“Never let the future disturb you. You will meet it, if you have to, with the same weapons of reason which today arm you against the present.”
- Marcus Aurelius
Our Macro Team presented our Q3 Themes yesterday. The 160+ page presentation set a new record for the length of content. Sometimes length and detail are a great thing, while other times it can lead to paralysis of analysis. In this instance, we felt it was important to really get into the weeds on our views of what we are seeing in the global economy.
That is not to say, of course, that everything we postulate will play out. But some of it certainly will and in general, we hope this detail will provide an important framework in understanding the pending investing landscape. Or as Marcus Aurelius poignantly said we are trying to provide “weapons of reasons which today arm you against the present.”
On the first page of the main section of yesterday’s presentation, we had a slide that was titled, “2Q 2023 Was A Beauty”. This slide, which is copied below in the Chart of the Day, has two graphs. The first graph looks at news story mentions and references in company conference calls for “AI”. No surprise, this graph went parabolic in Q2. Alongside this was a graph of call option activity on the SP500 over the past ten years.
Also not surprisingly, the second chart “hockey-sticked” in Q2. In fact, in June 2023 alone there were some 800 million call option contracts that were purchased. A significant portion of this call activity was related to 0DTE options, so extremely short-dated calls. In effect, a bet that either you win, or a bet goes to zero very shortly thereafter. If that sounds like gambling, well it should.
Now what does this have to do with the economy? Well, not really all that much, which is kind of the point. But as stock market operators we have to consider the structural makeup of the market as a real and sustained influence on the future . . . as disturbing as some of this activity may seem.
Back to the Global Macro Grind . . .
Setting all semantics aside, and to be fair, in the last week we have had some marginally positive data points on the U.S. economy:
- Jobless Claims – Weekly Jobless Claims this week came in at +239K, versus 265K in the prior week. For those keeping track, this was the largest M/M decrease in 20 months
- Housing Starts – Last week U.S. Housing Starts spiked to 1.631MM, which was up some 20+% M/M and up 5.3% Y/Y and the highest level in twelve months;
- GDP Revision – Yesterday Q1 GDP (albeit a lagging indicator) was revised higher to a 2.0% annualized SAAR from 1.2% in the prior report (1st revision); and
- Durable Goods – Headline, Core, and Durable Goods Ex-Transport all accelerated in May on a M/M basis versus the prior month. (That said, Capital Goods, which feeds directly into GDP was flat versus the prior month).
At face value, this is decent data for the U.S. economy. But the risk of this data is that it further emboldens the Federal Reserve to tighten monetary policy. We already have a hawkish pause in place and likely two more hikes soon . . . so what happens if the economy remains resilient, the job market continues to be robust, and inflation re-accelerates?
On the last point, you might think it is unlikely that inflation will reaccelerate given we have had some 10 months of declining CPI. For reference June of 2022 CPI printed at 8.6% Y/Y and then in July 2022 CPI came in at a cycle peak of +9.1% Y/Y, but after that, the comps decelerate rather quickly. So, there is a real probability that the Fed tightens into the toughest CPI comps and then inflation accelerates shortly thereafter as comps ease.
In fact, this is exactly what just happened in Germany yesterday. Following eight months of declining CPI, in June Germany's preliminary CPI accelerated to +6.8% Y/Y from +6.3% Y/Y in May. Core CPI for the Eurozone followed suit this morning accelerating to 5.4% Y/Y in June from 5.0% in May. Incidentally, within that Eurozone CPI report food, tobacco, and alcohol (three staples obviously) remained staggeringly high at 11.7% Y/Y.
Speaking of inflation, later this morning we will get the Personal Consumption Expenditures Price Index in the U.S., which is expected to rise 4.6% on a yearly basis in May. With a 25bps hike all but priced in for July, this data point will have an impact on rate inflations in the short term. Or maybe it won’t, and the Fed is just going to forge ahead . . . data be damned.
In looking at the yield curve, it certainly seems like the Treasury market is forecasting that the Fed continues to tighten into an economic slowdown. The yield curve inversion on 10s and 2s is currently at -107 basis points and on 1s and 30s the inversion is -152 basis points. Both measures are effectively at their lowest level since 1981.
The most inverted yield in a generation . . . what could go wrong?
Immediate-term Risk Range™ Signal with @Hedgeye TREND signal in brackets
UST 30yr Yield 3.77-3.93% (bearish)
UST 10yr Yield 3.66-3.90% (neutral)
UST 2yr Yield 4.62-4.95% (bullish)
High Yield (HYG) 73.93-75.06 (bearish)
SPX 4 (bearish)
NASDAQ 13,260-13,795 (bullish)
RUT 1 (bearish)
Tech (XLK) 166-174 (bullish)
Nikkei 32,415-33,996 (bullish)
VIX 13.02-18.11 (neutral)
USD 101.77-103.80 (neutral)
USD/YEN 141.20-145.56 (bullish)
Oil (WTI) 67.04-71.94 (bearish)
Gold 1 (bullish)
Copper 3.66-3.95 (bearish)
Bitcoin 25,508-31,211 (bearish)
Keep your head up and stick on the ice,
Daryl G. Jones
Director of Research
