Pro Perspectives 11/2/23

 

 
 

 

 

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November 02, 2023

Remember, we are in the early days of what may be the most productivity enhancing technological advancement of our lifetime, in generative AI.

On that note, Q3 productivity data was reported this morning.  And it was big, at 4.7%.  That follows productivity gains of 3.7% (annual rate) in the second quarter.  For perspective, we averaged less than 1% productivity growth for the decade prior to the pandemic.  

These hot productivity gains create the opportunity for the continuation of much needed wage gains (to restore living standards, which have been eroded by inflation). 

On that note, despite some of the hottest wage gains we’ve seen in decades, the annual growth in the cost per unit of output last quarter was actually negative (-0.8%).  This means wage growth is more than being offset by productivity gains. 

That means increasing wages are not a problem in the inflation picture.  And Jerome Powell admitted as much yesterday. 

So, we’re in the early stages of a productivity boom.  That’s great news.  And guess who presented on the importance of productivity growth as a driver of the long-term potential growth rate of the U.S. economy?  Jerome Powell did, back in 2016 (here).

This all supports the path of both economic growth (hot) and inflation (falling).

With the above in mind, we‘ve talked about the reversal signals in the bond market.  With the Fed meeting now behind us, and the increasing likelihood that the next change will be in the direction of interest rate policy, yields continued to slide today.

Here’s the latest look at the 10-year yield …
  
With this, stocks had a big day.
The S&P is now trading back above the 200-day moving average.  But small caps offer the big rebound opportunity — declining as much as 33% over the past two years, and currently down 2% year-to-date.    

 

Pro Perspectives 11/1/23

 

 

 

 

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November 01, 2023

As we discussed on Monday, the recent inflation data and Jerome Powell's acknowledgement that financial conditions have tightened (influenced by the rise in bond yields since their last meeting), supports the case for the continued Fed pause.
 
Indeed, the Fed left policy unchanged today for the second consecutive meeting, citing "significant" tightening in financial conditions in recent months.
 
With that, for the first time in a long time, in today's post-meeting press conference, Jerome Powell wasn't making threats about "doing more," rather he was explaining why they are making progress on their inflation goal, despite a strong economy, which remains strong despite the level of interest rates.
 
On the economy, he has moved the goalposts.  His mantra has been, for some time, that the economy would likely need to run below trend growth to achieve their inflation target.  Keep in mind, the Q3 GDP was running at a nearly 5% annual rate.   That's far above trend growth. 
 
But now he says the Fed no longer sees recession coming, and he thinks the economy might just need to run below "potential" growth, rather than trend growth – which he mumbled through a definition of "potential," as something "elevated" given unique post-pandemic circumstances.
 
Bottom line:  This wasn't the hawkish Jerome Powell we've seen for much of the past nineteen months. 
 
The Fed's favored inflation gauge, core PCE, is on path to go sub-3% by March of next year.  And the Fed knows we've yet to see a debt rollover cycle at the current level of borrowing rates (which will bite). 
 
So, the Fed should be done.  The interest rate market is pricing that scenario in.  That means the next move by the Fed should be a cut.  The market is betting by next summer. 
 
The anticipation of a change in policy direction should be fuel for stocks. As such, stocks rallied today.  Bond yields fell sharply (bond prices up). 
 
With the above in mind, let's revisit my note from early October 4th.
 
Remember, we had a bad September for stocks in 2020, 2021 and 2022.  All three of these episodes were followed by a big Q4.
 
In September of 2020, stocks were down 4%.  That was followed by a Q4 up 12%.
 
In September of 2021, stocks were down 5%.  That was followed by a Q4 up 11%.
 
In September of 2022, stocks were down 9%.  That was followed by a Q4 up 8%.
 
This past September stocks were down almost 5%.  And that has been followed by a down 2% in October.  This Q4 analogue of the past few years would set up for a big November and December for stocks, driven by the (likely) end of a tightening cycle and a Q3 earnings season that is already beating a low bar of expectations.  
 
Add to this, we've just seen an 11% correction in the S&P 500.  Remember, a 10% correction in stocks in a given calendar year is typical of the past eighty years. 

Pro Perspectives 10/30/23

 

 

 

 

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October 30, 2023

We've talked about the bullish setup for bonds, starting with the reversal signal in the 2-year Treasury yield, which was soon followed by a similar signal in the 10-year yield.  
 
As we discussed on Friday, recent inflation data and Jerome Powell's acknowledgement that financial conditions have tightened (influenced by the rise in bond yields since their last meeting), supports the case for the continued Fed pause.
 
