“Finkle Is Einhorn?!”- Fed Hawkish Rhetoric Explained, Granny Shots Updated

STRATEGY: Dudley OpEd “If stocks don’t fall, the Fed needs to force them” shook markets Wednesday… are we living in a simulation?

Dudley OpEd “If stocks don’t fall, the Fed needs to force them” shook markets Wednesday… are we living in a simulation?
On Wednesday, Bill Dudley, former NY Fed Reserve Bank President (2009-2018) penned an OpEd arguing “if stocks don’t fall, the Fed needs to force them.” This triggered a fierce day of selling Wednesday and created almost unanimous consensus from market participants that the Fed is going to force growth to slow so sharply, the stock market will crash.

We pay heed to the market adage “don’t fight the Fed.” While Dudley is no longer a Fed member, many believe he is communicating a message from the Fed. But here is the thing:

• it seems wrong headed to argue that
• the primary way for Fed to transmit its monetary policy of hikes
• is to force the stock market to fall

• this message of “stocks need to fall, Feds need to force it” seems more appropriately the voice of the bond complex.
• The $55 trillion industry is losing assets, seeing asset prices fall –> recession would re-invigorate the bond complex

While there are many issues that I have broadly with this OpEd, I just want to focus on 2 observations:

First, NY Fed published a study (July 2020) that argued equity ownership is limited to the “upper echelons” of US population

• inflation in the US is due to varying impacts of supply-chain, commodity shocks and labor shortage
• thus, how would causing a crash in stocks, which makes “rich people” less rich, drive a slow down in inflationary pressures
• this would seem to be the bluntest of bluntest instruments

“Einhorn is Finkle, Finkle is Einhorn”
Reading this OpEd made me think of the scene from Ace Ventura, when he realizes Einhorn is the same person as Finkle. I don’t want to explain the whole scene here, but if you watched the movie, it is funny.

• “Einhorn is Finkle, Finkle is Einhorn”
• Fed policy is the stock market
• The stock market is Fed policy

I never realized the stock market is the ultimate transmission mechanism of monetary policy. And if this is the case, then, we need to be sellers of stocks starting now. Of course, this is not our view

• however, if Dudley is speaking for the Fed
• then “Einhorn is Finkle”

…Yield curve 10Y less 2Y no longer inverted = recession over?

(Please click HERE for our guide to yield curve inversion)

As you know, investors treated the inversion of the 10Y less 2Y as Economic Dim Mak (death touch, ala Bloodsport). Look back at the end of March and when the yield curve inverted, there were prognostications of calamity:

• our base case, you might recall, is that inflation backwardation is distorting this signal

After 2.5 days of inversion, curve normalized…
After 2.5 days, the curve normalized. And since then, the curve has continued to steepen:

• does this mean the recession is over?
• obviously, this reflects the major challenges facing the global economy
• inflation backwardation seemed to be affecting nominal yield curves

…S&P 500 remains above the 200D = good
Similarly, the S&P 500 is still managing to hold above the 200D. We continue to see this as a good sign

• but the level is tenuous
• so we watch, with caution

STRATEGY: Rebalancing Granny Shots, including style rebalance to favor “Pure Growth” and “Quality Defensives”
We have completed our quarterly rebalance of Granny Shots. As a brief reminder, our Granny Shots are comprised of stocks which are most commonly found across our 6 thematic/ quantitative strategies. The major rebalance this quarter is the style rebalance, along with a change in the composition of the Granny Shots portfolio:

• top 2 styles recommended for the next 6 months
• Pure Growth and Quality Defensive
• while the two sectors sound contrary to one another, the common rationale

• is a market that is gradually becoming “risk-on”
• as such, large-cap steady growers (above GDP), with lower P/E multiples could outperform
• this is both large-cap Tech (“pure growth” proxy) and defensive stocks like Healthcare/ Staples

• the Granny Shots rebalance

…Two best style tilts are Pure Growth and Quality Defensives
The win-ratio and expected 12M return (relative to S&P 500). The 12 styles and their seasonal expected return is below:

• of the 12, the two best are Pure Growth and Quality Defensive
• average 12 month relative return is +11.1% and +6.4%, respectively
• win ratio is 60% and 57%, respectively

This is derived both on quantitative and technical factors, and takes into account seasonal factors.

…Pure Growth looks like end of March is seasonal inflection
Seasonally, it looks like a good time to be shifting to a “Pure

Growth” tilt. Take a look below, and you can see the positive inflection with Pure Growth at the end of March:

• end of March 2020, 2021 saw a positive inflection of outperformance
• in 2022, given the steep massive under performance since Oct 2021
• it looks like this inflection might be in the early stages again

…Quality Defensives have been quietly outperforming since October 2021, and possibly hitting stride next 3-6M
As for Quality Defensives, take a look below. The relative performance of Quality Defensives have been bottoming for some time. This bottoming looks like a process underway for some time:

• Quality Defensives started bottoming in Oct 2021
• recently turned upwards
• lots of relative performance ahead if this is happening

Representative list of top 15 stocks (based on DQM Quant) in Pure Growth and Quality Defensive
If one is wondering what type of stocks make up the Pure Growth and Quality Defensive lists. Take a look below.

• these are the top 15 stocks within the S&P 500 “Pure Growth” and “Quality Defensive” indices
• these top 15 are based on their quantitative score based upon DQM Quant model.

STRATEGY: Granny Shot rebalance, add +7, delete -9, net -2. 2022 YTD relative performance +275bp
The Granny Shots is going through the standard quarterly rebalance. And this involves updating each of the 6 thematic/quantitative portfolios.

• the latest list is now 31 stocks
• this fell by -2, driven by +7 additions and -9 deletions

7 Additions: AVGO3.04% , QCOM-0.21% , ALL0.04% , CINF-1.23% , AMT-0.26% , CCI-1.29% , EXR-0.60%
9 Deletions: VRSN, ATVI, AAP-2.38% , ORLY-3.53% , CMI-0.25% , PCAR-1.27% , MPC0.19% , GL-4.50% , USB

The rebalanced list of 31 stocks is below:

Consumer Discretionary: AMZN0.96% , GRMN0.17% , TSLA5.03%

Communication Services: GOOGL10.43%

Information Technology: AAPL0.50% , AMD1.50% , AVGO3.04% , CSCO-0.95% , KLAC4.94% , MSFT1.63% , NVDA5.36% , PYPL-0.68% , QCOM-0.21% , QRVO2.27%

Basic Materials: CF0.91%

Financials: ALL0.04% , AXP-1.29% , CB1.21% , CINF-1.23% , WRB

Energy: CVX0.87% , DVN0.90% , PSX-0.35% , XOM

Consumer Staples: BF/B, MNST-2.28% , PG-0.25% , PM-2.96%

Real Estate: AMT-0.26% , CCI-1.29% , EXR-0.60%

The rundown of stocks with the most overlap are listed below: – appearing in 5 of 6 thematic/quant portfolios are AAPL0.50%  and MSFT1.63%

Figure: Themes in 2022 – “BEEF”

Per FSInsight

Figure: FSInsight Portfolio Strategy Summary – Relative to S&P 500

** Performance is calculated since strategy introduction, 1/10/2019