MAXIN ADVISORS Weekly Market Review addresses the major issue of the moment, reviews the market moves of the past week and monitors the evolution of the MAXIN GLOBAL FUND
INFLATION AT THE HIGHEST IN 40 YEARS
As we had been expecting several months ago, U.S. consumer prices rose last month at the fastest annual pace in nearly 40 years, underscoring how rapid and persistent inflation is eroding paychecks and increasing pressure on the Federal Reserve to tighten monetary policy.
The consumer price index climbed 6.8% from November 2020, according to Labor Department data released Friday. The widely followed inflation gauge rose 0.8% from October, exceeding forecasts and extending a trend of sizable increases that began earlier this year.
And the situation is not limited to the USA, as inflation gauges have been skyrocketing everywhere apart from Japan.
The most amazing part of it is how ill-prepared Central Banks were in assessing the ultimate effects of their extraordinary monetary policies coming on top of massive budgetary stimulative policies to counter the deflationary shock COVID 19.
If 2020 was the year we all learned about epidemiology, 2021 has taught us more than we ever wanted to know about inflation. Price rises had remained calm and controlled for four decades, ever since the U.S. Federal Reserve under Paul Volcker hiked interest rates aggressively in the early 1980s.
Very few people working today in the industry, apart from our generation, has any practical memory of inflation as a serious and problematic reality.We started in finance in the inflationary environment of 1984.
That explains the intensity of 2021’s year-long debate over whether new stirrings of inflation were merely “transitory,” or whether the U.S. and global economies should prepare for a regime where inflation was once again a fact of life.
As we predicted all long, the narratives prevalent in the financial markets gradually evolved this year from, “there is no inflation” to “inflation is transitory” to” inflation is really there” today, and will evolve to ” Inflation MUST be tamed in the course of 2022
At year’s end, U.S. inflation has reached a stunning 6.8%, the fastest annual rate since 1982, and the Fed has finally admitted it is more than a passing side effect of the pandemic.
As we had argued all along in 2021, the main Central Banks of the world made a major policy mistake by trying to fight what was in essence an external demand shock caused by a black swan health hazard through monetary policy.
Instead of leaving Governments help individuals and corporations survive the hazard through budgetary stimuluses, and preserve the free-market pricing of money, Central Banks led by the FED added a massive monetary injection by growing their balance sheet and artificially lowering bond yields through massive bond buying, leading to massive asset inflation in real estate and risk assets and the development of investment bubbles in the riskiest segments of the financial markets.
As the economies went back to growth, following the taming of the virus through lockdowns, vaccination and better prepared health systems, a major supply shock unfolded leading to this unprecedented rise in inflation.
Unfortunately, inflation is, by nature, a self-feeding phenomenon because of its psychological impact, leading consumers to bring forward their intents of purchases on one hand, and making them demand higher salaries to compensate for their loss of real purchasing power.
Using the GDP Deflator as a measurement tool, US workers have now lost 10 % of their real purchasing power since 2019 , and 27 % when using the US Case-Shiller Real Estate price Index.
US Real estate Case Schiller Index
We emphasise the real estate component of inflation because, contrary to the other components of inflation such as commodity prices, supply shortages or used cars which can be cyclical by nature or even wages impacted by lack of demand for labor, real estate prices are directly impacted by interest rates and solely impacted by interest rates.
As the chart above demonstrates, real estate prices have not been affected AT ALL by the COVID 19 pandemic.
Misled by their successes at fighting what was a financial crisis in 2008 through monetary policy, Central banks went all-in using the same extraordinary tools against what was not a financial crisis this time, growing their balance sheets to 36 % of the world GDP, a situation unheard of in history, and they committed probably the biggest financial crime in any market economy by artificially tweaking the price of money down to unsustainable levels of negative interest rates.
Today, regardless of where the other components of inflation and the global gauges go in the future, Central Banks have no choice but to raise interest rates and accelerate the pace of their bond buying, allowing rates and bond yields to reach an equilibrium level that tames inflation in the long term.
The following chart plotting Investment the US 10 Year Government Bond Yield against inflation gives a sense of the magnitude of the problem.
For monetary policy to stabilise and resume its normal balancing course of the economies. short term rates should at least climb back to the level of inflation and bond yields should actually climb higher than inflation to provide bond investors with a POSITIVE Real rate of return over inflation.
With a CPI at 6.8 % and a core CPI at 4.9 %, interest rates have a lot to climb to normalise economic equilibriums.
And real estate prices will NOT slow down until mortgage rates make it less attractive for investors to pile into real estate, particularly as it is the one and only real inflation hedge as an asset class.