The WSJ agrees.  In advance of this week's Fed meeting, the Fed insider at the Journal penned a piece today titled, "Higher Bond Yields Could End Fed's Historic Rate Rises." 
 
Related to all of this, as I said in my October 23rd note "bonds are a buy." 
 
Barron's agrees.  This was the cover story over the weekend …
 
 
This, for bonds, all comes as speculators have been net short treasury futures (i.e. betting against bond prices) at record levels.
 
And as we also discussed last week, such extremes in market position tend to be contrarian indicators.
 
Remember, the last time the market was positioned near this extreme of a short (betting against bond prices) was September-October of 2018.  Those bets were wrong.  It was the turning point, and those levels weren't seen for another four years.
 
With all of the above in mind, let's look at some scenarios for bond prices: 
 
1) If something breaks in the financial system, we can be sure that the Fed (and/or global central banks, in coordination) will respond (by buying bonds and/or cutting rates).  Bond yields go down, bond prices up.  
 
2) If the Fed is indeed done with the rate cycle, as inflation continues to fall, then bond yields go down, bond prices go up.  
 
3) In the event of wartime spending (even if inflation goes up), the Fed will be forced back into "emergency policy."  And as we've discussed, the World War 2 playbook entailed yield curve control.  Bond yields go way down, bond prices way up. 
 

Pro Perspectives 10/27/23

 

 

 

 

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October 27, 2023

We came into the week with a technical reversal signal working in the (very important) treasury market, specifically, the 2-year yield. 
 
Then on Monday we had a similar signal in the 10-year yield.
 
Related to this, today we had the report on the Fed's favored inflation gauge, core PCE.  It confirmed the continuation of a steady decline, with a fall to 3.7% year-over-year change.  And as we discussed on Monday, the six-month average monthly change in core PCE now has us on path to sub-3% inflation by March of next year. 
 
This, along with Jerome Powell's acknowledgement last week that financial conditions had tightened since their last meeting, should be enough to create some welcome downward pressure on market interest rates.
 
Now, all of this said we have the monetary-policy direction influence on rates (and markets, in general), and we have the Israel/Gaza war influence (and the risk of becoming global). 
 
On the latter, the first place we should see clues on rising global war risk is the U.S. bond market, the safe-haven for global capital in times of heightened risk.  Global capital tends to flow into the relative safety of U.S. Treasuries (bond prices up, yields down).  To this point, it hasn't performed as such.  
 
What is performing like a safe-haven?  Gold.
 
As we discussed in my October 17th note (here), the sharp one-day spike in gold prices, following the Hamas attacks on Israelis, put it in company with some major event-risk days of the past twenty-plus years.  This was an early clue that this would continue to escalate and perhaps step toward a global war.
  
Gold is now up 11% since news of the Hamas attacks.  As you can see in the chart, the price of gold is back above $2,000, and another test of the record highs looks likely.
 
You can get leveraged exposure to rising gold prices through gold mining stocks, or track the price of gold through an ETF like (symbol) GLD.
 
Full disclosure, we are long gold miners, including Barrick Gold in our Billionaire's Portfolio.  You can join us here. 

Pro Perspectives 10/26/23

 

 
 

 

 

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October 26, 2023

As we discussed yesterday, the economy continues to run hot, well above trend growth.

Q3 GDP came in this morning at an annual rate of 4.9%.

Meanwhile the tech stocks continue to put up big numbers, yet are all being sold.

Google did record revenues on double-digit growth, with 46% EPS growth (yoy).

Microsoft grew revenue by 13% and EPS by 27%.

Meta/Facebook did 27% revenue growth on record revenue, more than doubled operating income, and did 2.6 times the eps of a year ago.

And Amazon reported today after the close.  They had 14% revenue growth and 3x’d the EPS of a year ago.

In listening to these earnings calls, you would have a hard time trying to find something to be disappointed about with what’s going on in these companies.

They are all reorienting their businesses around AI.  The Google CEO calls AI a “foundational platform shift.”  Zuckerberg (Meta CEO) says they are de-prioritizing non-AI projects and shifting to AI.

It’s a new growth and margin expanding catalyst for these companies, which already have sustained high margins and double-digit growth.  So, what’s coming?  Expanding margins and higher growth.

Plus, this AI technology revolution only widens the (already very wide) competitive moats of big tech.

With that, what’s prompting the selling in these stocks?

Is it forced selling, related to the war drums (i.e. foreign investment exiting in fear of future sanctions)?  Maybe.

Maybe it’s something bigger:  The oligopoly in tech has only gotten to this point of power consolidation because the government has turned a blind eye to antitrust law.

