Month: August 2022

This morning we warned of the ‘hawk-nado’ that has suddenly taken hold of markets ahead of Friday’s Jackson Hole show from Jay Powell, but while all eyes are on The Fed and the US economy (labor market), the European / UK Energy crisis continues to boil-over yet again.

• And right on cue, ECB’s Nagel comments in a weekend interview underscore this very point: effectively, that Recession is likely IF the Energy crisis worsens—so the ECB has to continue hiking rates to temper inflation, and guarantee a harder growth slowdown (how’s that for a set of bad options)

• In the meantime, German 1Y fwd baseload electicity is +72% in a week and a half, +129% since start July and +514% off the YTD low, all as NordStream 1 preps another “TBD maintenance shutdown” yet again at the end of the month

• And as UK 1Y fwd inflation swaps are at 12.5% / EUR 1Y fwd inflation swaps are at 8.6%…both at highs—i.e. NOT “past-peak inflation”

This is acting as a key “global growth” volatility catalyst due to the almost certainty of it dictating a continental recession and more Energy price shock risk globally, the euro has broken down to fresh 20 year lows against the dollar…

But as Nomura’s Charlie McElligott notes the US Dollar “wrecking ball” is again pushing higher in a pure “tightening” of Global financial conditions…

And as far as volatility-inducing chaos, the week ahead is loaded: Powell at Jackson Hole Friday 10am EST as the headliner, but too with US Core PCE-, PMIs- and U Mich Inflation Expectations- data as well, in addition to ~$300B of UST auctions over the course of the week.

And that UST supply matters into peak illiquidity of late August, occurring too with the resumption of global “hawkish” risks in the background (Recent European CPI prints, Euro / UK Energy shock, Jackson Hole commentary from Powell and September Fed odds now tilting back towards 75bps vs 50bps @66.2bps), and all ahead of Fed balance sheet QT runoff “max caps” moving to $95B in September ($60B UST / $35B MBS) – double that of the current caps, and expanding the window for a resumption in Rate Vol which bleeds across all assets

Tying-in the above, the Nomura strategist warns that the European Energy crisis continues to increase the likelihood of an accident as well as unanchored inflation, but with slowing global growth on the tightening impact already registering – and most incredibly, against US financial conditions which have actually EASED since the 75bps hike in July!

Hence, the belief that Chair Powell is going to have to lean-into the “higher rates / more restrictive for longer” messaging at Jackson Hole, which could very well then see Terminal Rate expectations again reaccelerate (Apr23 Fed Funds futs now implying 3.725%, which was down to just 3.20% on 7/28/22), because, as McElligott forcefully notes, his words have to actually TIGHTEN FCI in order to achieve their “inflation fighting” mandate in order to kill demand.

In a “worst case scenario” for risk-assets at J-Hole (but maybe the most “wanted” outcome based upon current Consensus Equities “bearishness” which would then benefit), and in order to be clearer than his usual “both sides of mouth” messaging, McElligott warns that Powell COULD (again, not base-case) choose to explicitly state that the Terminal Rate may in-fact be HIGHER than current market expectations (push towards 4.00%)

The Fed’s hands are tied right now, because growth data is still good enough, while Labor and Wages continue to absolutely RAGE – which highlights two of McElligott’s key views:

1) we are currently stuck in that uncomfortable range-y “chop” for now like 3850-4300 (maybe one last push below 4000 on a break of 4092 100DMA and 4079 38.2% retrace, with CTA Trend flip back “Short” below 3989 for today 8/22/22), because…

2) it is difficult to get tactically bullish on risk-assets / US Equities until you see sustained Job losses from here – which, perversely, is the time to then get more constructive on Equities ahead of the Fed “moving the goalposts”

Hilariously / frighteningly, the absolute PAIN TRADE – as per the increasingly vocal “bearish Equities” community who is coming out of the bunker these past few days after a dark two months – would be a Chair Powell who simply chooses to highlight that the outlook remains increasingly uncertain, and downplay the need to “hammer” any hawkishness on Terminal or FCI message at all… instead, simply stating that the Fed’s forecasts currently align with market pricing.

