A couple of weeks ago, I wrote a piece I called: "The Bears who Cried Wolf". In this piece I outlined why it was the right time to take some chips off the table and focus more on preparing for a possible downturn in equities which are priced to perfection.
While one doesn't like to blow one's own trumpet, this now appears prescient. In this piece, I am going to add to a couple of the comments I made there, and also provide some confirmation bias to those who are seeking bearish ideas. (One of those people is Ouens Maksvitz, who very kindly gave me the inspiration for the title today - so thank you Ouens).
We know that the perma-bears have been bearish and wrong for the last 10 years. However, my current argument is that even a stopped clock is right twice a day, and that is the point we are currently facing. With a raft of issues coming up, like the Omicron virus, a Fed taper and a possible disruption to the status quo at US midterm elections (where, no doubt, the Dems will be hammered for lack of clarity on policy, and also... it's the economy stupid).
So, without sounding too much like David Bowie... let's ask Where Are We Now?
Source: FxPro MT5
Well, we've taken a significant drop down, and we landed basically exactly on the 55-day SMA. This might seem like an arbitrary choice of moving average, but it has served pretty well in the past. It has generally been the point of support, and we can see this again now, landing perfectly on the 55d. The next couple of days will be extremely important. If this level holds, and we get the usual return to uptrend we've seen before, then I am sure we will continue with this relentless march higher for equities.
To be fair, this chart above doesn't tell the whole picture, if we look at the pandemic darlings, we can see that this recent downturn has been pretty brutal:
Source: Bloomberg
However, with the Fed coming up... is this a time for caution? While I do not expect the Fed to increase the pace of the taper at the next meeting (unlike market consensus), this could still be bearish for markets as we see an increasing negative response from the market toward higher inflation and margins will eventually be squeezed. In fact, if we look at something like Chinese Producer Prices, we can see stunning inflation and this will eventually be passed on to US producers - I am certainly not saying that this will lead to persistently higher inflation in the United States! I am still a team transitory and do expect most of the current pressures to fade (especially in Europe), but there could continue to be transitory pressures for some time.
Source: Refinitiv
But isn't this what the perma-bears have argued forever?
Basically yes. The perma-bears are always saying that for reasons x,y,z the economy is going to crash and burn and everyone in markets will want to run for the exits. In reality, I do not believe in these doomsday scenarios, but rather continue to advocate looking for value in these markets! I can see the S&P easily falling below 4200 before we set another all-time high. This would be a 10% drop and we'd enter into correction territory.
One of my favourite charts is this one below - it shows the intra-year drawdown compared to the index return, you'll see that its incredibly rare to see a drawdown intra-year of below 10% in recent years, and crunching the data shows that drawdowns of more than 10% are extremely common. What's also pretty clear is the massive volatility increases we have seen since the financial crisis. Look at those big numbers in the drawdowns compared to the 5s,6s,7s of the 80s and 90s.
Source: Calamos
Shall we blame QE?
This has been something which many perma-bears love to point out... drops have got bigger post financial crisis as central bank balance sheets have got bigger, therefore QE caused more volatility. The argument goes lower rates, so incentivised to take more stock market risk, so when the drops come they're bigger as a) there is more money in stock and b) there is more leverage because leverage is cheap. I don't buy this at all. I think it's more just a product of increasing financialisation, and we have also seen recently big increases in technology of financial markets - naturally this makes markets more accessible and thus more tradable.
When you had to wait 20 minutes to get live prices since you lived in Omaha and everyone else was in New York, naturally there were longer lags. But there we go, it's easy to spin a narrative to suit your mood.
Source: Federal Reserve - yes that's 8MM or in other words, USD8trn
Where's the value?
Look at the financial stocks for instance, they are seriously cheap! Well, compared to tech anyway - up just about 20% since before the COVID-19 pandemic, and some stocks look ridiculously cheap on their earnings multiples - GS, Citi, HSBC, Lloyds (in UK commercial) are my favourites in the sector.
Source: S&P
Look Regionally:
Then, as I flagged in the previous report on the equity market, look for value geographically. The UK at the moment is insanely cheap! Coupled with my view for financials as we look to get a steeper Treasury curve in the coming month, this looks quite enticing as a play. Europe isn't bad either, and if you insist on having tech, look to Europe and ASML.
Source: Refinitiv
Finally, I know many of you think I have some great grudge against EM, but this isn't true. Given the USD has been on an absolute mad run in the last few weeks, I do think there is a case to say let's start to add a little to EM equities. I particularly like the look of South Africa. OH-micron I hear you cry! However, I feel like this is already baked into the price of the ZAR, so it could be time for a bit of a retracement, although this would be highly risky.
As a general rule though, EM is starting to look ok again, not too expensive if we look at some indices - below is the iShares Core MSCI EM Index:
Source: Refinitiv
You can see we're down a decent 15% at the moment, and it could be time for something of a correction. That said, I remain extremely hesitant toward China, so if you can find an EM ETF ex-China, that would probably be the one I'd buy given all the regulatory risk. I suppose I could dig out a random ETF, but that wouldn't be great advice given I'd know nothing about it... I have to leave some work for the readers :)
Conclusions:
Well that's basically the end of this tour of stuff, I am bearish, tactically, for the time being. I look for opportunities in Europe, the really hard-hit sectors, and also in some tactical shorts of those which continue to be resilient.
Please do reach out with questions, or comment in the box below if you disagree. Let's hopefully get a good debate going for this one :)
No comments:
Post a Comment