Now we have the Biden FTC threatening to breakup Amazon.  We’ve had plenty of empty threats from Capitol Hill and the DC bureaucrats about breaking up the big tech monopolies through the years, only to allow them to multiply in size and strength.

Is it for real this time?

 

Pro Perspectives 10/25/23

 

 

 

 

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October 25, 2023

We get third quarter GDP tomorrow.  And it will show an economy that was hot in the third quarter.
That said the perception of the economy is very different.
 
As you can see below, the Wall Street consensus view on the economy (the blue line) has been slowly (seemingly reluctantly) ratcheting the higher, but is still well below how the economy is tracking based on the data-driven Atlanta Fed model (the green line).  
 
 
We had the same scenario going into Q2 GDP data.  The consensus view on the economy was 1% growth.  It was actually growing twice as fast. 
 
This is the Fed's "keeping at it" effect on sentiment, which has now rebranded to "higher for longer."  The latter campaign continues to communicate to consumers and businesses that the Fed will keep its foot on the brake.  Keep in mind, this was (likely) a 9% nominal growth economy, in Q3, despite that slowing effect from the Fed.    
 
How does this formula work?  Fiscal. 
 
Simultaneously, the government is still running deficit spending, as if the economy is still in emergency/crisis times.  And the economy still has ten-years worth of money supply floating around dumped onto the economy of just a two-year period (i.e. the covid response: forty-percent money supply growth in two years). 
 
We talked about this type of environment in my notes more than two years ago, in the midst of the building inflation: "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" (you can see that May 2021 note here).
 
If we get a wartime economy, it seems likely that we will get even more government spending, even higher nominal growth, and an even faster sprint on the treadmill for consumers. 

Pro Perspectives 10/24/23

 

 

 

 

 

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October 24, 2023

As we've discussed in my past two notes, we have key technical reversal signals at work in the interest rate market.
 
And related to this, the expectations for a final Fed rate hike by the year's end have dwindled from a coin flips chance just a week ago, to less than a 25% chance today.
 
This all comes as speculators are net short treasury futures (i.e. short bond prices) at record levels.
 
What does that mean? 
 
They are leaning heavily in the direction of a break higher in yields (lower in bond prices).  These extreme positions tend to be contrarian indicators.
 
The last time the market was positioned near this extreme of a short (betting against bond prices) was September-October of 2018.  Those bets were wrong.  It was the turning point, and those levels weren't seen for another four years.

 
Given that nothing has been a bigger burden on stocks over the past nineteen months than the Fed's tightening cycle, this move in the interest rate market is good news for stocks.
 
And this comes as Q3 earnings are kicking into gear, and the expectations have, once again, been dialed down — Wall Street is expecting a slight decline in S&P 500 earnings.  Keep in mind these Q3 earnings are coming from a quarter that is projecting close to 9% nominal growth.
 
As we discussed last week, this sets up for positive surprises, which is fuel for stocks.
 
So far, we're getting it. 
 
With that, we heard from two tech giants today after the close. 
 
Both Google and Microsoft put up big numbers.
 
For Google it was record revenues on double-digit growth, with 46% EPS growth (yoy).   
 
Microsoft grew revenue by 13% and EPS by 27%.
 

Once again, both calls were dominated by the discussion on AI.

 

Remember, we are just in the early days of maybe the most productivity enhancing technological advancement of our lifetime:  generative AI. 

 

Pro Perspectives 10/23/23

 

 
 

 

 

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October 23, 2023

In my Thursday note, we talked about the technical reversal signal in the bond market, specifically the yield on the 2-year government bond (futures contract).

That 2-year yield is now 20 basis points lower from Thursday’s highs.

Add to this, today we had a similar signal on the benchmark 10-year yield.

After taking a peek ABOVE the important 5% level early this morning, yields reversed sharply to settle on the lows of the day, around 4.85%. 

As you can see in the chart below, similar to Thursday’s action in the 2-year, today the 10-year put in a technical reversal signal (an outside day).  

 

Now, this reversal gained momentum when a large hedge fund manager (Bill Ackman) announced on Twitter that he had covered his short bond position.  Ackman thinks a slowing economy and “too much risk,” given the events in the Middle East, will bring demand back into the Treasury market.

On the latter (“too much risk”), global capital tends to flow IN to U.S. Treasuries in times of heightened geopolitical risk, which sends bond prices up/yields down.

That said, global capital also tends to flow IN to the dollar and gold in times of stress.  But both of those markets were down on the day.

