Testing Times

The Tuesday turnaround is upon us with the sudden cooling of Ukraine tensions. But before you know it, the narrative can still change (I've already had to revise my blog this morning). Predicting investors' anticipation function now relies on reading the geopolitical tea leaves correctly. I don't know about you, but I need a bit more to go on than some random soggy vegetation. My previously discussed reading of Putin's intentions ( bluster not bullets) seems to be validated by this morning's news. I didn't believe he would 'pull the trigger' given the resultant economic hardships that seem inevitable. But what do I know? The snapback rally today may fade on different concerns.

Readers of Tuesat11 know that I love a fat pitch. Sorry baseball fans, like MLB players at spring training, I don't have anything to swing at just yet.

The market is adjusting to a fresh set of challenges in the early going of 2022, not the least of which is a slowing economic impulse from consumers who suddenly are losing their nerve. The survey of sentiment (below) is a negative that many strategists hadn't put on their radar screens just two months ago. They had blithely generated their stock index targets on the basis of a post-Omicron rebound scenario that now looks less compelling. The CPI sticker shock, with prices rising at rates not seen since the days of the Volker Fed, has left many consumers suddenly gun-shy.

University of Michigan: Consumer Sentiment

The current worries have also been focussed on the marquee issues of headline inflation, oil prices, and impending Fed hikes. Hidden beneath these talking points there is a sudden flattening of projected growth, as evidenced by the leading indicators tracked by the Economic Cycle Research Institute (ECRI), which has a solid track record of anticipating the economy's swings. It's showing a second bout of flattening out recently. Meanwhile, the Fed has been badgered into a tightening stance by many of the leading armchair quarterbacks. The dramatic flattening of the Treasury yield curve speaks volumes about the potential of a harder landing than is currently anticipated. Monetary policy influences the economy with huge and variable lags. The Fed is doing today what they should have done 6-9 months ago. They told us back then that they wanted to stay 'behind the curve'. Be careful what you wish for.

ERCI Leading Indicator

There is optimism in the air today, as much as there was palpable pessimism last Friday, based on the Ukraine situation. Gold flared off yesterday as a response to the risks to the financial system that an invasion would portend. Today. it has violently unraveled, along with oil. Good news, but hardly enough to go on.

The market, at the index level, is now almost irrelevant. There has been, and likely will be, a highly uncorrelated churning feel to equities this year. The opposing forces of attractive relative valuation, juxtaposed with diminished liquidity provision and a decelerating economic impulse should make for a broad sideways trend. The turning points for a channel-bound market are often defined by shifts in sentiment. This morning's news may have brought just such a shift.

Today's BofA Investor Survey revealed a level of caution, but not an outright bearish stance. It shows higher cash holdings, yet an "overweight equity" risk profile. Fund flows showed little in the way of outright selling, as investors have been 'hiding' in the cheaper end of the market. Most notably client allocations to hyper-growth equities have been viciously cut - explicitly from selling and implicitly from price declines.

My message is: traders set up for mean reversion! We should see a bounce in Growth, Bitcoin, and Theme-stocks. Shorts would include Financials and Energy and Aggs.

Unfortunately, that's not an investible buy-and-hold thesis. More like a series of Super Bowl 'prop bets'. It's likely your Draft Kings account could outperform your stock portfolio this year. But watch out traders, you may win a few and lose a few. This market feels like the recent Super Bowl, L.A. won but didn't cover.

Enjoying the volatility yet? Get used to it - we will have a full dance card of it this year.

Risk Model: 2/5 - Risk Off

No help here. It will be stuck here until investor sentiment improves. We are neither overbought nor oversold. And Copper/Gold is still rangebound.

There seems to be an incomplete feeling to this correction. The rotation to energy and other perceived high inflation beneficiaries this year has masked the carnage in many parts of the market. The Fed and Ukraine factors were widely discussed, but little wholesale risk-shedding was evident.

With the Fed being egged on to hike even more aggressively, and a clear risk of earnings deceleration from higher costs, companies without pricing power or high labour costs will be under pressure for now. Powell & Co. are threading a needle that has a very small eye.

Hence the caution we all feel. 'Certainty' seems in short supply so far this year and that's how the market is trading.

The recent outperformance in Canadian equities looks stretched. Take profits - especially in oil.

I'm still long Air Canada as a play on the transition from a pandemic to an endemic environment.

Canada: US - Relative Performance