Bounce Pass
— Scottish Proverb
With my fantastic golfing safari to Scotland now behind me, one might think I have returned with a renewed sense of positivity about the immediate future for the market. Ach, no laddie.
Having called for a 'don't blink you'll miss it' rally, now that it's occurred I'm a seller once again.
The premise that propelled the recent three-day bounce is the notion that we have seen the worst. Last week, markets seized upon the comments of a Fed official that we may see the end of tightening as early as late summer. I'm suspicious of any rally based on hope. I want to see more bad news first. The kind of news that scares you out of your positions. The kind of news that destroys confidence in the future. Bear markets end in tears not cheers.
That being said, I'm not arguing for an immediate end to this bounce rally. Energy stocks are heading higher today on the news of the end of Russian oil imports into the EU. But absent a major shift in Saudi policy, that will make for a summer of pain at the pumps like many have never seen. The bulls still have some live games left to bet on but like the Stanley Cup playoffs, there are fewer.
But therein lies the solution to the above-noted conundrum of what it will take for the market to bottom. The 'bad news' on your gas credit card is hastening the end of Fed tightening. Just look at the rest of the commodity board (chart below). There is a distinct separation of commodities - especially credit-sensitive lumber & base metals - and oil. The economy has only so much liquidity to go around and energy is sucking it dry. Energy prices are doing the Fed's job for them.
Commodity Prices
(chart courtesy J Aitkens - TD Securities)
Seasonality would normally argue for a peak in oil prices around the Memorial day holiday. Back in the day, I used to 'Buy Easter, Sell Memorial Day' when it came to oil stocks. Not this year. This is hardly a normal year. China is restarting its economy after its failed shut-down policy. Inventories are still too low and stocks need to be built higher than normal given Russian supply concerns. And just try taking summer travel away from Americans who have been waiting to drive to Yellowstone for over 2 years. You might as well try to take their guns away too.
But when the demand destruction of $5 gasoline joins forces with the credit crunch of higher mortgage rates, the bad news cycle will accelerate to a crescendo of consumer pain. Voilá, hard landing.
Earlier this year, I wrote about the soft landing of 1994. That pollyanna view is looking suspect now. The Fed now seems to be willing to be a bad cop instead of the knight in shining armor that the bulls desperately need. The oft-repeated mantra of "data-dependent" is code for the rear-view mirror thinking that pushed the Fed too far in 2018. The time for thinking ahead of the curve on inflation has long since passed. There is more upside risk to inflation from $120 oil than they can tolerate, even though they know they are tightening into a weaker consumer. Tough love, FOMC style.
The big delta between 1994 and today is the credit sensitivity of the economy. Debt servicing costs are forecast to rise rapidly from the aberrant levels of the pandemic depths. Given the enormous asset inflation of the last three years - especially in housing, debt levels that seemed comfortable at 2.5% will squeeze tightly at 5%. Investors and more importantly consumers seem 'anchored' in their belief that "rates are low". Rates may be low (believe me, I know after having experienced the early '80s) but its servicing burdens that matter, not nominal rates.
Debt Servicing Costs - Canada
Sorry to be a dour Scot today but that's the caber we are being tossed. As the sardonic quotation above says, enjoy the time we have, even if it may not be all that financially rewarding. I'm taking a pass on this rally. Off to the beach to recover!
Risk Model: 2/5 - Risk Off
Only the price variables, RSI and %200dma are supportive, reflecting the bounce last week. $VXV, Cu/Au, and AAII are all negative still.
Rising volatility combined with poor sentiment makes for further corrective action. The wedge pattern combined with the rising moving average of $VIX is not a positive construct. This needs to resolve lower for me to get more positive on the market.
Cu/Au is signaling a hostile economic environment as the new normal, further crimping my optimism. Chinese fiscal and monetary policies are slowly being relaxed, but they are pushing on a string given the depths of their real estate declines. Their hard landing is still in front of them, especially as a net importer of energy they have less wiggle room than their post-GFC turnaround experience. Cheap Russian crude may soften the blows, however. Look for a Putin/Xi energy pact soon. That could help top the crude markets later this summer if Vladdy does an end-around on the EU ban.
Spot VIX
Copper/Gold
Tell me this doesn't look like a huge top. Now that the 'EV' hype meter has quieted down, what's to keep copper from trading below $4? I'm betting the China restart optimism is a head fake. Short $FCX.
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