It was heartwarming to see equities attempt a rebound from the initial knee-jerk plunge in the wake of yet another consensus-beating U.S. CPI print last week. BofA’s Michael Hartnett called it the ‘bear hug’, noting that the “SPX was up 5% in 5 hours after a hot CPI because it was simply so oversold”. By the close on Friday, however, the hug had turned into a strangulation. The S&P 500 fell 2.4% on the day, finishing the week with a 1.8% loss. It is difficult to see anything but pain in equities as long as the triumvirate of doom—DM core inflation, bond yields and fixed income volatility—are making new highs. My next three charts show that they are doing exactly that. Barring an outlier in the UK September print, my gauge of OECD core inflation rose further at the end of Q3, bond yields are at new highs, and so is the MOVE index.
Read MoreI’ll let the charts do the talking this week. This is always a good idea when it’s been a while since you’ve had a broader look at markets. As far as I can see, not much has changed. The U.S. CPI report is still the most important economic report of the month. The violent sell-off in response to what was a small upside surprise to U.S. core inflation in August is all you need to know. Markets would like to see a sustained roll-over in inflation, and an associated pivot in Fed tightening. So far, this is not happening. Equities have suffered badly in the wake of the August CPI data, and a 75bp rate hike from the Fed later this month is now a done deal. Some sell-siders have even stuck their neck out, calling for a 100bp hike. It’s gnarly.
Read MoreIn my last view on markets, I asked whether inflation fears had peaked? Judging by the price action since, the answer would seem to be yes, tentatively. It’s a cliché, but true. Markets trade at the very thin margin of the flow of economic information, and this edge has shifted in the past month. Inflation is still high, but it is no longer accelerating rapidly, and evidence of increasingly fragile economic activity is piling up. The headline surveys have weakened materially, especially in Europe, and we recently learned that the US economy entered a technical recession in the first half of the year. For markets, this means monetary policy tightening will be less pervasive, both in terms of speed and sustainability. Upside inflation surprises now are associated with sharp flattening, even inversion, of interest rate curves, as markets perceive the window for policy tightening closing, fast.
Read MoreI don’t have a definitive answer to the question posed above, but I think it is fair to say that markets traded last week as if the answer is: ‘yes’. In Europe, bund yields plunged below 1.5%, after touching almost 2% earlier in the month, and Dec-22 euribor futures are now pricing-in 50bp less tightening than immediately after the June ECB meeting. The catalyst: a below-consensus PMI report and news that Russia is slowly, but surely turning off gas supply to Europe. In the UK, bond yields have fallen too, in response to a below-consensus core CPI print. And finally, in the US, Jerome Powell’s comment, in a testimony to Congress, that a recession is ‘a possibility’ as the Fed embarks on a series of rate hikes, and QT, similarly drove down bond yields across the curve.
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