That would very likely drive another resumption of “dovish impulse” relative to “hawkish expectations” – which could then see this fresh / nascent “sell-off” in Equities get reversed and crushed in more painful squeezing / rallying that almost nobody “wants” right now.

For now hedge demand is picking up as VIX spikes on lower prices.

Authored by Jack Phillips via The Epoch Times,

Several states are mailing out stimulus checks or tax rebates in September despite near-historic inflation.

Recent data released by the federal government shows that the Consumer Price Index, a key inflation metric, remained relatively elevated at 8.5 percent in July. Although it was down from 9.1 percent in June, the figures represent highs not seen in about four decades.

Alaska

Alaskans can expect payouts of up to $3,200 per person to be deposited into bank accounts on Sept. 20, including a payment of $650 meant to offset higher fuel costs, according to a government announcement last month.

It will be a single payment to all eligible Alaskans whose applications were approved by Sept. 9. People who filed a paper application or requested a paper check will receive it starting around Oct. 3.

“Alaskans, especially in rural communities, will have to pay extraordinarily high fuel and heating oil bills this winter, and rampant inflation is forcing all Alaskan families to pay more for basic needs, like food and medicine,” Gov. Mike Dunleavy said in a statement about the program.

Illinois

In Illinois, the state’s Illinois Family Relief Plan is offering payments for people. Single filers will get $50 and joint filers will receive $100. Families with dependents can get up to $300, according to the state.

Those payments will start being sent on Sept. 12, the state said on its website.

People who qualify have to have been an Illinois resident in 2021 and the adjusted gross income on your 2021 Form IL-1040 has to be under $400,000 as a joint filer or under $200,000 as a single filer, said the website.

Minnesota

Eligible workers under the Minnesota Frontline Worker Payments program will qualify for stimulus payments worth $750, according to the state.

Frontline workers, according to the state, work in health care, long-term care, emergency services, schools, retail, child care, and public transit. Applications for the payments were open between June 8 and July 22.

Those who applied will get payments starting in September and stopping in October, officials told CBS News.

Indiana

Residents in Indiana can receive tax rebates worth up to $650, according to the state government’s website. Checks were supposed to be sent out in August but were delayed due to a shortage of paper.

“With roughly 50,000 checks printed each day, their office anticipates all 1.7 million refund checks will be mailed by early” October, according to the government site.

Individual taxpayers can get $325 and couples filing jointly will get $650.

Colorado

Colorado residents who filed to have their 2021 tax return by June 30 can get a check of $750 by Sept. 30, according to the 1992 Taxpayer’s Bill of Rights. Joint filers will receive up to $1,500, the state said.

Residents will receive a Colorado Cash Back rebate by Sept. 30, 2022, the state website said. Extended filers who have a deadline of Oct. 17 will get their rebate by Jan. 31, 2023.

Read more here…

Coming two days after the Saturday drone attack on Russia’s Black Sea Fleet headquarters in Sevastopol, there’s been another major incident in the skies over Crimea, early reports suggest. 

Russian as well as regional reporting has cited Sevastopol governor Mikhail Razvozhaev who said air defenses surrounding the city were active Monday early evening (local time). Eyewitnesses have further reported multiple explosions over the city, leading to reports that a Ukrainian drone was shot down. 

#BREAKING #Russia‘s air defence system has been triggered near Sevastopol, Crimea, object, probably a drone, was shot down: Russian media pic.twitter.com/fUIMXSXba6

— Guy Elster (@guyelster) August 22, 2022

“At 18:15, in the Verkhnesadovoe district, air defenses were activated. The target was hit. At a high altitude, which is why the sound was audible in various parts of the city. Preliminary reports indicate that it was another drone. Keep calm — the city is well-protected,” Razvozhaev announced on Telegram.

“According to local media outlets, the sounds shook the walls of a shopping center and shattered windows,” according to Meduza. 

