wknd notes: Human Nature Is The One Constant

“Effective as of March 15, 2021, the titles of Elon Musk and Zach Kirkhorn have changed to TechnoKing of Tesla and Master of Coin, respectively,” wrote Tesla in a brief SEC filing. “Elon and Zach will also maintain their respective positions as Chief Executive Officer and Chief Financial Officer,” stated the company, as reality and fantasy continue to merge before our eyes. Our youth, dissolving into video games, strange worlds. And things we once thought impossible, begin to sporadically appear. Glimpses so foreign we struggle to process. A horned Shaman in the Capitol building. Augmented reality. Performance art. As the world inches toward virtualization.

Overall: “The alternative to a rules-based order is a world in which might makes right and winners take all,” said the US Secretary of State. “That would be a far more violent and unstable world,” continued Antony Blinken, warning the Chinese delegation. Immediately before the Alaska meeting between the world’s two greatest powers, America’s president imposed sanctions on 24 Chinese and Hong Kong officials over a law that eviscerates what was left of its democracy. “Washington abuses so-called notions of national security to obstruct normal trade exchanges and incite some countries to attack China,” declared Beijing’s most senior foreign policy official, Yang Jiechi, amidst an extraordinary 15-minute tirade. All of it was more or less true: what the Americans said, what the Chinese said. That’s how the world works. It has been so since before the time Thucydides wrote of the Peloponnesian war, a conflict that arose as Athens’ rising power sparked Spartan fears, making the clash all but inevitable. “We'd like to see inflation run moderately above 2% for some time,” declared Jay Powell in Washington. “The fundamental change in our framework is that we are not going to act preemptively based on forecasts for the most part, and we are going to wait to see actual data,” continued the Fed Chairman, “The only way we can really build the credibility is by doing it.” That is also how the world works. The only way to establish dominance over inflation is to demonstrate an ability to both ignite and smother it. But controlling things that we do not fully understand is notoriously difficult. And of course, we are the ultimate enigma. Which is why the coming decade is destined to be tumultuous, as we simultaneously attempt to undermine our faith in currencies to ignite inflation, while simultaneously quelling the animal spirits that time and again have led us to conflict.

Week-in-Review (expressed in YoY terms): Mon: Myanmar security forces kill 38 protestors (deadliest day since coup), China’s top steel making city launches inspection of steel mill pollution as Beijing faces worst air quality in years, Germany/France/Spain/Italy suspend AZ vaccine on blood clot concerns, Brazil passed India for world’s 2nd largest outbreak – Bolsonaro appts new health min, Biden is due to plan a major federal tax hike to help fund the pandemic related economic efforts, China IP 35.1% (32.2%e), China retail sales 33.8% (32%e), Sweden CPIF 1.5% (1.8%e), Canada cons conf 62.7 (60.5p), US empire mfg 17.4 (15e), S&P +0.7%; Tue: Kuroda says no reason to change YCC framework, Brexit headlines resurface as EU initiates legal action against UK, Biden tells China that normalizing relations with Australia is precondition to US/China relationship improving, VIX falls to 19.8 (lowest since pandemic), Biden backs filibuster reform, Australia house prices 3.6% (2.9%e), HK unemp 7.2% (7.1%e), Germany ZEW expectations 76.6 (74e), US impt prices 3% (2.6%e), US retail sales -3.5% (-0.6%e), US IP -2.2% MoM (0.3%e), S&P -0.2%; Wed: Fed keeps rates unchanged and no hikes forecast through 2023 despite infl expectations above 2%, Brazil hikes 75bps (50bps exp), US to expand Russia sanctions / Russia recalls US ambassador, IRS extends tax filing deadline, VW vows to become leader in EV, S. Korea unemp 4% (5%e), S. Africa retail sales -3.5% (-2.4%e), Canada CPI 1.1% (1.3%e), US housing starts -10.3% MoM (-1.3%e), S&P +0.3%; Thur: US/China meet in Alaska, BoE unch as exp, Norges Bank unch (exp) but says policy rates likely to be raised later this year, Turkish CB hikes 200bps (100bp exp), Taiwan CBC unch as exp, Indonesia CB unch as exp, Hungary CB unch as exp, crude oil falls ~7%, NZ GDP -0.9% (0.5%e), Australia employment +88.7k (30k exp) / unemp 5.8% (6.3%e), Sweden unemp 8.9% (9%e), US initial claims 770k (700k exp), US leading index 0.2% (0.3%e), S&P -1.5%; Fri: Bitter Alaska meeting complicates already shaky US/China relationship, BOJ widens band around 10y target rate (+/-25bps from 20bps) / buy ETFs that target TOPIX not Nikkei, Paris to enter another month long lockdown, Russia CB hikes 25bps (no hikes exp), multiple EU countries resume AZ vaccine after EMA report, Japan CPI -0.4% as exp, Australia retail sales -1.1% MoM (0.6%e), UK cons conf -16 (-20e), Germany PPI 1.9% (2%e), Canada retail sales -1.1% MoM (-3%e), S&P -0.1%.

