If you’re looking to impress your friends at a cocktail party (and I hear those are a thing again, as long as you’ve got your vaccination card), tell everyone April has been defined by “reverse dispersion.”
“What do you hear about the markets, John,” she asked, sipping some chilled Cointreau cliché and feigning refinement.
“Well — I’m sorry what was your name again? — right, Carol. Well, Carol, this month was all about reverse dispersion,” you’ll respond, hopefully over the brim of a simple rocks glass with something ludicrously expensive and brown in it.
By “reverse dispersion,” we just mean that very much contrary to the post-election/Q1 pro-cyclical trade and attendant bond selloff, Q2 kicked off with a reversal, as the bond rout eased allowing secular growth to find its footing and duration to once again lord it over reflation. The figure (below) is far simpler than other, more “accurate” ways to illustrate the dynamic, but it’s also far more accessible for everyday folks.
This is “utterly contra- to the November 2020-March 2021 theme of ‘reflation over duration,’ with the attempted slow unwind of nearly a decade’s worth of legacy ‘Everything Duration’ thematic within US Equities,” Nomura’s Charlie McElligott remarked, in a Wednesday note.
Growth factors may be up 3% or more and cyclical value off by around that much in April, but as Charlie went on to remind folks, the Cyclical Value Factor “remains up a remarkable 29.0% in 2021, while the ‘Secular Growth Factor’ is -2.5%, as bond proxies struggle.”
EPFR data shows a record nine-week inflow into value shares (figure, from BofA, below).
From a sequencing perspective, things are relatively straightforward — or at least that’s the way it seems. Irrespective of this month’s “counterintuitive” action across bonds and equities, the simple inevitability of blockbuster data and the notion that the bear steepener remains “the path of least resistance,” as Charlie put it, means there should “remain a macro-catalyst tailwind behind economically-sensitive ‘Cyclical Value’ [given the] upcoming period of ‘peak base-effect.'”
The assumption is that will coincide with something like herd immunity. It could be hard to lean against that from a sector- / thematic- perspective in equities. “Priced in” or not, it may be too early to get aggressive about fading the reflation theme, especially given likely legislative progress towards infrastructure by the end of July.
Ironically — given that summer is when the US is seen hitting “peak boom,” if you will — markets may be most at risk just as the economy is putting up some of the best numbers on record. In other words, enjoy it, because we could be headed for one of the most dramatic “good news is suddenly bad news” dynamics ever witnessed.
That’s probably too hyperbolic, but at some point, the Fed will at least need to admit that the economy is on fire. They can add as many caveats as they like, but if the labor market ends up recouping, say, half of the remaining slack by July, policymakers will need to recognize that. That’s when tantrum risk creeps in.
For their part, Nomura’s sequencing sees tapering discussions starting to “intensify” in June, and showing up in the June/July minutes. Jackson Hole may be an opportunity for Fed officials to explicitly convey that they’re seeing “substantial further progress.” In September, the statement language could be tweaked to acknowledge such progress is likely to be achieved “in coming months.” In December, a taper announcement is possible.
On Wednesday, McElligott called the summer “risky” in that regard. “The Fed will likely be forced to acknowledge the data overshoot and begin the ‘taper’ discussion as the first step in removing pandemic ’emergency liquidity,'” he said. “That will likely merit a number of ‘risk off’ gyrations between now and then.”