Earlier today we reported that Bank of America's chief strategist Michael Harnett made two stunning (if perfectly obvious) revelations for a person, who stands to potentially lose his job if he dares to publicize the truth, which is precisely what he did when he said that i) "central banks have exacerbated inequality via Wall St inflation & Main St deflation" and ii) it is "no longer politically acceptable to stoke Wall St bubble; two ways to cure inequality... you can make the poor richer...or you can make the rich poorer...they have failed to boost wage expectations,inflation expectation, “animal spirits” on Main St... so Fed/ECB now tightening to make Wall St poorer"
Some further observations from Harnett's note "No market for Rich Men":
Tightening by Fed, rhetorical tightening by ECB has succeeded in raising bond yields, volatility, reducing tech stocks (CCMP, QNET, SOX all at 1-month lows); flow data had indicated tech very overbought (Chart 2– flows into tech annualizing 22% AUM YTD)...
... ripe for correction; EM debt & US/EU corporate bonds other crowded areas...look at surge in inflows to EU credit funds (Chart 3).
In other words, having failed at its task of "making the poor richer", the Fed is now resigned to the upcoming market crash which will make the rich poorer instead.
And here is the clearest signal yet that central banks are about to pull the trapdoor: "central banks in aggregate still printing: bought $350bn in April, $300bn in May, <$100bn in June…big 5 central banks buying less but not yet selling."
Central banks want volatility to return, know financial conditions too easy (Chart 5); yields rise as they carry through on threat (or as ECB shows this week, lose credibility by lame flip-flop on policy intentions as Euro moved toward ECB “pain threshold” - Chart 7); ECB sets interest rate floor and floor now rising.
Central banks making mistake tightening policy as there is no inflation. Disruption, Demographics, Debt (IIF just announced global debt hit all-time high of $217tn = 327% of global GDP in Q1, up $50tn past decade)...all means normal business upturn cannot create inflation...oil prices poster child for this (we cut oil price forecasts today)...all means the big inflation rotation awaits radical fiscal stimulus, trade war, major increase in geopolitical risk, Occupy Silicon Valley policies (tech taxation, living wages...).
The question then, of course, is when will the Fed crash markets? Here is Hartnett's take:
We don’t think this is “big top” in stocks; greed harder to kill than fear; don’t think this “big top” in stocks, would be surprised if bull market which began with SPX 666 ends before 6666 on the Nasdaq... summer 2017 = significant inflection point in central bank liquidity trade…will likely lead to “Humpty-Dumpty” big fall in market in autumn, in our view.
But Big Top likely occurs when Peak Liquidity meets Peak Profits. We think that's an autumn not summer story.
So roughly just under 500 more points on the Nasdaq before the "big fall."
Finally, some ideas on how to trade it.
Asset allocators should nonetheless start buying vol, reducing exposure to credit, prepare for bout of higher yields...
Summer trade arguably optionality in tech (uber growth), long banks/energy (uber value), lighten up in credit, EM, add to volatility.
Investors anticipating a full reversal of the QE trade would thus position as follows...
- Long oil, short stocks
- Long 2-year Treasuries, short EM debt
- Long TIPS, short HY
- Long resources, short tech
- Long utilities/telco, short consumer discretionary
- Long value, short growth
- Long Japan & European periphery, short US
- Long inflation, short deflation