"Fraud is the daughter of greed."
-Jonathan Gash, The Great California Game
Apologies if we offended your sensibilities with the title of the Early Look today. As many of you know, it is actually the title of a Quentin Tarantino film. And, yes, he spelled the words incorrectly in the title. It is also apropos for this stage of the bear market and the characters that are being revealed.
It seems like every day now we get more information about the inglorious (spelled correctly) downfall of FTX. It’s amazing how many people both pumped and supported this one. If the reports are correct, there are more than a million creditors that are unlikely to recover anything out of this debacle.
The truly sad part is that many of these people actually did deserve better, but they were faced with an onslaught of non-stop FTX and Sam Bankrupt-Fried pumping. Sure the signs were there, but if your favorite twitter follows, professional athletes, top venture capitalists, and even fellow Canadians like Mr. Not So Wonderful were supporting it . . . well how bad could it be?
Pretty bad it turns out.
Yes, this is where we are in the cycle. The misdeeds of free monies and skyrocketing asset prices created a frenzy around illegitimate and unstable business models. Now the tide is going out and we are entering the fraud stage of this market cycle. As our old friend Jim Chanos said way back in 2014:
“What we find is that the greatest clustering of fraud in the financial markets occurs, as you might imagine, during and immediately after the biggest bull markets.
As I like to tell my students, it’s basically a period in which people suspend their disbelief. Everybody’s getting rich and it becomes increasingly easy to sell more questionable schemes and investments to investors.
Typically, the major frauds are uncovered or unmasked after the markets decline, for example, Bernie Madoff or Enron, when investors need money from other losses (and often these things have a Ponzi-like nature and can’t finance themselves from a self-sustaining basis) or people simply begin to build back their sense of disbelief and begin to ask tough questions that they didn’t ask during the bull market.”
This is where we are now in the cycle and we may be in the early stages of the fraud unwind.
Back to the Global Macro Grind…
Yesterday, U.S. October PPI was reported and it came in at +8.0% Y/Y. Similar to CPI the in the week prior, this report was lower than consensus “expectations” and represented the lowest inflation report in a good 12 months. We had been modeling inflation starting to decelerate in Q4, though admittedly (at least for me) the stock market reaction was a bit surprising.
Being caught leaning the wrong way in a market move is never fun, but it happens. Those of us were that were celebrating less than a month ago when the U.S. dollar was near its YTD high and risk assets at their YTD low, were not celebrating when the Nasdaq went for a some +7% rip in a day. But crying isn’t allowed in the stock market game. We adjust and move on to the next play.
In as much as inflation has been decelerating in the U.S., it still remains at levels last seen in the early 1980s. Said another way, we remain in an inflation regime that almost none of us have seen in our investing careers. Globally, it is a completely different story as inflation continues to accelerate. Consider some of the data we have received just this week:
- U.K. CPI +11.1% -> new high
- Italy CPI +11.8% -> 0.1% off the high
- Spain CPI +10.9% -> new high
- France CPI 6.2% -> new high
- Sweden CPI 10.1% -> new high
- Nigeria CPI +21.9% -> new high
We could go on, but you get the picture. The wave of global inflation has barely crested. You might say that Nigeria doesn’t matter, well tell that to the 211 million Nigerians that are experiencing north of 20% inflation!
Housing remains at the epicenter of inflation with owner’s equivalent rent comprising roughly 1/3 of CPI. U.S. home prices also have had an unprecedented run up with home prices up some 94.5% from Q1 2013 to Q2 2022. When backing out inflation, this is an increase of +60.8% and eclipses the 1998 to 2007 period (aka the Great Financial Crisis). The result of this is that housing affordability is now near 1975 levels.
(Editor's Note: We'll review our macro themes in our Q4 Mid-Quarter Update presentation today at 11AM ET... ping if you’d like access to the 150+ slides of new data/content.)
Yes, home prices have started to slow their ascent, but with asking rents up +12.2% in Q3 2022 according to Zillow and national home prices up +13.8% in Q3 2022 according to Fannie Mae . . .they have a long way to go to create sustained deceleration in CPI, especially given that housing data is rolled into CPI on a lag. To get home costs down, mortgage and interest rates need to stay high.
Now that everyone’s narrative has changed in less than a month with the new narrative being inflation clearly peaked and the Fed is about to turn dovish, just watch us get some contra data. Perhaps that will come in today’s U.S. Retail Sales report. Yesterday’s Auto Sales report, which is 20% of Retail Sales, came in at 10.5% M/M and 14.7% Y/Y. This is a major acceleration over September at +9.93% and implies a potential acceleration in Retail Sales.
This is good news if you are concerned about the consumer’s spending, but not such good news if you believe the Fed is going to go dovish anytime soon. Don’t forget: better than expected positive economic data is bad!
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets
UST 10yr Yield 3.75-4.36% (bullish)
UST 2yr Yield 4.29-4.86% (bullish)
SPX 3 (bearish)
NASDAQ 9,995-11,606 (bearish)
RUT 1 (bearish)
Shanghai Comp 2 (bearish)
Nikkei 27,119-28,356 (bearish)
DAX 12,916-14,518 (bearish)
VIX 22.40-27.98 (bullish)
USD 105.01-113.45 (bullish)
Oil (WTI) 83.64-93.15 (bearish)
Gold 1 (bullish)
Copper 3.41-3.97 (bearish)
Bitcoin 15,005-18,954 (bearish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
