Alan's Alert 8-5-2021

 

Weekly unemployment figures came out this morning. Initial claims dropped by over 20k on a non-seasonally adjusted basis. Continued claims also dropped. They are down by over 181k. This is good news on both fronts. We also had a reduction of nearly 77k off the pandemic assistance.

However, we are still a long way from getting back to pre-pandemic levels. This means the Fed will still have license to buy treasuries and mortgage-backed securities. Their day of taper is still well out in the distance.

I had previously reported that the market was pricing in an announcement at the Jackson Hole Fed meeting this month. I believe the market is going to be sorely disappointed. The continued slow pace of the unemployment picture will either cause the Fed to go off-script and taper early or delay their taper announcement until later in the year.

This brings me to the meat of today’s alert; crowded trades.

As a former follower of Robert Wenzel’s daily alert, I was well informed of the coming inflationary wave. By continuing to follow the cues from the money stock reports, we can be prepared for added inflationary pressure. Since this data is publicly available, anyone with a eye on the Fed can also be informed of the rapid expansion of the money supply. Many doubt the Fed’s transitory stance. The thinking goes; they’ve been wrong in the past, they are probably wrong on this, we should position for it.

When this happens, the market gets skewed. Players in the market can overplay their hand. Then the Fed can come in and remind everyone who the boss is.

In reality, I should add an 8th rule to my list of trading rules; don’t fight the Fed. The Fed has way more staying power than your portfolio. If you aren’t prepared to cut your losses and be patient, you could end up like this:

So, when is the best time to get off a crowded train? As soon as you can. When you are trading with the herd, you’ll get stomped when they stampede for the exits. So what’s a trader to do? Be patient. If you’ve been following along, you know that this inflation is going to stick around. We are slowly getting confirmation of this trend. Once the market comes to the same realization, we’ll know where to be; silver, oil, gold, and short interest rate ETFs.

Tony Greer sat down with Real Vision a little over two weeks ago. Tony does macro analysis at his website TGMacro.com. He is a momentum guy and has tons of market experience. His interview with Real Vision is worth a listen. At one point he talks about gold. It seems that he knows, gold is where to be in the future. Right now, he cautions to stay away because of the Fed. When the momentum guys see that the Fed is involved, they don’t want to fight that battle. All seasoned traders know not to go toe-to-toe with the Federal Reserve. His advice; soft commodities and oil. If the Fed is keeping their eye on interest rates and hard commodities, you need to go somewhere else to watch your market thesis play out.

Alan's Alert 7-30-2021

 

For the fourth month in a row the Federal Reserve’s favorite inflation indicator has been on the rise.  The Personal Consumption Expenditures excluding food and energy (Core PCE index) has risen to 3.5% year-over-year.  Amazingly, the Core PCE came in below the consensus estimate of 3.7%. 

 

On a monthly basis, the increase was 0.4% for the month of June.  This would translate to 4.8% on an annual basis if the Core PCE index would stay steady for 12 months.

 

You can see that the steepness of the curve has lessened.  I’m sure this will be talked up on the financial media and by members of the Fed.  We are still a long way from determining if the transitory inflation thesis will prove correct but the fact of the matter is, the Fed has gone all in on their transitory thesis. 

 

During this week’s FOMC meeting and press conference, Jerome Powell defined what “substantial further progress” meant.  Chairman Powell had been using the phrase over the course of the government shutdowns.  He had been stating that the Fed was administering an accommodative policy to aid in the economic recovery.  Now that the National Bureau of Economic Research has declared the recession over, the Fed has been dragging their feet in ending the purchases of treasury bonds, mortgage-backed securities, and raising the Fed funds rate.  To be able to drag his feet further, Powell came up with the phrase “substantial further progress” without defining what that meant.  This week he defined the term as being synonymous with maximum employment.  This has allowed Powell and company to continue to kick the can down the road.

 

Also, during this most recent FOMC meeting, Powell had admitted that progress had been made towards their goals.  This would seem to mean that we are getting closer to the moment the Fed will begin to taper their balance sheet expansion.  Bank of America ran a report looking at changes in option premiums and it came to the conclusion that the market believes the taper announcement will happen at Jackson Hole.  This is where the next Fed meeting will take place, which will be August 26^th -28^th. 

