Blain’s Morning Porridge – July 11th 2022: Inflation and Earnings set to take centre stage this week – likely to be a tough one!
“ Chaos is the law of nature. Order is the dream of man.”
This morning: Inflation will dominate the headlines while the US earnings season kicks off. The prospects for stocks on the back of falling numbers and crashing consumer sentiment bode ill for recovery, and strongly suggest there is further market downside to come in Q3.
Even though I am faced with this uncomfortably empty screen to fill with words of market and economic wisdom, it’s difficult to be unhappy this glorious morning. The sun is shining! I just had a great swim in the river, my wife and dog apparently love me, and I’m going on holiday next week.
As I said, the only fly in the ointment is writing this morning’s Porridge on the week ahead.
After last week’s strong US jobs report – momentarily suggesting there is less of a global recession threat – this week will reverse into rising inflation fears again, raising the higher/faster interest rate spectre. We’ve got a host of inflation numbers coming out, but also the shutdown a key Russia/Europe gas pipeline for “maintenance”, which many analysts think will crush European efforts to build winter reserves, promising further energy price spikes through the second half of this year. The talk in markets is all further China lockdowns, and Euro-dollar parity as inflation and recession look increasingly dangerous for Europe in particular.
There is so much to say about the up/down of markets, but I am not sure I can articulate it clearly! Therefore I think I shall go a bit free form this morning – throw a couple of ideas at the screen and see what happens:
- Broadly, markets are distracted and confused, not seeing the downright obvious. I’m trying to figure out how vulnerable that leaves them to shock and awe surprises, the actuality of the macro-outlook, and the systemic consequences of policy mistakes. The only upside in such conditions is they do create price moves that translate into opportunities!
Last week was an extraordinary lesson in markets – watching tech stocks recover on the hope recessionary expectations would mean a slower series of interest rate rises, thus raising hopes for accommodative central banks to juice markets higher to stave off recession. Doh! Some market commentators say it’s a reverse rotation out of value/fundamental stocks back into more speculative growth stocks – saying the 9 month tech bear phase is basically played out, and it’s time to buy corrected tech names…
Really? It called talking their book.
There is an assumption the market knows best, and will set the right price of everything, based on the market being the collective intelligence of all participants. Except it is not. The market has no memory and certainly doesn’t remember making the same mistakes over and over again. The market is just a voting machine. It’s a form of popularity contest – whoever markets/plugs their ideas/positions best, wins!
A good example of the kind of hype that propels stocks in febrile markets, and ridiculous false assets like cryptos and NFTs, is investors ongoing fascination with Cathie Wood’s ARK. The narrative is simple – it must be a great investment, look what it was worth! The papers are full of stories that support it: I saw a headline on CNBC about the charts suggesting a rally (but it was behind a paywall, and it’s probably bunkum anyway). Most of the stocks in the ETF have never, and never will make a profit. Market participants believe what they want to believe, and if they believe ARK is undervalued because only Cathie perceives the future – their call.
It’s not the market that is stupid – its participants!
The reality is nothing has changed about speculative tech stock fundamentals. Food delivery companies are still struggling to deliver food at a profit. Internet warehouses and subscription services are still struggling to make all the expensive approaches work. Media manipulation companies are still trying to persuade increasingly distracted used to let them monetise us through advertising. It’s all dressed in a wash of modernity, the next-new-new-thing, but Tech stocks that sound ever so clever and remain ever so unprofitable will likely remain so. And they remain vulnerable to shocks. This morning Tencent and Alibaba are leading further collapses in value after Chinese fines on their monopolistic policies. Regulation bites.
The next shock for markets is likely to be corporate earnings. Thus far they’ve been insulated by the pandemic reopening. The Q2 numbers start this week and will likely show the impact of long-term supply shocks, energy inflation and the increase labour scarcity as workers seek better paid employment. (If they don’t, be suspicious!) Corporates will put the best possible spin on their numbers, but the macro economic reality has to bite soon. As interest rates rise, and corporate credit spreads widen faster, leverage within the corporate sector will start to take down multiple credit zombies – overly indebted companies. All these years spend borrowing money at ultra-cheap rates to finance stock-buy-back programmes will be shown to have been valueless; the company bankrupted, and the stock tanked!
I’ve come to a very simple conclusion about economics. The reason it’s called the dismal science is it’s basically chaotic. Economics is all about analysing events to understand what happens next. But events have a path all of their own – we can plot broad expectations, but not the increasingly unpredictable consequences that ripple outwards from every decision like a nuclear chain reaction. The way in which inflation and interest rates will impact the economy is very well documented and understood by students of economic history – perhaps not so well by inexperienced investment managers – the ones who buy the hype.
One of the biggest risks to markets is always policy mistakes, the obvious one being central banks triggering a recession through the pace of interest rate hikes, or being too slow to address inflation.
But there are equal risks in politics.
There is a frightening headline on Bloomberg this morning – 4.5 million UK families are already in financial trouble as a result of financial distress. More are struggling with the consequences of higher energy and food prices. Wages have failed to address inflation, and the welfare net is full of holes. Food banks and free school dinner schemes have been instituted by concerned individuals around the country. Even the financial services industry will not be immune – the BBerg article noted workers are cutting their pension saving contributions.
Yet, the headlines in the UK are all about the multiple number of Conservative Politicians putting themselves forwards as our next prime minister. I forced myself to watch the Sunday Political Shows, and read the papers to understand their approach – and came to the conclusion most of the challengers are economically illiterate.
Only one of them seemed to connect the urgency of the situation – the need for tax cuts to boost jobs and consumer sentiment to address the looming stagflation/recession threat, but all the interviewer wanted to know about was his non-dom status 2 decades ago. Its going to be that kind of constest – how clean they are. Not how they will save the UK economy. Most of other candidates seemed blithely unaware of the reality on the streets.
The biggest threat to the UK Economy is the urgent need for decisions, but the fractured government is going to be spending the next three months listening to candidates blather about how different they are to Boris.. Words… just words.
Five things to read this morning
Torygraph – Putin Most Likely to cut gas supplies to Europe
Out of time, very late, and back to the day job..
Strategist, Shard Capital