A Goldilocks Recession Sounds About Right To The Bulls While Others Hear An Oxymoron — What Fixed Income, Currency & Commodity Markets Are Telling Us
A Fed-induced dampening of the global economy that brings interest rates sharply lower and unemployment just marginally higher is precisely what lights the Bulls’ fire, as nothing short of that goldilocks scenario can justify current valuations and expectations for double digit earnings growth next year. While the rest of global Wall Street voices pessimism even the Bulls are divided into those who earnestly believe it and those simply renting equities to play along. With volume light it’s clear the bulls have control without conviction. Markets are set to grind higher as the volatility risk premium points to a higher market over the next few days, but my technical reading of key stocks in the S&P 500 is neutral. 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. Inflation expectations are rising based on measures of Treasuries and TIPS. Expect the S&P 500 to rise modestly to 4210 and then return to earth in a flame-out.
Investors are gaming the global economy, betting without conviction that markets will go higher and help normalize the geopolitical and macroeconomic environment which in turn makes it possible for markets to go higher. Only the bears feel immune to such circular nonsense but their conviction drops with every move higher. Yesterday’s mini-breakout in both small and large US stocks will likely convert yet more bears to the absurdist bullish camp.
Were disinflation happening quickly it’s remotely conceivable corporations could do a better job of managing sales and margins than recent history attests, and give substance to the optimistic expectations for 2024 earnings growth. But both the data and consumer sentiment polls indicate that inflation is still well above 2% while real economic growth is slowing everywhere but the US. This dichotomy plays out precisely in the commodity and currency markets and their divergence from US large cap equities.
Oil, distillates and other fuels fell sharply into the Spring and have since rallied modestly, setting up for an eventual retest of the lows. Gold and other precious metals are threatening to break down but will likely find a bottom soon and consolidate, while industrials already broke down and indicate global economic weakness, their recent rallies notwithstanding. Foods and softs are mixed, and the commodity complex as a whole indicates that disinflation is baked in but slow, while global growth is increasingly at risk.
Meanwhile the fixed income markets forecast both recession and moderate disinflation, and the currency markets now forecast global weakness but relative US strength, while equity markets look through 2023 to the eventual recovery in 2024. The 3-1 advantage of pessimists to optimisms can only play out to the downside as geopolitical risks increase with every unsatisfactory election, dysfunctional political fight, war and war-mongering. Expect reality to finally hit the equity markets as Spring welcomes Summer.
My current positions include a moderately large cash position, 3M (MMM), Pfizer (PFE), the levered ETF UPRO and inverse levered ETF SPXU, all of which net out to a significant long position in large-cap equities.