Amateur Meteorology Replaces Hope As The New Bullish Strategy — What Fixed Income, Currency & Commodity Markets Are Telling Us
Volatility continues to reign supreme despite growing optimism that a warm winter will accompany the holidays. Diverging volatility metrics and rallying stock and bond prices can’t go on forever and I expect retail sales data next week to move the bears back into pole position. The volatility risk premium is pointing to a range-bound market over the next few days, while my technical reading of key stocks in the S&P 500 is bearish. Yesterday's cross-asset action brought one positive factor for US stocks. The US yield curve is falling and in the current context that is bullish. Expect the S&P 500 to rise modestly over the next few days before beginning a new leg lower in December.
The stuttering rally in equities reflects less about optimism regarding profit margins and an economic soft landing than the willingness of investors to wait for the other shoe to drop in both financial and geopolitical terms. Volatile geopolitical hot spots practically equal the number of financial vulnerabilities across global Wall Street as interest rates rise and liquidity falls. The troubles at Credit Suisse make the news more often than undercapitalized futures markets or illiquid bond markets, but all are equal fat tail risks. The Fed knowingly risks igniting these capital bombs as it watches disinflation set in too slowly.
These risks redound to equity and bond volatility, which remain elevated despite the recent bear market rallies. Both markets are slated to retest old lows unless we get remarkable data confirming a warm winter, strong disinflation and resilient profit margins. Absent that it will take a resilient labor market and a drop in commodity prices to solve the profit margin dilemma as costs inexorably rise but inflation cools down. On the commodity front this looks highly unlikely. Fossil fuels are diverging but in general well-behaved as we await winter in Europe and the US, while metals also largely contained within their yearly ranges as are foods and softs. As China cools and violence brews across Eurasia expect the data to indicate a hard landing and tougher climate for American firms, leading the S&P to peak around 4120.
My current positions include a large cash position, Goldman Sachs (GS), 3M (MMM), Pfizer (PFE), Starbucks (SBUX), and the ETF SPXU, all of which nets out to a large short position in equities.