Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

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Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

This was a big week for inflation data with both critical April CPI (5/10) and PPI (5/11) coming in softer (more favorable details.) In this “game of inches” market, we see this as incrementally favorable for those positive.

  • Foremost, 3 things happened this week that support the Fed’s decision to “pause”:
    – soft-ish core CPI readings, particularly given “hotter” component was used cars
    – core PPI came in at +0.2% (vs Street +0.3%) and food CPI now down to 2.5% YoY
    – forward indicators point to future softness including Manheim April cars down -4%
    – and AAA gasoline now down $0.20 from mid-April highs
  • Food has been one of the stickier CPI components still at +7.7% YoY in the latest CPI report. Yet, Food PPI is down to a mere 2.5%. I mean, isn’t this a yawing gap? Obviously, great for profit margins, but also perhaps a sign that food inflation is set to cool sharply. This is similar to 2015-2017 period and as shown below, you get the picture, food is deflating.
  • On balance, we think this lends more fundamental credibility to the Fed “pause” — that is, skeptics might have argued last week the “pause” was solely due to regional bank stress, but this week’s data supports the idea current policy/other factors are driving an easing of inflation.
  • Fed funds futures show the odds of a June hike have fallen to 1.5%, and were as high as 20% earlier this week. Even bond yields fell this week, So the collective picture from this week’s data certainly seems to have convinced markets. In fact, even US govt yields fell in a convincing way, the 10-yr is now back to 3.39%, which is the level pre-April jobs report.
  • One might think that this doesn’t mean stocks need to rise, even if the data has moved towards the “soft landing” camp. But keep in mind, investors have de-risked and de-levered to a significant extent. We covered much of this recently including the massive swing to short S&P 500 futures contracts and the surge in ICI retail cash balances.
  • Today, we want to highlight the collapse in FINRA margin debt. The recent trough margin debt is now $607 billion:
    – this is down -35% since late 2021 and a decline of $330 billion from peak
    – during GFC, the FINRA deleverage was $216 billion, so already surpassed
    – margin debt as % market cap now 1.59%, matching “dot-com” 2002 25-year low
  • In other words, while this might be a marginal positive shift on fundamentals, there is a far greater positioning shift ahead, if the data ends up proving to be “soft landing”

BOTTOM LINE: Still a game of inches, but the bull case continues to gain

Market direction in 2023 feels like a “game of inches” (Al Pacino in Every Given Sunday, see YouTube below). After last Friday’s surge post-April payrolls, the equity market has leaked lower over the beginning of the week (flat really). But overall, the bulls have the upper hand as the S&P 500 is up 8% YTD.

  • REGIONAL BANKS “OUCH” BUT STICKING WITH IT: Of our recommded trades, the regional bank tactically rally has not yet materialized. But we are not at the give up stage yet. Regional bank arguably benefit from both a “pause” and from the bleed lower in interest rates. But the stocks are under selling pressure. Even today, JPMorgan CEO Jamie Dimon JPM 1.11%  suggested on BloombergTV there should be a temporary ban on short-selling. I normally do not support such bans, but perhaps this is a case that makes sense, given the popularity of 0DTE options, etc.
  • FAANG STILL SEE >50% IN 2023 AI TINA: As for FAANG, we still believe these will be core outperformers in 2023. I am just leaving a conference in Istanbul and even here, there is wide discussion of the need for AI and automation. These tools are supplied by FAANG META -0.31%  AMZN 0.48%  AAPL 0.04%  NFLX 1.71%  NVDA -1.98%  GOOGL 1.14%  MSFT -0.23% . Shouldn’t these rare stocks have a P/E premium?
  • INDUSTRIALS: We see outperformance still driven by the trough in PMIs. And a Fed pause means financial conditions could ease further, aiding a recovery in PMIs.
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA
Source: YouTube from Any Given Sunday

Short-sellers are important for market function, but it could be possible that 0DTE options and social media are making harmful bear raids easier. Thus, I am taking seriously Jamie Dimon’s suggestion of a short-selling ban.

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA
Source: Twitter.com

FOOD PPI LEADS FOOD CPI: This is a gap that will narrow

The yawing gap between food PPI and CPI is startling. As shown below:

  • Food PPI is down to 2.5% YoY
  • Food CPI still stuck at 7.7% YoY
  • Look at the 2015-2017 period
  • you get the picture, food will be deflating.
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

MACRO: Pause is reinforced, as Fed fund futures sees 1.5% of hike in June down from last week

The odds of a hike have fallen sharply this week and as this weekly chart shows, the odds are down to 1.5%. This was 12% last week and as high as 20%

Odds of a hike dropped to 1.5% post-CPI and post-PPI

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA
Source: Bloomberg

We think the bar has been raised for a June hike, given the combo of:

  • (i) spreading regional bank stress;
  • (ii) known contagion on the (unlikely) default of US debt;
  • (iii) visible progress on slowing inflation and labor markets and
  • (iv) known lags of monetary policy.
  • This seemed to be the message from the May FOMC meeting last week and the key being the risks for regional banks if financial conditions remain too tight.

