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McElligott, Kolanovic And The ‘Max Pain’ Trade
For Nomura's Charlie McElligott, this is all very simple - and also very repetitive.
"Stop me if you've heard this before", he half-quips, on Thursday, describing the current market mode, which is dominated by a grinding duration rally, bull flattening in the US curve (as the short end is anchored by an "on hold" Fed), a buoyant dollar, surging gold and US equities perched near record highs thanks in part to dealers' long gamma position, which keeps things well-behaved.
A couple of weeks back,
It is not that complicated as these analysts are making it out. Is the economy slowing? If it is, cyclicals are not going to outperform until the market anticipates a recovery. Or is the reflation trade correct. If we are going to see reflation, then cyclicals should outperform. Generally speaking the US economy has been slowing since mid to late 2018. My money is that this trend is in place, especially when you see growth slowing overseas. Right now you can see this is the value of the dollar- it is up. A strong dollar is not growth friendly. If we continue to see deterioration, expect a new round of Fed easing, which will probably be too little too late to stop a recession. With any luck this will hurt the guy with the orange hair’s re-election and we can get back to the rule of law and policy decisions being made with some sense of what is good for the US rather than DJT.
Well, remember when you talk about what’s “complicated” and what isn’t, some of these notes are designed to explain tactical trades out over the next days and weeks, especially in McElligott’s case. And they’re aimed, in some cases, at people putting large amounts of money on the line on a tactical basis. So when that’s your audience, you can’t just offer up a nebulous (even if correct) 30,000 foot macro view. If I’m gonna bet millions on a tactical trade that’s only good for the next 21 days (or something), I need to know precisely what the rationale is. So, in that sense, yes, it is that complicated.
Bear steepener implies increasing inflation expectations. Dollar rise is a major dis-inflationary force in the USA and possibly deflationary force globally. Recent drop in oil is dis-inflationary due to it being an input cost in everything.
Waiting for the Germans to engage in increased Fiscal is a pipe dream. Politicians are reactive and the Germans won’t do it until Europe is in rubble. Japan is starting a major fiscal expansion, but Japan’s been doing fiscal for quite some time and it apparently hasn’t done much. Are elderly Japanese going to build those new public works projects?
Only a Bernie election will stimulate fiscal in USA. Trump re-election will pump more tax cuts for the 1%, which will help with stocks but not much else.
That’s a pretty solid assessment, right there.
Tight labor markets, less investment (productivity), and possibles constraints in supplies of some goods (in the short term) could all cause offsets or even upticks to the inflation picture.
EVERYONE is on the side of inflation falling much further. 10yrs at 1.5% (distorted as they are) are theoretically pricing in nominal GDP of 1.5% with real growth of 1% and inflation at .5%?
The point is trying to get a sense of future inflation from distorted markets is silly at best and dangerous at worst.
Stocks are not pricing in what bonds are proportedly or vice versa.
I personally believe in the US heading into a deep freeze inflation and growth falling, profits declining significantly, negative rates, and eventual MMT (inevitable) so understand why bonds on here (though ST have overshot) but for the life of me can’t reconcile stocks and bonds. The disconnect is astonishing. It will not last forever.
This morning’s market face-plant is just a warning shot. Escalators, elevators and such.