Let's Get Real

Last week, both the CPI and PPI reports came in as expected - hot. But thankfully, they were dismissed as "transitory" ( Bloomberg TV's new drinking game keyword). Reflexively, growth stocks continued their profit-taking declines, extending an underperformance streak into the fourth month. The tame reaction from the bond market, combined with reports of strong earnings ( S&P positive surprises above 80%) kept the correction from getting out of hand, and by yesterday, the "correction' was mostly over as evidenced by the Vix reveresal.

This is the perfect scenario for investors. Stocks, Real Estate, Commodities are all heading higher. Easy money + cyclical recovery = higher prices for everything ... except for the price of money. Interest rates are the price of money. What happens when they rise?

It will start to get real.

The chart below shows the 'real' rate of interest on U.S. long-term debt. It won't stay down forever. Despite promise after promise, the Fed will at some point have to face the reality that the costs of excessive monetary support of the economy will outweigh the benefits. We are not there yet, but every data release that exceeds expectations brings us closer.

We all know the culprits when it comes to explaining why rates are held back. First and foremost is the financial repressor-in-chief, Jerome Powell. Fight the Fed at your peril bond bears, they have an unlimited capacity to cover your trade if you are foolish enough to try. QE infinity still lives.

Pension funds, giddy with the recent reversal of fortune in their funding ratios as a consequence of huge gains on their stock portfolios, are rebalancing with huge bond purchases. Starved for a nominal yield of any kind, foreign institutions, are willing Treasury auction participants, hoovering up the long end. Years ago, the term 'crowding out' was used to denote a lack of borrower access due to excess government issuance. Now it the lenders who are being elbowed out of the way by an activist Fed. I can say now I've seen it all.

As much as anything, the huge windfall in earnings now being reported by corporations is helping to keep the positive vibe for stocks. A combination of pricing power and rebounding demand is allowing costs to be passed on to a consumer flush with cash. Shortages resulting from the decimated supply chains in many industries are paired with inelastic demands of a consumer starved to get out and spend. Retail Nirvana.

At the heart of the largess is a monetary backdrop the likes of which we haven't seen since the early '70s. Back then, policymakers kept rates lower than inflation for years in an effort to 'cure' persistent unemployment resulting from the oil price shock. This time the shock is biological. But, ultimately, it is no less transitory. "Drink!"

It was gratifying to see the renewed rally in gold last week juxtaposed with the carnage in Bitcoin. My call last week was prescient but hardly heroic. The ads for SNL were a red flag. Elon Musk, ( a latter-day version of Dr. Evil - "$50,000 doll-lars") announced the faux currency emperor's lack of clothing in a tweet that scattered the crypto bulls into hiding. Call the reversal green-splaining or mansplaining, it rang hollow with the Redditt mob. Back to the Dog(e)house Mr. Musk.

You can't blame the recent rise in gold (aka Boomer Bitcoin) completely on Elon. The currency vigilantes are out in force, selling down the Greenback with renewed vigor. Growth rates in the ex-US are predicted to accelerate and currency traders love to go with the flow. Canada's Loonie is front and center of the rally, reflecting the prevailing mood of traders who are looking to short the U.S. dollar, surfing the Fed's monster liquidity wave. The C$ call from a widely quoted (but rarely correct) strategist from this time a year ago was for 60 cents. Ouch.

So the melt-up market is still on track but now struggling. The internal gyrations should last a while longer. Meantime stock pickers are having a field day this year. Good on 'em. Until we get rates above inflation, there is no 'real' reason to entirely get out of the market. But it can't be far off.

Risk Model: 2/5 - Risk Off

The RSI and 200DMA signals gave sell signals again, a sign of a chronically overbought condition. A sudden drop in AAII Sentiment resulting from the poor tape in the Tech sector has the model on the defensive. Last week's temporary VXV spike was a threat and I'm hypersensitive to this component of the model flaring up again.

Gold is now struggling to keep up with Copper - the latter metal reflecting an existential supply threat from political unrest in both Chile and Peru - the swing producers. Should that create a spike in Copper from here it will join lumber in the parabolic stratosphere. As we saw from the just-released April Housing Starts data, a sharp demand response could derail the bull case. Gold is also worth watching for a signal of a more dangerous excessive risk-taking attitude on the part of investors. Suddenly, it's looking quite tricky here.