Today, what is striking is that neither the FED nor the bond markets are accepting the possibility of a rise of such a magnitude, and even if inflation gauges fall back as the supply-chain bottlenecks disappear, it is extremely unlikely that they will fall back below 3 % or 4 % in the coming two years.
This means that US bond yields should climb towards 3 to 4 % in 2022 and interest rates to the same level if the balance of interest rates structure is re-established and inflation brought under control.
Today, investors are ill-prepared for this scenario, but our readers can imagine the impact of a 150 % rise in bond yields and of an 800 % increase in interest rates in a world of excessive debt accumulation at all levels of the economy, governments, corporation and households through their mortgages.
For the first time in peace-time history, even equities are now delivering NEGATIVE Dividend Yields making their excessive valuations unsustainable.
Moreover, and as we highlight in many of our various articles on inflation in 2016, 2017, 2018 and 2019, the world has entered a new Kondratieff cycle that will last 60 to 70 years and will see the rise of China as the dominant superpower of the world.
Kondratieff Cycles are Long term inflation cycles identified by the Russian economist Nikola Kondratieff going back to 900 and they are composed of two 30 to 40 years inflationary and then deflationary phases with 2 seasons in each of them.
We cannot resist re-publishing these two chart dating back to 2013 illustrating the phenomenon.
What these charts are telling us is that the full disinflationary and interest rate cycle that started in 1982 has finally ended in 2021, 39 year later, and that we are entering a new and lasting inflationary cycle right now.
In exactly the way the previous inflationary cycle ended in 1982 under Volcker, with bond yields surging to 16 % and interest rates to 18 %, the disinflationary cycle ended in 2021 with negative interest rates and negative bond yields.
Those trends are very well known by the FED and its economists and a sense of panic is now setting-in.
Our readers can understand why we have been away from bonds for the past few years and are ready to short them as the most dangerous asset class ahead. What 2022 and 2023 will see is a major re-rating of bond yields, an sharp explosion in risk spreads and a wave of defaults that will ultimately end in decades of underperformance of US financial assets.
Unfortunately, Today, the FED and the other central banks of the world have NO CHOICE but to accelerate markedly the reduction of their bond purchases and allow bond yields to rise.
And this could happen as early as next week with the last FED meeting of the year where we expect the FED to announce a faster pace of tapering with an objective to end it by March 2022 rather than June 2022 as originally planned.
Market commentators are now expecting interest rates to rise as early as 2022 instead of 2023 as initially thought.
Jeremy Powell and Christine Lagarde are now entering the most dangerous phase of their tenure :
Managing the necessary unwinding of their ill-conceived monetary policies of the past two years and containing the deflationary effects of the bursting of the investment bubbles they have created.
This is making the investment space extremely treacherous.
Through lack of alternatives (TINA) and Fear of Missing out ( FOMO ) investors are the most exposed to risk assets than they have ever been, they hold bonds that have no way to go but down and they have piled in extremely risky bubbly assets such as US Tech, Cryptos, NFTs, EVs and other SPACS that will be the first victims of a sharp and sustainable rise in the price of money.
Insiders have started to bail out. From Satya Nadella to Elon Musk, the CEO’s of the leading and most overvalued tech stocks are offloading their stakes prudently without denting the optimism of their investors while the most seasoned investors of all, Berkshire Hathaway, is sitting on the largest piles of cash they have ever held, avoiding to commit additional cash to overinflated assets.
But it is yet too early to become outright bearish…
In 2020, and this is what caused our only negative year, despite having perfectly timed the 2020 crash and its bottom, we underestimated the magnitude of the monetary excesses of Central Banks and their compounded effect over equally massive budgetary stimulus sent into the hands of a new generation of investors playing the market like video games.
Granted, the environment was exceptional and the policies pursued irrational…
Herd instinct and greed are powerful forces not to be underestimated and the changes in the monetary environment will be gradual, even if accelerated.
Moreover, with negative real yields at such levels, asset market can only go up.
It will take until Central Banks finally start raising rates for investors to feel the heat. So the background remains structurally bullish and last week’s breadth and thrust in the rebound testified of the bullishness of investors.
In our central scenario, we expect another bull phase to unfold in the first quarter of 2022, with the SP500 climbing towards 4’900, 5’500 and even maybe 6’000 if a last bout of speculative frenzy lifts the US mega techs to other dizzying highs.
We expect this to unfold after another bout of volatility next week as the FED moves its tapering targets.
