MIDDAY MACRO - 12/22/2021
Daily Color on Markets, Policy, and Geopolitics
MIDDAY MACRO - DAILY COLOR – 12/22/2021
OVERNIGHT-MORNING RECAP / MARKET WRAP
Price Action and Headlines:
Equities are higher, with fears over Omicron subsiding while Build Back Better may still survive as trading volumes are at very low levels on the holiday week
Treasuries are higher, rebounding following a better than expected 20yr auction yesterday with few new catalysts today
WTI is higher, helped by a further drawdown in domestic inventories and continued strong domestic holiday flying activity as travelers buck Omicron fears
Narrative Analysis:
Equities are rising on low volumes both domestically and globally as a more risk-positive tone continues to develop following Monday’s notable sell-off. Omicron is starting to look like a positive evolution for the pandemic, while Build Back Better may not be completely dead. Today’s domestic data showed that housing remains strong while consumer sentiment improved slightly based on reduced fears over inflation and Covid. Treasuries are seeing a relief rally following significant selling pressure earlier this week while the dollar continues to weaken with the Euro on a three-day winning streak.
The Nasdaq is outperforming the S&P and Russell with Momentum, Growth, and Small-Cap factors, and Consumer Discretionary, Technology, and Energy sectors are all outperforming.
S&P optionality strike levels have the Zero-Gamma Level moved higher to 4649 while the Call Wall is at 4800. Volatility should continue to fall as gamma becomes more positive as the S&P approaches 4700. Spot Gamma expects puts struck around 4600 to decay and roll to higher strikes while call gamma continues to build in the 4700-4750 area. This is supportive of mildly higher S&P prices into year-end.
S&P technical levels have support at 4650, then 4615, and resistance is at 4675-80 (current level), then 4715. The current momentum is very strong, all be it on light volume, with a move above 4715 being the last resistance before a move to new ATHs. Expectations are for cooling/consolidation at current levels (4675) before a push higher to 4715+.
Treasuries are higher, as yesterday’s 20yr auction helped stop the selling and curve steepening. Tomorrow’s PCE data has the potential to move rates, but otherwise, holiday trading conditions have set in. The 5s30s curve is flatter, moving to below 64bps.
Equity markets continue to be within their wider recent range on light volume causing choppy price action, something we highlighted would occur last week. However, technicals and optionality are becoming increasingly more positive. This trend of higher vol but still positive momentum will likely continue until January when asset allocation decisions will increasingly force the market to finalize views on what Omicron and a tightening Fed really mean for real growth and financial conditions in the first half of 2022.
We continue to see Q1 ’22 being stronger than expected, especially now that economists are downgrading their growth outlooks due to the stalling of Build Back Better in D.C. and Omicron more generally. We expect the (increasingly self-imposed) consumer slowdown due to the rise in Omicron to be shorter-lasting than the Q3 Delta wave and less impactful to activity as consumers “learn to live with it.” We also believe some form of BBB will pass soon, and any “end-of-Covid-relief” fiscal drag will be buffered by rising incomes and high household net wealth levels.
*We are very fortunate to get Ed Hyman’s (of Evercore ISI) thoughts daily and want to highlight his pros and cons for the U.S. economy going into 2022
This is the last Midday Macro daily we will be writing in 2021, and we want to do some portfolio housekeeping to set up for Q1 ’22 by increasing existing positions and adding new positions:
We are increasing our Russell long, from 5% to 10%, and moving the stop lower. We continue to believe Small-Caps are oversold, undervalued compared to large caps, and growth fears are overdone for Q1 while inflationary pressures are peaking, reducing margin pressures. It has been a frustrating trade since the Russell broke out of its yearly range (we were +8% at the high) only to retrace back to the lows, where it is now near. However, we believe Q1 will provide the macro backdrop and investor flows needed to regain highs.
*Russell is pushing through its downtrend today and moving back into the middle of its annual range
We are also adding to our Global Lithium and Battery Tech long position on the recent pullback, increasing the position from 5% to 10%. We continue to have a high conviction that the electrification and greenification of the world will support a long-term bull market in lithium miners and battery makers until new technologies are developed. Both sides continue to have strong pricing power and are increasingly consolidating, as increasing M&A activity will further support existing stock price appreciation already occurring from solid EPS growth.
