It’s safe to say market participants (call them “April fools”, maybe) were more than willing to latch onto an inflection in Chinese manufacturing PMIs and a better-than-expected ISM print stateside in the course of piling into global equities to start Q2.
Never mind further signs of weakness in the euro-area economy and really, let’s just go ahead and sweep any and all other concerns under the rug straight away while we’re at it.
Remember that mammoth bond rally predicated on growth concerns and exacerbated by positioning adjustments? Maybe you and I do, but a lot of people apparently don’t, because what started out as “profit-taking” by Japanese investors eventually morphed into the biggest selloff in US Treasurys since January, with 10-year yields popping nearly 10bps to ~2.50.
Meanwhile, that 3M/10Y inversion is history, and we’re now back to where we were prior to the March Fed.
Oh, and if you’re into meaningless lines, here’s a “golden cross” for you:
Is the kind of euphoria we saw on Monday justified? Well, that’s debatable. It would be pretty contradictory of us (and of anybody else, for that matter) to spend the last two months expounding on just how critical China is for the global cycle (see here for example) only to turn around and suggest that when critical PMI data comes in ahead of estimates, folks shouldn’t celebrate.
That said, between the ridiculous rally in China and the follow-through across European and US equities, it would certainly appear that at least some of you are getting a bit ahead of yourselves – especially considering that not all of the data to cross on the first day of the new quarter was what what one might call “encouraging”.
Further, there’s a sense in which a mere “stabilization” in China (as opposed to the kind of convincing inflection that would help put to bed fears of a global slowdown once and for all, especially to the extent it would help drag the German economy out of the doldrums) is actually bad news, as it could encourage Beijing to take a muddle-through approach, eschewing the kind of broad-based stimulus push that would get the global reflation narrative back on track in earnest in favor of piecemeal, “targeted” measures that lack “oomph”. That could be especially true in the event onshore equities continue to power higher, raising the risk that pumping more liquidity into the system could inflate another bubble, à la 2015.
Whatever the case, remember that volatility can never completely disappear. Last week’s spike in rates vol. notwithstanding, cross-asset vol. has collapsed in the new year, but that’s been accompanied by heightened political turmoil. This is something we talked about two weekends ago in the context of what, at the time, was the latest note from Deutsche Bank’s Aleksandar Kocic.
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Deutsche’s Kocic: ‘In The Current Paradigm, Calm Markets Cause Volatile Politics’
He revisited that in his latest. “The less growth there is, the more the economy will function as a zero-sum game, and the more it will be about redistribution and regulation”, he writes. No longer will investors have the option of employing high leverage at opportune times in an effort to bridge the gap between profits and liabilities.
“This will be positive as it will prevent future blowups and crises [but] it will expose [investors] to non-decreasing liabilities and force more aggressive savings, which in turn would reduce consumption and ultimately stifle growth”, he goes on to say.
The business cycle, as we’ve known it in the past, may no longer exist –  no more big and ‘frequent’ amplitudes, but more like undulations around a flat line. If that’s the case, conversations about curve inversion and recession may be largely meaningless. There are no more recessions in the traditional sense. Just more or less of stagnation.
Here’s how Kocic puts it:
In the face of declining uncertainties, it is logical that risk premia remain subdued. Consequently, a flat or inverted curve should be possible without necessarily raising alarms. Inversion could become commonplace in economic environments of slow growth and rising long-term liabilities. Such an environment is suggestive of a shallow business cycle and lower economic volatility.
But again, volatility has to go somewhere – it is never extinguished altogether. So, if it’s not showing up the economy and it’s not manifesting itself in markets, where is it?
Well, in an environment of stagnant growth where the proverbial “pie” never gets bigger, the entire calculus boils down to redistribution math. Enter politics, volatility’s new home.
We’ll leave you with one last quote from Kocic:
The more redistribution gravitates towards the egalitarian and the more regulations are introduced, the more opposition it will encounter and the higher political entropy will be.
Excellent Post! Are the proverbial fools rushing in where angels fear to tread? Time will tell…
Each of the analysts chosen on this blog has a particular unique focus and there is a distinct rotation in who is more correct at a given point in time. Will have to contemplate on that!!!
This concept makes sense to me. It reminds of some principles that might be found un-natural population dynamics with hints of the conservation of energy, whirlpools without vortex, the mythology of flat frequency response, and pampas. I commend the author for sharing his unique knowledge and style, as well as his well played quotes of other smart well written people for amplification. Good grief what a pleasure it is.
The post makes sense. For awhile currency markets were the shock absorbers for markets. Now this piece suggests that politics provides the pressure release valve. Except in this model it is probably more accurate to say that political systems are not up to the challenge, and thus add to the volatility.