As The Tri Polar World Turns: Rotation Not Recession

1362 words – we distill a 4500-word report complete with 27 charts from 16 different sources into a 4 minute read.

Today’s question: Are recent economic data points and dip & rip market machinations suggestive of impending recession or simple market unwinds that will fade as the global economy continues to expand?

In clarity there is value, hence today’s title. We believe global equities are rotating away from slavish dependence on Big Cap Tech to a more balanced advance as a soft landing comes into view stateside.

Soft landing implies sustainability. Sustainability underpins our long standing global macro blue sky outlook for the 2023-2027 period.

When one zooms out beyond the latest market moving data point one notes there are very few economic imbalances screaming out for rapid adjustment. There is no credit crunch for the Fed to fix. Labor markets remain tight, a secular shift that we believe is in early innings and provides a solid backdrop for continued productivity gains and hence corporate earnings power.

We are early in a global rate cutting cycle that is likely to be the most synchronized in 40 + years. Global liquidity continues to expand as the Fed joins the rate cutting party. Equity market action has flipped overbought conditions to oversold, turned sentiment from a headwind to a tailwind while global forward EPS estimates expand and valuation improves. Non recessionary rate cuts are bullish.

We view the ability of global equities to absorb the tech leadership selloff as a sign of strength. We hold the same view towards the global economy’s ability to shrug off the rapid shift from ZIRP to the highest rates in decades without a recession. This is bullish trend action not bearish.

We note the global cross asset dichotomy between Bonds & Commodities signaling recession risk while global equities & Credit remain sanguine. We view Credit as the dog that didn’t bark.

We see rotational, fresh money opportunities from large caps to small, from US to ROW, from USD to EM FX and from shunning commodities to owning them.

CLIMATE

The mix of good news, bad news continues. Good news includes the expansion of renewable energy that helped keep the lights on and the AC running amidst a record hot summer for the northern hemisphere (looking at you, Texas). The bad news is excess supply continues to devastate the P&L of renewable energy companies (and their stock prices).

We sense the harsh realities of the market place are beginning to have an impact. We note Chinese solar companies mothballing expansion plans and engaging in M&A consolidation while the Chinese Govt shuts off the IPO funding pipeline. CATL, the world’s largest battery maker, considering closing lithium production centers is another good sign.

We note the continued expansion of Chine’s NEV market to now include 53% of August sales vs 5-10% in the US & Europe, China is where EV innovation happens and foreign car companies are getting their lunch eaten to the extent that Volkswagen is considering to close plants based in Germany for the 1st time in its history.

ECONOMICS 

We see sustained economic expansion in the US & globally as companies hoard labor, productivity improves, consumers consume and rate cuts start to support the housing and cap ex sectors.

Manufacturing remains weak but BofA and others make the case for an imminent expansion, a scenario supported by robust hard data (IP) and stock price performance (new ATHs for XLI – Industrials). We focus more on hard data and stock prices than on surveys.

Our 4 for 24 global macro surprises continue to play out domestically and abroad. Inflation expectations have collapsed, productivity continues to expand and stability supports an early cycle global economy.

Ex US economic activity is picking up in Japan where the Govt raised its growth outlook for the 1st time in 15 months. Europe should benefit from a sustained rate cutting cycle while China continues to grow at 2x the rate of the US – something one would never gather from all the doom & gloom surrounding its economic performance.

POLITICS

We have perhaps just witnessed the most consequential series of Presidential debates in American history as both leading candidates have been knocked out, one after another. CNN’s post-debate poll had Harris winning at 63%, the best debate performance ever by a Democratic candidate. 

Sure, we may have to wait till Nov 5th to confirm the end of Trump but make no mistake – if Joe Biden lost his shot at a 2nd term in debate one, Donald Trump lost his chance in debate two. Trump’s performance was much, much worse than Biden’s first debate. In a rambling, ranting, raving display that belonged more on a 34th street corner than in a debate hall Trump yelled about eating pets and killing babies. It’s over for him – next stop not the White House but the Big House.

Policy continuity remains key for continued US economic outperformance  and that is now virtually assured. Multiple independent analysts have compared the two platforms (such as the Rep one is) and have stated that the Harris program is much better for the American economy. We agree.

POLICY

The success of China’s state supported vault to global leadership in the clean energy space coupled with the outperformance of the post Covid US economy due largely to the go big approach of the Biden Admin creates facts on the ground. These facts are the need for public private integration to succeed in capturing the high ground of the global economy.

This POV was just verified by Mario Draghi in his European Competitiveness report. He also confirmed that it is a Tri Polar World (TPW) and Europe is in danger of being reduced to third place as the US/Americas duels with China/Asia. This latter point is no surprise to our clients – after all its in our name.

Draghi’s recommendations read like a check list of what the Biden Admnin has done with the Chips Act, the Infrastructure Act and the IRA. Public private partnerships coupled with abundant risk capital and a streamlined decision-making process lead to innovation at scale & a focus on productivity to drive wealth creation.

It’s a Tri Polar Wodl and those regions able to leverage immigration & public private capital raising will occupy the high ground in the critical areas of AI, Climate, Infrastructure and Defense.

MARKETS

As noted in a recent Musings we want to stick to our process and stay the course. Trading against the machines is a loser’s game. Much better to chart a course for the future, red pill it constantly and adjust accordingly. That is something the machines cannot yet do.

We view an expanding global economy free of major imbalances, supported by a synchronized global rate cutting cycle and abundant liquidity as a recipe for continued earnings growth across the US, Europe & Asia.

That outlook underpins our asset allocation framework for our Global Multi Asset (GMA) model portfolio. We remain fully invested, OW global equities, UW FI and OW commodities. The latter two have been problematic of late but we see little value in 3.7% 10 yr. UST and see no reason to follow up one mistake by making another.

Conversely, we see significant appeal in the commodity space (Oil, Copper, Uranium miners) with low inventory levels, massive speculation to the short side and significant MT supply – demand imbalances.

Within our equity holdings we remain exposed across cap levels, sectors & geographies. We suggest fresh money should look to US Small Caps, Cyclical sectors and offshore markets like Japan, EU banks & China tech together with the Commodity space. We continue to believe we are early innings in the AI revolution and that semis are the best pick & shovel way to play.

Within FI we remain credit focused in both the US and abroad. We note that the CCC space in US HY has rallied for the past 6 weeks in a row – the opposite of what one would expect if a recession was truly imminent.

We expect continued USD weakness which we think could weigh on UST rates and support ROW equities & Commodity appreciation.

Enjoy Monday's 10 minute interview from the NYSE floor.https://schwabnetwork.com/video/factors-to-watch-as-markets-aim-for-rebound