TwoCitiesCapital

Philly Fed area Manufacturing outlook report came in at -24 versus the prior months -9. Primary detractors were new orders and declines in average work week hours. Shipments and employment remained positive, but were somewhat weaker MoM. The -24 level is the lowest reading since May 2020. Prior to 2020, the last time it was at these levels was 2008/2009.

+1 Glad you had the charts. Couldn't find any of the resources to share on my phone other than looking up Yardeni's research reports

1) the estimates have been dramatically lowered over the last 3-6 months. The "beats" that are occuring are relatively to these newly lowered expectations. Compared to where markers thought they'd be 6 months ago, earnings have been hugely disappointing. According to Yardeni, estimates were for -1% as recently as February 1st. -5% is shaping up to be a disappointment just from estimates 2 weeks ago... 2) despite lowering those estimates so as to claim companies "beat" them, my company estimates that only ~70% of companies are beating these lowered estimates as opposed to the historical average of ~77%. So despite lowering the benchmark significantly, it's still proven tougher to beat those "expectations" then average. 3) I'd argue outside of day trading, what matters is the trend and not what they're doing relative to variable expectations. What matters is that earnings are down -5% YoY and not that the expectations had recently been revised down to -6% or whatever they were so as to "beat" that benchmark. Current expectations are -5% for Q1. Similar estimates have Q2 at minus 2-3%. Not major drops, of course, but also not what you pay 28x forward earnings for. Also, I'd argue that these, too, will prove optimistic just like Q4's were wve just a few weeks back.

I agree that it was taken from breakevens. I just think 1) the Fed owns a significant portion of the TIPS market (~25%) 2) TIPS are quite a bit less liquid then treasuries so incremental buyers/sellers impact prices more 3) we just came off an inflation scare where people flocked to TIPS and we're then disappointed by the performance. I dunno what that means for TIPS over-estimating, under-estimating, or correctly predicting inflation, but I'd hazard a guess that they're less accurate at predicting go-forward inflation than the nominal yield curve has been at predicting recessions which makes me hesitant to use them as a signal to debunk it.

His primary arguments are below This gets said EVERY time the yield curve inverts. Its observable, but people ignore it because its observable, which is probably, in part, why it still works as a leading indicator (otherwise would likely more be more of a coincident indicator). Just b/c its observable doesn't mean main street people pay attention to it. Just because its observable doesn't mean it doesn't stifle credit creation which is now a money losing proposition. And lastly, what IS observable is that the exact opposite of what he supposes happens - savings are being drawn down VERY quickly while revolving credit balances are going up. People aren't becoming more anti-fragile in response to the inversion - they're racing to become more leveraged. I agree here. But I don't think a resilient job market means a recession is avoided. Just that it might take longer to get to one and that it will be shallower than otherwise. Employment overall is remaining strong - but the underlying trends are for losses in full time positions and gains in part time positions. Hardly as resilient as it first seems. I like the idea of using real yield curves on the surface - but would want to take a look at the historical predictive power to know if that improves the signal or not. What I would say is I do NOT believe 1.5% real yield on the 10-year is the right number. Right now, 10-year yields are 3.7%. This suggests that inflation will average ~2.2ish% for the next 10-years. Basically not far off from the last 10-15 years which was a deflationary/disinflationary theme. As has been discussed ad nauseum by many here, the next decade is unlikely to look like that. The energy transition, commodity shortages, inventories moving from just-in-time to just-in-case, rising political tensions and near-shoring/friend-shoring becoming dominant, and demographics all point to an elevated inflationary environment in the U.S. relative to the last decade. If we assuming that 2% inflation isn't the right number, but rather something more like a modest 3-4%, you have a real yield curve that is pretty flat already and becoming close to inversion with each subsequent hike. If you think it's higher than 3-4% on average, then we're already inverted on the real yield curve too. This I agree with. Would only add that I think the Fed probably should've stopped awhile ago if the goal was to successfully manage the business cycle. It takes months for rate hikes to filter though to the economy. Just 8 months ago, effective Fed Fund rate was 1%. Now it's 4.75%. We're probably only just now feeling the full effects of that 1-1.50% level and many economic indicators have been contracting for months. The Fed's priority isn't to avoid a recession - it isn't to support the stock market - it has become to regain credibility in the fight against inflation even if that means fighting inflation from 9 months ago today.

https://www.reuters.com/technology/celsius-network-chooses-novawulf-bid-bankruptcy-exit-2023-02-15/ Thoughts? Im surprised 1) that "big" depositors are being treated differently than "small" depositors and 2) that the limit for the differentiation between "big" and "small" was 5k and 3) that small depositors are expected to recover ~70% of assets What's does that leave for "big" depositors? What is their recovery rate excluding the new ownership? How is that ownership to be distributed - via a new token? Or an illiquid equity stake that I can't sell? How is the 5k limit determined - at the time of bankruptcy declaration or as the assets are valued today? Too many questions left unanswered but this is still way better than I was expecting. I figured a 50% haircut on my deposits at least.

