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May 09, 2024

We've talked about the bounce back in stocks, from what looks like a relatively shallow technical correction (7% in the S&P 500 index).

As we discussed, shallow corrections are a sign of strength in a bull market. 
What else has had a shallow correction?  
Gold. Silver. Copper. 
All are now moving back toward the highs.
The bull market is being fueled by the global easing cycle that's underway.  It started in Switzerland.  Sweden was yesterday.  And today the Bank of England signaled inflation getting to its 2% target this quarter, to be accompanied by a rate cut (June).
With an easing cycle tailwind, UK stocks are on record highs.  German stocks made new record highs today, fully recovering the April correction.  We should expect the same in U.S. stocks. 
And, again, that makes the laggard small caps the spot to find relative value.  The Russell 2000 (small caps) remains 15% off of the 2021 highs.





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May 08, 2024

This morning, the Swedish central bank became the second major central bank (a G10 country) to cut rates.
The Swiss National Bank was the first to kick off the easing cycle in March.
And as we discussed yesterday, rate cuts are expected to come in June for both the Bank of England and the European Central Bank.
Keep in mind, the Fed has tighter policy, measured by the real interest rate (the main policy interest rate minus the inflation rate), than any of these four central banks.  They should be cutting. 
So, despite the mixed signals the Fed gives, we should expect more and sooner action from the Fed than the market has priced in.  We should expect the closely coordinated policies of the past fifteen years, by major central banks, to continue in this easing cycle.
Remember, the Bank of Japan played the critical role of global liquidity provider the past two years (the liquidity offset to the Western world's liquidity extraction/tightening policies). 
They made the first step toward exiting that role on March 19th. 
And probably no coincidence, two days later the Swiss National Bank started the easing cycle with a surprise rate cut (adding liquidity)
With that in mind, the Fed has convinced markets that they can patiently sit with high real rates, until they manufacture their desired inflation rate.  The actions of their central bank counterparts tell a different story.  They don't have the luxury.  They are all a liquidity crunch away from returning to the business of QE. 





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May 07, 2024

We talked yesterday about the bounce back in stocks, from what looks like a relatively shallow technical correction (7% in the S&P 500 index).
Shallow corrections are a sign of strength in a bull market.  And it's a bull market driven by durable tailwinds of a new industrial revolution AND the deployment of trillions of dollars in deficit spending.
We've also talked a lot about the outlook for an easing cycle for interest rates, which is another tailwind.
The posturing on "when" it will commence, continues this week with a lineup of Fed members making the media rounds.
But as we discussed in late March, if there were doubt on whether or not this easing cycle would materialize, the Swiss National Bank removed that doubt with its surprise rate cut in March. 
As we discussed in that March note, the major central banks of the world have coordinated closely throughout the crises of the past 15 years.  They all went to ultra-easy emergency level policies in response to the pandemic, and now all (exception Japan) have interest rates set ABOVE the rate of inflation (restrictive territory).
And we should them to all be cutting rates, in coordination, mostly to ensure that global liquidity doesn't become too tight, and (related) that their respective government bond yields (borrowing rates) don't run away (higher).
With that, the Bank of England meets this Thursday.  Both the Bank of England and the European Central Bank are telegraphing the beginning of rate cuts in June.  That's driving UK stocks back to new record highs.  German stocks are less than one percent away from new record highs. 
And we should expect the U.S. central bank and U.S. stocks to follow.
But what about "sticky" inflation in the U.S.? 
Check out this chart … 
We had a growth shock in money supply (the green line), from the 2020-2021 policy response to the pandemic.  That was the inflation catalyst.
And you can see the lagging effect on inflation (red and blue lines), as it peaked 16 months after the peak of money supply growth.  
We've since had the disinflationary effect (falling inflation) from the decline in money supply growth.
Not only has money supply growth declined, it has contracted for sixteen consecutive months.  Contracting money supply is historically deflationary.
If we apply the sixteen month lag of inflation to the trough in money supply growth, it would project much lower inflation data (maybe deflation) by August. 
If that's the case the Fed will be cutting sooner and aggressively.  