But investors must be fully aware that the current environment is one that could see a major crash unfolding at any time in case of an unexpected event…
Passive and traditional investors would be well advised to follow the example of the insiders and raise cash in the coming weeks, bailing out of bonds and speculative investments and restricting their equity investments to cheap and undervalued stocks and markets.
We, as active managers, will keeping on adding to China and Emerging Markets while managing our short exposure like milk on the fire…
WEEKLY MARKET MONITORS
Massive thrust in equities as investors feel more relaxed about Omicron. The US Dow Jones gained 4 % last week with the SP500 and the Nasdaq following right after. Investors want to have a good 2021 and they probably will.
US stocks were higher on Friday, the Dow Jones added 217 points, the S&P 500 rose 1% and the Nasdaq was 0.7% higher after US inflation figures came as expected in November gearing up investors to bet that this is the peak of year-on-year numbers, so the Fed will not need to speed up the tightening cycle.
The annual inflation rate accelerated to 6.8% in November of 2021, the highest since June of 1982. Among single stocks, Oracle shares jumped 15.8% after the quarter results topped forecasts, while the tech sector boosted the indexes’ gains with cisco systems up 3%, Microsoft higher 2.9%, and Apple booking gains of 2.7%. Also, Ford Motor and GM helped to sustain the gains by increasing 9.4% and 5.9%, respectively.
China’s domestic shares had a strong 3 % advance following the decision of the PBOC to inject liquidity through a lowering of the Reserve Requirement Ratio. Evergande was finally termed to be in default but the real estate sector is bottoming out with no contagion effects from either Evergrande or Kaisa. Chinese tech stocks advanced confirming their bottoming out and JD Heath advanced 11.5 % on the week.
European stocks also followed the momentum higher with an average 2.5 % advance.
Germany’s annual inflation rate was confirmed at a near three-decade high of 5.2% in November, while the UK’s GDP rose less than expected in October, denting market expectations of an interest rate hike by the Bank of England on Thursday. Pandemic concerns eased further as infection rates confirmed a downward trend in Germany and Austria.
Frankfurt’s DAX 30 edged down 0.1% to 15,623, while other major indexes lost between 0.2% and 0.5%. For the week, however, the DAX 30 surged 3% and the pan-European STOXX 600 climbed 2.8% its biggest weekly gain since March following a strong two-day rise at the beginning of the week.
The CAC 40 closed a volatile session down 0.2% at 6,991.68 on Friday, as investors weighed on a batch of economic data, anticipating possible decisions in key central bank meetings to come. On the corporate front, tech shares loss 1%, driven by Dassault Systemes (-1.2%), Capgemini (-1%), and STMicroelectronics (-0.9%).
Asian Markets were less bullish but still in positive mode. Korea is clearly becoming one of our favorites.
Global bond markets were stable last week despite the sharp rise in the US CPI and German inflation. Something is truly awkward in the bond markets at the moment. Inflation is coming out at 6.8% in the US and 5.2 % in Europe and bond investors are happy to stay invested with 10-year yields at 1.48 % and -0.353 % respectively. Either they anticipate a major deflationary shock ahead, or there will be a major re-raing of bonds in the coming months.
Oil had their Biggest Weekly Gain in 4 Months. Oil gained traction to near $72 a barrel on Friday, attempting to fully recover from a 2% drop the day before, and added 8% on the week the biggest weekly gain since August. The oil market has been volatile as investors try to assess the impact the new strain of the coronavirus will have on fuel demand as a 3rd dose of the Pfizer and BioNTech vaccine neutralizes the omicron variant, although some countries already reintroduced restrictions to curb the spread of the virus.
Cobalt at 3-1/2-Year High. Cobalt futures gained momentum to trade near to $70,000 a tonne in the second week of December, hoovering around a 3-1/2-year high of $71,750 touched at the beginning of July 2018, amid prospects that the metal will benefit from the green transition. Cobalt is used in the production of lithium-ion batteries, which is used to produce electric vehicles, so as it is expected that the demand for electric vehicles will grow – amid the green transition – the prices of Cobalt are trying to anticipate this scenario. Also, the metal has successfully outperformed its peers after the shock of the Omicron variant, while it is expected to continue gaining momentum throughout a green transition, as the metal has low exposure to China’s property and construction sector, which would not be affected by any crashes in these sectors.
Nickel Falls Below $20,000. Nickel futures traded below $20,000 a tonne in the second week of December, slipping from a 2-week high of $20,384.5 hit on December 8th, amid prospects of the rising supply as the power crisis in China eased allowing smelters to increase the output, at the same time that the Tsingshan Group, a Chinese group, has started nickel production in Indonesia. Meanwhile, the uncertainties over the impact of the new covid-19 variant in the global economic recovery helped to dent the demand outlook. On the other hand, Nickel inventories in LME warehouses fell 58% from April to 110,358 tonnes, their lowest since December 2019. Also, inventories in ShFE warehouses were at 5,563 tonnes last week, hovering near a record low of 4,455 tonnes hit in August.