The past two days have seen multiple reported instances of small drone activity threatening Crimea. This after Ukraine’s President Zelensky earlier this month vowed for the first time to not stop fighting the Russians until the Crimean peninsula is “liberated”. 

The prior August 20 attack on a Black Sea Fleet HQ building involved Russian anti-air defenses apparently failing, given a suicide drone struck the target, resulting in a large explosion.

Ukraine-linked media accounts suggested that attacks on Crimea by US-supplied HIMARS attacks could come next, though it’s unclear if Washington has as yet transferred rockets with a long enough range to reach deep into Crimea.

Ukraine’s forces are now definitely taking up President Zelensky’s call to “liberate” Crimea, given the intensifying assaults of the past two weeks:

On August 19, Russian air defenses were activated in the eastern city of Kerch, which is the terminus of the Crimea Bridge (also called the Kerch Strait Bridge), a high-profile, $4 billion project to link the occupied Ukrainian region with the Russian mainland. No damage to the bridge or the city was reported in the incident.

Ukrainian officials have avoided publicly claiming responsibility for the explosions, but an unnamed senior Ukrainian official was quoted in The New York Times as saying an elite Ukrainian military unit operating behind enemy lines was carrying out at least some of the attacks.

On August 10, Zelensky said in a Western media interview, “Crimea is Ukrainian and we will never give it up.” Zelensky said: “This Russian war against Ukraine and against the entire free Europe began with Crimea and must end with Crimea – with its liberation.” 

Other Ukrainian top defense officials have recently spoken of covert attempts at sowing “chaos” far behind Russian lines, in order to hurt military logistics chains as well as Russia’s ability to conduct long-range airstrikes with aircraft. A prior ‘mystery’ blast at an air base in Crimea saw multiple Russian fighter jets destroyed. 

Authored by Bill Blain via MorningPorridge.com,

“Look not to the Sword waving around to your front, but the Stiletto threatening your kidneys..… “

Everyone is balancing inflation, economic numbers and this week’s Jackson Hole Central Bank schmooze-a-thon to guess markets. What if we are looking at the wrong things – and economic divergence, income and wealth inequality and unravelling domestic politics are the critical factors?

This week will apparently be all about inflation and deciphering new economic data to predict the path of the Global Economy and Stagflation risks. The big event will be the Jackson Hole central bank gabfest – anticipating what Jay Powell will say about the US Economy and the Fed’s perception of the required pace of rate hikes to counter inflation. His comments will have massive implications in terms of perceptions of bond markets, currencies, and company outlooks.

The ongoing battle vs Inflation has more than a few market watchers warning the July/August rally feels premature! Among the points that worry them is the reality of inflation numbers – even though the number (in the US) is apparently declining, it means prices are still rising and inflationary tension are still being stoked! It’s still unclear just how solid the short-recession rally is, or is it just a bear-trap?

More and more investors believe its policy mistakes – from the ultra-cheap interest rate policy of the 2010s, QE and government pandemic policies, to government failures to address critical responsibilities like energy security, that have created the best market opportunities in recent years. And they are absolutely right! The right way to have read markets is to game what central banks and governments are doing, and place your chips accordingly!

From 2010-2021 the simple trade was to buy everything and anything because money was mispriced by central banks, making even the most schizoid stock sound look relative value. Level 2 was to buy coal, oil and gas because ill-thought out polices and ESG wokery was creating chronic energy insecurity. What is Level 3? Work out what the next big series of policy mistakes are going to be… and I suspect it will mean playing central bank recovery policies – ie when real economic and wage inflation, global recession and economic unrest require them to press both monetary and fiscal easing.

When? Sooner than we think…

And to make it even more confusing… What if we are watching all the wrong things?

• Perhaps it’s the not the US economy we should worry about this week?

• While everyone is focused on inflation as the prime economic danger driving instability – what if it’s something else?

• What if the major risks remain political miscalculations?

Economic Divergence

The UK, Europe and the US – the Occidental West, and China are all headed on different economic trajectories. While we can probably be relatively confident the US economy will bounce out of recession pretty quickly, allowing the Fed to normalise interest rates and look to stabilise its growing economy in what will be recessionary global economy (Buy Dollars), the outlook for Europe is dire. The UK? Let’s not even go there.

