I read your mind like an open book
You lost the fire in your eyes
You turn to me with a different look
And then it's raining, looks like it's raining
- Paul Stanley (Kiss), 1985
Monday morning. The headlines speak for themselves:
The Wall Street Journal...
"Global Markets Drop on Worries About Fed's Inflation Battle"
"US Set For Recession Next Year, Economists Predict"
"Traders Supercharge Selling of US Assets on Deepening Rate Risks"
It's rough out there as the wee hours pass. Asian stocks traded lower, European stocks would open lower as well. We see the US Ten Year Note and Thirty Year Bond are both yielding 3.25%., as is the US Two Year Note. The inversion there has been going back and forth, and may or may not exist by the time you read this. Understand that while the Two-Year/Ten Year yield spread is considered to be a mildly accurate predictor of recession, an inversion of the Thirty Year Bond by the Two Year Note is a little difficult to look at, the implication of course would be not just a period of little or stunted economic growth, but a prolonged period at that.
That said, the inversions across the spectrum are plentiful. The US Three Year Note currently pays 3.43%, the Five Year... 3.41%, and the Seven Year... 3.36%. All of them inverted against both the US Ten Year and Thirty Year. Fortunately (I guess) the spread between the yields of the US Three Month T-Bill and US Ten Year Note, which is what the Fed considers to be their most accurate predictor of recession, is nowhere near inverting, still trading this morning at about 194 bps.
Elsewhere, as the US Dollar Index has continued to strengthen, outside of some strength in agricultural commodities, the commodity complex is under some pressure. Gold is well off of Friday's highs at $1,859, while WTI Crude is trading around $118.55 per barrel. Perhaps the weakest showing by any asset class coming into Monday trade are cryptocurrencies, with Bitcoin off about 11%, trading close to $24,400, and Ethereum off close to 17%, trading at $1,231.
Apparently, crypto lending platform Celsius Networks LLC announced on Sunday that it was pausing all withdrawals, swap, and transfers between accounts due to what it termed as "extreme conditions."
We already know that May CPI printed hotter than expected. Markets already reacted to that. Now, markets react to the repercussions. US equity index futures were trading very early on Monday morning sharply lower than where they closed on Friday. S&P futures as of the time of this writing are suggesting that for the index, the intraday low of May 20th (3,810) could be tested during the regular trading session. Readers will recall that the S&P 500 very briefly dipped into textbook "bear market" territory that day (defined as 20% below most recent highs) before rallying off of that level. I saw Nasdaq futures were down 3%.
The catalyst? It would be easy to blame China going back into a higher level of Covid-related lockdown, or the war in Europe apparently going badly of late for Ukrainian forces, but this is really about markets pricing in a more aggressive FOMC than they had expected to have to. The FOMC will decide on policy this Wednesday afternoon. We already know that they have had to adjust for inflation that had not peaked in March. Futures trading in Chicago are currently pricing in a 77% probability for a 50 basis point increase being made to the target for the Fed Funds Rate at that time and a 23% likelihood of a 75 bps move.
Beyond that, these markets now suggest a 67% probability of a 75 bps hike (or greater) on July 27th, and given that there is a 75 bps hike either this week or in July, another 50 bps hike is priced in for September 21st. Putting it plainly, futures markets are now pricing in a 79% likelihood of 175 bps in total increases being made to the FFR over the next three policy meetings.
Meanwhile, In Atlanta
In response to almost constantly weakening economic data, the Atlanta Fed's GDPNow model took it's real-time snapshot for current quarter US GDP down to +0.9% (q/q SAAR) last week. This, you'll recall, comes after the US economy actually contracted (-1.5%) in the first quarter. This number, left unchanged, would leave the US economy smaller for the first half than it was at the start of the year. So much for all of those genius economists that told you a "recession" just wasn't in the data. We have been telling you here for months that we were skating on thin ice.
