see in the chart below, big picture, we've yet to see the trend change on this 40-year bear market in rates (bull market in bonds).  But when it happens it may be ugly.   
 
How can you profit from a trend change?  Below is the chart of an ETF that gives you two-times exposure to a decline in bond prices (and rise in yields). So for every one percent decline in bond prices with maturity of 20-years or more, this ETF should rise by 2%.   
 

Pro Perspectives 5/26/21

May 26, 2021

The clean energy agenda landed three heavy punches on the chin of the fossil fuels industry today. 

Punch #1: A Dutch court ruled that the oil giant Shell has to cut emissions on a much more aggressive timeline than they had projected.  This is a big deal.  A Dutch judge is enforcing a company to comply with the Paris Climate Agreement.

 

Punch #2:  At its annual meeting, Chevron shareholders voted in favor "aligning its strategy with emission levels compatible with the goal of the Paris Climate Agreement."  This campaign to persuade shareholders on this resolution was run by an activist group called Follow This.  Follow This also had similar wins with ConocoPhillips and Phillips 66 shareholders earlier this month. 

All of this isn't too surprising, as the big oil giants have already been given the marching orders to transform to renewables, dating back to 2017. 

 

In December of 2017 a group called Climate Action 100+ was formed.  This group is comprised of every major asset manager and pension fund on the planet.  The group’s slogan describes the agenda very clearly: "Global Investors Driving Business Transition."  To put it even more simply, this is a coordinated initiative to defund fossil fuels and force energy transformation. 

With that, facing the prospects of be frozen out of the capital markets, the industry has been falling into line. 

The big holdout has been Exxon.  They weren't playing ball.  But that is punch #3:  Today, in a proxy vote, shareholders (influenced by a full-on assault by the climate activist powers) voted to shake up the board, placing two members on the board that will push the Paris Climate compliance agenda. 

This all sounds like the global energy transformation is going according to (central planners) plan, which it is.  But as we've discussed, as global investment in new exploration continues to evaporate under this agenda, there will be considerable pain. We will continue to consume a lot of oil for the foreseeable future, we will just be consuming it at higher and higher prices.