In the land of the blind, the one-eyed man is king

Local market recovered from the early bashing to finish negative again as continued bond selloff takes effect. Bond yields are running again and reality check is hitting overvalued markets. Similar to yesterday, the late buying support for banks did the heavy lifting to bounce off the lows. Yield affected growth sectors like Tech and Health Care as well as Currency/Commodity affected Miners were the most hit. Energy was the abnormal outperformer due to OPEC cartel expectations to keep supply cuts going. Non Farm Payrolls out tonight and last ADP data suggests weak data coming. Market wants a bad number or bond yields will run hard. Bad news is good news again…well…bad news is better than good news…relatively. We may be in bond crash but capital destruction in bonds is still less than the collateral damage in equities when you have central bank twist in play. As the saying goes… “In the land of the blind, the one-eyed man is king!”.

US Fed chair was the overnight catalyst that drove bond yields back to the recent highs. US Fed chair confirmed that inflation numbers are likely to pick up in the next 3-6 months due to reopening but they are not in a rush to control it. Rather they want the economy to run hot. The only problem is the track record of Central Banks controlling inflation on the run is same as me beating Usain Bolt in a 100m dash. There is always a chance but reality is not aligned to that outcome. The US markets are evolving from negative yield expectations to rising yields towards 2.00% in less than a few months. Investors in the US are struggling to adjust to the bearishness in the bond market when equities are coming from historical high optimism on options, leverage and exposure in equities during Feb. It was as if the US Fed chair wanted to jolt the investors back to reality. Logic suggests that US Fed would have communicated with ECB and BOJ ahead of making these statements. In such case, ECB is unlikely to do much next week. You have to remember that ECB is preparing to stimulate EU economies are still stuck in partial lockdown restrictions. You have to wonder what RBA was thinking earlier this week when the bigger boys are yet to come out and play. US Fed just made RBA’s strategy irrelevant as we expected. It does look like we are just starting the Yield 2.0% cycle but the US data suggests we may be looking at Yield 2.5% cycle by Q3. Big brokers are starting to call 2% by year end but the reality is that inflation data is going to be over 3% over the next 3-6 months and we don’t see bond yields staying down. US Fed will eventually move to yield control but that will debase the currency and make inflation even worse. RBA has already lost control of the currency and now the bond yields as well. Asset bubbles in bonds, equities and property are going to get tested with rising global cost of borrowing. No rate rises for 3 years…Tell them they are dreaming!!!

The chart shows the US S&P 500 market cap weighted and equal weighted. In a simplistic sense, the mega cap growth stocks enjoyed extensive multiple expansions on the view that bond yields were going negative. Now yields have flipped on its head and moving higher. Logic suggests that US market will experience multiple reduction lead by the high multiple mega caps in a pullback cycle. History suggests the market cap weighted index falls to meet the declining equal weighted index. We are potentially looking at nearly 30% downside risk. When will the US Fed intervene? 10% drop? 20% drop? 30% drop? Twist (i.e. sell short yield and buy long yield) looks inevitable. What is the Central Banks pain threshold? Time will tell.

Comments on US market last close

US market started positive and then fell hard after US Fed chair confirmed that inflation will pick up in the short to medium term but they will let it run hot. US 10 year ran up to 1.55% and looks like more coming in the next week. Plenty of bond issuance ahead as debt piling up for decades. Reflation and oversupply are going to keep hitting the bond market. RUSSELL lead the falls with NASDAQ second. USD followed yields higher on risk off trade. All the metals were hit but oil held up on OPEC hope. Energy and Gold were the only green sectors on a day when even the crypto currency were weaker. Tech and Retail were the worst hit as they hold the big multiples. Stimulus package is proceeding gradually and getting trimmed slightly. Negative real yield ahead, get some gold exposure.

Remain nimble, contrarian and cautiously pragmatic with elevated global macro risks!!! Buckle up...it’s going to get bumpy!!!

Full SUNSET STRIP report with end of day market stats are on the attached link.