The inventory problem has been bubbling up for a couple of months, but only recently, the last week or so, has deflationary momentum emerged in the markets. Most commodities are in correction mode, with the Bloomberg Commodity Index down more than 10% since June 9, as metals, energy and agriculture commodities have fallen significantly from their maximums. Even cotton has had a series of limit days in the futures market. When speculators first realized faster inflation was inevitable, the natural response was to dump into commodities, and the Bloomberg index had soared as much as 43% since early December. But now those gains are unraveling.
Aside from durable goods orders, which the Commerce Department said on Monday rose 0.7% more than expected in May, economic data has deteriorated. The widely followed Federal Reserve Bank of Atlanta GDPNow Index, which aims to track the economy in real time, shows no growth for this quarter. The Dallas Fed manufacturing intentions survey released Monday fell to its lowest reading since the early days of the pandemic in May 2020. The “deflationary pulses” Burry referred to may be happening now. It seems very likely that the June Consumer Price Index report, due on July 13, will be comfortably below the 8.6% recorded in May. To believe otherwise would require ignoring a mountain of economic data.
In previous inflationary periods, the Fed had to raise interest rates above the rate of inflation to reduce inflation. That may not be the case this time. Ridiculous as it sounds, there may still be a transitory element to current inflation that was a function of quantitative easing, government spending, and pandemic hoarding. Now that all these factors are in reverse, inflation may slow down. And if inflation slows, it’s likely to be very positive for both the stock and bond markets. The current bear market was based on the idea that the Fed was trapped in that it had no choice but to raise rates to the point of forcing the economy into a recession if it wanted to bring inflation back under control. And the economy may have been forced into recession, albeit prematurely.
Commodities may be entering a very deep correction as a consequence. Everyone knows that a lot of “hot money” has been invested in commodities, making it a very busy trade. The “pain trade” would be for the recent slide in these markets to continue, and that may be starting based on the latest economic data.
So if Burry is speculating that the Fed may pause rate hikes, when would that be? The Fed has said it wants to see “progress” in slowing inflation before backing off, and presumably that means more lower CPI readings for a couple of months. Policymakers may pause as soon as they meet in the second half of September, and in this context “pause” may mean a 25 basis point rate hike rather than a 50 or 75 point hike. basics.
Could the rate hike campaign end with a target fed funds rate of 2.5%, up from the current range of 1.50% to 1.75%? Yes, but only if there is clear evidence that the economy has entered a recession. It looks like it will. Ironically, that would be positive for the capital markets. To an outside observer, this makes no sense: do stocks go up in a recession? Sure, because the stock market discounts future events to the present. The stock market priced a recession about six months in advance and will price an expansion about six months in advance.
Against this background, US Treasuries look cheap, especially those with shorter maturities. Two-year note yields got a bit carried away, rising to around 3.5% from around 0.25% this time last year. Eurodollar futures show that traders are pricing in rate cuts in the not too distant future.
Burry, who gained fame as one of the few who predicted the collapse of the subprime mortgage market that led to the global financial crisis, isn’t saying anything terribly original. There are some market participants who share his views. But when he does say something, he tends to carry extra weight because of his past successes. The inventory tweet is a small part of the picture, and while the recession has become so pervasive it’s become a cliché, the data is there and it probably will happen. More from other writers at Bloomberg Opinion:
Dismay Exaggerated by Imbalanced Inventories: Nir KaissarTarget, Walmart Victims of Their Own Success: Andrea FelstedIncreasing Inventories a Bearish Indicator: A. Gary Shilling
This column does not necessarily reflect the opinion of the editorial board or of Bloomberg LP and its owners.
Jared Dillian is the editor and publisher of the Daily Dirtnap. An investment strategist at Mauldin Economics, he is the author of “All the Evil of This World.” He may have an interest in the areas he writes about.
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