Thursday, November 17, 2022

Morning Note: The Fed Doesn't Relish Rallies Right Here!

In yesterday's note I quoted myself from Tuesday's note... Now, here's me, today, quoting myself quoting myself from yesterday:

"In yesterday's blog post I suggested that the Fed isn't quite yet ready to welcome, nor support, rallying markets:
"It’ll be interesting to see (amid softening inflation reads) the degree to which Fedheads push back against what amounts to a market-induced loosening of financial conditions.""

In yesterday's Wall Street Journal, James Mackintosh pounded home the notion that the Fed indeed does not relish market rallies right here.

From his article titled Markets Zoom Toward Collision With the Fed:    emphasis mine...

"Investors are betting big that the Federal Reserve will be able to ease off its fight against inflation. The Fed needs to push back to prevent the markets prematurely easing on its behalf.

Last week showed the extreme sensitivity of markets, when below-forecast inflation for October led to the second-biggest drop in 10-year Treasury yields on record, behind only the day in March 2009 when the Fed said it would start to buy long-dated Treasuries."

Seriously, you'd think, based on last Thursday's action, that the Fed came out and announced a massive pivot:

"Two-year Treasury yields fell the most since Lehman Brothers failed in 2008, and before that since the Sept. 11, 2001, attacks. The ICE U.S. dollar index plunged 3.85% in two days, only slightly less than the 4.08% in the two days after the international Plaza Accord designed to weaken the greenback was made public in 1985.

Stocks naturally soared, with the S&P 500 up 5.5% and the ARK Innovation ETF, which holds lots of lossmaking do-or-die growth stocks, having by far its best day ever with a 14.5% gain."
While we remain open to all possibilities, we can't help but agree with the following:  emphasis mine...
"I think this is wildly overdone, and can’t be justified by a slightly-better-than-expected figure in a single month of volatile data—although it was then backed up by lower-than-expected producer price rises on Tuesday. But the market gains make life harder for the Fed, because the drop in Treasury yields is roughly equivalent to raising rates 0.25 percentage points less by the end of next year—one fewer of what used to count as a full Fed rate increase."
In some ways it is even worse than that. Better conditions in the market prompted a rush to issue corporate bonds by companies that had been waiting, pumping money into the economy. The extra yield demanded to hold high-risk assets fell, too, with the spread over Treasurys on the lowest grade CCC junk bonds dropping from 12.61 percentage points on Wednesday to 12.01 points on Monday.
So, again, I get it, investors are aching for any sign that inflation is coming down, and, thus, that the Fed's gonna cease its tightening campaign... And while I indeed anticipate that the market will ultimately anticipate the Fed's ultimate shift to more accommodating policy, monster rallies coming off of early reads of cooling inflation are not only premature, they can actually serve to raise inflation's temperature at, let's say, not the most opportune time -- from the Fed's perspective.

Let's also acknowledge that the latest inflation reads surprised the markets, and caught a not-small number of investors/traders offside and rushing to cover... I.e., markedly exacerbating the initial upside move!

Atlanta Fed President Rafael Bostic was bold enough to push back on Tuesday with the suggestion that a recession would actually be pretty much okay with the Fed, if that's what it takes to tame inflation:
"Right now, job number one for the FOMC is to tame inflation that is unacceptably high. If high inflation persists for too long and becomes entrenched in the economy, we know that more prolonged and deeper economic pain will ensue. So, while there are risks that our policy actions to tame inflation could induce a recession, that would be preferred to the alternative."

Well, frankly, I'm not so sure that if/when recession hits, that the Fed will be nearly as sanguine as he implies.

We do agree, however, that if indeed we do see a recession in the not-too-distant offing (still our base case), that it'll be mild "by historical standards:"

"But, as I noted in recent remarks, a recession is not a foregone conclusion, and we will try to avoid one if at all possible. And there are many scenarios in which a recession, if it does occur, could turn out to be mild by historical standards."

Per the below, stocks are off to a rough start this morning, which is no big surprise to those of you who took in yesterday’s brief video snapshot

Asian equities leaned red overnight, with 9 of the 16 markets we track closing lower.

Europe's a mess so far this morning, with 18 of the 19 bourses we follow trading down as I type.

As are US stocks, to start the session: Dow down 254 points (0.75%), SP500 down 1.10%, SP500 Equal Weight down 1.36%, Nasdaq 100 down 1.26%, Nasdaq Comp down 1.40%, Russell 2000 down 1.77%.

The VIX sits at 24.78, up 2.78%.

Oil futures are down 1.99%, gold's down 0.79%, silver's down 2.65%, copper futures are down 2.27% and the ag complex (DBA) is down 1.20%.

The 10-year treasury is up (yield down) and the dollar is up 0.68%.

Among our 36 core positions (excluding options hedges, cash and short-term bond ETF), only 1 -- Vietnam equities -- are in the green so far this morning. The losers are being led lower by Albemarle, Brazil equities, base metals miners, MP Materials and Dutch Bros.

As I preach ad nauseam herein, keeping a clear, open mind is absolutely essential when it comes to investing, otherwise:
"...the more energy you put into trying to control your ideas and what you think about, the more your ideas end up controlling you."

--Taleb, Nassim Nicholas. Antifragile: Things That Gain from Disorder

Have a great day!

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