*$LIT ETF bounced off its longer-term up-channel in the recent pullback, with the daily RSI indicating that oversold conditions are improving
We are also adding a 5% position in Global Robotics and Automation Index ($ROBO). We believe Capex in automation will only increase due to improving technologies and increasing costs of labor. Although automation will be both digital and physical, we see the current supply-chain issues as expediating the latter as reshoring and regionalization create/continue a fixed asset investment cycle.
*Automation will be both physical and digital, but we currently see a better setup for FAI side given high valuation on the digital side
We are adding a 5% long in Emerging Markets Asia ETF ($EEMA) given our belief China will increasingly have a more positive growth pulse next year while Asia more generally will bounce back from the Covid induced drag it had this year. EM more generally has a challenging backdrop but we increasingly believe that markets have priced in too much negative and the skew favors a ”Constanza” long position.
*We believe that growth views on Asia, especially China, are overly negative, and capital flows will increase to the region as growth normalizes
In line with our view on China, our electrification theme more generally, and recent developments that make the supply and demand balances more supportive of price, we are initiating a 5% long position in copper through the iPath Copper ETF ($JJC). The bottom line is that a rebounding China and less supply due to political and environmental restraints should support prices, which now look to be trying to break out.
*Copper is attempting to break out of its recent pullback with fundamentals looking increasingly more supportive
Finally, as a hedge against the continuation of more structural inflation, a belief that office life will return, and the general real rates/financial conditions backdrop will be supportive to the real asset class, aka real estate, we are initiating a 10% long position in a REIT ETF ($VNQ) which has broad exposure to the sector.
*The broader REIT ETF $VNQ has been outperforming the S&P recently as the sector is showing less sensitivity to rises Covid (verses previous waves) as inflationary fears and rising cashflow expectations are attracting inflows
This is the addition of a lot of risk to our portfolio (now 55% positioned), which is based on the belief that the recent pullback from Fed and Omicron fears is overdone. This is coupled with our expectations for growth to be greater than expected in Q1 while inflationary pressures will weaken, reducing Fed tightening expectations and profit margin pressures. We also realize each of these positions deserves considerable more explanation, which we intend to do in January. However, we are getting ahead of the crowd and putting in our Q1 allocation now.
*Not a great performance to date for our mock portfolio as we missed taking profit on the rally in the Russell in early November while also taking a quick negative hit from platinum’s pullback
Econ Data:
Existing home sales grew 1.9% in November to a seasonally adjusted annual rate of 6.46 million, below market forecasts of 6.52 million. Sales were up in the Midwest, the South, and in the West, while in the Northeast were flat. Total housing inventory amounted to 1.11 million units, down 9.8% from October and equivalent to 2.1 months of the monthly sales pace. The median existing-home price was $353,900, up 13.9% from November 2020, as prices increased in each region, with the highest pace of appreciation in the South region.
Why it Matters: “Determined buyers were able to land housing before mortgage rates rise further in the coming months,” said Lawrence Yun, NAR’s chief economist. “Locking in a constant and firm mortgage payment motivated many consumers who grew weary of escalating rents over the last year.” Yun further noted that inflation and the pace of price appreciation are expected to subside next year. Last week, NAR held its third annual Real Estate Forecast Summit, featuring economists and housing experts whose consensus found inflation would likely ease in 2022 at a 4% rate, while home prices are expected to rise at a moderate pace of 5.7%. Things remain positve for housing.
* Inventories declined -9.8% to 1.11 million, 2.1 months’ worth of supply
*First-time Buyers are increasingly being priced out as Cash Sales, generally associated with secondary home purchases, rose on the year
The Conference Board Consumer Confidence Index increased to 115.8, up from 111.9 in November. The Present Situation Index (based on consumers’ assessment of current business and labor market conditions) was relatively flat at 144.1, down from 144.4 last month. The Expectations Index (based on consumers’ short-term outlook for income, business, and labor market conditions) rose to 96.9 from 90.2.
Why it Matters: "Consumer confidence improved further in December, following a very modest gain in November,” said Lynn Franco, Senior Director of Economic Indicators at The Conference Board. “The Present Situation Index dipped slightly but remains very high, suggesting the economy has maintained its momentum in the final month of 2021.” The proportion of consumers planning to purchase homes, automobiles, major appliances, and vacations over the next six months all increased. Meanwhile, concerns about inflation declined after hitting a 13-year high last month, as did concerns about COVID-19, despite reports of continued price increases and the emergence of the Omicron variant.