Maybe today’s move in yields was more about what happened last Thursday and what’s coming on Friday, and less about what’s happening on the war front.

Remember, last Thursday, we heard from the Fed Chair, Jerome Powell.  He told us financial conditions had “tightened significantly” since the September meeting, and that has been driven by the move in long-term bond yields.  Translation:  If the Fed needed to do more, the market has done it for them (and maybe too much).

On Friday, we’ll get September core PCE.  The Fed’s favored inflation gauge is expected to continue its steady decline, falling to a 3.7% year-over-year change.  And the six-month average monthly change in core PCE has us on path to sub-3% by March of next year.

This is data that should be welcomed by the Fed and markets.

With all of the above in mind, remember last week we talked about the set up for bonds (“bonds are a buy”).  Two of the most liquid bond ETFs, the corporate bond ETF (symbol LQD) and the government bond ETF (symbol TLT), had bullish reversal signals today. 

 

 

Pro Perspectives 10/19/23
 

 

 

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October 19, 2023

Jerome Powell spoke today at the Economic Club of New York.

For some context, below is what has happened in the interest rate market since the Fed’s September 20th meeting, where they maintained the forecast for another quarter point HIKE this year, and removed two rate CUTS from their forecast for next year.

As you can see, that Fed meeting was the lift-off catalyst for the 10-year yield, to the tune of 64 basis points.

This rise in yields has taken stocks down as much as 5%.  It’s pushed mortgage rates to new 23-year highs.  And it forced the Bank of Japan back into the currency markets to defend the value of the yen on October 3rd.

With that, coming into today’s commentary from Powell, we should have expected him to talk about the tightening of financial conditions that has taken place in the interest rate market.

Indeed, near the bottom of his prepared remarks, there it is:

“Financial conditions have tightened significantly in recent months, and longer-term bond yields have been an important driving factor in this tightening. We remain attentive to these developments because persistent changes in financial conditions can have implications for the path of monetary policy.”

That’s the market doing the work for the Fed, which should make it very clear that the Fed has nothing more to do (in this tightening cycle), unless inflation ramps again.

That said, in the Q&A, he did say that he did NOT think policy was too tight right now.  That sent stocks lower, and 10 year yields up.

That’s a perplexing statement.  But there was a lot of conversation that lacked measure, in the Q&A.

He also said that perhaps the rise in the interest rate market is the market recalibrating to the view of “economic resilience.”

If that’s the case, the inverted yield curve, which was reflecting a view of recession, should de-invert (to reflect growth, confidence and a healthier economy, i.e. lower short-term rates and higher long-term rates).

And maybe it will.  We may have a clue in the way the market closed today.  While the 10-year yield rose to 5%, the 2-year yield reversed on the day, closed lower, and put in a technical reversal signal (an outside day).
Pro Perspectives 10/18/23
 

 

 

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October 18, 2023

Last Friday, we talked about the potential for another 1973-like oil embargo.

This morning, OPEC-member Iran called for just that, sanctioning Israel –which would likely, quickly, be imposed on those countries supporting Israel.

It was dismissed in the media by other OPEC members.  But by the day’s end the U.S. Treasury was relaxing sanctions against Venezuela (which is an OPEC member), freeing up access to Venezuelan oil, gas and gold.

We looked at the gold chart yesterday, which had another big day today, breaking out of this cyclical downtrend.

  

There has fundamentally been a greenlight to buy gold for some time, given the explicit (global) policies to inflate asset prices and inflate away unsustainable sovereign debt.

It’s the historic inflation hedge, yet it has been among the worst performing asset class over the past three years.  Since the first, massive, covid policy-response in March of 2020, stocks (S&P 500) are up over 80%, oil is up four-fold, copper is up 90% and real estate (the Case-Shiller Home Price Index) is up 44%.  Gold is up just 25%.

And yet, central banks bought gold in record amounts last year.

Has there been manipulation in the gold market?  Price suppression?

Or is it Bitcoin?  Did Bitcoin supplant gold as the favored hedge against inflation and money printing profligacy?  Indeed, the price has jumped multiples over the past three years.

But I suspect in a march toward global war (as it appears), people want gold over bitcoin.

With that, we’ve often looked at this longer-term chart of gold over the years.

 

 

This is a classic C-wave (from Elliott Wave theory). This technical pattern projects a move up to $2,700ish.  The price of gold has continued to make progress along that path.

How do you play it?  Get leveraged exposure to gold through gold miners, or track the price of gold through an ETF, like GLD.

Full disclosure, we are long gold miners, including Barrick Gold in our Billionaire’s Portfolio.