The higher for longer crowd got a boost when they saw the big nonfarm payrolls job number on Friday. Instantly, you saw them sell everything, stocks and bonds, and with a delayed reaction, even commodities. The nonfarm payrolls print just shows you how wild these BLS numbers are, how much they depend on the massaging of numbers, seasonal adjustments, population normalizing measures, etc. The ADP number was much weaker, and the Challenger job cuts was higher, so this nonfarm payrolls number is totally out of whack from the other employment data, which shows some signs of weakening.
The only real effect that the nonfarm payrolls report has on financial markets is how it affects monetary policy and I doubt this number will move the needle. The Fed's number one goal is to reduce inflation, not to reduce jobs. If reducing jobs is required to reduce inflation, then they're willing to force that situation, but if its not, they won't keep hiking if jobs are steady and if inflation continues lower at the current pace. Powell is much more worried about wage inflation than the total number of jobs. If wage inflation stays under control (trend is toward more lower paying service jobs and fewer higher paying tech/middle management jobs), as it has for the past few months, he's not going to kill the economy just because of strong NFP numbers. The Fed's focus is still on inflation. And based on base effects (energy was up huge from February to June 2022) and current high frequency data on rents, the year on year CPI numbers will be dropping dramatically unless oil prices surge back over $100 in the coming months. This isn't a forecast for how inflation will be, its just simple math based on how CPI is calculated.
It seems like I'm in the minority when it comes to betting on a big drop in inflation/even some deflation for 2023, here's a Twitter poll taken just recently:
In fact, I was quite surprised that so many bet on higher for longer, when the leading indicators are pointing to further decrease in inflation, as well as significant economic weakness. Maybe this time is different, and the Covid stimulus is the inflationary gift that keeps on giving, but I have a hard time seeing high inflation and higher for longer when you have the housing market essentially frozen, with current listed home prices not reflective of where the actual market is, as sellers always are reluctant to lower prices at the beginning of a housing downturn. Unlike the stock market, the lack of liquidity in real estate means bid and ask spreads widen at tops, as sellers are the only ones who list their prices. There is only an ask price in house listings, there are no bid prices listed. In the goods sector, inventories have built up bigly over the past 12 months, while demand is falling, a deflationary force that will play out in 2023 and feed into the CPI.
In the heat of battle, its easy to go back to the last playbook and expect it to repeat. The 2022 playbook was to sell bonds and stocks on strong economic data, and buy bonds and buy stocks on weak economic data. I believe that playbook is on its last legs as the focus shifts from inflation to economic growth in the coming months. When the focus turns towards growth, weak economic data will be considered a negative, as that just signals lower earnings in the future.
The expectation here is that economic weakness for the next month or two will be taken as a positive, as investors still latch on to the last remaining bullish talking point: employment. But when the economic weakness persists and the nonfarm payrolls numbers start to turn down, the talk among investors will shift from 1) the Fed needs to keep tightening, 2) the labor market is too tight, 3) inflation will be sticky, to: 1) the Fed is out of touch with the economy, 2) the economy is looking horrible, 3) when will the Fed come to the rescue? It will happen sooner than people think, it always does.
These outlier economic data prints (especially nonfarm payrolls) get investors so heated up and leaning towards one side, that it provides opportunity to take the other side, especially when the longer term trend is in the other direction. The blowout jobs number is providing a good entry to get long bonds. I was previously looking to enter SPX/NDX shorts, but I think I'll be able to get a better short entry point when the effects of this nonfarm payroll number wear off and everyone goes back to focusing on disinflation and a Fed that is almost done with the rate hiking cycle.
These bear market rallies are seducive, and they suck in the technical traders who worship at the altar of price, and fund managers that have to keep up with the indexes, only to chew them out when the fundamentals come back to weigh on the market.
After a huge rally in the SPX over the last month, the bar has gotten
raised much higher for the economy. Now you will need not only a
continued disinflation to keep the Fed from overtightening, you will
also need earnings to not go down much in order to justify all the
recent optimism about a possible soft landing.
A combination of long bonds and short stocks looks to be the ideal mix at these levels. Based on how financial markets react, usually what happen is that bonds rally as it sniffs out economic weakness and future Fed loosening, and stocks react positively to that bond rally by rallying at the same time, but after a brief period of stocks and bonds going up together, the economic weakness becomes more pervasive and investors start worrying about recessionary impact on earnings, leading to weak stocks, and bonds going up even more as the feedback loop of weak stocks ---> weaker credit markets ----> weaker economy leads to a flight to safety.
It appears we're still in the honeymoon phase with occasional flashbacks to the nightmare 2022 scenario of weak bonds/weak stocks (last Friday). This honeymoon phase could last until the Fed finally says it is ready to pause its rate hikes, keeping the SPX above 4000, and then leading to one last relief rally, only to be met with the reality of an economy headed for a hard landing. At that point, I expect a steady downtrend that lasts for months, and will be when you see retail start to throw in the towel on stocks that they bought up in January and February.
4 comments:
Crazy chop up and down zigzag. Are u just waiting for now?
Wating on index shorts. Put on some single stock shorts late last week and early this week. These are decent levels to short SPX and NDX but I want to wait till after CPI comes out next week.
ok noted. thanks
Looking very crashy now. Thought they wait till CPI at least. A few people saying its a top here.
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