To me, this seems too early for the Fed to make that kind of announcement.  We will still have states paying pandemic related unemployment assistance until the beginning of September.  Which means the picture on employment won’t start to clear up until the end of September or beginning of October.  In an unfortunate twist, the latest unemployment figures that came out on Thursday showed an increase in the amount of people getting the pandemic assistance!

Initial claims dropped by 24k but continuing claims rose by 7k and over 211k people were put back onto the pandemic assistance doles.  In an effort to keep even more people on the government dole, a judge in Arkansas has ordered the state to resume federal pandemic unemployment benefits.  If the Fed has tied the tapering of asset purchases to the unemployment rate, we have a long way to go before “substantial further progress” will have been made.

 

 

 

Late last night, I got a tip from David at Live Better Now.  He alerted me to a tweet from Jack Posobiec.  Jack is a former military intelligence officer and a senior editor at the news website HumanEvents.com.  Jack is known for having an ear (or two) to the ground in DC.  He’s been accused of having a “mole” in the White House and seems to be in-the-know before the news media.  Last night he posted the following:

Anyone who has followed Poso for any length of time will know, he does not write click-bait styled headlines or tweets to get views.  While it seems like a stretch that another shutdown could happen, the truth is, those in power have enjoyed wielding it against those that aren’t in power.  If we see another lockdown, we could see another crash in the stock market and more “accommodative policies” by the Fed.  The CDC has really talked up the delta variant and has now “leaked” to the Washington Post their latest attempt to stir up fear.  My guess is that this supposed “leak” was an attempt to gauge if another lockdown could take place.  The problem those in power are facing is that Americans have grown Covid lockdown weary.  What happens if the government mandates another lockdown and Americans don’t cower in fear?  The government will look foolish and there is nothing that the narcissists in power hate more than looking ridiculous.  Which brings me to my latest meme!  In an effort to continue the power of memes over the narcissists in power I bring you…  COVID VARIANT BINGO!

 

Now I’ve already taken care of the popular and not-so-popular variants that have been posted to the WHO’s website.  What makes this exciting is that four new variants have been discovered (P.3, P.2, B.1.427 & B.1.429).  Will they get Greek labels?  Only the “scientists” at the WHO know for sure.  Keep me up-to-date with an email if I miss a new variant getting labelled.  I would hate to miss the opportunity to see a COVID VARIANT BINGO achieved.

 

 

One last thing…

Have a safe weekend.  We’ll see you next week!

Alan's Alert 7-22-2021

 

It’s Thursday, which means employment data was released this morning.  Initial claims came in up 51k to a total of 419k.  Continuing claims came in at 3,236k.  This is down 29k from the prior week.  However, my eyes were fixed on the pandemic relief numbers.

 

Over 1.1M people left the pandemic assistance this past week!  This is great news but we still have a long way to go as over 15M people are still using it.  Here’s what the graph of 1.1M people leaving pandemic assistance looks like:

Now, initial claims came in up but I still believe we are trending in the right direction. 

The financial news media was shocked at the rise in initial claims.  The consensus was going to be an 18k claim drop.  So, when it came in up 51k, it provoked a wild ride in the S&P500 today.    

 

 

And thanks to Goldman Sachs, we have this little graph:

It was, and still is, obvious to those with the most basic level of economic common sense that paying people extra unemployment to stay home will encourage them to…. stay home!  It continues to be a terrible policy to drag these bonus unemployment benefits out to September.  The states that continue to do so are only hurting their own economies and small businesses. 

Joe Biden was at a townhall meeting in Cincinnati last night.  He told the audience that workers are seeking better wages and working conditions, and those businesses desperate for workers should simply offer higher wages.  He called rising wages a “feature” of his economic plan.

What happens when the bonus unemployment runs out?  What happens when these millions of workers flood back into the labor market?  Will Joe’s “feature” of rising wages run out of steam?