And China? Its easing rates. Change is coming. A rising economic crisis is brewing:

1. The jobs compact appears to be unravelling; the party quelled dissent and held power by providing everyone with well paid jobs – now the rising standard of living has plateaued, and young adult unemployment is rising.

2. The economy is overly grounded on the thin foundations of the unbalanced property market – over 30% of the economy is vulnerable to wealth-effect reversal, and

3. The Demographics are moving swiftly against the Middle Kingdom. We can discount China exporting deflation around the globe (as it did from 2000-2020).

As for Europe… As Gas prices threaten outages and crisis, Germany is still going to shutter its Nuclear plants this winter. That makes a ton of sense. Not.

Wages and Inequality

Meanwhile, back in Blighty…  UK dockers have just started a potentially crippling container port strike that could exacerbate supply chain, logistics, and inevitably trigger empty shelves and a run on bog-roll. Damn these 1900 striking dock workers! How very dare they complain… Revolting just because they will see their post-tax disposable income cut by £2000 (say 10% of income) this year by rising energy bills… How dare they ask for more….! Ungrateful tykes, having being offered an exceptionally generous £500 one-off bung and an effective pay cut?

I don’t hear many folk outraged by news the average take-home pay of FTSE100 bosses has hit £3.4mm, up nearly 40%, according to the High-Pay think tank reported in the Times of London this morning. The top 224 FTSE executives earned £720 million in 2021. The Chief Exec of a mining firm trousered £23 million for CEO-ing its mining operations in havens of wealth like Burkina Faso – where I hear the local miners’ private health care packages are exceptional. (US readers – Sarcasm alert.)

Some folk clearly haven’t been listening to Bank of England Governor Andrew Bailey’s calls for pay restraint!

Much to my surprise, I was reading Young Conservatives (all six Tory party members under the age of 50), are disappointed Liz Sunak and Rishi Truss utterly failed to address the crisis in income inequality and the dearth of opportunity for young people in the Tory leadership whatever it is… coronation parade/contest?

Readers will not do doubt be surprised Dock Workers are unhappy with their pay cut offer. How can the nation possibly afford to give inflation busting wage rises to all key workers? If you pay the dockers, then the railwaymen will demand more! Even barristers are threatening strike action in pursuit of higher pay.

Unfortunately the drivers of wage inflation – be it FOMO, or relative income, or the perceived income injustices now perceived between older and younger workers – have already infected the whole economy. They are socio-economic forces that don’t give a fig for conventional political economy approaches. Solving them – will get messy.

How to solve or address out-of-control pandemic wage-inflation? I have simply no-idea – except that extraordinary times require extra-ordinary measures.. Hence I expect Governments will be forced to change tack and look at reflation in an inflationary environment.. Hang on to your hats…

I warned months ago the real danger of inflation is not just rising prices, or the difficulties it causes for both production costs and consumer affordability, but the unpredictable and potential chaotic social effects it could trigger. Rather than nations being able to grow their way out of a stagflationary crisis through job creation, an unexpected consequence will be worker scarcity: “why should I struggle into work on minimum wage, pay £1000 in monthly rent, have no savings, no holidays and no security, just so the bosses can have a great time?”

Politics

UK, German, Italian and US politics – watch them all. They all have a strong likelihood of spoiling your day in coming weeks. Bad politics have immediate and long-term consequences.

I am repeatedly told Donald Trump will not be the Republican Candidate in 2024, that too many Republicans now see through him, and the dismal showing of his candidates in US mid-term poling mean The Donald is set to cost his captured party potential majorities in the US Senate and Congress. The more I hear it, the more I fear it will happen – and the consequences for global trade, alliances, the environment, war, peace and everything will evaporate..

Yet, Trump is just another highly visible market risk. The issue is who and what is hiding in his coat-tails? Who are the US political names we don’t yet know who will emerge on the back of his philosophy in coming years to further bend and confound the US political process and its place on the world economy? Donald Trump may yet prove to have been a brilliant political figure, but only because he opened the door to legions of political wanabees much worse than himself!