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May 06, 2024


Around this time last month, we were looking at this big trendline in stocks (the yellow line in the chart below).
After a nearly 30% rise in five months, the S&P futures put in a technical reversal signal (an outside day).  So did the Russell 2000.  So did the Dow.  So did the German stock market (DAX futures).
And with that, as we discussed in my notes (herehere) a technical correction appeared to be underway.
A month later, and the chart now looks like this …
So, we've now had a 7% technical correction.  And as we've discussed, the top and the bottom of this correction aligned perfectly with the catalyst of Israel/Iran conflict (from incitement to de-escalation).   
This technical correction (with a catalyst) has presented a buying opportunity in a market with tailwinds of a new industrial revolution AND the deployment of trillions of dollars in deficit spending.
On the former, much of the investment community has been desperately hoping for a second chance to get positioned for the generative AI theme, which they had previously proclaimed to be a bubble. 
With that, this is the most important chart of the past two months …
This 22% drawdown in Nvidia gave them a second chance. 
And now, as of today's close, Nvidia trades only 5% off of the highs.  
This leads up to the biggest event of the month: Nvidia earnings
They report on May 22nd.  And it will be the anniversary of "the Nvidia moment," when CEO Jensen Huang shocked the world declaring "the beginning of a major technology era."  And he had the numbers to back it up.
Now, importantly, this May 22nd report will be the first year-over-year comparison to that "Nvidia moment" — the first gen AI related surge in growth. 
But don't worry, it's still going to be a triple-digit growth quarter.
If they hit guidance (which has been very conservatively set over the past four quarters) they will do $24 billion in the quarter, versus $7.2 billion from a year ago.  But we already know, based on the earnings reports from the tech giants of the past two weeks, that Microsoft, Google and Meta (alone) spent north of $32 billion last quarter on investment in computing capacity.  And they are buying as many Nvidia GPUs as they can supply. 
That expectation from Wall Street already has Nvidia trading at a forward P/E (according to Reuters) of just 32 — for a company growing revenue at a triple-digit pace.  
At a $2.3 trillion market cap, and after tripling over the past year, it's cheap






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May 02, 2024

Yesterday, after the Fed shot down concerns of stagflation or any prospects of rate hikes, the December Fed Funds futures posted an outside day (a technical reversal signal), and so did the dollar.

What does that portend?  Rates lower, which is good for stocks.  Dollar lower, which should continue to fuel commodities prices.

Let’s take a look at what might be the best place for investment returns in 2024.

Asian stocks.  We already know Japanese stocks have been on a tear — up as much as 24% this year (at the March highs).

Here’s the Hang Seng Index (Hong Kong) …

It was up 2.5% overnight and has just broken out of this down trend that started in Q1 of 2021.

And there’s a similar chart in Chinese stocks …

Stocks were in decline to start the year in China, on weak growth prospects for 2024.

The Chinese government responded on January 22 with promises to prop up the stock market.  That was the bottom in FXI and the Hang Seng.

The Chinese central bank cut the reserve requirement ratio by 50 basis points on February 5th, to stimulate the economy.  It was the biggest cut in two years, and it put the bottom in the Shanghai Composite (the broad Chinese stock market).

On March 4th the Chinese government said they would target “around 5%” growth this year, at the annual National People’s Congress legislative session — implying more aggressive fiscal and monetary policy fuel.

And with the bottom of U.S. stocks in April (on the de-escalation of Iran/Israel, reduced global risk), Asian stocks have had the relative strength.







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May 01, 2024

We entered the Fed decision today with the 2-year yield above 5% and the S&P 500 having just delivered a down 4.7% month.  And with GDP in the first quarter having just been revised down dramatically, to under 2%.

These are circumstances that were brought to us by the Fed.

By the Fed’s historically high level of real interest rates (Fed Funds rate minus the inflation rate).  And by the Fed’s “sentiment manipulation” (“communications strategy”).

On the latter, the numerous public speaking engagements by Fed officials over the past three months successfully moved market expectations from one extreme (expecting as many as seven rate cuts by year-end) to the other extreme.

How extreme had expectations shifted?

As of yesterday’s close, the interest rate market was pricing in less than one full rate cut by year-end.  And based on recent comments from a voting Fed member, some in the investment community had even begun to speculate that rate hikes could once again be back in play.

Moreover, if we look at the year-end expectations on where the Fed Funds rate will be, it’s projecting higher today than it was back in October.  And at that time, the Fed was projecting an additional rate hike in December, and still engaged in the tightening cycle.

Now, not only does this dramatic swing in market interest rates and expectations tighten financial conditions (adding to an already historically tight real interest rate, set by the Fed), but it increases the risk of a liquidity shock.