*Expectations notably ticked higher due to reduced concerns about inflation and Covid, will that last?
The Chicago Fed National Activity Index dropped to 0.37 in November, from a three-month high of 0.75 in October, pointing to a slowdown in US economic growth. Production-related indicators contributed +0.21 in November, down from +0.42 in October, as industrial production increased 0.5%, after rising 1.7% in the previous month. The contribution of the sales, orders, and inventories category edged down to +0.03 from +0.06. Employment-related indicators contributed +0.18, down slightly from +0.23. The contribution of the personal consumption and housing category moved down to –0.05 in November from +0.04 in October.
Why it Matters: In summary of what we have already seen in all the domestic economic data we receive and review, the CFNAI showed that economic activity broadly slowed down in November, although not alarmingly so. This was from very robust levels in October and indicative of the reopening and general early holiday activities that occurred earlier this season. The current CFNAI level is still healthy, with only the personal consumption sub-index detracting negatively.
*The 3-month moving average is still rising, showing that momentum is positive but activity did slow in November
TECHNICALS / CHARTS
Four Key Macro House Charts:
Growth/Value Ratio: Growth is higher on the week, with Growth and Momentum factors outperforming today. Large-Cap Growth is the best size/factor performer today.
Chinese Iron Ore Future Price: Iron Ore futures are lower on the week as the World Bank moved their 2022 GDP growth outlook to 5.1%
5yr-30yr Treasury Spread: The curve is flatter on the week and today as the long-end is getting a relief rally after selling off for multiple days
EUR/JPY FX Cross: The Euro is stronger on the week and the day as it is now enjoying three days of significant outperformance
Other Charts:
*It has been an exceptionally volatile December so far, with the S&P average daily change being the highest for the year
*We believe this move to more defensive positions seen recently will be reversed in Q1
*The appreciation of the dollar has yet to weigh on equity risk premium meaningfully, but this could change if it rises further
*Carbon ETFs are becoming increasingly popular
ARTICLES BY MACRO THEMES
MEDIUM-TERM THEMES:
China Macroprudential and Political Loosening:
As policymakers move to restore the property sector, local governments have started to roll out measures to prop up the industry. Individual provinces are showing signs of prioritizing “restoring the real estate industry” in official announcements, with more actions likely to occur in Q1 ’22. Multiple cities across China have also put out policies encouraging people to buy properties, including Wuhu along the Yangtze River and the southern city of Guilin.
Why it Matters:
While several policy curbs have been eased, China’s real estate market is still cooling in general. At the end of November, new-home inventory in 100 monitored cities across the country rose to a five-year high, with third- and fourth-tier cities under higher pressure, according to a recent report by E-house. Experts expect more policy easing in the coming year to support the industry, and we agree, although it will be done carefully as not to counter and red-line agreements set forth by Beijing earlier in the year.
LONGER-TERM THEMES:
National Security Assets in a Multipolar World:
Standard-bearer: China races the U.S. and Europe to set tech rules – Nikkei Asia
Whether it is something as complex as a computer or as simple as a screw, standards help to ensure products are reliable, safe, and work across borders. Many are set by global bodies such as the International Organization for Standardization (ISO) and the International Electrotechnical Commission (IEC), after discussions by "technical committees" comprising experts from around the world. China's presence on these panels has increased significantly. From 2011 to 2021, its secretariat positions in ISO technical committees and subcommittees, influential roles in the development of specific standards, rose by 58%, while its comparable IEC positions doubled from 2012 to 2021.
Why it Matters:
New technologies such as drones, lithium batteries, data security, artificial intelligence, and so on have yet to be standardized. "The stakes are particularly high right now because, with the digital revolution, a new generation of technical standards is being formed," said Emily de La Bruyere, a senior fellow at the Foundation for Defense of Democracies (FDD), a U.S. think tank. "Should Beijing succeed in setting standards in strategic areas, it would lock in not only a market advantage but also political, normative and technological influence."
