The tech crash ain’t over

Friday night witnessed a big bounce in technology stocks. The Nasdaq jumped 1.55%. It seems risk is back for growth and technology stocks. Or is it?

I can see this perfect head-and-shoulders top dropping 30% from here. Why?

Tech wreck 2.0?

Tech wreck 2.0?

The harpoon that has pricked the technology bubble is rising yields as markets fret about inflation. Growth stocks are always discounted at such times as investors turn to more immediate returns over long-term growth prospects.

So, for the bottom to be in for tech, the top has to be in for yields. That might the case if you think that the Fed has your back, as BofA does (eventually anyway):

YCC the new ERM: we think the Fed will inevitably move to YCC; a 1% rise in USTreasury yields (as occurred past 6 months) increases deficit in 12 months (interest payments) by amount equivalent 2X budget for NASA; a 1% rise in yields above CBObaseline adds a remarkable$9.7tn to deficit between 2021-30 (10X the annual US defense budget of $0.9tn).YCC will likely trigger: 1. asset volatility…all historic government policies to fix asset prices end with hubris, leverage, abnormal valuations; YCC (as Australia is learning) is new ERM (Europe’s failed Exchange Rate Mechanism of 80s/90s); era of speculative assaults on central bank policy has begun; own volatility; 2. dollar debasement…US$ may rally in advance of YCC (EM vulnerable short-term–see BRL), but announcement will likely trigger start of great bear market in US dollar

Not yet, is my answer. There is nothing wrong with rising yields if they indicate better growth and inflation. And right now they do. The only potential issue the Fed has with yields is at the long-end of the curve that sets mortgage rates. So, why would it adopt yield curve control (YCC) which is mostly about the short-end? Rather, if it swings to more stimulus, it will be another Operation Twist to sit on the long end.

But, even that isn’t here yet and there is a very clear reason for why. Inflation is bouncing back hard and it won’t ease for some time. There are many reasons for it but let’s take one very large and important driver: oil.

There are some 11-12mb/d of oil offline at the moment across the world. Demand is recovering and it’s now a game of chicken between recovering suppliers. Goldman has more:

  • OPEC+ surprised once again by deciding today (March 4) to keep its production quotas unchanged for April, against our and consensus expectations for a 1.5mb/d hike (with only another small increase for Russia and Kazakhstan). Inparticular, Saudi Arabia will extend its unilateral 1 mb/d cut for one more month,guiding for an only gradual ramp-up afterwards.
  • Although members discussed COVID demand risks, our takeaway from the press conference is that the discipline of shale producers is likely behind this slower increase in production. This is ultimately consistent with our own view that shale, Iran and non-OPEC supplies are likely to remain highly inelastic to prices until 2H21, allowing OPEC+ to quickly rebalance the oil market. Net, we are lowering our OPEC+ production forecast by 0.9 mb/d over the next six months.
  • OPEC’s supply strategy is working because of its unexpectedness and suddenness. Today’s surprise follow Saudi’s January unexpected cut, with both working in Saudi’s favor – since January 5, oil prices are up 25% and excess inventories down 56% with Saudi’s production down only 9% and with the US oil rig count up only 20% and still 33% below the level needed to stabilize output(without DUCs). This stands in sharp contrast to the strategy prior to 2020, when OPEC viewed itself as the central bank of the oil market, reassuring too much with predictable but never large enough cuts. Key will be the potential shale supply response, although the latest earnings season suggests investors are still longways away from rewarding growth, with the few producers who hinted at higher capex underperforming the rally in oil equity share prices.
  • We were already bullish oil prices because we expected OPEC’s conservative demand expectations to leave its ramp-up lagging our above consensus demand forecasts. We believe it is now clear that OPEC+ is in fact pursuing a tight oil market strategy, with our updated supply-demand balance pointing to OECD falling to their lowest level since 2014 by the end of this year. Given our demand forecasts remain unchanged and above consensus, OPEC’s decision is leadingus to raise our Brent forecast by $5/bbl, to $75/bbl in 2Q and $80/bbl in 3Q21.

I’m on board with all of this for now. The notion that this supply discipline will hold into 2022 is dubious. Iran is coming back and that will undermine OPEC solidarity. US shalers will be back in H2 as margins prove too attractive.

But, in the meantime, oil is going to spike and take inflation with it:

Oil inflation and deflation

Oil inflation and deflation

No need to adjust your TV set. The chart is correct. Oil inflation will be at…wait for it…701% year on year in the US in April as the base effects of the 2020 COVID crash flow through. Moreover, from Feb 2021 to May 2022, the average oil inflation print in the US is…wait for it…173%.

Of course, base effect inflation is not so scary as real inflation. Much of this is catch-up prices. Nor will it fully flow through to real economy prices given petrol is much less volatile. But it will still drive headline inflation numbers up big while it lasts, even if a lot less for core and trimmed mean measures.

Europe will be hit too but much less so given Brent never fell so far and EUR has rallied all year. So the US will have much higher inflation, lifting the US dollar.

In short, the bond yield back-up is not over. DXY will keep rising. And, critically for this discussion, therefore the tech bust has further to run while the Fed watches on.

There is an irony here. One of the largest areas of the technology bubble was the electric vehicle frenzy, via FTAlphaville comes this chart:

EV bubble and bust

EV bubble and bust

Some of those stocks are going to be -90% shortly as oil prices keep driving yields higher and the EV bubble bursts which, ironically, will promote EV transformation as oil prices itself out!

The fact is, the Fed doesn’t have to do anything for this unwind to completely wash out. Oil and wider commodity inflation will peak all by itself as supply responds and prices tumble in 2022. A rising US dollar and slowing China will take care of the rest.

Only if that process becomes unruly enough to do macro-level damage to the US outlook via 30-year mortgage rates will the Fed intervene.

We’re not there yet so the tech bust is not over.

David Llewellyn-Smith

Comments

  1. I was watching almost tick for tick since OPEX – Nasdaq and the s and p. The rallys just looked like short covering at key levels where put buyers closed their puts (apparently in the Q’s as well). The s and p lacked put buyers till the end of the week as tech recovered. As it stands the Vix can still crush a little more, so maybe a short term pop before bears reload, but really, the fact is that JP has stepped away for now and yields/DXY have momentum and the nasdaq is still below it’s volatility trigger.. *edit It is interesting though that google has held up ok so far*. There is zero point gambling in this market unless you truly know and I imagine there are some very clever traders working the levels really well. Bulls will hope for more short covering/squeezing, bears will hope bulls crap out on every rally. Dot com, s and p peaked about 2 weeks later. You would have to give it to the bears ultimately surely 🙂

  2. Daniel SimulevicMEMBER

    I think your analysis of oil price effects on CPI is a bit off. Average gasoline price in the US bottomed at $2.2/gallon and are at just over $3 now, i.e. just 38% up.