With that, as we discussed in my Monday note, it was crucial in today’s Fed decision/press conference that they move the rate expectations pendulum back toward the middle.

So, what did the Fed Chair, Jerome Powell, have to say today?

He shot down the notion that Tuesday’s hotter wage report was an inflation concern.

He shot down the notion that the economy is settling into a stagflation stage (i.e. slow growth, high inflation).  He said growth is neither slow, nor is inflation high (relative to historic stagflation periods).

And he shot down the notion that the policy path could include a rate hike as the next move.  He said the discussion at the Fed is not about direction, but “how long to hold rates in restrictive territory.”

This was clearly a dovish message from the Fed today. And it countered a market that was positioned for something ranging from hawkish to very hawkish.

That should take pressure off of the interest rate market.  And should provide support for stocks, coming out of an April retracement.







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April 30, 2024

There was broad-based selling across markets today:  Stocks, bonds, commodities, everything.

It started with hotter than expected wage data (Q1 employment cost index).  With the Fed decision tomorrow, on the back of hotter than expected inflation data in recent months, the influence of rising wages on the inflation picture spooked markets.

But it’s an overreaction.  Why?

Remember, we’re in a productivity boom!

We averaged just 1% productivity growth for the decade prior to the pandemic, and negative 0.7% from the fourth quarter of 2020 through early last year.   Since then, productivity growth has averaged 3.7%.

And as Jerome Powell has said in the past, wage gains should equal productivity gains plus inflation (a formula of non-inflationary wage growth).

The latest inflation of 2.7% plus 3.7% productivity, gives us year-over-year wage gains of 6.4%.   The wage number this morning was 4.2% (year-over-year rise).  That means wages should be rising faster.

With the above said, among the important events of the week (Fed, earnings, Friday’s job report), the Q1 productivity report on Thursday is a big one.

Let’s take a look at a couple of charts as we head into tomorrow’s Fed decision …


Relating to the above chart, it’s important to remember that the Fed made an official policy change in the way they evaluate their 2% inflation target back in September of 2020

Inflation had been too low, for too long.  For the better part of the prior decade, inflation ran well below their two percent target.

So, Jay and company told us explicitly that they would let inflation run hot, to bring inflation back to 2% on averageover time.

They’ve done just that.  The above is the chart of the Fed’s stated inflation target, “annual change in the price index for personal consumption expenditures (PCE).”  They countered thirteen years of weak inflation, with two years of hot inflation, for an average of 2%.

Let’s see how the path of inflation looks if we extrapolate out a 2% annualized rate of growth in the PCE index, from the pre-Lehman peak of 2008.


This chart shows us what the actual path (the blue line) PCE looks like compared to its desired 2% annualized inflation path (the orange line).

Remember, the Fed told us throughout the extended period of weaker than trend inflation, that they would let inflation run hot, to bring inflation back to 2% on averageover time.

This chart would argue that the Fed should be less concerned about splitting hairs over tenths of a tick on inflation readings (especially as it resides comfortably under 3%), and it should be more concerned with its overly-tight policy stance impeding an economic boom, which could recover the underperformance of the prior decade (the decade that also delivered below target inflation).






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April 29, 2024

We're halfway through Q1 earnings season.  Thus far, earnings growth is in-line with Wall Street's 3%+ growth expectations.
And Q1 is expected to have been the weakest quarter for earnings growth we will see all year.
FactSet has full year S&P 500 earnings growth at 10.8%.  Excluding the "re-opening" bounceback in corporate earnings in 2021, this year is projected to be the hottest earnings growth since 2018. 
And that's despite the swing in rate expectations, from anticipating an aggressive easing campaign from the Fed (earlier this year), to (now) maybe no easing.
With that, the Fed meets this week.  Here's the latest look at the Fed's inflation barometer, PCE.
So inflation is 71 basis points away from the Fed's target.  But the Fed has the Fed Funds rate (still) 262 basis points ABOVE the rate of inflation.  That's historically very, very tight monetary policy. 
And yet the market is only pricing in one full rate cut by year end.
That rate outlook has the 2-year yield trading back to 5% … the 10-year yield back to early November levels (as high as 4.74% last week) … and has influenced a negative surprise in Q1 GDP growth (under 2% growth).
With that backdrop, Jerome Powell should be talking down the interest rate market on Wednesday, attempting to move the rate expectations pendulum back toward the middle.    
After all, it's the Fed's manipulated wide interest rate differential between the U.S. and Japan that has driven sharp declines in the yen. 
As we've discussed often in my daily notes, a weak yen is intentional and works in Japan's favor — inflating away debt, and increasing export competitiveness.  It's by the design BOJ (and Fed) monetary policy.  But they can't risk losing control (i.e. a rapid decline in the yen). 
So, to slow the pace of the yen decline, the Bank of Japan was forced to intervene in the currency markets overnight to support the yen.
With that, if the Fed needed a nudge on "messaging dovish" on Wednesday, this BOJ action should be the nudge.  