I put the question of downward adjustments to wage rates to professor Don Boudreaux, who runs the blog Café Hayek.  Don Boudreaux is a professor of economics at George Mason University.  He writes a great blog that is a must follow.  I asked professor Boudreaux what would happen to wages once these workers came back to the labor market.  Would wages decrease?  His answer was spot on:

“I'm quite sure that, as the supply of low-end labor rises (with the end of the leisure subsidies) (1) workers who continue to be worth their current wages will be paid those wages, (2) many newly hired workers will be paid wages lower than are being offered now, and (3) as always, workers who cannot produce enough hourly output to justify being paid even as little as the minimum wage will remain unemployed.

 

Many workers hired during the labor 'shortage' might well find that they have to take pay cuts as more workers start to compete for jobs. (Most of these pay cuts will come in the form of taking new jobs at lower wages.)”

 

 

Smart low-wage workers should take advantage of this opportunity.  Unfortunately, many find it too easy to do nothing.  Wake me up when September ends.

Alan's Alert 7-15-2021

 

Yesterday, Fed Chairman Jerome Powell sat (on zoom) before the US House Committee on Financial Services.  He was peppered with questions ranging from crypto (especially the rumored Fed-coin) to rolling back MBS purchases.  It was a marathon, but he held strong to his prepared remarks and deflected any questions that would show the Fed’s hand.  He is an expert at running out the clock on difficult questions.  There were a couple Congressmen that had very direct questions to Powell concerning inflation and what he means exactly when he says, “still a ways away” from reaching the Fed’s goals.  He was able to reiterate that the Fed won’t be removing their “accommodative” policy and would give plenty of advance warning when they would.  Mr. Powell sits in front of the Senate’s Financial Services committee today.  I expect it to be a re-run of yesterday. 

 

Unemployment stats were released this morning and initial claims continued its slow downward trend.  We are down 26k claims from last week.  This slow pace will keep the Fed in “accommodative” mode.  After yesterday’s hearing, it is strongly believed, by most of congress and the Fed, that the goal is an unemployment rate at 3.5%.  I think this is extremely foolish.

 

Here’s the full picture of the change in the unemployment rate since January of 1948:

The unemployment rate bottomed out at 4.4% at the lowest in the last cycle (March 2007) and 3.8% on the cycle before that (April 2000).  Then the rate didn’t break below 5.0% in the preceding two cycles.  To think that we’ll see an unemployment rate at or below 3.5% is ambitious at best and negligent of history at worst.  I’m of the mind that unemployment is still elevated but juicing the money supply isn’t the way to get it down.  This fact was brought up during yesterday’s hearing but nothing came of this insight.  There was no follow-up to ask who really benefits from the accommodative monetary policy if it doesn’t improve unemployment.  Our big fireworks moment was again, shelved for a different day. 

 

Looking in at the continued claims section of the unemployment report, you can see that people are still moving off the pandemic related unemployment assistance.  We have almost 10.4 million people using the assistance but every week, more are moving off.  I put together the below graph to illustrate the point:

 

The amount of people moving off the assistance is down from last week but the trend is higher.  At some point this trend will stall as all the states ending the emergency relief early will be exhausted and the rest of the states will hold out until September.

 

 

As I reflect on yesterday’s hearing, I am shocked at how flippant the Fed and Congress are at the sheer volume of money that they talk about.  Their talk is full of rosy outlooks with no worries in sight.  They have no idea of the tidal wave of inflation that could be staring them directly in the face.  Maybe some of them feel differently behind closed doors but they do a good job masking it.  As inflation is allowed to run hotter, higher interest rates will be needed to stem the tide.  If we are at 5% annual inflation, we’ll need the Fed funds rate at 6-7% to stop it.  If inflation runs at 8%, 10% or greater would be needed.  Currently, with the Fed funds rate at 0.0% to 0.25%, the Fed is a long way from even thinking there is problem.  It simply reinforces my view that we are still very early in this trend.

