Thinking of the next black swan(s)?

The Market Ear Picture

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The next big black swan

Who cares about how deep the recession will be. Much more interesting according to Soc Gen's Albert Edwards is how much will yields fall. The most recent px action in oil and commodities is interesting, especially since consensus is so strong (see our logic on oil here). Edwards continues: "Will a recession dispel inflation fears (temporarily) and drive bond yields substantially lower? The outlook for commodities is key, especially with the backdrop of the war in Ukraine. But I still see commodity prices plunging just like in Q4 2008, back then taking headline CPI inflation from +5% to -2% in just 12 months." It looks like consensus regarding rates and commodities moving only higher could be in for a wild ride...

Source: Soc Gen

2-year rates generally decrease past the inflation peak

Front-end rates tend to more directly reflect monetary policy shifts and Fed fund rates have fallen in 7 of the 11 peak inflation instances.

Source: Goldman

Equities post inflation peaks (always up)

A wide distribution of outcomes for equities past the inflation peak, with growth the key determinant for the trajectory. But any way you look at it, equities are up 12 months post inflation peak. Chart shows S&P00 total return. Data since 1955.

Source: Goldman

Save the inflation trade

Fed can't print commodities and commodities remain the best inflation hedge (the carbon stuff). Yes, that is correct, but on the other hand that is nothing new and that is partly the reason why commodities have surged. With many assets having crashed, people are still in the money when it comes to commodities. So, do they start reducing the only positive trade, especially if peak inflation is around the corner? You decide...

Source: GS

The Fed has persistently underestimated inflation since early 2021

Actual CPI vs. Q4/Q4 % FED's projections in meetings from 2020 to pres

Source: Goldman

You don't need a weatherman to know which way the wind blows

Morgan Stanley on "The Great Normalisation" that is in full swing in the capital goods sector. What stands out this month? "(1) Global Industrial Production moderates – though the US is an area of relative strength. (2) Manufacturing PMIs are decelerating but remain expansionary, for now. (3) Consumer confidence levels have shown eye-watering drops – especially in Europe and China. (4) In the US, Auto, Housing and Truck data show signs of synchronised swimming. (5) Manufacturing Inventories are normalised – Retail are not. (6) An ISM downcycle (ie. period below 50) typically takes ~9 months, Capital Goods usually troughs at or before ~6 months. (7) Finding a floor in Industrial Cyclicals needs three boxes to be ticked: Magnitude, Duration and Sentiment. Valuations (ie. Magnitude) are almost there, the other two are not"

Source: Morgan Stanley

Only mild recession priced in

And equities will struggle until earnings estimates resettle. Barclays weighs in when it comes to what the real E is and if stocks are cheap. Barclays: "Lower P/Es now reflect much tighter financial conditions. It may cushion the impact of a further rise in real rates and improve long-term return prospects for EU equities. EPS risk is high, though. So while a mild recession seems priced in, equities & cyclicals may struggle to form a bottom until estimates are reset lower" (Barclays Equity strategy)

On that Yen weakness

Excerpt from Mizuho:" Yen weakness remains hard to stop...We suspect there’s considerable room for the Yen to weaken further before the BoJ feels compelled to act. 140 is the next level to watch. In any case, the use of BoJ monetary tightening to defend the Yen has a very unfavourable risk-reward profile and is unlikely to be effective. JGB yields would need to rise significantly to make an impact, and unrealised losses on the BoJ’s bond portfolio may in fact spur Yen selling (market considering BoJ insolvency, higher government interest payments). Fine-tuning YCC (perhaps raising the upper-bound slightly) runs the risk of encouraging further speculative short positions in Japanese rates may make market distortions even worse."

Housing affordability explained

BofA does a great explanation with some easy math:

"A consumer purchasing a $400,000 home with 20% down would see her mortgage payment increase 34% with a 6% mortgage rate vs. a 3.5% mortgage rate. Conversely, If the consumer wanted to keep her mortgage payment constant, the maximum purchase value of the home would need to decline 25% to ~$299,600".

This is not rocket science, but you get the main points, buyers are priced out..leading to a reduction in demand.

Bitcoin trying to tell us something...again?

Correlation perfection is slightly less perfect, but if BTC is the aggregate psychology of this market, then look closely as BTC refuses bouncing much from recent lows.

Source: Refinitiv