I have trampled around in the same weeds recently, so I will keep it short this week. Equities are doing what they’re supposed to, trying to complete a V-shaped recovery from the swoon earlier this month. Last week was a corker, even for the portfolio, which benefitted from solid earnings reports. Bloomberg’s Joe Weisenthal had me one-on-one on Monday, where I duly warned that the S&P 500 remained overvalued relative to other asset classes. Even Gartman couldn’t have done it better. On this occasion, though, I am happy to double down. A V-shaped rebound to a new bull run looks like wishful thinking to me. Equities are the least of macro investors’ problems, though. The puzzle of the day remains the link between rising U.S. yields, a firming cyclical outlook and a falling dollar. In my last post, I asked the question of whether foreign savings would come to aid of a U.S. economy at full employment—with a record low savings rate—about to be jolted by fiscal stimulus. Open macroeconomics suggest that such an economy should open up a large external deficit, and Japan and Europe have the savings to make it happen. Alternatively I suggested that perhaps the rest of the world doesn’t fancy financing excess spending and investment in the U.S.
Read MoreI promise that I will not do an explainer of the VIX this week. Instead, I will lead with some observations on markets and finish with a war-story from the world of retail investing. The return of equity volatility has engendered two responses. Firstly, it seemed as if investors breathed a sigh of relief on Monday when it became clear that we could peg the swoon to the blow-up of short-vol ETFs and related strategies. It is always scary when markest fall out of bed, and even more if so if we can’t explain why. Blaming excessive risk-taking in short-vol strategies assured that the sell-off, while painful, would be short. Secondly, every strategist note that I have subsequently read—and comments from policymakers—have echoed this sentiment. A sell-off was long overdue and is perfectly normal. There is nothing to worry about, and underlying economic fundamentals for risk assets remain robust. Many have even welcomed the volatility as a sign of healthy markets. I have no particular reason to disagree, but my spider sense tingles when investors and strategists welcome a 10% puke in equities. I understand that macro traders are excited but real money and long-only? The logical response from markets would seem to be: “Oh, so you think you’re tough?”
Read MoreYour humble scribe is old enough to remember the Kinder egg commercials, which lured kids with the promise of a three-in-one treat. Chocolate, a surprise and something to play with. Markets feel similar at the moment except they aren’t exactly treating investors; they are posing a riddle. The year has begun with a rally in stocks, a collapse in the dollar and sharply higher global bond yields. Just as punters seemed to have settled on this constellation of price movements, though, markets threw a curve ball last week. The sell-off in bonds continued, but stocks weakened, and the dollar strengthened. What the heck is going on? I was never a fan of the idea that a weaker dollar and higher U.S. bond yields signalled investors’ abandonnement of U.S. assets in the face of a shit-show in Washington, aggressive fiscal stimulus and a widening CA deficit. This is especially the case given that we were supposed to keep buying U.S. stocks. That makes little sense if you think that U.S. assets are no longer high quality.
It is relatively simple to make sense of bonds, stocks and the dollar in isolation. But if we want to connect them, our best chance is to start with how bonds impact the two others and work our way up from there.
Read MoreApparently, the flogging of the dollar will continue until morale improves. I said my peace on the topic last week, but that hasn’t prevented markets from upping the pressure on the greenback. The prospect of a government shutdown added to the pain last week—it is now a reality—but so far other markets haven’t taken note. Bond yields have been rising, although not faster than before the dollar was taken to the woodshed. And equities…well, it’s looking pretty good, isn’t? Global equities rallied incessantly last year, and they have come out swinging in 2018. The MSCI World is up a punchy 4.3% year-to-date, and we aren’t even through the first four weeks of trading. In case you’re wondering, this pace would deliver a cool 74.5% return for the year, if sustained. Even the most ardent equity bulls probably don’t believe that, but I am starting to wonder what exactly we’re supposed to expect. I have also reached the stage where I am struggling to make sense of my equity models. I concede that the technical picture is mixed. My normalised put/call ratio on the S&P 500 has collapsed, indicating that few investors are bothered to hedge. Breadth, however, remains resilient, hinting the big bear is still far away.
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