 

A friend and fellow subscriber mentioned to me that PBS Frontline put a documentary together called “The Power of the Fed”.  It aired on Tuesday and it’s certainly worth a watch.  The people that put the production together get some big players to sit down for interviews and ask them great questions.  It highlights the period from the 2008 crash through current day.  Its comical that some of these players (particularly Sheila Bair and Peter Fisher), have a completely different views of the Fed’s actions after they leave their cushy government posts.  A few have truly drunk the Kool-Aid.  Neel Kashkari is especially cringe-worthy.  He is a mirrored reflection of Arthur Burns and struggles to understand that the Fed’s monetary policy is reckless and exacerbates the income inequality we see today.  Neel is of the mind that printing vast sums of money is great for low-income individuals.  He is a dangerous individual because he has been given way more power than he should have and he wields it in a way that, he believes, benefits all people.  It reminds me of a C.S. Lewis quote:

 

Alan's Alert 7-8-2021

 

Another day, another labor report.  Unemployment insurance weekly claim reports were updated this morning by the Department of Labor.  Below are the charts for initial claims and continued claims;

Initial claims are continuing their trend lower.  Today’s report showed an increase in claims, but the trend is the key.  With initial claims at 373k, we are still 168k claims above where we were pre-pandemic.

Continued claims were reduced 145k to 3,339,000.  Again, well above the pre-pandemic baseline but continuing the trend lower.

In the DOL’s data release, we got a look at the change in those receiving pandemic related unemployment money.

Looking closely, you can see that 464,663 people have been removed from the pandemic unemployment benefits.  However, there are still over 10.7M on some form of pandemic related unemployment assistance.

 

In more broken record adventures, the FOMC released the minutes of their June meeting yesterday.  A lot of words were used but not a lot was said.  Members were surprised that the actual rise in inflation was larger than anticipated.  However, this did not set off any alarm bells.  In a repeat of the 1970s, the rise was attributed to supply constraints or bottlenecks and not monetary policy.  The word ‘bottleneck’ was used 8 times in their meeting minutes.  There was talk of reducing the number of mortgage-backed securities (MBS) and treasury bond purchases.  Ultimately, they kicked the can and stated that they would, “continue assessing the economy’s progress toward the Committee’s goals..”.  If one of those goals is full employment, the Fed will be behind the curve.  The disconnect in the labor market will be here until those 10.7 million Americans on the emergency pandemic relief join the labor force.  Unfortunately, the vast majority won’t leave the dole until the relief is ended in September.  By then, it will be too late for the Fed.

 

 

Yield Spread Check

The above chart shows the spread between the 10-year treasury interest rate and the 2-year rate.  The spread is well within positive territory with a difference of 115 basis points.  While there has been a sharp downturn since March, keep in mind that a recession generally does not hit until the spread is negative.

 

 

 

Alan’s Options Primer

Volume 2

Today is post 2 of 3 in my options primer series.  If you watched the videos, you’ll be ahead of the game today.  As a reminder, I only have two rules when trading options.  They are hard to follow but there is only two of them.  My first rule of trading options, do not trade options.  My second rule of trading options, DO NOT TRADE OPTIONS.

 

Option contracts represent an agreement to exchange a specific number of shares of a particular stock, at a preset price, on an exact date.  The number of shares in a standard contract is 100.  The preset price is called the strike price.  The exact date is called the expiration date.  Unlike stocks, all option contracts expire.  This is one of the many reasons that it is very easy to lose money trading options.  Another thing to keep in mind, buying an option offers the right, but not the obligation to purchase (or sell) the underlying stock.  The vast majority of contracts that have value at expiry are settled in cash, not stock. 

 

There are two types of option contracts, calls and puts.  By purchasing a call contract, you are indicating that you want to purchase the underlying stock.  A put contract means the opposite, that you want to sell the underlying stock.  

 

Now, it is important to remember that a trade can move against you, making your options go down in value rapidly.  It’s vital to set mental limits on how much you are prepared to lose.  Not every trade is going to work out in your favor.  It is best to cut your losses and have enough ammo to fight another day.  Seeing a position down 50%, 80%, or 90% is mentally taxing and can negatively impact your future trades because you’ll think about “making up” the loss.

 

There are three primary factors that determine an option contract’s price.  They are; the price moves of the underlying stock (delta, gamma), time until expiry (theta), and volatility (vega).  These factors are given Greek letters because the pricing of option contracts is based on mathematical formulas.  The most popular of these formulas is the Black-Scholes model.    