My earnest hope is a return to sanity in Washington – but, as said so many times before – Hope is Not A Strategy. But Chaos is also opportunity!

Europe’s electricity prices jumped to a new record high on Monday. The energy crisis worsened as top German officials said extending the life of the country’s last three nuclear power plants would do very little in resolving the energy crunch ahead of winter as Russia squeezes natural gas supplies.

German media outlet Deutsche Welle reported German Economy Minister Robert Habeck spoke at the government’s open-door day in Berlin on Sunday. The official said extending the lifespan of the three nuclear power plants would only save 2% of NatGas use. 

It’s the “wrong decision given how little we would save,” Habeck said. However, he said extending the lifespan of the Bavaria nuclear plant could be an option because it would supply much-needed power to a major manufacturing hub that relies heavily on NatGas-fired power plants and has limited coal-fired plants and low wind production. 

While this isn’t the first time the government downplayed the possibility of extending the lifespan of the plants, comments last week from the government denied a WSJ report that indicated a possible extension. 

Chancellor Olaf Scholz was also present at the event and echoed a similar message:

“What worries me is that there is no ready answer to the question of what happens when gas runs out.

“If we were to make the decision to keep them running so that we make sure we don’t have a problem this winter, then it will only make a small contribution to solving our challenge, because it is only about electricity production.” 

Bloomberg data shows that nuclear power generation in Europe’s largest economy has steadily declined since the 2011 meltdown at the Fukushima nuclear plant in Japan.

Germany has asked citizens to conserve NatGas and reduce power consumption. The latest data from the Federal Network Agency, the country’s energy regulator, show that NatGas storage is around 78% full.

“There is no scenario in which there is no gas, but there is a scenario in which there is not enough gas in storage, and supplies in other forms are not not so available as they were,” said Habeck. “The question is how big is the gap in the worst case. There is a gap and that is the real question.”

A recent poll of Germans shows about 60% of them favor extending the life of the three nuclear power plants. 

So it appears Habeck might only support the Bavaria nuclear power plant’s lifespan because it supplies critical power to factories. 

Meanwhile, German power prices hit a new record high Monday of more than 700 euros per megawatt-hour as energy markets are convinced the nuke plant extensions aren’t coming.  

Power prices are 14 times the seasonal average over the past five years. Even though nuclear is a small percentage, every little bit would help the energy-stricken country ahead of what’s expected to be a dark winter. 

The major question is when EU leaders will wake up that they need Russia NatGas this winter season or risk high energy inflation that will spark socio-economic turmoil across the continent. 

By Garfield Reynolds, Bloomberg Markets Live commentator and reporter

The gathering consensus that inflation has peaked is spurring a FOMO moment for bonds, with investors eager to buy and chatter that 10-year Treasury yields could drop all the way back to 2%. That sort of Treasuries rally is unlikely unless China’s slowdown worsens.

While the Fed is willing to risk a recession to quell inflation, China’s economic outlook is going from bad to worse. Most troubling of all, Beijing is turning abruptly back to exactly the sort of stimulus measures they warned of as being counter-productive. It’s a nightmare scenario for global GDP and a boon to bond holders.

This helps explain why deep-pocketed investors from US fund managers to Japanese life insurers and Australian pension giants are lining up to buy bonds despite yields that are way below inflation levels.

Indeed, the average yield of Bloomberg’s global government bond index topped out not much above 2%. While much of that period saw unprecedented central bank stimulus, there’s plenty of evidence that the savings glut remains a powerful restraint on yields.

The China factor feels like it’s been overlooked for too long, with the country’s epic transformation making it hard to imagine that the days of 6%-plus GDP are never coming back. But the reality is that China’s 12-quarter moving average for annual GDP growth is back under 5%.

With this in mind, the bond markets in Australia and New Zealand are worth keeping an eye on. If they outperform versus Treasuries, that would signal China is weighing even more severely on the world economic outlook.

