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If November was full of activity, December was the complete opposite: low volumes, low volatility, not a good deal of news coming out. However, the first two weeks were probably the most intense ones we have ever seen in 2022: we had the PPI, then the CPI, then the FOMC, then the biggest OpEx of the year.
Starting with the United States, in early December the PPI data, a leading indicator for the CPI, came out higher than the consensus expectations, slapping once again the face of those shouting that inflation has peaked. Nevertheless, the CPI came out lower than consensus, shocking the markets once again.
However, what really surprised everyone is that the pump for the CPI started around 2 minutes earlier than the actual release: many started to talk about leaks, which is probably what actually happened, but the White House was very quick in silencing these rumors. When looking at the chart, remember that the release was at 7:30 AM (EST).
Also, the day of the CPI was one of the strangest I’ve ever trade: indeed, despite the big pump before the opening, the index gave back most of its gains by the end of the session.
As outlined earlier, just after the CPI we had the last FOMC of the year. Despite the market desperately needing some confirmation for its bullish bias, the Fed did the exact opposite. Firstly, they stated, once again, their intention to go “higher for longer”: they did this by increasing the terminal rate (from 4.6% to 5.1%), and showing there will be no cut in 2023. For some reason, when the dot plot came out, the market started to pump, offering us tremendous entries for our puts.
As if this wasn’t hawkish enough, the speech by Powell was like he was punching the “pivot crowd” with gloves made of truth. He started by saying that although the CPI came down, this was expected by their models already, so that constituted no surprise for the FOMC. Then, he explained that if financial conditions were to loosen too much, as it occurred in October and November thanks to the bear market rally, the Fed will just raise the terminal once again – which, by itself, proves the bottom in the equity market is not in yet. Furthermore, he highlighted how important it is for the unemployment to get higher to fight inflation, as he doesn’t want to repeat the error made already in the 70s. At the end, replying to a question regarding what the FFR futures market is pricing, Powell also said that the Fed couldn’t care less about what the market is pricing, as they’re following their models only to decide on the monetary policy. You can find the full FOMC Press Conference here (it starts at 58:52).
Summarizing up the FOMC of December, we can say that there will be neither cuts nor pauses, and the longer the equity market wants to stay in LaLaLand, the tighter and more painful will be the monetary policy. Most importantly, the focus should now shift from the inflation data to the labor market data, as it’s clear the Fed will continue to move down this path until the labor market will start to show some weaknesses.
The reason for that is that a strong labor market poses the risk of a second wave of inflation coming from the wage adjustments, a phenomenon known as “wage-price spiral”. I won’t dive deeper into the subject here, as I’ve already published another article on this specific topic: be sure to check it out.
The last two weeks of the year were characterized by extremely poor liquidity, which, despite the wild movements on a intraday basis, made the market pinned to JPM’s collar level. Now that the collar is out of the picture, and the overall Fed’s liquidity declined, we will probably see a strong downward movement in January. There are a few reasons for this belief of mine. Firstly, when there is no “Santa Rally”, we tend not to experience the January effect either. Secondly, we’re in a period of buyback blackout, so the companies with cash available (looking at you, Apple), can’t intervene in the pricing of their shares. Thirdly, and probably the most important one, in my opinion traders are severely mispricing the EPS estimates, which are still expected to grow substantially: either we get a general selloff before the earnings because that gets repriced, or we will experience sharp declines on the individual names that miss either revenue, EPS, or both. However, the most important thing about this earning season is whatever guidance companies will be putting out, even more than the actual results.
Moving to Europe, finally the ECB spoke in a clearer way regarding the QT, which we now know will start in March 2023. Also, they raised the interest rates once again, and said they’ll continue to do it until inflation is fought. However, I’m still very doubtful of that, as I don’t believe the European economies can actually survive higher interest rates, let alone their sovereign debt titles being priced by the market. In any case, the market seems to believe them more than I do, and the Euro kept its newly acquired strength against the dollar.
In my November’s Portfolio Update, I was writing:
“Many banks changed their view on the euro too, forecasting targets up to 1.10 by the end of the year: however, JPM made a report a few days ago titled “Global FX Strategy 2023”, which I highly suggest reading, where they forecasted EUR/USD to trade at 0.95 or even 0.90 by 1Q2023 amid energy dependence, weakening global growth and poor carry. Holding tight my euro shorts, I tend to agree with JPM on this, but we’ll see: it’s always important to know who’s on the other side of the trade.”
Despite my conviction, I got stopped out of my short at 1.045, and the market actually touched 1.07, proving me wrong about short-term direction. There are many reasons behind the rally of the Euro, but the one that seems the most significant to me as of now is that traders seem not to believe the Fed. Indeed, if we look at the yields, they have yet to climb back to where they were before November’s CPI, which is when the “pivot narrative” became so strong that we saw one of the biggest daily gains for the NASDAQ100.
What’s odd to me, is that the market participants seem to trust more the words of the ECB, which is limited by the fragmentation risk and the members’ economies addicted to cheap money, than the ones of the Fed. If anything, the Fed is the only Central Bank that can actually continue this path longer than all the others – hence why I remain bullish on the dollar. If in December seasonality was strong for the Euro, in January it tends to be very strong for the US Dollar and weak for the Euro, so we’ll see how long the latter will be able to remain above parity. Despite the price action and me being out of the trade, I continue to stand by JPM’s words regarding 1Q2023 targets.
To close this portfolio update, let’s talk about China. After a year of hopes and dreams regarding what would happen if the country reopened, now that’s finally happening these positive fantasies are shifting towards fear of increased inflation due to higher demand, both of services and commodities. I’m not an expert of commodities, so I won’t comment that take, but I agree on the higher demand for goods and services. After all, don’t you remember what happened the moment the lockdowns and restrictions ended in the West? We all started to travel, go to restaurants and, generally speaking, spending more. Now imagine how big the spending boom can be for one billion people that got stuck at their homes for two years…
The followings are my currently open positions:
- Long: MEX.L, MOS, UUP
- Short: SPY, BX, NVDA, AAPL, GS, TLT, KMX, SLRN
The remaining part of the portfolio is in cash, in dollars. If you have questions regarding any of my positions, don’t be afraid of sending me an email or a message on Twitter: I’ll reply as soon as possible.
As always, I discourage you from copying my trades or following them blindly, as we probably differ both in the risk profile and in the time horizon: always do your own research. The only reason why my positions are public is to prove I put my money where my mouth is.