Sell these bear market bounces. After this morning's awful CPI print, the market posted a late-morning reversal. Don't be fooled into thinking this means "somebody knows something." It doesn't.
In this market, as William Goldman wrote about Hollywood, nobody knows anything. Least of all Powell and Yellen, the Tweedledum and Tweedledee of the political economy. This is just a normal market churn into an economy that is experiencing the ultimate abnormality - once-a-generation inflation. Aside from energy there is just nothing attractive about US stocks in the current economic environment.
Bloomberg posted a great chart yesterday, and its bearish title was confirmed after this morning's yet-again plunge on the S&P 500 after a higher-than-expected reading on September's Consumer Price Index, as reported by the US Bureau of Labor Statistics. The problem in the minds of the "disruption"-addled know-it-alls who foist stocks on unsuspecting US retail investors is that they never notice that the US bond market is crashing too.
Calculus is easy. The Bloomberg chart used the methodology of subtracting the yield on the US Treasury note with a maturity of two years from the yield offered by the S&P 500. That calculation was positive for about a decade after the recovery from '09 because central banks artificially lowered interest rates. This was done via the process of Quantitative Easing, or Central Banks buying bonds issued by their corresponding governments.
Central bank bond-buying combined with incredible balance sheet expansion by those same banks created an environment in which global economies were awash with cash. More money equals more demand, and if supply is arrested - Covid lockdowns, Putin's actions in Ukraine, semiconductor shortage - the cost of money should rise. The cost of money is reflected as interest rates, and, indeed, they are skyrocketing.
What happens is that investors refuse to pay the "inflation tax" that is implied when stock yields are lower than bond yields. Inflation is already hurting corporate profits, and the Q3 earnings season, which begins in earnest tomorrow with Big Bank earnings, is likely to be a torrent of woe-is-me profit warnings. That makes equities even less attractive, at the margin.
So, the question becomes...What happens if it gets worse? Consumer inflation ran at an 8.2% annualized pace in the US in September, but that number was hugely flattened by lower gasoline prices. The decision by OPEC+ to lower production by 2M barrels per day puts an end to that dynamic.
If you run a balanced mutual fund, you can now realize a 4.51% annualized yield on a two-year Treasury note or suffer through the paltry 1.70% yield offered by the S&P 500. So, bonds become relatively more attractive, but the problem is that as the yield curve lengthens one could always get caught with buyer's remorse. If the choice is to own a US treasury note that has another 5%-10% based on potential increases or an awful performer that doesn't pay a dividend like Tesla (TSLA) or Meta Platforms (META) , bonds become the lesser of two evils, but it always makes sense to wait for lower prices. The bond market continues to offer those.
Trade accordingly.