China’s woes are bubbling up while the market has turned decisively sour on the US economy. On top of the dramatic inversion of the classic 2s10s curve, two-year Treasuries are also yielding well above two-year OIS forwards.

This latter measure recently topped a 50-basis-point premium, which was the most since 2019 when the Fed was cutting rates. It adds the short end of the curve to the buy-and-hold menu for bond investors and underscores expectations for recessions in the US and around the world. While bear-steepening is the trend with Jackson Hole approaching, that sets up the potential for strong reversals should growth fears come to the fore after the confab.

With the Fed and most of its developed-market peers clear on their intention to control inflation, China may be the swing factor for bonds.

If the storm brewing in China eases once Xi Jinping secures a third term as leader, a lot of the uncertainty hanging over the global economy will fade away. If the clouds linger, or get even darker, then US 10-year yields could reach 2% very rapidly.

The world’s second largest cinema chain, Cineworld, is continuing to weigh its options for bankruptcy and restructuring, including filing Chapter 11.

The company is “n discussions with many of its major stakeholders, including its secured lenders and their legal and financial advisers”, according to an update from Bloomberg Monday morning.

The Bloomberg report also noted that the company is seeking near-term liquidity and a path to support a “fully funded deleveraging transaction”. In other words, things probably don’t look too great for the equity…

The company says it will likely maintain operations throughout the course of the transaction with little to no impact on its employees. 

Recall, we wrote just hours ago that the company was preparing for bankruptcy. 

Cineworld operates 9,000 theaters in 10 countries, CNBC reported on Friday. It blamed its financial woes not only on the pandemic, but on a “lack of blockbusters” hurting admissions now that people are allowed back in theaters.

“Despite a gradual recovery of demand since re-opening in April 2021, recent admission levels have been below expectations,” the company said. 

Box office sales are down 30% compared to pre-pandemic, the report notes. At the same time, there has been a double whammy for movie theaters, as 30% less films are being released directly to theaters, as streaming platforms have risen in popularity. 

It had $8.9 billion in net debt at the end of 2021, compared to revenue of $1.8 billion. The company brought on two popular bankruptcy advisors, Kirkland & Ellis LLP and consultants from AlixPartners, to help advise on proceedings. 

The announcement dragged down U.S. based theaters AMC and CNK in trade on Friday.  That pain has appeared to continue this morning, with AMC briefly plunging near single digits after trading close to $25 just days ago…

Authored by Lance Roberts via RealInvestmentAdvice.com,

Jerome Powell isn’t Paul Volcker, and this isn’t 1982. As of late, market analysts are stumbling all over themselves, trying to outdo each other on the “why this time is different” related to the Federal Reserve’s ongoing inflation fight. One of the more interesting comparisons came from the always uber-bullish Tom Lee of FundStrat.

He argues that the market setup is similar to what investors experienced in August 1982. Then, a strong rally in equity markets took place as the Fed began to pivot away from its inflation fight. In the summer of ’82, the U.S. economy was in recession, and then-Fed Chair Paul Volcker had not yet signaled whether the Fed would ease up in its campaign to slow inflation. ‌In October that year, Volcker signaled the Fed could temper efforts to slow inflation.

“The forces are there that would push the economy toward recovery. I would think that the policy objective should be to sustain that recovery.” ‌

Two months before the pivot, markets sniffed out the Fed’s plans. Over the next four months, the losses from the 22-month bear market that saw the S&P 500 fall by 27% got reversed.

When it comes to the financial markets, Sir John Templeton once said:

“The four most dangerous words in investing are ‘this time is different.’”

While that is a true statement, particularly when it comes to excuses as to why bull markets can continue indefinitely, there are differences in historical comparisons. When an analyst “cherry picks” a random point in market history to base their investment thesis, one should take such with a “heavy dose of salt.” The reason is that “this time is different.” Every period is different due to the differences in the makeup of the economy, markets, consumption, production, debt, and a litany of other domestic and global factors.

