The Pandemic Of Overconfidence Meets Its Match In A Resurgence Of COVID — The Latest On The Global Economy

Xi Jinping’s mistakes are the gift that keeps giving for bearish investors who are desperate for succor as equity market rise inexorably on callow optimism. For the morning at least the bears are winning and can ruefully thank awful news about the resurgence of COVID in China for this. 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 neutral. Yesterday's cross-asset action revealed several negative factors across global asset classes. Copper is pointing to declining global GDP expectations. 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 continue consolidating but eventually shake off even COVID worries and rise toward resistance at 4300 by next week.

A stop-and-go economic dynamic finds its analogue in a US equity market that trundles higher with ever-declining breadth and ever-greater cynicism as each correction succeeds to higher highs. When investing reduces to the greater fool game the emphasis shifts to fundamentals and here the global economy offers no actionable guidance whatever. Economies that were once zombies are surging to life while those bursting with exuberance have sunk into danger zones, while monetary policy seems impotent as historical parallels evaporate. The one certainty to glean from the data is that over-leverage is haunting nation-states and individual consumers alike and the only short-term fix is a recession that forces a restructuring. If China is any indication then confidence could drop on a dime and send the US and Europe into the recession the Fed implicitly longs for.

The COVID-variant scare afflicting China dovetails with middling economic data and a sharp fall in the Shanghai stock market, which means material losses for the Chinese National Team of stock brokers who were forced to obey the Communist Party. National confidence can be expected to follow suit. The economic mix was already too skewed toward consumption and away from productive activity to give much confidence in its durability, and now the years of Xi Jinping’s moronic COVID policies are once again revealing their consequences. A Chinese failure to hit their GDP target would drop confidence around the world and satisfy not just American politicians on both sides but most importantly the Fed.

While China goes through conniptions Japan has quiety regrouped and given off a patina of resilience and dynamism. Japanese manufacturing has joined services in growing while inflation is presently well above 2%, building confidence that Abenomics is finally working to bring Japan out of a decades-long malaise. Germany, however, is showing signs of slumping along with the rest of European manufacturing sector, but simultaneously consumption of services is robust, producing a mirror image of the US but more tightly dependent on the weather and commodity energy prices. The non-US world looks more uneven and precarious and reflects an underlying decoupling of regional economies from the synchrony of globalization.

In the US the key economic story is the resilience of the housing market, defying the Fed and providing a wealth effect for households that keeps consumption up and with that wages and with that continued frustration at the Fed. Housing starts stabilized in April, sales of new homes raced higher and building permits rebounded even as a mini-banking crisis enthralled investors and real estate developers. Auto sales have held up too, indicating that interest rates have to go yet higher to bring down consumption and ensure that the Fed’s 2% inflation target can be met over the next 24 months. This is what the Fed has long said and it’s only a matter of time before the equity market stops trundling and begins to listen, with deleterious effects on valuations.

My current positions include a large cash position, 3M (MMM), Pfizer (PFE), the levered ETF UPRO and inverse levered ETF SPXU, all of which net out to a neutral position in equities.