Never Before Seen

1350 words – a 4 minute read.

I was on Bloomberg TV Wednesday morning – it was a great session. I like doing TV or radio because I always prep my comments and the interplay of a quick hitting, wide ranging interview tells me a lot about what resonates. This time was no different as the above title and the spine of these Friday musings (delivered on a Thursday thanks to Christmas) come right from my interview notes. The TPWA flywheel in the Age of Speed.

“Never Before Seen” is a fairly grand claim – what do I mean by it? Basically, that Cop26 brought global alignment to climate targets with the result that 140 countries, accounting for 90% of global emissions, have signed up to Net Zero targets and have agreed to meet again in a year to review progress.  I think its fair to say that never in human history have 140 Govts agreed to focus on a single issue (Climate) and to invest and meet annually over the coming years to assess progress. Climate is THE global macro issue of the 2020s.

This spending, as noted in Covid Speed and Climate Speed, is occurring on a global basis with intellectual and financial capital in each region working to come up with Climate and Covid solutions and in so doing driving the Tri Polar World. This reinforces the thematic opportunity set we invest in via our TPW 20 100% thematic Model Portfolio and which infuses our Global Multi Asset flagship Model Portfolio as well.

Last week’s Musings was titled: Bend but Don’t Break Markets and this week has provided just the latest example of such. Build Back Better’s flameout, a true surprise bc who didn’t think the Dems would be able to agree among themselves on such a critical issue (foolish me!), led to a bloody Monday. The most volatile December in years has given both bulls and bears a reason to hope that their outlook might come to pass – Mr. Market has been quite generous and in a giving holiday spirit in this respect.

Range trading assets, be they equity, bond, commodity or currency, have all bounced off the bottom of their ranges; markets remain in a holding pattern, trying to ascertain the post Covid outlook, a holding pattern that has lasted roughly 9 months in the case of many Cyclical – Value & Thematic segments.

The good news is that Omicron has been found to be much more transmissible but also much more mild for those either vaccinated or previously infected. UK data suggests a sharp decoupling between Covid case levels and death. Assuming those conditions hold ((a big assumption) Omicron may mark the beginning of Covid’s endemic period where virtually all are either infected or vaccinated and boosted and we can start to see that post Covid Clarity. 

Bloomberg’s Covid Resilience rankings suggest reopening progress has stalled on a global basis but not reversed – Speed of Science (anti viral pills etc.) suggests a short lived & relatively minor economic impact. Govts are confused by the shift in focus from Delta to Omicron – society – especially professional sports like the NFL and NBA -  seem to be leading the way to a much more flexible relationship with Covid, the beginning of the endemic period.

At the same time 2022’s #1 risk, according to most surveys, namely a Fed policy mistake, has been taken off the board as the Fed meeting lined up with the bond market expectations and equities bought the news on the dot plot and accelerated taper. The Fed dot plot is now more aggressive than the market.

Here is the key. I think we are at peak Fed hawkishness which dovetails with peak PBOC passivity and sets up the potential for a USD rollover that would catalyze risk assets across Cyclical/Value, thematic, non US equity and commodities as well. The short end of the rate curve can rally while the long end sells off, steepening the yield curve as fixed income investors discount both Omicron and strong growth. This is what I am watching for in real time. 

The history of past Fed rate hike cycles suggests the USD rolls over at the onset of the Fed tightening cycle. DXY peaked on Nov 24th and EM FX is starting to catch a bid after a year to forget. Should the PBOC swing into action the Euro could also catch a bid as a backdoor play to China growth recovery. This USD view is far from consensus and key for risk asset positioning.

Near term sentiment, positioning and seasonality are all constructive with the Santa Claus rally ahead (last 5 trading days of 2021, first 2 trading days of 2022, i.e. 12/27-1/4). Up next is Q4 earnings which I expect to be quite strong given double digit nominal growth in the US. Earnings growth outside the US should also be robust with Asia reopening & continued European growth. A guy worth paying attention to, Kevin Muir at Macro Tourist, has laid out an interesting case for a strong equity run in the coming weeks complete with an option whale kicker – he suggests YE 2017 as the analogue.

2022 then sets up as a year of clarity, of above average growth and declining but above trend inflation. The mechanical, base effect of inflation suggests a peak this month in the US and a sharp decline to roughly 3% by Spring. The Fed taper ends in March; expect the Fed to take its time to assess employment and inflation before hiking. 

Inventory rebuild, consumer spending are short term drivers to global economic activity next year, followed by growing potential for a DM cap ex boom coupled with a productivity surge to offset rising wages and dampen inflation. The analogue continues to be the 2nd H of the 1990s -the last US cap ex boom and productivity surge. This time it could be global & is completely unpriced.

High DM nominal growth rates relative to pre Covid levels coupled with sustained negative real rates (real yields will remain negative even when Fed is done hiking in 2023) underpins solid earnings growth and positive equity and risk asset returns, especially in non US should the USD roll over. Our equity focus remains on Asia, especially China where we have recently gone overweight across assets in preparation for “China 2022 glide path”. Given its zero Covid policy China is most exposed to a mild Omicron outcome while as the biggest weight in broad EM, China will also get a tailwind from EM allocations, should they materialize. Commodities should also do well – there is a significant disconnect between equity prices of miners & energy producers for example and the price action in the underlying physical commodity – iron ore prices and PICK is one example, GDX at ATLs vs the SPY is another.

One debate worth noting is whether thematics are entering or exiting a bear market. I found it instructive that the first ETFs to catch a bid on Monday were the beaten up segments: reopening trades (JETS), China tech, bio tech etc. The Age of Speed coupled with a never before seen environment of global financial & intellectual capital focused on key themes suggests to me that one does not want to be too bearish thematics. Add in likely PBOC easing, USD rolling over, peak Fed hawkishness and sustained negative real rates and it looks more like bull than bear. JC Parets at All Star Charts notes that new 52 week lows for both the NYSE and Nasdaq peaked at the beginning of the month…I am more in the new thematic bull than new bear camp.

This is the last Musings of the year as I will be off next week, returning the following week.

Pleas enjoy this Nucleus interview from last week where we cover some of this ground.

Thank you for your interest in & support of TPW Advisory in this, our first year. It’s been a heck of a ride! I look forward to all that 2022 will bring and wish you the best of holidays!