Electrification and Digitalization Policy:
Fake News: Buying Influence: How China Manipulates Facebook and Twitter - NYT
Bot-like networks of accounts have driven an online surge in pro-China traffic over the past two years. Sometimes the social media posts from those networks bolster official government accounts with likes or reposts. Other times they attack social media users who are critical of government policies. The article elaborates on all that Chinese actors are doing to push propaganda on social media and clamp down on critics.
Why it Matters:
As overseas Chinese propaganda campaigns have developed, they have come to rely more on visual media. Officials are looking for a company to not only maintain and deploy fake accounts but also generate original content. This is on top of increased efforts by police to find and detain online critics, both at home and abroad. The bottom line is that Beijing is becoming more active and sophisticated in using social media to push their own propaganda and punish any regime critics, increasingly using private contractor companies.
Commodity Super Cycle Green.0:
Micro-Grid: Battery Storage Soars on U.S. Electric Grid - WSJ
Companies are poised to install record amounts of batteries on America’s electric grid this year, as government mandates and a decline in costs fuel growth in power storage. Demand for utility-scale storage is expected to keep rising worldwide for the next several years, driven by rapid growth in the U.S. and China, as new storage technologies and pressure to add renewable energy sources to stem carbon emissions reshape the electricity industry.
Why it Matters:
Lower costs for lithium-ion batteries have made utility-sized battery projects more economical. Higher raw materials prices recently are expected to stall further near-term declines in battery costs. But that is unlikely to be a drag on battery demand, and cost inflation could be more than offset by potential new tax incentives. “Developers and asset owners are learning how to economically use their battery to dispatch it into the market and make money,” said Vanessa Witte, senior energy storage analyst with Wood Mackenzie.
ESG Monetary and Fiscal Policy Expansion:
Cleaner: Biden raises automobile fuel-economy standards to fight climate change - PBS
The Biden administration is raising vehicle mileage standards, reversing a Trump-era rollback that loosened fuel efficiency standards. A final rule issued Monday would raise mileage standards starting in the 2023 model year, reaching a projected industry-wide target of 40 miles per gallon by 2026. The new standard is 25% higher than a rule finalized by the Trump administration last year and 5% higher than a proposal by the Environmental Protection Agency in August.
Why it Matter:
The new mileage rules are the most ambitious tailpipe pollution standards ever set for passenger cars and light trucks. The standards also will help expand the market share of zero-emissions vehicles, the administration said, with a goal of battery-electric and plug-in hybrid vehicles reaching 17% of new vehicles sold in 2026. The now-stalled Build Back Better bill includes a $7,500 tax credit to buyers to lower the cost of electric vehicles. We will see what is in the end bill, but D.C. is back in the EV business.
Leaving: Republican SEC Commissioner Roisman to Leave Agency – WSJ
With Mr. Roisman’s departure, the SEC will have three Democrats, including Chairman Gary Gensler, and one Republican member. The move isn’t expected to change Mr. Gensler’s ability to advance his policy priorities since Democrats already had the majority. Mr. Roisman increasingly opposed policy moves, including several recent measures proposing changes to money-market mutual funds, corporations’ stock buybacks, and derivatives that hedge funds and some other investors use.
Why it Matters:
Mr. Gensler has moved swiftly to use the SEC’s regulatory levers to advance progressive goals that Democrats in other parts of the government have struggled to enact. Mr. Gensler’s latest semiannual policy agenda includes ideas to require more disclosure from public companies about commercial risks and opportunities created by climate change and stricter oversight of private-equity firms and larger broker-dealers that hold customer's securities and funds. We highlight this as an area that needs to be watched closely due to the intended and unintended consequences of the policy changes on specific firms/asset classes/sectors.
THANK YOU, READERS!
We want to thank everyone who reads the Midday Macro daily newsletter.
We also want to highlight and thank the many sources of information and data we receive. A lot goes into writing this piece as we read countless articles, economic data releases, policy speeches, legislative bills, think-tank and sell-side research, and of course, the market/economic thoughts of the thousands we follow on Twitter.
We started writing this internally at the end of 2020 and first published it publically on April 27th this year, and what a trip it has been. We plan to keep going and strive to continue to improve our content and increasingly add value.
Thank you for reading, and please always feel free to give feedback or ask questions.
Please have a great holiday period and stay safe.
See you in the New Year – Mike
Thanks for reading from Leo and Santa!
Current Macro Theme Summaries:
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