It’ll probably take a recession to restore price stability.

That’s according to JPMorgan analysts led by Marko Kolanovic who, in a Monday afternoon note, suggested that “most” of the economic drag from last year’s Fed tightening still lies ahead.

The US economy, and particularly the labor market, has so far managed to shrug off 500bps of rate hikes from Jerome Powell. Indeed, even rate-sensitive housing appears to be on the mend. But according to Kolanovic, recession is merely delayed, not averted.

He was also keen to emphasize that in JPMorgan’s view, positioning isn’t bearish. “With the recent decline in market volatility, investor positioning has increased substantially,” he wrote. That’s certainly true in systematics, and has been for a while.

Kolanovic zoomed in on the ostensible spec short in S&P futures, which was anyway trimmed as of the latest update. Long story short (no pun intended), JPMorgan thinks the visual shown below is misleading. I suggested the same a few weeks back.

“First, we find that non-commercial (speculative) futures positioning correlates negatively with order flow, which indicates that these short speculative futures positions are fulfilling a liquidity function and liquidity seekers are actually buying,” Kolanovic wrote. “Secondly, the increase in speculative shorts appears to be a result of an increase in leveraged fund short positions, but it didn’t coincide with either a decrease in hedge funds’ or CTAs’ market beta, nor any downward pressure in equity funding levels [which] also suggests the incremental short futures positions were used to facilitate new longs or in relative value trades.”

The positioning story is key. One leg of the bull case involves positing additional short covering and forced buying by under-positioned investor cohorts. If some of those investors aren’t actually bearishly positioned, the thesis isn’t as strong. I’d note that even if investors aren’t, in fact, bearishly positioned, it was difficult to suggest headed into the melt-up that discretionary positioning was overtly bullish. If nothing else, cash overweights and $5.4 trillion in money market fund assets pointed to intense competition for equities.

Note that retail sentiment recently turned. As one Bloomberg blogger put it Monday, “It does seem like the don’t-miss-the-FOMO mantra is winning so far this month.”

The 15-point jump shown above was the largest since the November 2020 vaccine rally, and surging call volumes are likewise indicative of a rising tide of bullishness.

Kolanovic spoke to the burgeoning rotation+ which took a break on Monday as big-tech outperformed small-caps. There too, JPMorgan is skeptical. “The real ‘pain trade’ in the market is the breakout driven by cyclical value stocks, in our view, [which] could have legs, but we do not see it getting confirmation,” the bank said.

JPMorgan expects yields to trek lower again, said pricing power is starting to evaporate and pointed to conflicting signals from the US labor market (e.g., the jump in the unemployment rate that accompanied May’s otherwise robust jobs report and last week’s sharp increase in initial claims).

In addition, the bank cast doubt on the idea that Beijing will deliver meaningful stimulus, and said that if PMIs do “converge,” it’ll likely be services catching down to factory gauges, not manufacturing catching up.

If this all seems overtly bearish to you, you’re not wrong. Kolanovic and co. continue to sound very cautious.

“The consensus view that the worst pressures [are] behind us will likely be proven wrong as the impact of monetary tightening worked historically with a lag, and certain growth supports are waning, such as excess savings and strong margins,” the bank said. “In our view, stocks are set to face an increasingly challenging growth-policy tradeoff in H2.”

Kolanovic maintained a defensive asset allocation, called the risk-reward for equities “poor” and said the odds of recession over the next few quarters are “high.”