Welcome to March 2022. Our core market thesis is now available here. Because the thesis changes infrequently, we now leave it as a reference on the right side menu. If you are new to these pages, start with the thesis to put context to these forecasts. If the hypothesis were to change materially, we would publish an update.
The week started with the Navigator Algorithm taking us back to cash on a stop after slight gains on our last entry. Index prices likely reflect the geopolitical situation getting worse before it gets better. Our year-to-date returns are phenomenal without a single losing round trip.
The Ukraine conflict inherently feeds an unhealthy dynamic: slower growth and higher inflation. The Fed will tighten financial conditions – the extent to which remains an open question until mid-month. Chairman Powell wisely telegraphed flexibility in his latest testimony to Congress. But how exactly does the Fed drive inflation from 7% to 2% when oil is over $120 (+22% last week alone) and 10yr real rates are down 92bps (down another 33bps this past week)?
It is difficult to see how higher interest rates would solve inflation. Parabolic oil prices are a self-inflicted wound that could be solved overnight by the Biden Regime reversing its hostile energy prices. Supply challenges still seem to me to be the inflation catalysts rather than demand. Why exactly would anyone try to slow a recovering economy anyway?
It is mind-boggling that we are attempting to solve the oil problem by negotiating deals with Iran and Venezuela for oil. Is this commie appreciation week? Our current regime seems to have more in common with Cuba, Nicaragua, Venezuela, and Iran than makes me comfortable.
It is not unlike rewarding Putin by continuing to purchase Russian oil. I am starting to wonder if these people are purposely trying to enrich our adversaries, leave our borders open for their mercenaries, and hasten our demise.
Whether demand wanes or inflation pressures squeeze margins, the events at hand can negatively impact company earnings. P/E multiples are likely to contract – as they harken from the 87th percentile of modern ranges.
From a technical perspective, whether or not a long-term bear market is underway, the 2/24 Ukraine invasion low successfully retested the January swing low. And the invasion low has been secure for eight trading sessions, while the S&P 500 Index continues to consolidate.
With the Globex futures market back to the bottom of range tonight, the chances of the consolidation resolving in another leg up could be diminishing. We will see what the morning brings, but it is not easy to call.
The market (at least as measured by the S&P 500 Index) has held up remarkably well in the circumstances. It has only been down 10% from its peak on a closing basis. I have seen 10% corrections manifest over a lot fewer adverse events than are on the table now.
What I believe is happening is that the market is differentiating as time goes on. Russia’s assets are down deeply and close neighbors are under heavy pressure. European assets are through the lows of last week in many cases. The US, Japan, and others have priced in some risk premium, but meaningfully less.
The underlying trajectory of growth remains firm, as we saw last week in the ISM report and payrolls. Underlying corporate fundamentals also remain healthy, including very significant return–of–capital through buybacks.
And then there are those record flows into stocks the past few weeks from institutions, corporate buybacks and retail investors. After all, what is the meaningful return alternative? And with over $1 trillion in Put Options (our Put Wall) sitting around 4200, the street is majorly hedged.
With the backdrop of extreme bearish sentiment and the bullish divergences on the 2/24 low, there is an argument for another leg up, even if the market rolls over again afterward.
However, I won’t exclude a panic spike low, but that likely requires a new, unforeseen catalyst. With both oil (130 per barrel tonight) and wheat parabolic, the market might always find a new reason to go down.
This week, inflation figures will come out on Thursday and be the last reports before the mid-month Fed meeting. Consensus expects consumer inflation to come in at 7.9% – wow. Oil alone (as it permeates the economy) could further impact the CPI over consensus estimates. I hope the numbers come in at or below the consensus, but I have my doubts.
If we are starting another leg down, breaking the consolidation projects targets at the 2/24 invasion low near 4100. But the WEM low and options Put Wall at 4200 should catch the fall.
As always, keep an open mind to all possibilities. Positive S&P 500 sectors are moving higher, while others are correcting. That is what gives us the sideways consolidation. There is no symphony of higher and lower price action as yet. It comes down to sector weighting or synchronous price action for a higher or lower leg.
I would bet on higher prices if we were still clearly in a bull market or otherwise normal conditions. But it is more difficult to be confident in such turbulent conditions. As one of my mentors, Al Brooks points out, traders always buy the first correction of a tight bull channel, and attempt a new high before the market rolls over again. We shall see.