"Always make decisions that prioritize your inner peace."
-Izey Odiase
I really like the quote above. It relates to many different things in life. For investing, I'm not so sure. Personally, the best investments have typically come when I'm a little nervous and uncertain.
The nature of that uncomfortable feeling often comes from having a non-consensus view. These variant perceptions are uncomfortable because they go against the crowd. Mrs. Market is typically very good at testing our fortitude and conviction in such situations.
Keith and I see this in real-time weekday mornings when we host The Macro Show. Thousands of subscribers watch the show every morning. After a 20 minute macro-economic update, we get into Q&A. In times of countertrend moves (at least counter to our general thesis), the anxiety and nervousness are palpable in the questions.
These “feelings” are natural. Even the most sophisticated, successful and seasoned investors get them. During these periods when our inner peace is out of balance, we sometimes make ill-advised decisions. For the cottage industry of behavioral finance selling books, this is a good thing ... for our portfolios, not so much.
Consider the disposition effect for a moment. In layman’s terms, this is the tendency for investors to sell winning positions and hold onto losing ones. According to a study by Terrance Odean titled, “Are Investors reluctant to Realize Their Losses”, he concluded the following:
“In the months following the sale of winning investments, these investments continue to outperform the losing ones. Loss-averse investors sell high performing investments hoping to recoup their losses on poor performance, but, in fact, achieve the reverse.”
This myopic loss aversion can be punitive to portfolios.
Sadly, true bottoms typically come at complete capitulation. On that note, I found a recent survey from Bank of America and Survey Money on crypto/digital assets fascinating. According to the survey, 91% of respondents who have bought crypto assets in the last 6 months plan to buy more in the next 6 months. Despite the absolute blood bath in digital asset prices, that’s not exactly a telltale sign of a bottom!
Back to the Global Macro Grind…
Back to the topic of decision making, the Powell Fed has a rather important one to make today.
Will they hike 50 bps? 75 bps? Maybe they will swing for the fences and go with a shock and awe 100 bps hike? To the extent they are utilizing any kind of Bayesian inference process, one would expect the recent CPI report for May showing headline CPI at +8.6% (highest level since 1981) to make the Fed incrementally hawkish, especially since employment on most conventional metrics has remained stable. That said, we may be giving the Fed too much credit for potentially making a rational decision around their dual mandate. After all, until just recently the Fed was still calling inflation “transitory”!
Unfortunately, when your decision making process is broken, you break stuff.
For individual investors, that is manifested in portfolios and retirement accounts. For the Fed, that is manifested in the economy. Make no mistake about it, things are starting to break. For evidence of this, we probably have to look no further than the mortgage market where rates on a traditional 30-year mortgage have increased to 6.28%. That's up over 75 basis points in a week. It's more than doubled over the last year. As of this morning’s MBA Mortgage Purchase Applications report, demand is down some -16% Y/Y. And that's before accounting for this week's spike in rates.
For those risk asset bulls still holding on for dear life, your response may be: “But Jonesy, that's just housing and prices are still high!” Fair enough, but we are really just getting going in this Fed induced demand slowdown. It starts with interest rate sensitive sectors. Then consumers and small businesses start getting pinched. In the Chart of the Day below, we highlight yesterday’s small business sentiment forward outlook, which came in at -54. This is the lowest reading on this survey going back to 1990.
This business sentiment survey follows Friday’s Michigan Consumer Sentiment survey, which came in at +50.2. For context, this was literally the lowest reading in more than 42 years of this consumer sentiment data years. Think about that for a second. Small business and consumer sentiment is as low as literally any of us have seen in our investing careers. The powerful combination of rapidly tightening monetary conditions and record high inflation will do that.
Regardless of whatever decision the Fed makes today, and despite any related market gyrations, just be aware that inflation will only go down with deflation (obvious I know!). Ultimately, deflation will occur because demand is slowing due to decelerating economic activity. This is especially true as it relates to oil and energy prices.
There is a good reason our models have the world in a global #Quad4 until Q1 of 2023. This slowing growth, declining demand, and ultimately disinflationary process is just getting going.
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets:
UST 10yr Yield 2.97-3.50% (bullish)
UST 2yr Yield 2.76-3.46% (bullish)
High Yield (HYG) 72.21-77.25 (bearish)
SPX 3 (bearish)
NASDAQ 10,560-11,851 (bearish)
RUT 1 (bearish)
Tech (XLK) 122-136 (bearish)
Utilities (XLU) 67.07-72.40 (neutral)
Energy Exploration & Production (PXE) 32.01-37.14 (bullish)
VIX 26.06-36.16 (bullish)
USD 102.27-105.66 (bullish)
Oil (WTI) 115.61-122.95 (bullish)
Gold 1811-1887 (bullish)
Keep your head up and stick on the ice,
Daryl G. Jones
