Tag You're It

In the game "It," players take turns being the center of attention. Children love the simplicity of a game that changes direction quickly and unexpectedly. A lot of energy is expended, but there is no final resolution until all are exhausted.

It's what the U.S. economy is doing right now, and I'm getting tired just watching it.

Narratives ranging from a hard landing—prevalent in the early stages of the Fed's tightening cycle—to a soft landing earlier this year are giving way to a no-landing story. Last week's employment data supported a re-acceleration in aggregate demand and implied a stronger-for-longer economic picture. Markets initially cheered as growth is good for earnings. But taking the presumed interest rate cuts that forward rates markets had priced in off the table quickly dampened the party.

Is anybody else getting the sense that we really don't know what's going on? Today's market reverses yesterday's sell-off again, but it could quickly fade should the narrative change on the next random walking data point. I forgive you for giving up trying to guess what's next. I think the truth is in the middle.

China's market short squeeze last week is a perfect example. On the slightest bit of monetary policy optimism, stocks rallied almost 50%, only to plunge this morning on a tepid fiscal follow-through from the PRC. This casino-like action may stimulate the speculator in you, but it is a dangerous policy for long-term investors. Second, sober thoughts are in order.

The next unpriced risk for markets to deal with is anybody's guess. The laundry list is there for all to see: geopolitical unrest, monetary policy error, tariffs, exploding deficits, etc., etc., etc. These are known risks, and stock and bond markets are wholly unprepared to deal with them trading at these valuation levels. Thanks to the massive rally since late last year, we are all betting at the $100 table now. And that's before absorbing the shocks from the unknown left tail-risks that might be lurking out there.

But my job here is to anticipate the anticipations of others for you. This past year, one of surprising resilience, was hard to predict, but suck it up, buttercup. You wanted to write a blog, so get on with it.

A choppy, decelerating economy, combined with extended valuations and toppy markets, is not a time to take outsized bets. Volatility measures should stay elevated until the post-election landscape entirely unfolds. A better entry point awaits, but it could come in the next few weeks.

I'm sitting this game of tag out, but itching to play.

Risk Model: 2/5 - Risk Off

The market has crested and is gradually decelerating to a level that will provide more valuation buffer, especially with interest rate expectations reversing. AAII Sentiment has whipsawed all year but is now trapped in a wedge-like pattern indicative of this year's narrative pickle-ball game. A dip this week would be welcome and represent a contrarian entry point. Just the fact of having the election would remove more uncertainty than it creates. Post-election rally?

AAIIBULL/AAIIBEAR

Election hedging has elevated short-term volatility, as shown by the ratio of the one-month VIX to the three-month equivalent. These have been good entry points over the past two years.

VIX/VXV