Weekly Close: S&P 500 -0.8% and VIX +0.26 at +20.95. Nikkei +0.2%, Shanghai -1.4%, Euro Stoxx +0.1%, Bovespa +1.8%, MSCI World -0.4%, and MSCI Emerging -0.8%. USD rose +1.1% vs Russia, +0.7% vs Sweden, +0.4% vs Euro, +0.4% vs Sterling, +0.3% vs Australia, +0.2% vs Canada, +0.2% vs Indonesia, and flat vs China. USD fell -4.5% vs Turkey, -4.1% vs Bitcoin, -3.0% vs Ethereum, -1.6% vs South Africa, -1.2% vs Brazil, -0.9% vs Mexico, -0.8% vs Chile, -0.4% vs India, and -0.1% vs Yen. Gold +1.0%, Silver +1.2%, Oil -6.3%, Copper -1.3%, Iron Ore -4.4%, Corn +3.1%. 5y5y inflation swaps (EU flat at 1.48%, US +6bps at 2.41%, JP -8bps at 0.23%, and UK +3bps at 3.70%). 2yr Notes flat at 0.15% and 10yr Notes +10bps at 1.72%.

YTD Equity Indexes (high-to-low): Venezuela +28% priced in US dollars (+102.3% priced in pesos), Russell +15.8% priced in dollars, Chile +15.8% priced in dollars (+16.2% priced in pesos), UAE +13.7% in dollars (+13.7% in dirham), Sweden +11.1% (+15.7%), South Africa +10.5% (+10.9%), Canada +10.5% (+8.1%), Norway +9.4% (+8.6%), Saudi Arabia +9.2% (+9.2%), Austria +8.9% (+12.4%), Singapore +8.5% (+10.2%), Taiwan +7.8% (+9.1%), Turkey +6.7% (+3.5%), India +6.3% (+5.5%), Netherlands +6.3% (+9.1%), HK +6.3% (+6.5%), Russia +6.1% (+5.7%), Ireland +5.6% (+8.4%), UK +5.6% (+3.8%), Italy +5.5% (+8.8%), France +5.3% (+8%), Euro Stoxx 50 +5.2% (+8%), Thailand +5% (+7.9%), Belgium +4.2% (+6.9%), S&P 500 +4.2%, Mexico +3.9% (+6.7%), Indonesia +3.7% (+6.3%), Germany +3.3% (+6.6%), Japan +3% (+8.6%), Israel +2.7% (+5.2%), Australia +2.6% (+1.8%), NASDAQ +2.5%, Czech Republic +2.5% (+5.2%), Spain +2.5% (+5.2%), Korea +2% (+5.8%), Finland +1.7% (+4.9%), Hungary +0.8% (+4.7%), Greece +0.3% (+3%), China -1.7% (-2%), Malaysia -2.3% (-0.1%), Switzerland -2.6% (+2.5%), Poland -2.9% (+1%), New Zealand -4.6% (-4.4%), Denmark -4.7% (-1.7%), Brazil -7.6% (-2.3%), Portugal -8.4% (-5.9%), Philippines -10.8% (-9.9%), Colombia -11.3% (-7.9%), and Argentina -11.9% (-4.4%).

Fed Listens: “The independence of monetary policy is bestowed by elected officials,” said Indiana, the market’s top archeologist. “The inflection point we are seeing today is the inverse of Volcker’s 1979, with the punitive nature of inflation a distant memory,” he said. “Before Volcker’s slaying of inflation was the recognition that inflation was a political problem. The people and by extension the politics demanded inflation be tamed. The Federal Reserve responded. Carter’s nationally televised address in October 1978 captured the moment. The political fallout from inflation was readily apparent in that address.”

Carter: “Good evening. I want to have a frank talk with you tonight about our most serious domestic problem,” said President Carter in an October 1978 televised address. “That problem is inflation. Inflation is obviously a serious problem. What is the solution? One of these answers is to impose a complicated scheme of Federal government wage and price controls on our entire free economic system. The other is a deliberate recession which would throw millions of people out of work. Both of these extreme proposals would not work, and they must be rejected.”

Fed Listens II: “Each time is different yet history rhymes,” continued Indy, flipping through maps, texts, ancient market manuscripts. “There was a tug-of-war between Powell and market expectations heading into the March FOMC meeting – torn between lessons from recent cycles and those from longer history,” he said. “Powell was in the hot seat of balancing market expectations for an earlier rate liftoff with a forceful explanation about why and how this time is different. Context is key. The Fed took 14 stops on its ‘Fed Listens’ series with the objective of revising the strategic goals of monetary policy.”

