Market Slice: Down is Still Up

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The “Lower Inflation” Gambit

Inflation is showing signs of slowing, as this week’s CPI print came in slightly below the projected 7.2% year-over-year increase.

This was enough to spark another mini-buying frenzy, with Monday’s market skying in anticipation of further dovish sentiment from the Fed on Wednesday. As we’ve seen repeatedly since this round of rate hikes began, the mere whisper of an eventual slowdown in rising interest rates is enough to send investors – and particularly algorithmic-based program traders – streaming back into stocks.

Never mind that every time this happens, reality sets in a day or two later, and those gains are erased. Hope springs eternal in the hearts of Wall Street’s permabulls.

Graham Summers of Phoenix Capital Research was quick to point out that all the downward pressure on the CPI came from two sectors: energy, and the used automobile market. Every other category of household expense continued higher.

This chart shows the breakdown:

Chart courtesy of Phoenix Capital Research


Note that food and shelter (rent or mortgage payments) remain stubbornly high. 

It’s also worth bearing in mind that reductions from highly inflated prices are not the same as lower prices. Gas may be down from $5 a gallon to $3.75…but that still represents a historically elevated price.

In December of 2020, gasoline averaged $2.28/gal. Last year at this time it was $3.40. In November of this year, $3.79.

Even with this month’s modest 2% decrease, the average price per gallon is around $3.70… almost 10% higher than last year, after coming down from summer highs above $4.50.

So when economists and Wall Street talking heads tell us inflation is “cooling off,” it doesn’t mean prices are going down long term. It just means peak inflation may be behind us.

But things can change, and for that to remain the case, the Fed must continue to bump up interest rates until the real rate – that is, the nominal rate minus inflation – is positive.

Previously the Fed insisted that 2% was the target rate for inflation… in fact, for years Powell complained about being unable to get the rate of inflation up to 2%. Now they are hedging. Not long ago Powell suggested that 2½% would be acceptable, and recently the number being floated is 3%.

That means that if Powell intends to keep his word, today’s official core inflation rate of 6% (excluding food and energy costs) must be cut in half before interest rates can start to come down. This leaves us a long way from a “Fed pivot.”

Mike Wilson of Morgan Stanley, who correctly called the current bear market rally, has this to say on the subject:

“[It is] very challenging to argue for higher valuations at this point, and with our expectation for falling earnings estimates, that leaves little, if any, upside to broader equity markets from here. Bottom line, we think the CPI and Fed actions are unlikely to change this picture…with prices (mainly the ERP) not reflecting such risk, we do not recommend trying to pick up any remaining nickels this year.”

We concur that only the most adroit short-term traders should be hunting for buys in this market environment. As we’ve been saying all year, it also remains important to hedge potential risk in buy-and-hold portfolios with downside protection.


The “Fed Pivot” Ploy

If still-high inflation can be passed off as “lower,” what does that mean for Fed policy?

Earlier this year, when we wrote about the rate hikes that were just getting started, we opined that the Fed would cave at the first sign of economic weakness, and give up their tightening before it inflicted real damage on the stock market.

Then, as it became more obvious that Chairman Powell actually was intent on bringing down inflation, to the point of not only allowing but actually wanting to see stocks move lower, we revised this view. We said that the plan to slowly “let the air out of the bubble” seemed to be working…at least so far.

From this perspective, it’s been easy to see how misguided the dominant Wall Street narrative is. The investment industry has simply refused to see that the Fed no longer “has its back,” and that there is no chance of the Fed intervening to prop up equities prices, at least not before the proverbial “something breaks,” and the economy is thrown into crisis.

This is not a view the conventional narrative understands. Here’s how the Wall Street Journal sees things going:

This view could hardly be more detached from reality.

Right now, we are hurtling toward that market-breaking crisis. Investment professionals always think the future is going to be more or less like the past. That’s why they are never prepared when a discontinuity event (aka a Black Swan) occurs.

As we write on Tuesday evening, we don’t know what the markets will do after Powell speaks tomorrow. By the time you read this, we will either have seen yet another pivot hope spike, or another dose of cold, hard reality…or maybe both.

Regardless of this week’s outcome, the fundamentals remain unequivocal. We are still in a bear market, where we are likely to remain for some time.

Rather than anticipating a soft landing, we expect our pundits and money men will end up in a pile at the bottom of the hill.

Sammy Goes to Jail

FTX-Alemeda ponzi kingpin Sam Bankman-Fried was arrested Monday in the Bahamas, and on Tuesday he was charged with multiple counts of fraud and money laundering.

SBF was denied bail, with the Bahamian magistrate citing flight risk, and he will remain incarcerated pending a Feb. 8 hearing. After initial reports that he would fight extradition, some observers now think that, given the choice of remaining jailed in the Bahamas or coming to the U.S., he might consent to the extradition as a way to expedite his defense.

He might also be hoping that some political strings might be pulled stateside, and he could find himself at liberty pending his criminal trial.

The (mostly) unspoken undercurrent in this latest development is the question of what Bankman-Fried might be willing to say to reduce his liability in the proceedings before him.

It doesn’t take a great leap of imagination to guess who might be implicated in any disclosure around the money laundering charge…dots have already been connected to several leading Democratic Party figures (Bankman-Fried was the second-largest donor to Democratic candidates in 2020, behind only George Soros) and fundraising efforts for Ukraine.

If the fraud had a guiding principle informed by partisan politics and the laundering can be traced to more powerful forces than the awkward 30-year-old crypto mogul, this investigation could get very sticky, and highly-placed individuals could be at risk of exposure.

That, of course, poses a certain danger to SBF himself, given his knowledge of where the (figurative, probably) bodies are hidden. More than one witness/co-conspirator to unsavory activities has met an untimely end while attempting to navigate such circumstances.

Worth noting in this respect is that Bankman-Fried has retained the services of attorney Mark Cohen, who represented Ghislaine Maxwell in her sex trafficking trial, and Mexican cartel boss Juan “El Chapo” Guzman. Among his undoubtedly prodigious legal skills, Cohen has further demonstrated an ability to keep controversial clients alive…an attribute SBF may be coming to value.


The Market Slice team wishes you and your loved ones a very happy holiday filled with joy and peace.

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