“It’s The 70s, 2010s, 1920s, And 1930s All In One Toxic Cocktail”

By Michael Every of Rabobank

Careful, Not Careless Whispers

The last few Global Dailies have again been pleading for some depth in markets analysis. Instead, we get new bean-counting shallowness. As Bart Simpson says proudly in an early episode when the show was still funny, “You can’t make me learn.” No, I can’t. As a more lexical, Lisa Simpson, lyrical reader noted to me, what we get is, “Botox city without seeing the melanoma”.

In line with such epidermal ‘Don’t worry, it’s a beauty spot!’ thinking, yesterday saw another whisper that a Fed pivot looms, because it’s been weeks since the last one, so it’s now time to try the same self-serving strategy again. Yet this iteration was not just bad data- or stocks-driven. Rather, there are worries the entire Treasury market is looking so fragile –or so ‘Gilts’– that intervention will be needed: if so, who’s the moron now?

One other potential explanation for US yields being down sharply, and the curve flatter was the slump in China’s currency, which is deflationary, alongside a bounce in US-listed China tech stocks. By squinting, some saw the pre-2016 world where China makes cheap stuff for the West and its tech stocks soar. Yet both trends have run their political course, as the Financial Times talks about China’s rich fleeing; and CNY rallied anyway as the US dollar stumbled “because pivot”.

Yet as the Greenback dropped, oil went up. So did gold. So did Bitcoin. So did Botox. Worse, the Saudis publicly chided the White House for using its Strategic Petroleum Reserve (SPR) to try to manipulate oil markets, warning this won’t end well once it’s gone – and it’s nearly gone. Said Saudi allegation is deeply unfair to this administration: surely the SPR is being used to try to manipulate the midterm elections? It’s not working, given the recent opinion polls – but then the SPR has that in common with the ability to keep long-run inflation low too given where 2023 forecasts mostly sit. Far more so if the Fed decide to shout, “Burns, Baby, Burns!” and commodity markets go disco inferno.

I repeat for the umpteenth time, what we saw alongside lower yields yesterday is a clear signal that were the Fed to pivot, it would be repeating exactly the 70’s errors it claims it fears most. But, hey, markets gonna market to try to make year-end return targets starting from deeply underwater positions.

If you want another Fed whisper, try Harald Malmgren – but you won’t like it half as much as the one you are clinging to now. He recently shared that after talks with his extensive contacts, he thinks that in early 2023, the Fed is going to start floating a trial balloon to shift the CPI target to 3-4% rather than 2%(!)

Look for Fed in coming months to suggest that the long standing 2% “normal” inflation target should be “realisticaly set in the 3% to 4% range” https://t.co/rYtl1nAGIH

— Harald Malmgren (@Halsrethink) October 25, 2022

Way to financially repress, if so: way to get debt levels down; and stocks up; and to see the dollar tumble; and commodity prices soar; and inflation become entrenched. Do you still want to be bidding up bonds if so? Only if the Fed is doing QE to buy them off you, BOJ-style, as some are saying sotto voce. In which case, it’s my “Rate hikes + QE” T-shirts again; and “DM = EM” ones; and “USD = JPY”; and it’s the 70s, 2010s, 1920s, and 1930s all in one toxic cocktail. Bottoms up!

I’m not saying believe this whisper: I am saying if you are going to trade off the back of them, then don’t only choose ones that –purely coincidentally!– suit your short-term portfolio positioning into end-year if you have been so, so wrong so far.

As a further example, consider the Ukraine war. There were lots of urgent whispers, and desperate cries, ahead of 24 February that this could/would happen. Mr. Market was having none of it.

Late last night, Polish President Duda reportedly organised an urgent meeting between himself, PM Morawiekci, Defence Minister Blaszczak, Interior Minister Kaminksi, and the top generals of the Polish army. The whispers are of a potential threat from Russian Kaliningrad to the Suwalki gap, cutting off the Baltics from the rest of the EU. Norway is also stepping up military preparedness near Svalbard.

Does it make any military sense for an over-stretched, under-performing Russian army to start a new front against a NATO member? None. But neither did invading Ukraine, and here we are.

This further action would be madness – unless Russia, after floating the idea of a dirty bomb in typical projecting fashion, just saw Progressive Democrats pen (then withdraw) a letter calling for urgent negotiations to end the war, matching the sentiment from one wing of the Republican party, and thinks further threats of escalation will be met by Western retreat. In that case, such escalate-to-deescalate lunacy would potentially be rational. Or the West is looking to declare war on nuked-up Russia, “because imperialism”, if you are into that kind of thing.

Again, just a thought based on a whisper – but I listen to lots of whispers, rather than just one. I am deliberately careful to do so.

Now for a pivot to Australia, where the RBA this week, tragicomically, spoke of a “secret” piece of modelling suggesting that house prices could fall 20% from their peak. I say tragicomic because the market is already well past that level of decline in some pockets, and this is ‘secret’ in the same way I am actually James Bond – anyone with a brain could see the risks as rates rise. 20% would only undo the Covid boom – not the larger explosive ‘boom!’ from rising mortgage rates.

Against that backdrop, Aussie CPI data out this morning came in, you guessed it, hotter than expected. Oops. Q3 was up 1.8% q-o-q vs. 1.6% consensus and 7.3% vs. 7.0% y-o-y; the trimmed mean measure was 1.8% q-o-q vs. 1.5% expected, and 6.1% y-o-y vs. 5.1%; and the weighted median was 1.4% vs. 1.5% q-o-q and 5.0% vs. 4.8% y-o-y. The new September numbers, as the market starts to adjust to getting monthly data too, were up 7.3% y-o-y headline (vs. 7.1% consensus) and 6.8% core, with no consensus – and no m-o-m print for either measure because this is still too much of a logistical challenge for the ABS.

Either expect the RBA to focus on the q-o-q weighted median much more going forwards, or further “secret” whispers to start of how one might hypothetically intervene in the mortgage market if one were to hypothetically have to. In which case, more “Rate hikes + QE” T-shirts; and “DM = EM” ones; and “AUD = JPY”.