The market continues to trade erratically. Not only do we continue to see daily swings of 1% or more, the direction of those swings changes on a dime. Even more difficult for investors and especially for total return managers is that expectations for yields shifts just as rapidly.
One day, lower yields are good for stocks (we get belief a soft landing is possible), but the next day, low yields are a negative for stocks (we get more recession fears).
What do I expect will happen? I see the consensus as a mild recession late this year or early next year.
In the past week or two, the concept of a soft landing is gaining some traction. Signs that inflation could be diminishing are providing hope the Fed can take its foot off the brake sooner than feared. Canada hiked by a percentage point, but consensus is that the Fed will "only" do three-quarters of a percentage point, furthering the soft landing case. Finally, there has even been some chatter that the Fed will slow down their quantitative tightening, which would also be helpful for markets.
On the flipside, many are worried that housing has deteriorated too rapidly as we are seeing weak data on housing. We also have concerns that the entire economy -- from investors to corporations -- is too leveraged to interest rates and that the impact of higher rates will be felt more quickly and more painfully than in prior tightening cycles. Also, many people have had moratoriums on payments such as student loans that they will likely have to start paying back. Finally, the job market seems to have slowed, with more headlines about layoffs than about the inability to hire workers. So this group thinks the economic conditions are worse and that the recession will be deeper and start sooner. I am in this camp right now, until I see the Fed and other central banks change their mind and decide that while inflation is bad, job losses and a recession are far worse. We have not seen that mindset shift yet.
Then we have earnings and earnings calls and all the dire reports. I expect earnings and, more importantly, earnings calls, to drag sentiment down. CEOs have a free pass to discuss potential problems in the economy, whether it is ongoing supply chain woes, high inflation, the inability to hire -- or rising interest rates. These chief executives now have plenty of reasons to guide expectations lower. Be assured that the tone of most earnings calls will be slightly negative, which is what I think will take risky assets to new lows. The tone will in effect keep yields relatively stable at the long end, despite ongoing rate hikes.
Also, liquidity is awful across every market. I spent 10 minutes listening to a trader lament the lack of liquidity in T-Bills. That is not something I've heard before.
My Positioning
My current positioning is to be moderately bearish on risk. I am not taking aggressive positions, because the volatility is too high.
Overall, I sell rallies, and buy dips. In small sizes, so I can buy or sell more, but all within the context of being positioned neutral to mid-size bearish.
Within sectors, I'm trading the same way. Rather than piling on to trends, I trim positions as they go up and add as they go down. With recent volatility, there has been a lot of ability to do this in a wide variety of sectors, including those I mentioned last week.
I am comfortable in rates and continue to add to closed end muni funds, despite being close to my maximum allocation to the space. I am basically selling some corporate credit risk to add to closed end municipal funds here.
The two things that could change my mind are earnings going much better than I expect or the Fed to really start turning dovish. I will have more on the Fed as we get closer to the meeting, but they are in a quiet period and the market is convinced, as am I, that the possibility of a three-quarter point rate hike is likely.