Behind a paywall. Care to summarize the argument?

I'd rather be directionally right then precisely wrong It's way too soon to say if the contraction that started in 2022 is over. If we go to 3,300 or 2,900 instead of 3,200? Yes, I'll still take credit because I was still a hell of a lot more right than the guys buying at 4,800 or 4,200 or 3,700 or the guys calling the bottom at 3,500 all whole telling me I was wrong. If bonds do better than stocks, regardless of their bottom, I'll still declare I was right because I've been advocating for buying bonds over stocks since the 10-year first passed 3%. I don't have to nail the bottom and go all in on that bottom tick to be right. What I have to do is protect my capital and only take risk when price or environment compensates me for it. Neither is true of the average stock at the moment.

Nobody is suggesting to sell everything. Nobody is fear mongering here. I don't even think that many of us are caught up on the regular CPI reports and whether it comes in at 5.6 or 6.6 (ironically - Greg is the one commenting on every release lambasting people who watch every release). I literally provided a list of names that I'd been buying over the last year. But I'm also selling them because my framework suggests this is NOT an environment to be taking a ton of risk in. I'll take that risk when Baba is @ $60. Less excited about that exact same risk when it's at $120. If this were a bull market, I'd be more content to hold it but it's not. Historically bonds have outperformed stocks when PMIs are contracting. They are. Bonds outperformed last year. I think they're likely to again this year. Historically stocks have performed terribly when inflation exceeded 4-5%. We've exceeded that and are still above it. Why should we expect stocks that failed to hedge it last year to magically do it this year - particularly now that the earnings contraction is occurring and real business values are being impaired? Historically the yield curve does a great job of predicting recessions. It is screaming. Stocks haven't traditionally done well in recessions. For those who want to argue the recession is already over, you have to answer why this would be the first recession that ended without the yield curve agreeing. Historically, stocks haven't done great in periods of earnings contraction. We've just started one and it's deeper than most expected even just 6 months ago. It'd be one thing if all of this was happening and stocks in aggregate were cheap. But they're not. Historically still very expensive as judged by trailing 12 month earnings which are now shrinking. So the environment is bad, prices don't reflect the badness, so you're not being paid to take risk in most names. And the names you are being paid to take risk in? Well, you first have to identify what stocks are likely to do well in an environment where the average stock is suffering (hard to do) and then you have to trust that they won't trade down in sympathy in that environment as often happens (also hard to do). It so much easier to buy a short term bond funds and make your 4-6% and wait for the better pitches. When things drop 20-30%, buy some. Take that risk. When they pop 20-30%. Sell some and remove the risk. The S&P only matters because it is the tide which brings the boats in and out. It doesn't guarantee Fairfax, or Netflix, or Bank of America goes down or up - but it does dramatically alter the probabilities of it happening.

You're taking a local bottom from 4 months ago, assuming it was the actual bottom, and then using that to make the argument that the earnings contraction that came afterwards doesn't matter because the bottom was already in before the real contraction. I don't know the name of the logical fallacy there, but us not hitting 3,200 yet isn't evidence that we won't. As far as real estate - it has been more resilient than expected. But it IS still falling in value. Public REITS didn't save you from the disaster in 2022 returns and private REITs are currently taking bailouts from pensions to meet redemption requests to avoid selling and remarking their books. And they've both underperformed inflation as asset classes for the last ~18 months or so. Hardly sounds like a platform to declare victory on just because there hasn't been an outright price collapse yet.

