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Tug of War; Inflation & Growth

Updated: Oct 31, 2023

The tug of war between inflation concerns and secular growth enthusiasm continues with the 9th week in a row of a 5% range in the SPX500 Index. I see Hedge funds continue to boost their S&P 500 bets ... positioning is most bullish since 2013.

And safe to say the longer the Fed doubles down on its belief in transitory inflation, the more it risks “a sudden slamming of the monetary policy brakes” down the road, which would have some clear s-term impact! 10-yr @1.45% (vs. 0.72% 12mths ago) tells us the Mkt still feels the current inflations spikes reflect Covid dislocations which they think will prove transitory in coming months.

Goldman Sachs tell us today “we don’t expect Chair Powell to deliver the first hint at tapering in June. Powell likely agrees with Governor Brainard and President Williams that the labor market has not yet come far enough”. This comes in August or September.” Lets be clear however The Fed secretly want and like some inflation, and they need it!

Nutstuff is reading yet more inflation commentary here, to anyone with a big bet in

Wood/LUMBAR and seeing the huge fall here as capacity comes back on, worth remembering not all commodities are as fungeable as Lumbar! But this is feeding a debate that its time to rotate away from inflation proxies back to growth. Nutstuff is clear in needing to keep a clear “Bar-bell”. I still think that Stock selection & sector rotation will continue to be where alpha is generated, and increasingly, global equities look vulnerable for a large-scale swing back towards high-quality growth stocks (enablers vs disrupters!)

I think it is also worth remembering it is politics delivering a lot of the inflation spikes. But

remember a 2.5% break-even tells you the market is there already. Issue for stocks is -ve real

rates. If they head back to +ve that’s the issue. Big issue from G7 was new belt & road,

important because last 30-40yrs has been US hegemony of declining rates, higher debt and lower tax.

This meant EM had little bargaining power with US. That should change to favour EM, now

of course any move away from value should be a negative for EM, but if a summer of ever

contracting volatility remains on track, this should underpin carry and provide a bid to EM

equity in general. Nutstuff is sticking with commodity-focused EM equities such as Russia and some spec sits like Dubai real-estate and VEON US.

My Friend Paul Krake writes great sense and I read his latest missive with interest....

He argues the growth equity story never disappointed. The re-opening trade merely supplanted it. While Chinese tech has had its issues because of the regulatory clampdown, US mega-cap tech has not missed a beat.

No one ever questions the earnings potential of the likes of Amazon (Nutstuff disagrees on this one!) or Google. While the lingering threat of anti-trust/breakups/regulation is ever-present, I would struggle to find an investor who can logically claim that this is a reason for underperformance versus cyclicals or banks. Fed policy and the commencement of the re-opening provided an abundance of opportunities for global investors as they rotated into unloved sectors from airlines to European banks. Even parts of EM (ex Asia) saw some support.

So...Where is the puck going or things to consider here?!

1.Clear signs that the covid pandemic is abating in Southern Hemisphere EM (Brazil, India), self- reinforcing bottle-necks and shortages (US beef prices are up 42% in three months), and

gathering signs that consumers will lower savings rates and release pent-up demand in the

coming months. It is undeniable that many of the re-opening / cyclical sectors are now at lofty valuations. For example, I consistently cite American Airlines that is trading at approximately 140 times 2022 earnings. It is difficult for me to see how these sectors grow into these valuations if the Fed’s outlook for inflation and growth is correct. Look at a name like MASCO in similar vein.

2. Yields are now oversold for the first time since the depths of the COVID lockdown a year

ago. Strengthening bond prices (lower yields) were a contrarian call 3-months ago now Bond

futures positioning is as long as it has been in 2.5yrs.

3. The blanket approach to blindly owning all commodities should come to an end. While those commodities with strong climate-related tailwinds such a copper will continue to benefit, more cyclical commodities such as lumbar, iron ore etc could begin to struggle.

4. The risk to owning growth equity at this stage, given the policy backdrop, is the market waking up that this inflation threat is real. Given how easily the bond market has dismissed the recent data, a new catalyst is anyone’s guess. Oil is the one indicator that can unnerve the bond market. The relationship between oil prices and US inflation swaps is reliable. Yet, the divergence between five-year inflation swap and crude prices is intriguing. A backwardated oil market implies that energy markets align with the bond market’s thinking that pricing pressures won't last. I disagree, suggest that significant energy exposure remains prudent.

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To Nutstuff again this is a giant and very serious game of WHACK-A-MOLE, as the UK continues to take action against economic threats: First against Global; Mountain 1: commodity price inflation and n

More Bullish Than Consensus!

Yes, it is very clear how concentrated alpha in markets is. It’s the best excuse for underperformance I guess. If stock picking ever mattered it is now...Without FAANGMAT, “AI” Luxury and half a dozen

Duck hunting without a saxophone!

What we are seeing clearly now is the US trying hard to goad China in Taiwan, a diversionary tactic or a new game to play from the Washington bunkers. I suspect Xi plays the calm and longer game here.


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