But cuts thereafter are puzzling. One explanation is that this is a single figure, but there are probabilities of wider outcomes. If the Fed has to make emergency cuts, how does that get priced into these futures contracts.

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA
Source: Bloomberg

We also see the pause playing out in government yields. The 2Y and 10Y yields are down this week visibly.

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

ECONOMIC CALENDAR: Key May data is inflation and ISM, and April was overall “tame”

Key incoming data May

  • 5/1 10am ET April ISM Manufacturing (PMIs turn up)Positive inflection
  • 5/2 10am ET Mar JOLTSSofter than consensus
  • 5/3 10am ET April ISM ServicesTame
  • 5/3 2pm Fed May FOMC rates decisionDovish
  • 5/5 8:30am ET April Jobs reportTame
  • 5/5 Manheim Used Vehicle Value Index AprilTame
  • 5/8 2pm ET April 2023 Senior Loan Officer Opinion SurveyBetter than feared
  • 5/10 8:30am ET April CPITame
  • 5/11 8:30am ET April PPITame
  • 5/12 10am ET U. Mich. April prelim 1-yr inflation
  • 5/12 Atlanta Fed Wage Tracker April
  • 5/24 2pm ET May FOMC minutes
  • 5/26 8:30am ET PCE April
  • 5/26 10am ET U. Mich. April final 1-yr inflation
  • 5/30 Conference Board Consumer Confidence

Key data April

  • 4/3 10am ISM Manufacturing Employment/Prices Paid MarchTame
  • 4/4 10am ET JOLTS Job Openings (Feb)Tame
  • 4/7 8:30am ET March employment reportTame
  • 4/12 8:30am ET CPI MarchTame
  • 4/12 2pm ET March FOMC MinutesTame
  • 4/13 8:30am ET PPI March Tame
  • 4/14 7am ET 1Q 2023 Earnings Season Begins Better than feared
  • 4/14 Atlanta Fed Wage Tracker MarchSemi-strong
  • 4/14 10am ET U. Mich. March prelim 1-yr inflationHawkish
  • 4/19 2:30pm ET Fed releases Beige BookTame
  • 4/28 8:30am 1Q23 Employment Cost IndexSemi-strong
  • 4/28 8:30am ET PCE MarchTame
  • 4/28 10am ET UMich April final 1-yr inflationHawkish

STRATEGY: FINRA Margin debt shows positioning is far more bearish than most appreciate

One might think that this doesn’t mean stocks need to rise, even if the data has moved towards the “soft landing” camp. But keep in mind, investors have de-risked and de-levered to a significant extent. We covered much of this recently including the massive swing to short S&P 500 futures contracts and the surge in ICI retail cash balances.

Today, we want to highlight the collapse in FINRA margin debt. The latest figure shows margin debt is now $607 billion:

  • this is down -35% since late 2021 and a decline of $330 billion from peak
  • during GFC, the FINRA deleverage was $216 billion, so already surpassed
  • margin debt as % market cap now 1.59%, matching “dot-com” 2002 25-year low
  • In other words, while this might be a marginal positive shift on fundamentals, there is a far greater positioning shift ahead, if the data ends up proving to be “soft landing”
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

This time series really shows the extent of de-leveraging. The level of margin debt to market cap is at 1.59% and same as dot-com trough

  • so any decisive “soft landing” data will shift positioning far more dramatically
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

STRATEGY: Focus on Industrials, a week to make a tactical positive bet

Both the ISM PMI and S&P Global US PMIs are released on Monday:

ISM Manufacturing PMI has been better than consensus.

  • Actual 47.1 vs Street 46.8 and last month 46.3

S&P Global US PMIs has come in slightly lower than consensus, but remains above 50.

  • Actual 50.2 vs Street 50.4 and last month 50.4
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

Whenever PMIs bottom (see below), Industrials tend to bottom. This first chart shows rolling change for US PMIs and US Industrials returns.

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

This distribution table puts this in a clearer light. When PMIs are rising and from low levels, Industrials see strong gains.

  • Since 1948, when PMIs are over 50 and are rising (n=60), Industrials see positive forward 6M and 12M gains of 85%/95% of the time with median gains of +12.6%/21.5%, respectively.
  • Those are very favorable risk/reward and high absolute return opportunities.
Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

Industrials are oversold vs S&P 500 on 20D %-change, with a z-score of -1.2.

  • The top chart is the relative price ratio of Industrials vs S&P 500
  • The bottom is the z-score of the 20D % change.
  • The most recent 4 times this was seen, Industrials staged strong rallies vs the broader market.
  • This is not that different than the signal we highlighted two weeks ago regarding FAANG/Technology. And we know that FAANG powered higher in the past two weeks

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

And Industrials are the most oversold vs other sectors, particularly against Staples.

Data this week strengthened pause case, while collapse in margin debt near dot-com trough. FAANG OW justified by AI TINA

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34 Granny Shot Ideas: We performed our quarterly rebalance on 4/26. Full stock list here –> Click here

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