It’s “tempting,” one bank says, to believe “peak Goldilocks” has come and gone.
The combination of fading inflation, nascent signs of cooler wage growth and a robust US jobs market (despite daily layoff announcements), was conducive to risk-taking in the new year.
Importantly, it’s all an extension of what began on October 13, when an upside US CPI print was accompanied by a sharp, bullish intraday market reversal. Subsequently, all concerned parties acquiesced to the idea of a ~5% terminal rate, pricing for which plateaued around a month later.
That was the period during which what we’ve come to know as the range for Fed terminal rate pricing was negotiated and established.
That process was accompanied by a decline in rates volatility and the dollar, and a rally in equities, interrupted only briefly by a difficult December. Over that same period, and as a direct result of falling rates vol, a weaker greenback and stronger stocks, financial conditions eased materially.
We might’ve seen the end of that mini-regime with the January US jobs report, BofA’s Michael Hartnett suspects. “[The] October 12 to February 3 rally was driven by easier financial conditions. The probabilities of hard landing, soft landing and no landing have shifted we would guess,” he wrote, assigning subjective odds as follows:
- Oct 12th (blowout CPI): Hard landing 40%, soft landing 60%, no landing 0%
- Feb 3rd (blowout payroll): Hard landing 10%, soft landing 60%, no landing 30%
This week, equities wavered, yields rose+ and terminal rate pricing reset meaningfully higher, as traders pondered labor market resilience and amid Fed banter suggesting the peak for rates might need to be higher than previously expected.
“So, it’s very tempting to see the February 3 blockbuster payroll [print] as the peak ‘no landing,’ peak Goldilocks moment [that] financial conditions flipped from easing to tightening,” Hartnett went on to say.
Obviously, much hinges on next week. Hartnett called the CPI report “vital.” If the core print is 0.2% or 0.3%, then CPI is on track to be sub-4% by summer, which would mean the “pain trade up continues,” he wrote, before cautioning that a MoM print hotter than 0.4% could push 10-year US yields back towards 4%.
“Note [that] Fed liquidity declined $600 billion between November 2021 and October 2022, but since October, liquidity surprised up by $350 billion until January 18,” Hartnett continued. Since mid-January, it’s “contracted sharply.”
BofA is sticking with the notion that S&P 4,200 or above should be faded. The big picture view hasn’t changed, Hartnett contends. He reiterated that view in equations, as is his wont: “Secular inflation (= higher rates and volatility) + the end of the QE era (Fed bought $7.5 trillion since Lehman) + the end of the US buybacks era (corporations bought $7.7 trillion since Lehman) + our expectation of ‘no landing’ in H1 2023 leading to ‘hard landing’ in H2 2023, keeps us bearish.”
Ultimately, the bank is “convinced” that the secular story is “lower expected returns for stocks and corporate bonds, as well as relative underperformance of US assets versus the rest of the world.”
I hope all these bearish analysts and banks are right. I would love one more pullback before the generative AI bubble kicks off in earnest. Obviously some of the big tech names are already up big in the last two months, but I’d love to open up a significant position in companies that will help build the infrastructure to support the massive increase in computing power required for generative AI. Nvidia has already doubled from its low in October and AMD is up quite a bit as well. Heck, maybe Intel can even get their act together given that this will be an all-hands on deck effort to supply the processing power that will be needed.
Given all that, I hope Powell gives tech one more big scare because we might already be seeing the impact to the tech market of the potential that generative AI has. Rates are probably still the primary driver, but we will be seeing a new driver take the wheel soon if it hasn’t already.
Thanks for Saturday morning tongue-in-cheek humor.
Be careful what you wish for. Studies have already demonstrated that an AI system can be hacked by changing the order in which training data is fed to it. Cybersecurity experts have only a glimmer of the security vulnerabilities in AI systems and little to no idea how to mitigate those threats.
No doubt this will have massive implications for society that we have barely begun to understand, but the genie is out of the bottle. Companies and governments are plowing full speed ahead because this is happening fast and no one wants to be left behind. Markets will respond accordingly.
Neal Stephenson had a pretty good idea when he penned “Snow Crash” and it wasn’t pretty. Remember auto-correct is AI and we all know how that works. Once and a while it can be stubborn and refuse to write what you want. Imagine stubborn, contrary AI in your car’s computer.
I’m enjoying the AI art platform H is using.
Not convinced it will be earthshaking in other realms.
2yr went from 4% to 4.50% in a very short span. Market is tense and fragile. For an I vector the best policy is to stay diversified and be conservative with risk.