Beware economic cycles and asset bubbles
Local market was bashed in line with US market on Friday as reflation bites. More and more central bankers, economists, strategists and fund managers are starting to voice they worry about inflation running hotter and for longer than expected. There was no big performance difference in size categories but micro caps were the worst hit. Staples and Tech were the best of the green sectors while Banks and Utilities were the worst of the red sectors. Asian markets were all red with Japan falling as much as 4% through the day.
It is all about the cycles. Central Banks have over played their hand and started to believe their own hype. They started to believe that they can create an economic nirvana where you don’t have business or economic cycles. The weapon of choice was stimulus.
Central Banks moved away from emergency use of stimulus to daily use like an addict overusing painkillers. Once the kick from painkillers was not enough, the addict moves to stronger and stronger drugs till it all goes wrong. Central Banks were no different. They were peddling pain killers for the economies and when that stopped working, they went for hard core helicopter money through Quantitative Easing (QE). It has completely blown out the inequality and made asset bubbles in every asset class.
It was a weird science experiment in modern monetary policy at the best of time. Stimulus addicted economies have ignored risk. The investment sentiment turned from capex driven economic growth to just pumping asset bubbles. The only problem was the pandemic miss management has created substantial supply side issues and more pandemic waves. The eventual equilibrium has unleashed inflation into a global economy with asset bubbles and extreme debt. Inflation is going to outpace wages growth for years to come and that means weaker consumer spending, weaker economic growth and weaker corporate profits. The only solution the US Fed has is to deliver more stimulus and that will make it worse. The supply side issues and new pandemic waves are going to be around for most of 2021 and may be even into 2022.
We may be about to see the end of the “Don’t fight the Fed” cycle. The economic and business cycles are about to take over and the economies are not ready for it. The economy bites back!!!
Logic would suggest that central banks will take a back seat and let the cycle play out. But there are too many vested interest groups that have a lot to lose. Central Bankers will be lined up to defend the undefendable view that endless stimulus and top down economics actually works. We may even see more stimulus hope and even central bank comments that there will not be rate hikes for years. It makes no difference. US corporate season is coming in a few weeks and the outlook statements will have to deliver outlook downgrades on rising costs, falling currency, higher cost of borrowing and weaker stimulus. The asset bombs have started ticking on inflation. Central banks and governments will be spinning some fairy tales to hold it together but the cycle may have left them behind. The inevitability of the cycle points to central banks losing control. Time will tell.
The main indicators to keep an eye on are the US dollar and the US bond yields. Rising USD and falling bond yields suggests risk off trade away from equities. We are in a window of uncertainty in terms of the market timing with skew index at all time high. The amount of US Fed speakers appearing on the media cycles are highly correlated to US Fed worry about the markets. Expect a big turnout of US Fed speaker this week as the economy bites back!
Let us run through the main data points released in the last 24 hours…
Retail sales in the United Kingdom rose by 24.6% from a year earlier in May 2021, following a 42.4% increase in April and missing market expectations of a 29% advance. Retail sales in the United Kingdom declined by 1.4% from a month earlier in May 2021, following a 9.2% increase in April when retail coronavirus-induced restrictions were eased and missing market expectations of a 1.6% advance. Receipts at food stores fell 5.7%, as the easing of hospitality restrictions had an impact on sales as people returned to eating and drinking at locations such as restaurants and bars; and on-line trade dropped by 4.2%, following the reopening of non-essential retail. On the other hand, non-food stores reported a 2.3% rise, with household goods stores, such as hardware and furniture stores, and “other” non-food stores reporting the largest growth of 9.0% and 7.7%, respectively. Automotive fuel sales increased by 6.2%, as people continued to increase their amount of travel. Still, total retail sales were up 9.1% when compared with their pre-pandemic February 2020 levels.
The Eurozone current account surplus widened sharply to EUR 31.4 billion in April of 2021 from EUR 12.1 billion in the same month of the previous year. The goods surplus jumped to EUR 26.4 billion from EUR 11.2 billion, the services surplus more than doubled to EUR 10.4 billion from EUR 3.9 billion and the secondary income gap fell to EUR 11.7 billion from EUR 12.4 billion. On the other hand, the primary income surplus narrowed to EUR 6.3 billion from EUR 9.5 billion.
Retail sales in Australia rose by 0.1% month-over-month in May 2021, slowing from a 1.1% growth a month earlier and missing market consensus of 0.5%, preliminary data showed. This was the third straight month of increase in retail trade and the softest pace in the sequence, amid COVID-19 restrictions in Victoria during the last week of May. Food retailing led the rises, while sales fell in household goods retailing, and clothing, footwear and personal accessory retailing.
The People's Bank of China (PBoC) left its benchmark interest rates for corporate and household loans steady for the 14th straight month at its June fixing, as the economy continues to recover from the downturn caused by the COVID-19 shocks. The one-year loan prime rate (LPR) was left unchanged at 3.85%, while the five-year remained at 4.65%.
Comments on US market last close…
US market fell on ‘quad witching’ Friday on inflation worries. Market was ready to fall and extra volatility from options/futures expiry and St Louis Fed President calling rate rise next year hit the weak spot. St Louis Bullard said inflation is going to be higher than expected and rates will rise in 2022. It’s the usual US Fed cycle. Start long term change and then shorten the period quickly. RUSSELL -2.17%, DOW -1.58%, S&P -1.31% and NASDAQ -0.92%. Bonds and USD higher on risk off trade and everything else was down. Oil went against the trend higher on OPEC forecasting lower US production. Not sure rising oil price in reflation will deliver that. VIX popped to just short of 21. Energy, Utilities and Banks lead the bashing on a day when all sectors were red. AUDUSD is below 75 cents now.
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Over 25 years’ experience in the finance/tech industry. Mathan has worked extensively in all parts of the finance sector (i.e. County NatWest, Citi, LIM, Southern Cross, Bell Potter, Baillieu Holst and Blue Ocean Equities). Currently Founder and...