Wheat Futures Hover at 1-Month Low. Chicago wheat futures traded at around $7.7 a bushel, hovering around 1-month lows, amid expectations of higher stocks and production from top exporters. The USDA increased its forecasts for ending stocks worldwide to 278.2 million tonnes from 275.8 million tonnes. The upward revision comes from higher crop estimates from Australia (2.5 million tonnes), Russia (1 million tonnes), and Canada (0.65 million tonnes). At the same time, better than expected harvests in Argentina drove the Rosario Grains Exchange and the Buenos Aires Grains Exchange to increase its crop expectations by 0.7 million tonnes to 21 million tonnes, 23.5 percent higher than last season’s. Further, favourable weather in Brazil led CONAB to increase its 2021/22 crop forecasts by 0.122 million tonnes to 7.811 million tonnes.
Last week was a defining moment in the crypto space with Bitcoins losing 20 % last Saturday and crashing through the 51’000 level. The technical configuration is NOT looking nice but for now Bitcoins and Ethereums are holding above their moving averages and uptrend in the case of Ethereums. It will take a lot of bullishness to take the two bellwether coins back to new highs, while global bullishness is abating as dip buyers have been badly hit recently.
The technical picture of Ethers is more positive than the one of Bitcoins. For Now, the configuration is one where after a major break-out above 4’000, Ethers are re-testing what has now become a support. Holding above that level is key for the next move up.
HIGHLIGHTS OF THE WEEK
US Inflation at a 39-year High. Annual inflation rate in the US accelerated to 6.8% in November of 2021, the highest since June of 1982, and in line with forecasts. It marks the 9th consecutive month the inflation stays above the Fed’s 2% target as global commodities rally, rising demand, wage pressures, supply chain disruptions and a low base effect from last year continue to push prices up. Upward pressure was broad-based, with energy costs recording the biggest gain (33.3% vs 30% in October), namely gasoline (58.1% vs 49.6%). Inflation also increased for shelter (3.8% vs 3.5%); food (6.1% vs 5.3%, the highest since October of 2008), namely food at home (6.4% vs 5.4%); new vehicles (11.1% vs 9.8%); used cars and trucks (31.4% percent vs 26.4%); apparel (5% vs 4.3%); and medical care services (2.1% vs 1.7%). On the other hand, the inflation slowed for transportation services (3.9% vs 4.5%). Excluding food and energy, inflation went up to 4.9% from 4.6%, the highest since June of 1991.
US Consumer Sentiment Tops Forecasts. The University of Michigan’s consumer sentiment for the US increased to 70.4 in December of 2021 from a 10-year low of 67.4 in November, beating market forecasts of 67.1. Both current conditions (74.6 vs 73.6) and expectations (67.8 vs 63.5) improved while inflation expectations for the year ahead were steady at 4.9% and at 3% for the next five years. “The more interesting result was the large disparity between monthly gain among households with incomes in the lowest third (+23.6%) of the income distribution compared with the modest losses among households in the middle (-3.8%) and top third (-4.3%).
US Government Budget Deficit Widens as Expected. The US budget deficit widened to USD 191 billion in November 2021, compared with a USD 145.3 billion gap in the same period last year and market expectations of a USD 195 billion gap. Outlays surged 29.5 percent to USD 472.5 billion, while receipts soared 28.1 percent to USD 281.2 billion
Spain Industrial Output Swings Into Contraction. Spain’s industrial production shrank 0.9 percent from a year earlier in October 2021, following a downwardly revised 0.4 percent growth in the previous month and missing market expectations of a 0.7 percent increase. It was the first month of contraction since the economic rebound started back in March, due to declines in the production of capital goods (-8.9 percent vs -6.1 percent) and intermediate goods (-1.0 percent vs 2.9 percent). On the other hand, output rose for Non-durable consumer goods (5.0 percent vs 4.1 percent), durable consumer goods (1.4 percent vs 0.6 percent) and energy (1.0 percent vs -1.9 percent). On a seasonally adjusted monthly basis, industrial output dropped 0.4 percent in October, a fifth consecutive month of contraction or no growth.
