Big Week

Big Week

I will always remember March 10th, 2000, because that’s a day the world changed.

There wasn’t an obvious reason at the time, and there’s been very little retrospection on why, but that was the day the tech, media, and telecom bubble burst. My belief is that it was caused by accidentally synchronized stock unlocks, where several insiders of recent IPOs were able to sell stock. This overwhelmed the market with supply, causing the orchid-like valuations great pain. I didn’t figure that out until several weeks after the fact, though. At the time, I was just happy that my refusal to buy those dot com stocks was rapidly looking less stupid. As the weeks moved on, that decision looked better and better. Sometimes, a fulcrum week comes along, and everything changes.

I question whether we have quite that significant of a week, here, but there is quite a bit going on. Ultimately, it’ll be interesting to see what the world looks like after we exit this week.

On Tuesday, we’ll see the May CPI report. Core measures of inflation, in particular, have been awfully sticky for the last six months and the Cleveland Fed, which does a good job of predicting CPI, doesn’t expect that to change. Core CPI is expected to bounce back up from 4.7% to 5.3%. To be fair, headline CPI is expected to slow from 4.9% to 4.1%, but that’s still more than twice the desired endpoint. If the Cleveland Fed is correct in their forecast, the market may try to cheer on the headline number, but the core numbers that the Fed watches won’t be so encouraging.

Wednesday is the FOMC rate decision. Expectations are that the Fed won’t hike, but those numbers have been moving around fairly violently, and they still show a nonzero chance of a hike. Honestly, I respect, and defer to, the idea that the modern Fed doesn’t surprise markets, and thus no hike is likely. Looking at the data, though, I’d take the unpopular opinion that they should hike. While jobs and inflation are gliding in the right direction, they’re doing so very slowly, and you can argue inflation in particular is in danger of picking back up. Like the Bank of Canada said in their surprise decision of hike rates last week, we seem to have a problem with excess demand, wage growth, inflation expectations, and corporate pricing.

I’m not sure how much the rate decision really matters, as the Fed has indicated that if they do pause in this meeting, they’re likely to hike in July, something that markets also agree on. If that’s the case, our rate hiking cycle isn’t done regardless of whether they hike or not.

Friday is a quad witch options expiration. Options expiration often creates a change in trend. To be honest, I thought last month’s OpEx would change market trend, and it didn’t, as call buying continued to support markets. I’ll throw myself out there again, though, as this month had a lot of calls that will expire. As that is rolled off, the pressure from hedging them goes away, unclenching the market. That’s particularly a concern for next week, though.

Away from the US, China has a data dump on Wednesday, ECB meets on Thursday, and BOJ on Friday. While all that is going on, this week the Treasury is issuing $296B in new debt. We’re also running a huge deficit in the Federal budget, so we should expect to see more issuance to cover that, at least over time. It’s a very busy week.

Somehow, despite an avalanche of events this week, Goldman Sachs reports the current weekly volatility is priced lower than the daily volatility in over 50 days, last year. To put that in plain English, markets are incredibly complacent. I don’t know what is happening this week, but I do know the market seems ill-prepared for problems. The VIX is at 13%, which implies a 13% move in the S&P 500 over the next year. Given all that’s going to happen this week, not to mention over the next year, does that seem appropriate?

YTD returns have been passive investor nirvana, as the returns from 7 large tech stocks have carried the whole market. I certainly don’t deny that’s happened, nor that we didn’t participate in that. We don’t live in the rearview mirror, though. Going forward, should we expect that to continue? Considering the changing environment, that seems pretty unlikely.

Ultimately, the higher for longer regime that the Fed has indicated is a seemingly unrecognized problem. Every day, more adjustable-rate mortgages reset, more corporate debt rolls over, more loans mature, and more business gets closer to breaking. While the market seems very impatient, time is on the side of being conservative.