The US economy seems to be in unchartered waters, with certain elements (tight labor markets/unusual inflation pressures) associated with late cycle dynamics, while other elements (private sector balance sheets/spending levels) are typically witnessed early in an economic recovery.
Opinions are mostly formed by past experience, with elevated inflation on sharply high oil prices causing some investors to dust off their 1970’s investment template.
We keep our value sector bias when adding equity exposure with Energy outperformance in early innings. OPEC+ has been under-producing for the past 3 quarters with seemingly structural production outages due to underinvestment.
Our call for a better-than-feared March CPI was based on extreme expectations and leading indicators pointing to an imminent near-term peak. CPI is just one inflation measure that happens to lag others.
Given already high expectations, we don’t expect tomorrow’s US CPI release to become a major inflection event for markets. Consensus expectations and extreme negative sentiment on the topic of inflation have equity risk/reward skewed to the upside on tomorrow’s print.
Our preference to add exposure in value sectors began last July. Since then, the S&P 500 Value Index (SVX) has outperformed the S&P 500 by ~310bps and the NASDAQ 100 (NDX) by ~880bps.
The challenge for any central bank is that inflation and employment adjust with a ~12 month lag. A lot of time has been spent on recession signaling from the recent 2/10 yield curve inversion. A yield curve inversion has greater statistical significance with a recession
The past few weeks of NDX outperformance looked like lazy, low conviction buying as a 70’s-style stagflation narrative emerged while crude oil prices advanced into the $120s.
Past early stages of Fed tightening have not been negative for equities, which tend to make new highs after initial volatility. Realized volatility is a subdued, but unsettled headwind with the VIX decelerating from 36 to 21 today.
The NASDAQ 100 (NDX) is up +1.70% this morning, outperforming the S&P 500 (SPX) by ~120bps based on: 1) recession concerns following Friday’s relatively soft ISM report and increased expectations for a 50bps rate hike in May