 

 

Alan's Alert 7-2-2021

 

This morning employment situation data was released including the unemployment rate and nonfarm payrolls. The unemployment rate ticked up .1% to 5.9%. This was a shock to the bank research teams who had a consensus estimate of 5.7%. Nonfarm private payrolls increased by 662k; this surpassed the consensus estimate of 600k. The labor participation rate was also released and it showed it holding steady at 61.6%.

And while this may sound confusing that unemployment would go up while jobs are being added my attention was elsewhere:

Above are the average hourly earnings of all employees. I’ve added the red trend-line to show how much above trend we are currently running. The current average hourly rate is $30.40/hour. That is approximately $0.65 above the trend. The earnings rate increased at a rate of 0.3% month-over-month. This is funneling more money into workers’ pockets and is going to continue to put upward pressure on prices. I believe it will also incentivize more workers to search for jobs.

A wild card to keep in mind;

When the government unemployment bonuses officially end in September, employers will have difficult decisions to make. Some believe that wages will be suppressed when this happens. They believe that with an influx of new people hitting the job market, that this would put downward pressure on wages. I have a hard time believing this. New workers may be started at a lower wage but once a worker has been hired at a specific wage, employers rarely reduce that wage because they worry that the time and training that the employee has received will go to waste if they leave. What happens to employers when confronted by employees that do the same job and aren’t paid the same rate? Workers discuss their wage rates. It happens. Will employers feel obligated to match wage rates? Will there be strife and contention? That surely doesn’t make for a positive work environment. This is something to ponder as we move through the summer and see more states drop the federal bonus payments.

Every Friday the Fed posts the Assets and Liabilities of Commercial Banks. According to Mises (and Rothbard), bank credit to business is what generates the boom-bust cycle of the market. When banks are lending to businesses, businesses are expanding and generating income, which then fuels the fractional reserve system. Pairing the lending data with the money supply data gives me a better picture on what is going on with the economy. Unfortunately, the shutdowns have put a real wrench in the numbers:

Businesses borrowed PPP money, drew on their lines of credit, and did anything they could to withstand the long government shutdown. You see this in the big run-up with a peak in May 2020. These actions broke the trendline and have muddy the waters. Businesses now feel unsafe borrowing money until future economic conditions are more certain. Since the Fed updates this data late on Fridays, I’ll be spending more time on Monday mornings reviewing it.

Lastly, durable goods:

Orders have rebounded after the slight drop in April. They increased 2.3% month-over-month and are close to the pre-shutdown high of 255,924. It seems to me that consumers are continuing to purchase and are making up for lost time.

As a reminder, there will be no alert on Monday, July 5^th, as the market will be closed. Hope you all enjoy the 4^th of July weekend!

Alan's Alert 6-30-2021

 

Job seekers are continuing to find employment, especially in the sectors of the economy that were hardest hit by the government shutdowns.  ADP’s National Employment Report was posted this morning and it showed an increase of 692k jobs from May to June.  624k of these jobs were attributed to the service sector.  Leisure and hospitality picked up the most workers at 332k, followed by education/healthcare at 123k.

Here’s the bigger picture:

Employment increased 0.6% month-over-month.  With May’s increase of 0.7%.  We are picking up jobs at a 7-8% annual basis.  At this pace, we’ll be back to the pre-shutdown employment around mid-January 2022.  With more states dropping the federal unemployment bonus, I expect this could happen sooner if it weren’t for…the massive amount of boomers leaving the workforce.  This graph from the Fed doesn’t do it justice:

According to the latest census data, the US has 328k+ people.  96.5M are 55 and older and their current participation rate is 38.4%.  Prior to the shutdowns, boomers were 40.3% of the workforce.  

 

I put together the spreadsheet below to highlight how significant this is:

As you can see, we have lost 1.8M of those 55 years of age and older from the workforce.  I expect many will not return.  As this age group moves into retirement mode, expect them to spend less as they live off their accumulated savings and investment holdings, putting downward pressure on inflation.  There will be a struggle between the spending of the boomers dropping off and the spending of the 25-54 age group increasing.  The upcoming times for this group could be particularly difficult if another market crash erodes the value of their 401ks or rampant inflation destroys their savings. 

 

But let’s look on the bright side, 692k jobs beat the consensus estimate of 600k.

