The Latest On The Global Economy: The R Word Is Now On Everybody’s Lips

Exorbitant risks are starting to chafe the privileges the US equity market has enjoyed as a safe haven in a scary world. I see the rally of the last few weeks stalling out and a new leg down by mid-April. The volatility risk premium points to a higher market over the next few days (though volume may be light since the VRP could easily reverse and catch investors offside), while my technical reading of key stocks in the S&P 500 is bullish. But I see the charts reversing as there are several negative factors across global asset classes. The action in currencies signifies $US strength. The US yield curve is rising and in the current context that is bearish. Expect the S&P 500 to be range-bound over the next few days before falling to new lows as spring gets underway.

Equity markets are starting to price in the risks of China slowing dramatically, Europe going into recession, the Fed contradicting its long held stance that disinflationary trends merit low nominal interest rates, and the war in Ukraine extending for so long that globalization starts reversing. With all these negatives the bulls are effectively banking on 9% profit growth and ready cash in the hands of firms and the middle class consumer, both of which crumble if the risks above materialize. The bulls are bound to lose heart simply by doing the above calculus and contemplating dovish Fed Governor Lael Brainard’s damascene conversion to the inflationista camp. Just as the markets overshot on the first days of the year despite the geopolitical warnings from Biden, so too the markets will overshoot to the downside and pull the US economy into a recession in all but name only.

Key is China, as it holds a key geopolitical card and is fighting two domestic battles with questionable strategies. Were China to follow the strong comments made by its UN ambassador regarding Russian atrocities, that would likely lead Putin to rethink his confidence in his people’s solidarity and move him to restrain his military further, receding the Ukraine war into a less violent conflict zone. But at the same time China has to fix its domestic confidence issues that center around bad financial policies and even worse COVID policies. Confidence is nearing a precipice as the Caixin service and composite PMI were weaker than expected, with the services PMI falling to 42 from 50. Yet instead of changing policies to jump start confidence the Communist Party is putting its biggest city into a bizarre lockdown. I see something changing in China and until that golden moment occurs equity markets will be under pressure.

Similarly Europe is at risk of recession for a host of obvious reasons. The engine of Europe is Germany and recently a group of official advisory economists cut the year's growth forecast to 1.8% from 4.6%, warning of possible recession. Elsewhere across Europe the final eurozone PMI readings were mixed. Like dominos the problems in Eurasia are spreading West and will hit the US economy, since our natural growth rate is only 2% anyways.

My current positions include a large cash position, Goldman Sachs (GS), 3M (MMM), Pfizer (PFE), Starbucks (SBUX), Titan Machinery (TITN) and the levered ETF UPRO.