Tuesday at 11

Here it is. The reason I named my blog.

Long-suffering readers of my missives may vaguely recall the 2017 origins of this website. In an early post, I posited the reasoning behind the cryptic name of my site. Today is a litmus test of that reasoning.

Behavioral Economics is more art than science. Looking for causal relationships in a market populated by irrational humans is dangerous. But doesn't stop me from trying. Early in my career, I realized that 'the herd' that drove markets often created repeatable patterns. I see one now.

When market uncertainty builds to a point of cathartic selling like we saw yesterday it has often been a function of the constricts imposed on it by a U.S.-centric, episodic trading model that has existed for years. Bad news gets priced in suddenly, often after a weekend of retrospection. Monday dawns with collective thought - "get me out!". The market becomes oversold and downside exhaustion develops.

What follows is a Tuesday bottom where markets quietly decline at the open. Residual unfilled sell orders are matched with timid bottom-fishing buyers who back off their bids. A 'failure' of the late Monday stabilization gives the appearance of renewed sell-off. By 10:30 there is an eerie albeit pessimistic stasis.

Then at 11, right on cue, the rally begins.

Anticipating the expectations of others has always been my guide. To that end, I need to create a narrative that gives me the confidence to buy the market here. What is this postulated, embryonic rally all about?

The Fed meeting tomorrow holds the key and not because I expect them to retreat from their perceived 'hawkish pivot'. On the contrary, I expect them to be relatively sanguine when it comes to their viewing of the obliteration of $5 tn of global equity valuation over the past month since they made their 'come to Jesus' conversion to inflation-fighting. No, I think the stability in credit markets and the financial strength in a banking system gives them the cover to maintain their purported anti-inflation cred.

Jerome Powell must be thrilled with this tape. If he can prick a bubble in asset markets without losing the confidence of the credit market, thus avoiding an early end to the economic cycle, he will become one of the greatest Fed Chairmen in history. So far so good, as yesterday we saw a number of positives. High Yield Credit, Emerging Markets, and Small Caps outperformed. Gold didn't make a new high. Bitcoin led the bounce. Risk appetite, while battered and bruised did not completely evaporate.

All that is necessary is for Powell to maintain his measured approach to the stepwise removal of excess liquidity provision that he has laid out. No surprises. The current views being expressed by market commentators have thrown up pretty much every negative monetary scenario including a Fed tightening panic. Have you actually seen a Jerome Powell press conference? - he doesn't do panic!

So what leads the bounce? In my scenario in which market volatility remains elevated this year, there should be rapid and frequent leadership rotations. While the Omicron sell-off in October led to a last gasp rally in bonds and long-duration assets such as the FAANGs and Bitcoin, we have recently seen them take a back seat to the Defensive, Financial and Energy plays. The bond bears have perhaps overplayed their hand here, especially in the front end of the curve. That could backstop the Growth trade here, especially as earnings season unfolds. Should the current fears of minor weakening of the economic growth outlook expand into full-on slowdown expectations, look for another re-rotation to growth. Watch for a rally in the 2YR for a tell.

Additionally, I expect to see a de-escalation in the Russia-Ukraine conflict over the coming weeks. The gamesmanship of Russia's Vlad the Impaler is well known. He just needs a diversion for his domestic policy failures and moving a lot of troops around gives him that cover. His bare-chested, horseback riding persona is wearing thin on the Russian populace. If this gambit fails, he will be vulnerable.

All this serves to keep the underpinnings of the bull market intact. Easy money - as defined by negative real rates and a positively sloped yield curve should survive their 'second derivative' reversals we have seen recently. Yes, real rates are less negative and the curve slope has flattened. But we're a long way from tight money.

And money is what makes the market tick. Especially on Tuesdays at 11.

Risk Model: 1/5 - Risk Off

Don't look for this to turn around quickly. AAII sentiment has reached panic lows and this week's survey should be no different given the news flow. Importantly, Copper/Gold is still in the middle, indicative of a market that is not predicting an economic collapse. We are still above the 200 dma in the TSX and the RSI is oversold at 37.

What we have seen is a valuation correction that has blown away the froth from the Memes, Themes, and Dreams-driven first leg of the secular bull market that began with the triggering of the massive Powell Put in March of 2020. That can only be helpful for patient fully invested conservative investors who, by the way, have been relatively unharmed by this months' growth stock carnage.

As for volatility, I'm hoping we get an inversion in the spot -3mo VIX curve this week, hopefully from a decline of the back end. Watch that, as well as the curve shape for confirmation of the turn here.