Whale Watching

I love being on the right side of the market - even if it's for the wrong reason.

I have been advocating for a broadening out this year, along with many others, with an initial emphasis on Financials. So far, so good, as the Deepseek AI blowdown was an isolated event threat harming mostly the megacap Tech stocks. Yesterday marked a turn away from the rock star CEO-led growth stocks that should persist for much of the next phase in the bull market.

But this black swan ( blue whale? ) event wasn't on my bingo card. My fears for a growth stock correction were related to the bond market's annoying ability to take the punchbowl away when risk-free rates rise sufficiently to out-compete for investor dollars. Yesterday, that threat was blunted by a flight-to-safety rally in bond prices. But a higher rate environment is still the single biggest Damoclean sword out there.

The negative correlation between bonds and stocks is slowly re-establishing in financial markets. The Fed has been marginalized by market forces beyond its control as inflation will likely trend higher this year. As they did during COVID, they are underestimating the levitating effect of fiscal policy on prices. Easy money comes in many forms. When you combine cheaper gasoline with lower taxes and higher wage demands, you get the toxic soup of drivers that will engender a rebound for inflation expectations.

That makes bonds a 'sell' again after yesterday's panic bounce. Fixed income will continue to serve a purpose in the long term, especially now that the ZIRP and QE era is history. However, the valuation readjustment necessary to compensate investors for higher longer-term inflation is incomplete. If the Fed finally wakes to the reality of an inflation bottom more significant than 2%, a world of 5%+ 10-year bond yields is likely. That would push the equity risk premium deep into negative territory and potentially threaten the bull market.

But for now, the bull market is morphing into a broader, more diverse rally that is tricky but potentially alpha-rich. The relative chart (below) of Financials vs Tech says it all. In just three weeks of trading, the delta between these sectors is already greater than 10%.

Financials vs Tech

So, next on the rotation agenda is the cyclical side of the market. For cyclicals to recover, the Trump tariff tantrum has to run its course. The effect of his hyper-isolationist policies on the dollar has been initially positive. A combination of weakening global growth at the expense of stimulation of U.S. domestic production is at work here. But those fears should eventually dissipate after the reality of taxing U.S. consumers and raising the cost of doing business sets in. Currency markets have already priced in the worst-case scenario, and dollar positioning is at extreme levels, with the U.S. currency looking toppy.

I am watching for a chance to 'buy the dip' here on commodities and industrial cyclicals. For this bet to pay off, the global economy needs to recover slightly, and you will get the trade to work. Given the widely-anticipated political duress in Europe and the slow-down Chinese growth, low expectations are baked in. Once Trump gets his opening salvo of tariffs out of the way, the worst-case scenario will be in place.

And don't forget the supply side of the argument. Commodities are wasting assets, and the cure for low prices is often low prices. There's not much sub-$4 copper left to produce. Oil below $70 will have energy company CEOs in Huston and Calgary saying 'chill, baby chill," despite Trump's now stillborn motto to the contrary. U.S. rig counts have already weakened since the post-Covid bounce, and despite all his vile vitriol, the Mango Massiah can't change that hard economic fact.

U.S. Rig Count

So the lesson of the last few weeks is clear. With the potential for more breaching whales, the year will be anything but smooth sailing.

Risk Model: 3/5 - Risk On

If the last three months of choppy action confused you, its because you should be. There have been six separate 3%+ drawdowns since the election, but none have yet turned into anything other than a bounce that should have been bought for a short-term trade. Traders market.

Nasdaq ETF

Meanwhile, the market ( at least at the Major Index level ) hasn't advanced much. The equal-weighted market ETF is recovering from the tax-loss-induced December lows and was a source of a safe harbour during yesterday's Tech wreck. It will take much more work to reverse such a significant downtrend, but double-bottom patterns often demark major reversals.

RSP vs SPY

This declining wedge pattern and distinct bottom should resolve in favour of the only 'teck' stock I like here. Some of the $3 trillion NVDA money has to go somewhere, so why not here?

Teck Resources vs Tech Stocks