“We think, each of us, that we're much more rational than we are. And we think that we make our decisions because we have good reasons to make them. Even when it's the other way around.”
- Daniel Kahneman
Let's do an experiment this morning. Start the stopwatch on your phone and count to 5 as it runs for 5 seconds. Try this twice.
Now do the same thing, but count to 5 without looking at your stopwatch. See how close you get to 5 by stopping the timer when your mental count hits 5. If you're like me, you will be close (4.84 and 5.35) - but still fairly inaccurate.
Small errors like this may not seem significant, but when multiplied over millions of decisions throughout complex systems, they add up. As famed economist Daniel Kahneman says, "Wherever there is judgement, there is noise."
We witness inaccurate judgements play out in many professions, which in turn create a lot of noise and often errors. For example, studies show that doctors are more likely to prescribe pain killers to their patients in the afternoon. In addition, a study of Florida court rooms, showed some judges only gave 5% of applicants asylum, while other judges, based largely on the same data, gave up to 80% of the applicants asylum. Finally, in general, judges also prescribe more severe sentences in very hot weather.
Obviously in highly complex systems like global markets with reams of data, the judgments made by humans become even more likely to create noise. These judgments are skewed by the inaccuracy of the human mind, its limitations, and the fatigue or emotional state of the person making the judgment.
As stock market operators, we should be accustomed to making bad judgements. In fact, a great stock picker probably only gets 55% or so of his/her picks correct. The real skill then may be in recognizing the noise in our judgments and the inherent likelihood of error, and them correcting them posthaste.
But, as Kahneman also writes, “We believe in the reasons, because we’ve already made the reason” In other words, as humans we are more likely to stick with a decision, even if a bad one, because we’ve already justified it. A better path is to realize that the probability of the decision being wrong is likely high and then to adjust accordingly.
Back to the Global Macro Grind...
This morning is yet another opportunity for error in human judgement with August Non-Farm Payrolls coming out at 8:30am ET. Consensus is at +725K, a number which has been coming down over the past few weeks, and a deceleration from the prior reading of +943K.
Historically, these numbers have been very hard to predict with much precision. One reason we could see a disappointing number is that continuing claims, as highlighted in the attached chart of the day, are up or flat in this period, while in the prior period they came down by roughly 1MM.
But then again, this is a survey that is conducted in the week of the month with the 12th day in it, so the week of July 12th and August 12th. So, while investors may hang their hats on these numbers in the short term, the very timing and survey-based nature may inherently be more prone to inaccuracies then we realize.
In aggregate if we look at the bulk of recent data, it speaks to an improving labor market that is also very tight (and by default inflationary):
- Weekly jobless claims hit new post pandemic lows this week at 340K;
- Challenger expected job cuts are down some 85% year-over-year; and
- Many ISM type surveys have been replete with comments like “difficulties in filling open positions”.
But the river card will be revealed at 8:30am this morning, so make your educated guesses now! Shortly thereafter the manic market and media will have moved on to the next data point and will be creating a different kind of noise.
In Europe this morning, we are seeing what we would expect in a #Quad3 inflationary type of environment with Eurozone Composite PMI slowing to 59.0 from its July’s peak of 60.2. While the U.K. PMI slowed to a six-month low of 54.8 and decelerated more sharply from July’s reading of 59.2. Just like the U.S., these surveys were full of comments of “shortages of staff” and “supply chain disruptions”, or inflation laden comments.
While we are on the topic of European inflation, yesterday’s Eurozone PPI came in at +12.1% Y/Y. This is the highest reading on PPI since the early 1980s, well before there was a Euro in fact. As it usually does, this hot PPI reading is likely to be a leading indicator for CPI as costs are eventually passed on to consumers. So those hoping for global deflation in Q4 may be disappointed.
On the topic of inflation, we don’t really need to anchor too much on surveys or government data as we can see it real time in market prices. The CRB Index (basket of 19 commodities) is up ~46% Y/Y and back to its 52-week highs. On the same token, shipping costs as measured by the Drewry Composite Index is +1.7% this week and +344% versus a year ago.
Perhaps inflation will ultimately be transitory, but it will be higher for longer first. Our current favorite Macro ETF exposures in this economic environment are: LQD, EWL, XLI, GLD, EWG, NIB, INFL, QQQ, XLE, XLRE, EWQ, XLU.
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets:
UST 10yr Yield 1.23-1.37% (neutral)
UST 2yr Yield 0.19-0.27% (bullish)
SPX 4 (bullish)
RUT 2193-2322 (bullish)
NASDAQ 14,901-15,463 (bullish)
REITS (XLRE) 47.06-49.31 (bullish)
Tech (XLK) 155.51-160.76 (bullish)
Utilities (XLU) 67.98-70.47 (bullish)
Energy (XLE) 46.96-50.66 (bullish)
Shanghai Comp 3 (bearish)
Nikkei 27,210-29,160 (neutral)
DAX 15,757-15,942 (bullish)
VIX 15.05-18.84 (bearish)
USD 92.07-93.32 (bearish)
EUR/USD 1.170-1.189 (bullish)
Oil (WTI) 63.27-71.83 (bullish)
Nat Gas 4.05-4.71 (bullish)
Gold 1 (bullish)
Copper 4.17-4.42 (bullish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
