"If one does not know to which port one is sailing, no wind is favorable." -Seneca
I joined a yacht club in Connecticut a few years ago. Admittedly, that is a pretentious way to start a note, but it has been a fun experience. I mean, who doesn't enjoy a cold rum punch by the ocean on a hot summer day?
More interestingly, I've learned a thing or two about sailing. No surprise, one of the most important things in sailing is getting a decent read on the wind. Positioning your boat appropriately for shifting winds can mean the difference between winning a race or barely moving.
Investing is no different. We need to adjust our portfolio for the shifting winds of the macro environment. Is the wind of growth slowing or accelerating? Is the wind of inflation increasing or decreasing? Finally, are the financial system's overlords (aka central bankers) tightening or easing policy?
If you get those questions right, you're going to get a lot of other things right. If not, well... it's going to be a long slog in the markets. Or as sailors like to say, you will be tide over. But the tricky part of all of this is that the markets discount the future. As a result, we need to proactively anticipate the changing conditions.
On the monetary policy front, the Fed actually hasn't done much yet. In fact, we've only had one 25 basis point cut and a few quarters of tapering. In the "Chart of the Day" below, we can also see that the Fed's Balance sheet hasn't started to shrink (yet). Though interestingly, it does appear to have peaked in the most recent four weeks at just under $9 trillion.
Even if you don’t believe me that the Fed is going to rapidly shrink its balance sheet, maybe you can believe the Fed Vice Chair Lael Brainard. Just a couple weeks ago, she said the Fed will “begin to reduce its nearly $9 trillion balance sheet quickly, arriving at a “considerably” more rapid pace of runoff than the last the Fed shrank its balance sheet.”
But with the Nasdaq down some 21% from November 2021 (coincidently roughly from the point that Fed started to taper) the markets have started discounting this massive tectonic shift in monetary policy. "Started", though, is likely the operative word here.
Back to the Global Macro Grind ...
One subsegment of the economy seeing the impact of tightening in real-time is U.S. Housing. Intuitively this makes sense. Rising interest rates will impact the most rate sensitive part of the economy first. According to Freddie Mac, the average 30-year mortgage rate is now at +5.11%. That's up 11 bps w/w and 214 bps y/y and back to the highest levels since 2009. This impact of this rapid increase in mortgage rates and rising house prices means the cost of buying a house is up some 50%+ Y/Y.
As it relates to F.O.B.S. (Fed Operation Break Sh*t), the housing market is obviously a good place for the Fed to start to diminish consumer demand and this is bearing out in recent housing data.
Consider some updated data we received this week:
- The most recent week's mortgage purchase applications came in at -8% W/W and -17% Y/Y. This takes the index to 234, which is the lowest level since May 2020 (back when people were largely still in lockdown). On this metric, April is now tracking down -16% from January highs and near a 2-year low
- Pending home sales for March came in down -1.2% M/M and -8.2% Y/Y. This was the fifth straight monthly decline and is also back to the same levels of May 2020.
So, without actually doing that much yet, the Federal Reserve has sharply slowed U.S. Housing demand. And we won't even talk about the re-fi index down -70% Y/Y. Just wait until mortgage rates hit 6%, 7% or even higher ....
The YTD return in risk assets are a pretty good indication of how the market anticipates tightening monetary policy and a shift to #Quad4 winds (or headwinds). But the most challenging thing with bear markets is that we get oversold bounces (often amplified by short covering). These occur in stocks as well. Take Facebook as an example (or should I say the stock formerly known as Facebook). As of yesterday, $FB was down some -48% for the year and had erased north of $400 billion in market cap.
Yesterday, $FB was up 18% on a guide down and earnings miss. Now sure, subscriber numbers grew after their decline in the December 2021 quarter, but still nothing to write home about. But oversold stocks and markets don't need much in the way of good news to rally sharply and, sometimes even stabilization is enough. Then again, we will get many more downside surprises in #Quad4. Talking to you Teledoc $TDOC . . .!
Luckily, we can get a sense for when the shorter winds may shift. If a market, sector, or stock is at the low end of our risk range and IVOL premiums are ballooning, it is typically a sign that the winds could reverse for some short term period. Specifically on Facebook, the stock had built a 67% IVOL Premium by the end of the day prior to earnings. This is compared to a -14% discount a month ago. Global markets in aggregate have a very similar set up at the moment.
Setting aside the ebbs and flows in the stock market ... global consumer confidence readings are great gauges of future economic activity. Simply put, if the consumer feels good they will spend and drive future economic activity. If their confidence is waning, then they are likely to spend less, particularly when the cost of capital is ramping. These are some recent global consumer confidence reports we received this week:
- Germany Consumer Confidence hit an all-time low of -26.5 for April;
- France Consumer Confidence decelerated to 88, the lowest level since 2018; a
- U.S. Consumer confidence dipped in April to 107.6, which is the lowest level since mid-2021.
It is certainly possible that the U.S. Consumer continues to outperform its global counterparts. But inasmuch as the consumer’s balance sheet is relatively strong and the labor market remains tight, high inflation and an aggressively tightening monetary environment won’t help. On the last point, perhaps a lot of the tightening is priced in already?
Next week’s Fed meeting, which will include a 50 basis point hike and the official announcement of Quantitative Tightening, will be a decent gauge of what is priced in. But after two years in which rates were effectively negative, the Fed added some $5 trillion to its balance sheet, and Americans received $5.5 trillion of direct stimulus, I wouldn’t bet my yacht club membership on the idea that the unwind is over just yet.
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets
UST 10yr Yield 2.63-2.95% (bullish)
High Yield (HYG) 78.63-80.51 (bearish)
SPX 4111-4326 (bearish)
NASDAQ 12,234-13,099 (bearish)
RUT 1 (bearish)
Tech (XLK) 138-149 (bearish)
Gold Miners (GDX) 33.35-42.25 (bullish)
Utilities (XLU) 72.01-77.45 (bullish)
REITS (XLRE) 47.61-50.92 (bullish)
Shanghai Comp 2 (bearish)
Nikkei 26,206-27,263 (bearish)
DAX 13,607-14,191 (bearish)
VIX 24.35-36.47 (bullish)
USD 100.36-103.97 (bullish)
EUR/USD 1.049-1.085 (bearish)
USD/YEN 126.77-130.98 (bullish)
GBP/USD 1.235-1.289 (bearish)
CAD/USD 0.773-0.791 (bearish)
Oil (WTI) 96.65-107.93 (bullish)
Nat Gas 6.37-7.74 (bullish)
Gold 1 (bullish)
Copper 4.30-4.63 (bearish)
Silver 22.36-24.87 (bearish)
MSFT 269-291 (bearish)
AAPL 150-166 (bearish)
AMZN 2 (bearish)
FB 166-210 (bearish)
GOOGL 2 (bearish)
NFLX 122-218 (bearish)
TSLA 821-967 (bearish)
Bitcoin 37,005-41,404 (bearish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
