More to the point, does it matter? BofA still thinks fire:
The Biggest Picture: US small business labor shortages & wage pressures worst in 50years (Chart2) = we are on cusp of policy pivot from pro-growth to anti-inflation (policy mistake has already happened…>$30tn of global stimulus ending in inflation).
The view: bull case is pandemic ending, bear case is pandemic ending and so is $30tnof emergency policy stimulus; more bearish Wall St positioning reflects concerns reinflation & China (Chart 6)…supports typical year-end rally…we say“sell it”…2022 surprise = rate hikes = +ve volatility, -ve credit, stocks, crypto.
The next shock: 2020 “growth shock” (policy panic causing V-shape recovery on Wall St & then economy)…stocks were the winner; 2021“inflation shock”(demand for goods, services, labor, housing up big, supply not so much)…commodities (& crypto) the winner; “rates shock” in 2022 (Fed hikes as monetary policy tightening spreads from EM toDM)…volatility the likely winner (also US dollar in H1…with likely losers being credit,stocks, tech, Wall St).
The policy pivot: policy makers & politicians now worried inflation will damage growth & approval ratings; policy pivot from pro-growth to anti-inflation; so…
1.Fed will taper despite weak payrolls,
2.US fiscal stimulus watered down,
3.US monetary & fiscal cliffs ahead as $8.4tn emergency stimulus by Fed & Treasuryends (Chart7);
4.global tapering underway (central bank liquidity add was $8.5tn in‘20, $2.1tn in‘21,just $0.1 in’22);
5.China playing long-game, no longer in policy-panic camp (see stable China yuan).
Catalysts: right now markets cool with “behind-the-curve” policy…catalysts to cause markets to price-in more aggressive/painful monetary tightening…
1. Powell re-nomination triggers more hawkish Fed rhetoric,
2. Payroll recovers,
3. Wage & rentinflation remains elevated. Watch: trades in today’s“superficial” tightening phase are relative…IG>HY, banks>tech,small>large, value>growth…signs that tomorrow’s aggressive tightening arriving…
1.spread widening spreads from riskier parts of credit spectrum (China, EM) into HY ,then IG (Charts8&9),
2.higher real rates (currently saying tightening will be modest & central banks stay behind curve),
3.yield curve flattening then inversion (UK best yield curve to watch as BoE the 1stG7hiker),
4.homebuilders & high yield always good lead indicators of trouble, but ultimate tell will be rising rates causing bank stock underperformance (Chart10).
Today’s consensus: global CPI consensus forecasts continue to rise (3-4% from’21 &’22-Chart11), global EPS forecasts for’22 in downward revision trend, now single-digit (Chart12), global GDP upgrades have stalled at 6% & 5% in ’21 &’22 led by US & China (Chart13).
EM in’21 = DM in’22: consensus on EM was “long” heading into 2021…but growth has struggled, inflation has surged, and EM’s/Asia now pivoting to more aggressive hiking on inflation surge (Poland, Chile, Singapore most notably of late); policy rates up almost 200bps to 5% for EM average & rate hikes on pace for biggest year since 2008(Chart 14); note EM’s have tightened fiscal policy in’21 (Chart 15); EM often best place to see first signs of risk-off & tighter global financial conditions occurring (Chart16)…EM bond (EMB) & equity (EEM) prices are down YTD, and world’s best risk appetite indicator, the Brazilian real, continues to struggle.
Oddly, I now agree with BofA given it has come around to the idea that the inflation is temporary as everything goes bust.
Morgan Stanley sees ice being the problem:
As for corporate taxes, yes, DC is likely to push them higher. Yet for now we don’t see this as more than a near-term challenge that shouldn’t impede bullish medium-term outcomes for the equity sectors we’ve highlighted: As Mike Wilson and the equity strategy team have argued, enacting higher taxes could bring down forward guidance, something investors may not yet be pricing in, given current valuations. In the near term, that may prompt US equity indices to price in a greater chance of a sustained economic slowdown. But such weakness would likely be more of a correction than a bear market signal, as we expect that the total fiscal package would ultimately be GDP-supportive. Likely incorporating more spending than taxes, our economists expect it to boost net aggregate demand and support the view that the US can continue to grow at a brisk pace in 2022.
Investors could also view fiscal policy as a catalyst for stagflation. We don’t buy it, and see opportunities in macro markets to take the other side: As my colleague Andrew Sheets effectively broke down in last week’s Sunday Start, recent data (i.e.,slowing GDP growth and rising inflation) are summoning up the idea of stagflation rather than proving that it’s a serious risk. Notably, unemployment continues to decline, and there’s firm evidence that demand is driving inflation as much as supply chain disruptions, which our economists expect to abate over time. Hence, investors concerned about rising prices may need to attune themselves to the market risks of stronger-than-expected inflation rather than stagflation. Here, our macro strategy colleagues offer a suggestion that seems counterintuitive at first: short TIPS. But with the breakevens curve pricing in above-Fed target inflation, a stronger realized inflation environment could usher in a more hawkish Fed and higher real yields at the expense of TIPS.
Never fear, Goldman is its permabullish self:
Households, mutual funds, pension funds, and foreign investors collectively own 84% of the US equity market (Exhibit 1). The Fed’s Financial Accounts of theUnited States (Z.1) analyzes holdings and flows across asset classes and investor types and reveals that these four categories of investors currently allocate 52% of their aggregate financial assets to equities, surpassing the previous record high of 51% set during the Tech Bubble in 2000. Despite already elevated positioning, we expect combined equity allocations for this group will climb to a new high in 2022.
When allocating capital, the alternatives to equities appear unattractive. Cash yields essentially nothing, and is likely to remain at the lower bound for the next year. The 10-year US Treasury yield equals 1.57%, but our rates strategists forecast it will rise to 1.8% in 12 months. Investment Grade (IG) corporate bond spreads (86bp, rising to 97bp) and High Yield (295bp, rising to 360bp) are also unappealing. Relative to the past 25 years, these fixed income alternatives rank at the 1st (cash), 7th (Treasuries), 5th(IG), and 11th percentiles (HY) since 1996. In contrast, using the Fed model equities trade at an above-average earnings yield gap to the10-year US Treasury yield (343bp, 39thpercentile vs. history). A near-record 57% of S&P 500 stocks have an annualized dividend yield greater than the IG index, implying more income than bonds and the potential for capital gains (losses).
Recent flow activity suggests a portion of the record level of US cash assets will be deployed into equities. Households, mutual funds, pension funds and foreign investors hold $19 trillion of US cash assets, accounting for 68% of total US cash assets and reflecting a $4 trillion rise vs. their pre-pandemic holdings (Exhibit 5). We expect some of this cash will shift into equities. US ETF and mutual fund net inflows YTD are the highest in any year since at least 2001 (Exhibit 6). The ratio of equity to bond inflows in the US is near a record high.
There is no bubble too big for the squid to stop selling it.
We have massaged a few things to ride out the energy bubble but remain short equities and commodities plus long Quality, are increasing bond weights as prices fall and remain long USD.
We see it all ending in ice in 2022 as China, the US and Europe all slow materially, before a more constructive period for US assets as the Biden stimulus kicks in.