1) everyone who predicted falling earnings was right (I was one of them) 2) everyone who predicted inflation being sticky and rates going higher for longer was right (I wasn't one of them) 3) we're at 4,000 S&P - significantly off the prior highs AND in an environment less supportive of forward looking returns in equities than before the 19% drop. People like me have been directionally right for the last year. What did being concerned about valuations and increasing economic fragility get me? Dramatically outperforming on equities AND fixed income. My average equity was flat to up last year. My fixed income skewed short term and dramatically outperforming equities and fixed income benchmarks. It was primarily crypto that drug down my absolute returns last year. Largely because I DONT engage in trading it because I don't trust my emotions with swings of 20-30% in a single month so I just held and slowly DCA'd the whole way down. Still outperformed crypto benchmarks by being predominantly in BTC. 4) those mega bears, myself included, are peddling 3,200 targets can still invest. I was buying SI calls when the stock was near $11. I was buying Coinbase in the 30-40s. I bought BABA near it's lows. I was buying GBTC at near 50% discounts to NAV post FTX at $8-9. I've been buying more WCP.TO on every dip below $9. But I've also sold some of that COIN in the 70s and 80s, I sold some of that GBTC when it hit $11+, I sold some SI calls OTM against my position when it was $19+, I've let go of portions of WCP everytime it's popped above $10-11. The proceeds go into money market, or short term bond funds yielding 4-6% YTM, or intermediate Treasury funds for duration. They sit there until the next opportunity presents itself. Buy the dip. Sell the rip. This isn't a market that has paid you to buy and hold for the last 15 months. Why we suddenly think that has changed is beyond me. Inflation is still here. Stocks are still expensive. The Fed is still removing liquidity and hiking rates. Earnings have become more fragile. Economic indicators are suggesting more pain is to come. The yield curve is screaming economic slowdown. Rent the rallies. Lower your risk. It worked for me in 2019/2020 where I sidestepped much of the pain that March. It worked for me in 2022 where I sidestepped much of the pain in equity and debt markets. And I believe it will work again in 2023.

You act like I'm sitting in cash and afraid. I'm roughly 50-60% stocks. I've been buying every dip - I've just been selling every rip. I still believe in buying quality companies. I just also believe in trying to maximize my returns and quality companies gotten taken out back and shot in 3/2020, in Q4 2018, in 2008/2009, etc etc etc A rising tide means you can buy just about anything because it lifts all boats. A receding tide means just about everything will fall - some less than others - but most will fall. Why put your cash to work in such an environment where that outcome highly likely? It's not guaranteed - that's why I still own equities. But it's likely based on historical recessions which is why my risk is dialed way, way back.

The indices are made up of totally diverse stocks too and tell the same story. This is exactly why I use them to gauge sentiment and overall direction. I fail to see your point. Bear markets are riddled with periods where the average stock does 15-25% multi-month rallies on the way to new lows. We've seen two prior to this one. There are always examples of stocks that do better or do worse. There's examples of a few stocks that buck the trend and kill the recession. But on average, stocks aren't where you want to be when earnings are contracting, PMIs are negative, or yield curves inverted. We've got all 3.

My apologies. I thought I had recalled the oil bust having two quarters of negative GDP growth. I might be recalling incorrectly, thinking of a different period, or maybe the numbers were revised higher after the initial releases. It HAS happened before though. The 2020 recession DID have two quarters of negative GDP, but was officially announced before the second quarter data was known. 2008 recession was also called prior to two consecutive quarters of negative GDP growth were confirmed. The 2001 recession NEVER had two consecutive quarters negative and 1947 had two consecutive quarters without ever being declared a recession. The two quarters rule has been a shorthand for decades, but has never been the official rule. It's always been based on widespread economic impact. Two quarters of -0.1% might not be sufficient. A single quarter of -10% would be.

They never counted the two quarters in 2015 as one even though it was accompanied by one of the longest earnings recessions in US equities too. They're not counting the 2 quarters in 2022 as one either. Both would have been extraordinary mild recessions if counted (if we're suggesting 2022 is already over). The two quarters rule has always been a rule of thumb. There are a number of indicators the NBER looks at with employment being dominant among them. I generally agree with their approach in determining what constitutes a recession. The rising unemployment from it's current levels to 4+% will likely mark the start of any NBER declared recession - but like always they'll announce it with a 6 month lag.

It's literally been ~2 months of an upswing and 4 months since the absolute lows. During that time we've barely made a new local high before pulling back with no real definitive buy in to the recent "breakout". More of a sideways grind then anything definitive in either direction. And over that 4 month period? Fundamentals have continued to deteriorate while alternatives to equity have only gotten more attractive. The earnings/margin contraction that members like me have been warning about for nearly a year is here. Global liquidity is still be drained and expectations for future earnings are coming down with each subsequent miss. It's not uncommon to get multi-month bear market rallies. I've seen nothing to suggest this one is different. If we climb from here for another 2-3 months, I'd consider that I'm wrong. But as of right now, there is nothing atypical about this rally compared to prior bear market rallies.