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April 25, 2024

We heard from Meta after the close yesterday, which we discussed in my last note.

They grew revenues by 27%, compared to the same quarter last year.  They grew net income by 114%.  And they expanded operating margins from 25% to 38%.

Meta was scrutinized for its ongoing massive investment in AI infrastructure.  They are in the third year of what will be a $100 billion three-year spend on servers, data centers and network infrastructure.

The stock was punished.

Today we heard from Google (Alphabet) and Microsoft.

Google grew revenues by 15% compared to the same quarter last year.  They grew net income by 57%.  And they expanded operating margins from 25% to 32%.

Microsoft grew revenues by 17% compared to the same quarter last year.  They grew net income by 20%.  And they expanded operating margins from 42% to 45%.

Like Meta, both Google and Microsoft are making massive investments in building AI infrastructure capacity.  Both stocks went up after earnings (Google, about 10%).

From 2022 through this year, all of the AI barons are spending in the neighborhood of $100 billion in capex on AI infrastructure.  And they will do more, to build the capacity needed to meet the insatiable customer demand for computing resources to run AI products and services.

As Microsoft put it, in the their call this afternoon, this is just the first wave, and they are building for the “second wave” of AI.

So, these are trillion-dollar plus companies, growing at an accelerating double-digit pace, rapidly adding new products and services, with smaller headcount, and at a higher and higher rate of profitability.  And they’re not expensive (Meta – 23x forward PE, Google 22x, MSFT 31x).

It’s still the early days of the most productivity enhancing technology advancement of our lifetime: generative AI.






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April 24, 2024

We had Meta earnings after the close today.  They grew revenues by 27% compared to the same quarter last year.  They grew net income by 114%.  And they expanded operating margins from 25% to 38%.  
Sounds quite good.  But the stock was crushed in after-hours trading.
The "sell" algorithms were assumably triggered by 1) Meta's guidance for the next quarter, which will be relatively flat quarter-to-quarter revenue growth, and 2) their plan to spend more than they originally guided in capex for the year.
On the former, keep in mind, Meta has rolled out its new large language model across its family of apps, and has yet to attempt to monetize it (which will be a fresh revenue growth catalyst, along with other AI products).  
On the latter, the capex spend is a continued massive investment in infrastructure to support AI.  The top end of this year's guidance will put them at $100 billion worth of investment over the past three years on: data centers, servers and network infrastructure.
Meta's goal is to be the leading AI company in the world.  And the bigger the spend, all funded by cash flow, the more dominant their position in AI is assured. 
With that, we'll hear from Microsoft and Google tomorrow.  They too will report massive investments in AI infrastructure and new product development. 
For these companies, the Wall Street scrutiny over "mid-points of guidance" and such, on the quarter, is a meaningless exercise.  
These earnings calls from the big tech giants are about discovery.  What are they learning?  What are they building?  How fast is the technology revolution progressing?  And how do they see it unfolding?  
In a lot of ways, this reminds me of the Q3 earnings season, back in October.  The tech giants were putting up big numbers.  It was hard to find something to be disappointed about, with how they were performing and reorienting their businesses around generative AI.  But the stocks were being sold. 
Broadly, stocks were in a correction at that time, driven by a Fed that had spent the prior few months reupping threats of more tightening.  And that had sent the 10-year yield surging to 5%
Stocks bottomed the week of big tech earnings, and on the day of the PCE (inflation) report
That PCE report showed a continued decline in the rate of inflation.  And with that, given that the 10-year yield was at a very restrictrive level and stocks were in a correction, the Fed signaled the end of the tightening cycle.  
Fast forward to today, and we're in a stock market correction.  The 10-year yield has had another sharp rise, trading last week to the highest level since early November of last year (4.7%).  And we get the PCE report on Friday. 
For perspective, core PCE is almost a percentage point lower than it was last October when the Fed signaled the end of the tightening cycle.  Rates are more restrictive today, than last October.