OPEC+ meets tomorrow and the oil futures (/CL) price has been swinging wildly from $72.82 up to $74.12 in early trading.  Investors are weighing the odds of OPEC+ extending the oil supply cuts.  Russia has already signaled that they would like to increase production between 500k to 1M barrels per day.  We’ve seen how tight this market is when there were rumors that Iran was going to be bringing their production back online.  Prior to the shutdowns, OPEC went to war with US shale.  They pumped oil at an extreme pace to make US shale producers unprofitable and to hoard market share.  As OPEC has slowly allowed the price to rise, I expect they will be keen to keep a close eye on those shale producers.  If there is a signal that the cuts won’t be extended, expect the price to drop.  This will be a buying opportunity. 

 

It pains me to have to talk about this but I think it could have an impact on future market reactions.  The stock market discounts future events into the present.  Since the government has made serious in-roads into the economy by shutting down businesses due to virus infections, it’s important to keep an eye out for the possibility that it may happen again.  This is something that I don’t want to fathom.  However, my job as an investor is not to determine whether a certain government policy is good or bad, it is simply to understand what reaction the market would have to such a policy and front-run it.  The news media has really ramped up the rhetoric that this delta variant is something to be worried about.  For those who understand how variants work, this is nothing to be concerned about.  As viruses mutate, they will always mutate to being more infectious.  Thankfully, they never become more deadly and in fact, become less so.  While the infection rate will increase, hospitalizations and deaths will drop off.  I believe we are already starting to see this.  Unfortunately, there are 24 letters in the Greek alphabet giving the infotainment industry lots of fodder for more variants.  Thankfully, they’ve already wasted 4 Greek letters, let’s hope they get through the next 20 sooner rather than later.

 

Alan's Alert 6-24-2021

 

Memorialized in Stephen Hawking’s book, A Brief History of Time, Bertrand Russell was giving a public lecture on astronomy.  At the end of the lecture, a little old lady in the back stood up and said, “What you have told us is rubbish.  The world is really supported on the back of a giant tortoise.”  Bertrand, being astute, responded, “What is the tortoise standing on?” and the little old lady, without missing a beat, said, “You’re very clever, but it’s turtles all the way down”.  If you replace turtles with aggregates, that is exactly how I feel about Gross Domestic Product (GDP).  It’s aggregates all the way down.  GDP is the total market value of all the finished goods and services produced in a country.  It’s calculated on a quarterly basis in the US and is usually big talk in financial news.  It was released this morning by the BEA. Now, I have several problems with the GDP, for instance it’s a crowded mess of data, aggregates of aggregates.  Did the economy expand? Sure by 1.6% quarter over quarter.  Where did it expand the most at?  Was it government spending that pushed it up so high? What private sector businesses were the hottest? What does it mean to investors? 

The other problem I have with GDP is that it is released on a quarterly basis.  You are looking too far back in the rear view to be able to make estimates about future data.  By the time the 2020 Q2 data was released, everybody already knew that the economy contracted because of the shutdowns.  The market was already past the lows.

 

 

Weekly employment data was released this morning showing a small downtick in initial claims and continued claims.

Due to the continued federal government emergency unemployment bonus, we are still about twice where we were prior to the shutdowns in both categories.  If you remember from the alert on 6/1, some states were ending the emergency unemployment benefits early.  So far, we’ve gotten through 12 of the 24 states with only one hiccup, Indiana.  In Indiana there are two lawsuits against the governor for ending the benefits early.  To his credit Indiana governor Eric Holcomb hasn’t caved to the pressure.  At the end of this week, 7 more states will end the emergency unemployment (Arkansas, Florida, Georgia, Ohio, South Carolina, South Dakota, and Texas).  I expect this will have a big effect on the employment data over the next two weeks.

New orders for durable goods continue to look strong.  Manufacturers are struggling to get workers but not business.  Even with the bottlenecks and backorders in the economy, businesses are getting back to business.  Something to keep an eye out for will be the next set of ISM reports to see if businesses are still struggling with price increases and short supply issues.  The manufacturing report comes out on July 1 and the services report July 6.  This will be a key indicator if inflation is still bubbling under the surface or if it is truly transitory.