Respectfully, I disagree. Traditionally markets don't bottom BEFORE the recession. And traditionally they don't bottom without a capitulation event. We've seen neither and we find ourselves in an economic environment that has many leading and coincident indicators suggesting it's gonna get rough. Maybe this time it IS different - but I think we're still in the 3-4th inning. This will be a 2-year event like 2007/2008 and 2000/2001. IMO, all we've seen is the most egregious speculative excess come out of the market, not an actual correction for interest rates/inflation/declining earnings/etc.

Ultimately though - the good thing about bonds is you can know exactly how much you will lose if rates go an extra 1% higher and/or stay there for 6-12 months longer. Don't want the duration risk? Short term bond funds now have YTMs 4-6% with barely any interest rates risk at all. Equities are still very expensive. Fewer companies are beating estimates AND those estimates were dramatically curtailed in recent quarters. Newly revised expectations are for -5% YoY earnings growth in Q4, -5% YoY in Q1, and -3% YoY in Q2. They then expect it to get back to positive growth by year end w/ +2% for 2023. If inflation is running 6+% all year, how are equities having nominally negative earnings? If inflation in 2023 is going to average significantly higher than 2%, then why do we still view equities as an inflation hedge when earnings are only expected to grow ~2%. That will be the second year in a row that earnings growth have significantly lagged inflation for that calendar year.... Also, given that we've revised the last 2-3 quarters earnings expectations lower as we moved through the quarters, what's the likelihood that the +2% year-end target remains? Why are we paying 21x forward earnings when growth is only +2% nominal?

David Rosenberg on Twitter If this were us looking in the rear view mirror, would it be obvious that a soft landing were coming?

+1 I tend to use the Metcalfe value as a lower bound of fair value - but it obviously fluctuates day to day with the sentiment in the market moving from euphoria to panic so it's of limited use as a market timer unless you have estimates of future network growth. Timothy Peterson calculates the Metcalfe value as of present day AND a price curve using supposed long term adoption trends. BTC price is basically right on top of it's Metcalfe value estimate. He expects ~40-50% annual returns this year and next year based on historical trading, adoption trends, and the growth in the Metcalfe value.

This is what most people from the Western perspective are missing. 4 years ago it was almost laughable for them to consider that anyone would use BTC as a currency. Now they're having to dilute the argument by saying it's only "shit-hole" countries. Of course it is! They'll be the first! They have the most to gain and the least to lose. Today their options predominantly are to use their own depreciating fiat currencies or peg to the USD. But pegging to the USD comes with its own form of enslavement - we load them up with debt, use the IMF and the World Bank loan incentives to reorganize their economies until they are exporters of raw materials and reliant on imports of food, and we never forgive the debt when they can't repay - we just extend more financing to keep them financially enslaved. And let's not forget that we threaten them with sanctions or military invasions when they fail to toe the line. What's not to love about the USD system for them? Why seek alternatives?!?! BTC works as a long-term store of wealth which is the first precondition to becoming a transactional currency and unit of account. Technological innovations that allow BTC to scale transactions and speed have already been developed and are gaining traction. That plus some stabilization of it's price at a sufficiently high market cap may allow it to compete as a currency in day-to-day transactions. That is the next test that we'll see unfold as more and more countries do adopt concurrently with their own fiat.

Is there ever a time the Fed ISN'T manipulating the bond market with rate management and/or balance sheet expansion/contraction? Plus, right now they're contracting the balance sheet by NOT buying bonds and letting maturities/coupons rolls off. That should typically steepen the yield curve, not invert it, as it removed the biggest buyer from the system. So the yield curve inversion happened despite the Feds best efforts to steepen the curve with balance sheet management. +1 The inverted yield curve strangles credit creation. That's what slows the economy. It hardly matters WHY or that it's the Fed who is manipulating it - it slows credit extension and the flow of dollars through the economy leading to economic slowdowns. It's probably not just a predictor of recessions - it's probably partly causal to them which is why it has a 100% track record of success.

You're right. I misspoke. I meant the recent local highs. Not "all time".

I'm aware, but it's only a couple of basis points of it's all time highs. What you're waiting for is the 2-year to plunge like the 10-year recently did. That will signal the Fed pivot, the steepening of the yield curve, and the official recession. Stocks may, or may not, move significantly lower before that happens, but that is what will signal the recession.

The when will likely be when thr 2-year Treasury yield starts to crater. It's typically the uninversion of the yield curve that signals a recession is at hand and the uninversion comes from the Fed cutting. And the Fed basically just follows what is predicted by the 2-year yield.