To say 2022 is like 1982 is a dangerous statement, particularly when 1982 is taken entirely out of the context of what preceded it.

But, as Paul Harvey used to quip, “in a moment…the rest of the story.”

The Road To 1982

The road to 1982 didn’t start in 1980. The buildup of inflation was in the works long before the Arab Oil Embargo. Economic growth, wages, and savings rates catalyzed “demand push” inflation. In other words, as economic growth increased, economic demand led to higher prices and wages.

What is notable about that period is that it was the culmination of events following World War II.

Following World War II, America became the “last man standing.” France, England, Russia, Germany, Poland, Japan, and others were devastated, with little ability to produce for themselves. Here, America found its most substantial run of economic growth as the “boys of war” returned home to start rebuilding a war-ravaged globe.

But that was just the start of it.

In the late ’50s, America stepped into the abyss as humankind took its first steps into space. The space race, which lasted nearly two decades, led to leaps in innovation and technology that paved the wave for the future of America.

These advances, combined with the industrial and manufacturing backdrop, fostered high levels of economic growth, increased savings rates, and capital investment, which supported higher interest rates.

Furthermore, the Government ran no deficit, and household debt to net worth was about 60%. So, while inflation was increasing and interest rates rose in tandem, the average household could sustain their living standard. The chart shows the difference between household debt versus incomes in the pre-and post-financialization eras.

What was most notable is the Fed’s inflation fight didn’t start in 1980 but persisted through the entirety of the 60s and 70s. As shown, as economic growth expanded, increasing wages and savings, the entire period was marked by inflation surges. Repeatedly, the Fed took action to slow inflationary pressures, which resulted in repeated market and economic downturns.

Valuations Mattered

The road to 1982 was not a smooth one, but notably, while Mr. Lee suggests a Fed pivot would incite a similar market response, there is some additional history worth reviewing for important context. The 1960s and 70s were not kind to investors. As noted, the Federal Reserve steadily fought the repeated bouts of inflation. The resulting market volatility pounded investors with repeated bear markets and economic recessions. While many focus on the 1974 bear market, most don’t realize there were three preceding bear markets. On an inflation-adjusted basis, real returns for investors over the entire period were poor; by the time 1982 arrived, valuations had fallen from 23x earnings to 7x.

Unfortunately, despite the correction in 2022, valuations remain well elevated above historical bull market peaks.

Given the high valuation levels, inflation, and an aggressive Fed emulating “Paul Volcker,” it is unlikely markets will repeat 1982.

The 1974 Analog

There are many differences between the Paul Volcker era and today, and none for the better. With the Government running a deep deficit with debt exceeding $30 trillion, consumer debt at record levels, and economic growth rates fragile, the ability of consumers to withstand higher rates of inflation and interest rates is limited. As noted previously, the “gap” between income and savings to sustain the standard of living is at record levels.

The current financial difficulties make weathering an aggressive Federal Reserve more difficult for households. A sustained bull market is challenging to anticipate as households comprise most of the economic activity. Such is what ultimately translates into corporate earnings.

While Mr. Lee hopes the Fed will “pivot,” as noted previously, there are a few reasons to expect such. To wit:

“Currently, there are NO signs of financial stress, much less instability. From the Federal Reserve’s perspective, despite the decline in asset markets in 2022, investors are still 23% higher than at the market’s peak in 2020. Absent a disorderly meltdown; the Fed will remain focused on stocks being still above their pre-crisis peak. Secondly, while credit spreads have risen, they are still well controlled, suggesting that financial stress in the credit markets remains low.”

Furthermore, even if the Fed does “pause,” such is far different than cutting rates to zero and restarting QE. Those actions would occur given an increase in financial instability, suggesting much lower asset prices in the process.

Given the current market dynamics, it is worth looking back at 1973-1974. Such was when the Fed was last aggressively fighting high inflation levels.

It may be no coincidence that market behavior is similar.

While this time is not the same as the previous, there are vast differences between today and 1982. While Jerome Powell is emulating Paul Volcker currently, there is a significant probability the outcome could be vastly different.