An Expansion So Nice It Hit Its Prime Twice
So, the low amplitude trajectory of the recovery that everyone has ubiquitously and ceaselessly begrudged is now bearing fruit on the back end in the form of the 2nd longest expansion ever and, more recently, the longest stretch of accelerating Y/Y growth ever – a reality made all the more remarkable given it occurred 9 years into the expansion.
And with POTUS pixie dusting the cycle with unprecedented late-cycle, debt-funded fiscal stimulus, the domestic cycle looks set to extend its forever young Neverland expedition at the same time that Global Divergences look set to drive significant swaths of DM and EM growth into protracted, harmonized deceleration.
Peter Pan Syndrome
As we’ve detailed extensively, the Peter Pan cycle dynamic represents a kind of Faustian quandary for investors as the benefits of a continued domestic expansion accrue largely to assets that consensus has ostensibly been accumulating positions against for the last 2 years.
In other words: Rising inflation/inflation expectations drives both policy expectations and real/nominal yields higher which drives rate differentials to all-time highs at the same time that the relative growth outlook for the U.S. looks increasingly favorable
… and all that against a consensus Fx backdrop that is explicitly or implicitly positioned for some version of the opposite – which, in turn, raises the probability of a self-reinforcing dynamic whereby rising inflation (expectations) drives yields higher which further supports the dollar in reflexive fashion as two-years of cumulative (Global Growth/Low Vol/Weak Dollar/Carry Trade) flows are forced to reverse.
When The Pixie Dust Settles …..
This has all played out conspicuously already across Carry Trade vehicles and the weakest EM hands (Argentina, Indonesia, Turkey) as country specific risk collided with negatively shifting macro Fx/Rates dynamics. The risk is that the prevailing dynamics persist and the effects metastasize up the EM quality hierarchy, propagating indiscriminate and reflexive price action in the associated assets.
This all matters, of course, because domestic inflation sits as a fulcrum factor in the dynamic described above and, continuing with tomorrow’s April CPI report, domestic inflation looks set to continue accelerating into 3Q18, at least.
Powell et al. have proactively attempted to moderate expectations around the Fed reaction function by introducing the “symmetrical inflation target” language in the latest meeting but a rhetorical nod to emerging conditions probably isn’t enough to short-circuit the price implications of rising U.S. vs OUS price and growth divergences.
Stagflation, Anyone Want the Over? ....
With all that as pretext, I just wanted to highlight some fledgling stagflationary developments across a rash of the latest high frequency domestic macro data. Again, our outlook for 2Q18 (and 3Q, pending) is QUAD 3 which is characterized by slowing growth and accelerating inflation.
Bullet highlights below, visuals following:
- ISM: New Orders ↓, Prices Paid ↑
- Fed Regional Survey’s: New Orders ↓, Prices Paid ↑
- NFIB: Headline & Forward Expectations ↓, Compensation Costs ↑
- JOLTS: Available workers per job opening made a new all-time low in March. The implication being that increasing labor scarcity augurs further labor cost pressure and curtails output growth, at the margin.
To be clear, stagflation is not a defining market dynamic or acute risk, yet, but it’s one worth pulling a bit closer to the center of the probability distribution as headline/core/wage inflation all continue to accelerate nearer-term and the U.S. stares down the stagflationary barrel of Quad 3 in 2Q/3Q18 .... and as peak margins and peak profit cycle comps converge with slowing growth and rising input and labor costs. Stagflation doesn't get a multiple.
