Peaky

Do you believe in hikes after Warsh?

After debating the current setup with a bunch of clients yesterday, I think you can basically boil it all down to one question: Do you believe Kevin Warsh? Personally, I do not believe him nearly to the extent that the market does. I believe that the minute inflation starts to fall, which it will, he will back off the hawkish talk and move towards something that sounds more like: We’re winning on inflation and there is no need to panic. The fear of second round effects should be completely gone here as there are now no first round effects. You can’t have second round effects without first round effects!

I don’t believe that today’s Core PCE data means anything. Going forward, the trajectory of prices looks like this:

That chart shows State Street’s PriceStats Index, and it’s basically at zero now, month-over-month. By the time we get July inflation data on August 12, I would think this inflation panic is mostly over and we’re talking about an oil glut and AI productivity disinflation coming in 2027. As such, I think buying 2s and September call spreads on 2-year futures is a way to fade this move in rates. If you get through July FOMC with no hike, you’re probably making money.

Comparing the current backdrop to pre-war, there is no reason for the Fed to hike unless Warsh simply wants to take a stand to reestablish Fed credibility. I know he says he might, but I don’t believe him. Here’s a comparison table:

I see a macro backdrop that looks similar to pre-war. At that time, we were pricing in two cuts and now we’re pricing in 1.5 hikes. That seems wrong to me. The biggest counterpoints to my dovish argument are:

1. Headline NFP growth has been super strong since the start of the war. This is true and it’s the best pushback against a dovish view.
2. Inflation is about more than just oil. Yes, memory and AI capex are inflationary. But oil still dominates.
3. Warsh really wants to get inflation back to 2%. If this is true, I will be wrong and I will lose money. The Fed has essentially allowed 2.8% to be the new 2.0% for years and if Warsh wants to crush the last mile of the inflationary pressures that started after COVID, he’s going to need to hike aggressively.
4. The cut pricing was wrong the whole time. That is a fair pushback too, but that doesn’t mean we now need to hike twice. Maybe the correct pricing has always been zero hikes.

Take a look at the crude oil curve compared to where it was six months ago. Wow. The back end is significantly lower despite four months of closure in Hormuz.

The last thing I’ll mention is that the global central banks have been moving in lockstep since COVID and as the ECB and BoE turn dovish, the folks at the Fed, who watch the same variables and use the same models, will turn less hawkish too.

A quick sidenote on prediction markets. Be careful if you are trading them on IBKR—the fees are very, very high. For example, the “Fed Unchanged in July” contract trading at 78%: If you buy 24,000 contracts at 78%, you pay $500 in commissions. That means instead of buying at 78%, you’re buying at 80%. It’s a very expensive way to place a bet. That’s a commission of 2.67% and a bid/offer crossed of 1.28% = 3.95% transaction cost. Not worthwhile for high-volume trading; only suitable for the occasional one-off.

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USD

Most of the corporate USD buying is done, I believe, but the final time for USD buying is tomorrow morning around 10:00-11:00 a.m. NY time. I still think we are near a turning point for the USD as positioning and sentiment are becoming extreme and the biggest dollar buyers are nearly done. Month, quarter, and half-year end all produce USD demand and once June is over, USD shorts might have a fighting chance in July. I continue to lurk, though, because the timing still isn’t quite right. My USDJPY short is on now and I’m looking to add another USD short or two in the next week or so.

One particularly interesting setup as I contemplate short USD trades is USDMXN. We are about to enter a seasonally strong period for Mexican assets just as USDMXN tickles the 200-day moving averages. Here’s the chart.

Here are the upcoming seasonal signals. I am reprinting them because the way I published them earlier in the week was a bit confusing and I said “silver” instead of “soybeans”.

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Final Thoughts

1. We are halfway to Christmas.
2. Warsh speaks on a panel at Sintra at 9:30 a.m. July 1.
3. My new book, TRADE OUTSIDE THE BOX, comes out on Monday.
4. Wow MU. I was extremely wrong. Extra mega hyper bananas extraordinary earnings growth continues and there is a level of earnings surprise where the stock still rallies (!) Table here shows the trajectory of quarterly and annual earnings since 2022.

Completely incomprehensible. I have never seen anything like this.

5. Gold is relentless. If we get a reversal catalyst, USDCHF and gold are good candidates for mean reversion. They have been the same thing for months. Here’s the hourly.

Have a switched-on day.

Essential equipment when I was a kid.

good luck ⇅ be nimble