Atlanta will adjust the model this week on Wednesday for May Retail Sales and May Import and Export Prices. The model will again be adjusted on Thursday for May Housing Starts. While crushing demand through increased interest rates appears to be the plan, as I have offered up many times now, it does nothing to alleviate scarcity induced spikes in consumer pricing. Tighter monetary conditions can not make the Chinese, Ukrainian and Russian economies function close to normally.
The part of this inflation directly tied to US policy mistakes, have been created through extremely sloppy fiscal policy (over the past three administrations) and a number of missteps in early 2021 that handicapped the US domestic energy industry. While it could take a couple of years to get energy production back on track and we are certainly unsure as a nation about how much we want that, the Fed could move more aggressively to tighten monetary conditions without acting more sharply than markets anticipate in regard to short-term rates. As Cleveland Fed Pres. Loretta Mester and as recently as Friday, our own Doug Kass have said, the Fed could "sell" as well as let "roll off" mortgage backed securities.
Would markets take that well? Are they taking what we're doing now very well? We all know that mortgage backed securities should not have been purchased by the Fed after January-ish 2021 as it had already become obvious that this market needed absolutely no artificial life support. Mortgage backed securities don't really belong on a central bank balance sheet, except in a crisis. That crisis ended a long time ago. This would be one way to accelerate the excess liquidity vacuum without impacting or at least not greatly impacting small business (Main Street) credit conditions.
The S&P 500 gave up 2.91% on Friday to close down 5.05% for the week. The S&P 500 went out down 18.16% for 2022. The Nasdaq Composite was beaten for 3.52% on Friday and 5.6% for the week. The Composite closed on Friday down 27.52% year to date and an even 30% below the highs of last November. The Dow Transports, which are considered by many to be more sensitive to slowing or contracting economic activity, lost 7.45% last week.
Though WTI Crude futures do appear to be reacting to a stronger dollar and a technically overbought condition this morning, the light, sweet stuff went out on Friday threatening to break out further past the area that had been stiff resistance from 2011 through 2014.
Remember, even when the US economy had been energy independent as recently as a few years ago, that was on a "net" basis. The crude that can be drilled here at home is too light and clean to be refined easily into diesel and diesel is what makes the economy hum.
All 11 S&P sector-select SPDR ETFs closed down for the five days last week. Three of the 11 closed down more than 6%, led lower by the Financials (XLF) and Technology (XLK) . Those two were down 6.71% and 6.36%, respectively. The banks were down on the obvious... looming recession and collapsing prospects for net interest income. Tech took a broad beating as the Philadelphia Semiconductor Index gave up 7.53%, and the Dow Jones US Software Index backed up 6.15%. Tech large-cap beatings were suffered for the week by Applied Materials (AMAT) , Advanced Micro Devices (AMD) and Micron (MU) , from the semiconductor space. Those three were down 11.38%, 10.8% and 10.47%, respectively. On the software side, Zendesk (ZEN) gave up 27.63% and DocuSign (DOCU) gave up 21.31%.
While you have been punched in the nose, and you are about to be punched in the nose once again... that you can take what these markets give you. Investing has been difficult. The trading was excellent from May 26th until last Thursday when the 21 day EMA broke across nearly all indexes. We had an eight day period where markets were stable and it was very difficult to lose money. That was the environment.
Now, we reset. As long as we stay "cashy" and wait for these markets to tell us where they are going, we can provide, as long as we are happy hitting singles. Do not extend risk if your spider sense is tingling. Is it as simple as that? Not really, but you can not make up what has been lost in one at-bat. Take your time. Wait for your pitch. Trade what you know best. Baby steps. You know the deal...
Consider this to be your five paragraph order for surviving this market environment. I consider this to be my five paragraph order for surviving and at times thriving in this life. So can you.
Economics (All Times Eastern)
No significant domestic macroeconomic data-points scheduled for release.
The Fed (All Times Eastern)
Fed Blackout Period.
Today's Earnings Highlight (Consensus EPS Expectations)
After the Close: (ORCL) (1.38)
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