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  • Markets have pricked asset bubbles, it is hard to see any super-inflated public market pricing
  • Expect the US inflation bump to be transitory, US job gains to hit 1 million+ per month and re-openings to continue
  • The song remains the same, higher rates are a good thing. The US recovery is baked in – China too – but watch Europe
The song remains the same

As we enter Q2, one considers the recent past and peers into the near future. Forward-looking markets suggest today’s headlines are already in the price (not to mention available here some months ago: Economic boom, US political realignment etc).

I expect more of the same – thus today's title courtesy of Led Zeppelin (from all the way back in 1973 – talk about 50 years!). Markets have pricked asset bubbles, be they in stocks or bonds, and surveying the landscape it is hard to see any super-inflated public market pricing. From FANGS to Robinhood bros to clean energy/ARK names to mispriced US Treasuries, we have had a rolling series of corrections. The Archegos affair is just the icing on the cake.

The result? All-time highs in stocks, VIX under 20 and the worst quarter for long-duration US Treasuries (UST) in decades (no surprise here). Impressive. As noted two months ago, Higher Rates Are a Good Thing. One of my prime rules is to let the market tell me – not me try to tell the market. The market was speaking loudly in the past week with the Biden America Jobs Plan launch and its US$2.5 trillion price tag, and a March jobs number way beyond expectations – yet what did the 10 yr UST do? It rallied. So what does that tell us? That it's in the price.

Now we come to the testing time of higher inflation prints – the short period of 4%+ numbers – whether in China or US PPI and coming to US headline CPI – it's here and will be so for the coming few months as the negative numbers from last year’s Covid cessation roll off the yoy comps.

Wouldn't it be perfect for UST to rally – yes, rally into this period – some folks (hat tip David Hunter) think this is likely, coming together with reopenings and earnings to spur a Nasdaq-led melt-up in stocks – plausible enough for me to consider when doing my monthly model portfolio review this past week.

This model portfolio review process is always interesting – it is where the rubber meets the road so to speak. A couple of observations to share:

First, I looked not only at ytd performance but also performance going back to 31 December 2019 to avoid the March-to-March Covid comparison. Here is what I found: fully half of the current portfolio is either down or up less than 10% over the past 15 months vs up 20% for ACWI. That suggests some good potential upside.

Second, worried about the UST rally and Nasdaq-led melt-up scenario, I explored how much the thematic slice of the portfolio – some 20%+, would help in that scenario. A ytd correlation analysis of the two yields a correlation of .68, implying some protection there to go along with the model’s heavy Value tilt, both in US sectors and its non-US equity Overweight. (Investing Thematically)

Lastly, I would just note the challenge of liking what is in the model and working hard to shoehorn in one or two other ETFs that I wanted to include – a high-class problem that took hours to resolve but we got it done. April is Financial Literacy Month – reach out to learn more about our Model Portfolio Delivery service.

The Song Remains the Same – higher rates are a good thing, expect surging EPS, though much is expected here (FactSet reports Q1 as biggest US EPS increase since 2002, led by Value sectors). Don't invest on headlines – Europe sounds like a disaster with vaccination fumbles and lockdowns galore, but record Manufacturing PMI and a Composite PMI at 53 says something else, as do the equity markets with EuroStoxx 600 up five weeks in a row and down only three weeks since December. Yet the US – EAFE valuation gap remains extreme, as noted by AQR Capital.

Peering into the near future, expect the US inflation bump to be transitory, US job gains to hit 1 million+ per month (still 11 million short of the peak in the US, while the EU unemployment rate at 8% has room to improve), re-openings to continue and Biden’s Jobs Plan to pass a la the Rescue Plan (both very popular across the aisle in Washington).

The US recovery is baked in – China too – but watch Europe. Expect the divergences between EU and US in vaccine rollout and economic activity to start to narrow, supporting the Euro and leading to US$ rollover and an Emerging Markets FX bounce. Don't freak over China credit concerns – still targeting 11% yoy loan growth.

On the thematic front, crypto news continues to pour in – US$2 trillion in assets, Grayscale Bitcoin Trust (GBTC) to convert to an ETF, Coinbase to list this week. Great to see Jamie Dimon jump on board the fintech train – I am very focused on the melding of banks, fintech and crypto.

Watch for Carbon to be a big part of the upcoming Climate Summit scheduled for November 2021 – it was virtually ignored in the Jobs Plan rollout. Expect carbon permit pricing to move sharply higher in coming quarters/years as companies come under pressure to publicise their carbon footprint and seek offsets as a result. The interplay between the Georgia state voting law and employee, customer and shareholder pressure for a corporate response represents the template.

Bottom line: The risk asset risk-reward seems appealing, especially given positive seasonals ahead and bubble pricking behind.

To finish, I offer two links that I hope you enjoy: first, the recent Global Macro webinar with GATE Advisory, and second, the inaugural video from Nucleus195 where I cover the TPW Advisory investment process in a quick 18 minutes. If you are new to TPW – and we have had many new additions these past few weeks – welcome, this video is perfect for you.


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