But Wen Will It Break Tho?

October 19, 2023

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But wen will it break tho?

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It is a commonsensical observation to say that we are on the cusp of some sort of break. The economy is doing its best Icarus impression right now as yields fly up toward the sun and every headline is like: [number] reaches highest (lowest) level since 2007. Here’s a snapshot of my inbox:

I am struggling to come up with a coherent view as the commonsense viewpoint is pretty reasonable! But there are some crosswinds like:

• We have been here before. Below is the Bloomberg count of articles containing “Fed + break + something”. March 2023 wasn’t a good time to be bearish, even as stuff was legitimately breaking all over the place.

• The move in treasuries is explained by so many different factors that it’s difficult to handicap what would cause it to reverse. I have seen at least seven reasonable explanatory factors for the selloff. How do you predict which of the seven will lose power, and when?
• Risk asset seasonality is bullish. Obviously, time of year is a single variable that cannot generally be the basis for a trading view on its own. Stocks got smoked in this segment of 2018, for example. Still, fighting the seasonals has been negative EV all year in 2023.
• The market is heavily long USD. Again, positioning is just one input. But it’s not making it easy to just jump into long USD, even as rate differentials have widened to levels not seen since early 2021. Germany vs. USA, for example is now more than 200bps in favor of the US again.

EURUSD vs. Germany-USA 10-year rate differential

Not exactly perfect correlation there, but still. A mind-blowing takeaway from that chart is that in early 2021, rate differentials were right where they are now (2% in favor of the US) and EURUSD was above 1.20. Lead/lag!

For whatever reason, the Germany/Italy spread has been a much better fit with EURUSD. Here’s the chart.

EURUSD vs. Germany-Italy 10-year rate differential

I have not been paying much attention to BTPs of late, but maybe I should be? Perhaps short BTPs is the ultimate European stagflation trade as the ECB stays tight but the European economy (unlike the US so far) can’t handle restrictive policy.

Some days, all I can do is offer observations and explanations, not conclusions or trade ideas. This is one of those days.

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Powell

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I think the Waller speech yesterday was solid and matched what he is like in real life. Pragmatic, easy to understand, and somewhat Bayesian. He essentially says “Here we are. Things can go two ways now.” I like to think of Waller as a leading indicator for the Fed because of his early warning speech before QT entered the mainstream zeitgeist in late 2021. Unfortunately, though, his speech yesterday doesn’t really help handicap what Powell might say today.

The Waller speech is here: https://www.federalreserve.gov/newsevents/speech/waller20231018a.htm

I could see the temptation for Powell to push back a bit against recent tightening of financial conditions if he dreams of threading the soft landing needle. But the funny thing is that if he’s dovish, the back end will probably get smoked. And if he’s hawkish, the front end will probably get smoked.

If he’s worried about market reactions, his best bet is to offer a bunch of Wallerian if/then statements and try to escape from the Economic Club of New York without incinerating any part of the curve. The speech is at noon.

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Final Thoughts

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While it is fashionable to criticize the Fed, one thing they will never be criticized for is their logo. It’s unequivocally baller.

Have a Triple Action® day.

good luck ⇅ be nimble

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From a 2011 Reuters article:

A lawsuit over a blob of toothpaste has ended, cleanly. Colgate-Palmolive Co and GlaxoSmithKline Plc, two of the world’s biggest toothpaste makers, said they have reached a confidential settlement of litigation over who has the right to depict a “nurdle,” a wave-shaped toothpaste blob that sits atop a toothbrush head. Colgate has sought a court order allowing it to use toothpaste packaging that superimposes the words “Triple Action”— suggesting cavity protection, fresh breath and whiter teeth — on a blue, white and green nurdle. Glaxo, which uses the “Triple Protection” phrase for its Aquafresh toothpaste, countersued, accusing Colgate of trying to “trade off the commercial magnetism” of its own packaging, including a red, white and blue nurdle.

Nurdle can also refer to pre-production plastic pellets used in the production of plastic products. They are a major environmental hazard. Also, a nerdy baby?

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