Greek October Industrial Output Growth at 6-Month High. Industrial production growth in Greece advanced to 16.5 percent year-on-year in October of 2021 from 9.9 percent in the previous month. It was the largest growth in industrial output since April of 2021 as production accelerated for electricity supply (30.8 percent) and manufacturing (14.7 percent), particularly for coke and refined petroleum products; computers, electronic and optical products; printing and reproduction of recorded products; wearing apparel, beverages, machinery and equipment, basic pharmaceutical products and pharmaceutical preparations; motor vehicles, trailers and semitrailers. Meanwhile, production declined for mining and quarrying (-4 percent) and water supply (-2.1 percent). On a seasonally adjusted monthly basis, industrial production grew 2.7 percent, accelerating from an upwardly revised 1.5 percent rise in September.
Austria October Industrial Output Growth at 8-Month Low. Austria’s industrial production increased by 3.3 percent year-on-year in October of 2021, easing from an upwardly revised 5 percent gain in September. It was the smallest gain in output growth since February of 2021 and the fourth consecutive month of slowing output as production slowed for manufacturing (4.1 percent vs 5.8 percent in September) and construction (1.6 percent vs 2.5 percent). Meanwhile, production advanced at a faster pace for energy (14.8 percent vs 12.6 percent). On a seasonally adjusted monthly basis, industrial output edged 0.25 percent lower.
Mexico October Industrial Output Growth Slowest in 8 Months. Industrial production in Mexico increased 0.7% yoy in October of 2021, the smallest gain since the recovery started in March and well below forecasts of 1.2%. A slowdown was seen in mining (1.1% vs .9%) as oil and gas extraction continued to fall (-0.2% vs -0.5%) and manufacturing stalled after a 0.4% drop in September. On a monthly basis, industrial production increased 0.6%, following a downwardly revised 1.1% fall in the previous month, led by a pickup in manufacturing.
Brazil Business Confidence Improves in December. The industry confidence indicator in Brazil edged up 0.7 points from the prior month to 56.7 in December of 2021. It was the first increase since August, amid improvements in entrepreneurs’ perceptions of current conditions (52.5 vs 52.3 in November) and future expectations (62.5 vs 61.7) for their companies. At the same time improvements took place for current perceptions (45.3 vs 44.3) and future expectations (55.3 vs 53.9) of the Brazilian economy.
Brazil Inflation Rate at 18-Year High. The annual inflation rate in Brazil increased to 10.74 percent in November of 2021 from 10.67 percent in October but below market expectations of 10.88 percent. It was the highest reading since November of 2003, as the reopening of the economy, supply chain issues, weaker currency, and spending cap troubles continued to weigh on prices. The biggest increases were seen in transportation (21.97 percent), mainly driven by fuels (52.77 percent), while further rises took place in housing and utilities (15.45 percent), household maintenance (12.49 percent), food and beverages (8.9 percent), and clothing and footwear (8.72 percent). On a monthly basis, consumer prices rose by 0.95 percent, easing from the 10-month high of 1.25 percent in the previous month and below market expectations of 1.08 percent.
– 0.08 % Last Week
+ 4.56 % Month to Date Dec 2021
+ 85.87 % Year-to Date 2021
+ 467.3 % Since Inception
+ 24.23 % CAGR over 8 years
In a volatile week that saw a sharp rebound in global equity markets as fears of Omicron receded, our strategy to protect performances and keep tight stop-losses achieved its objectives.
Our Model Portfolio remained remarkably stable preserving its significant outperformance over most asset classes and equity indexes.
Last week was a testimony of the phenomenal bullish bias created by extremely negative real rates. The very sharp rebound that took our shorts out was exceptional in breadth and thrust.
The week started by the massive downdraft in Crypto currencies last Saturday which automatically re-instated our short positions in Bitcoins and Ethereums as the main coins broke through our strategic level of 51’000.
We added to our Chinese exposure through ETF’s and Future positions in the HSCEI, CSI 300 and Chinese Technology stocks and added to our existing position in Ali Baba. We also added two new pharmaceutical companies to our portfolio.
We re-instated half a long position in the Nikkei 225
We took profits on our Short US and European Indexes as well as on our long volatility position and then were ultimately stopped out of most of our existing Short US tech positions, reducing our short exposure considerably.
In the commodity space, we re-instated our long Palladium position and increased our Silver exposure a tad too early.
On Thursday, we re-instated some of our hedges, not wanting to go into the week-end totally unhedged.
Overall, the portfolio was positively impacted by Chinese stocks and cryptocurrencies and negatively impacted by our US Short positions and commodities.
We are now 55 % net long equities and 13 % commodities while net short bonds and cryptocurrencies.
We will take any coming weakness as an opportunity to re-enter our value investments in US equities and add to emerging markets.
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