Fed Listens III: “The changes may seem subtle. But the undertones are powerful,” explained Indiana. “Political winds shift monetary policy. Half of the ‘Fed Listens’ events were with community leaders. The strategic statement revised the employment goal to emphasize breath and inclusion, a point of emphasis in Powell’s Feb testimony to Congress,” he said. “And the FOMC ‘dots’ illustrated the point. Even with the unemployment rate falling below 4% next year and inflation above the 2% target, policy rates are expected to be at emergency levels through 2023.”

Fed Listens IV: “In the next five years, real interest rates are expected to remain steeply negative; market-traded real yields are –1.7%,” said Indy. “The bond market still sees an earlier liftoff in policy rates, but it is splitting hairs. The Fed is signaling steeply negative real rates and the market is accommodating that guidance. The surprise is thereafter. Real interest rates in the subsequent five years are expected to rise sharply to +0.6% on average. Likewise, the bond market sees inflation overshooting to 2.5% in the next five years, and a perfect landing back to 2% in the following five years. The market narrative is that the Fed knows how to tame inflation. But the issue will be far more complicated than a stochastic simulation.”

Fed Listens V: “Policy is committed to being steeply backward looking at a time when the goods sector is already overheating,” added Indy. “The details of the PMI surveys are a useful benchmark. There are more than 60 commodity inputs to production that are monitored by prices and supply. Only one was reported down in Feb (dairy) and the list of commodities in short supply is growing, including semiconductors for the past three months. Delivery times are slow and across industries the anecdotes are focused on shortages: ‘Supply chains are depleted; inventories up and down the supply chain are empty. Lead times increasing, prices increasing, [and] demand increasing.’”

Fed Listens VI: “The lights will be back on in the service sector soon enough,” said Indy, wrapping up. “At the end of Feb, 18.2mm Americans were collecting unemployment support, the majority through new Federal programs. Record fiscal and monetary stimulus is geared to supporting this cohort. The hope/expectation is for a rapid return to the workforce. Inflation overshooting is assured. The biggest question for individuals and asset allocators – who is the beneficiary cohort of higher inflation and how will they respond to it?” asked Indy, rhetorically, because of course, the beneficiaries of higher inflation are those who create it - the politicians.

Anecdote: The sky was filled, darkened by so many creatures. Each year they pass, the autumn and now spring. Flying north, south, north again. A rhythm, like the tides, tulips. Each cycle a spectacle, a little miracle. And high in the air, moving as one, they turn, sometimes sharply, instantaneously, or split into two flocks, or three, only to later merge again. Or not. We will never know why they move so. And in that mystery, we are left to wonder whether we too are drawn to act in ways over which have no control. In ways we barely know. Thucydides first studied the behavior of men as we endure plagues, wage civil war, battle nations. “Human nature is the one constant through history,” he wrote in 411 BC, his History of the Peloponnesian War a masterpiece of observation, the study of cause and effect, fear, self-interest. We will never know how many human conflicts have been averted since its publication. With an understanding of oneself and deep reflection, there is no question we can each become better. And if this holds true for the individual, we hope this too can accrue to the whole. Yet wars have come and gone, an endless cycle, even if the way they are started and waged evolve to reflect the sublime complexity of humanity. Unlike the birds or tides, our cycles disguise themselves so that we are able to convince ourselves each time that we are finally free. Yet our markets still rise and fall. Currencies come and go. Political parties. Nations too. A time-lapsed map of Europe’s national borders over these past 1,000 years is a breathtaking study of change. To think this process is over is as preposterous as to believe one can stop the tides. And once again, we face the challenge that emerges when a rising global power confronts a stronger incumbent. It comes at a time of profound political, social, economic change – all intricately woven. “Of all manifestations of power, restraint impresses men most,” wrote Thucydides, giving us hope.

Good luck out there,

Eric Peters

Chief Investment Officer

One River Asset Management           

Greenwich, CT

Disclaimer: All characters and events contained herein are entirely fictional. Even those things that appear based on real people and actual events are products of the author’s imagination. Any similarity is merely coincidental. The numbers are unreliable. The statistics too. Consequently, this message does not contain any investment recommendation, advice, or solicitation of any sort for any product, fund or service. The views expressed are strictly those of the author, even if often times they are not actually views held by the author, or directly contradict those views genuinely held by the author. And the views may certainly differ from those of any firm or person that the author may advise, drink with, or otherwise be associated with. Lastly, any inappropriate language, innuendo or dark humor contained herein is not specifically intended to offend the reader. And besides, nothing could possibly be more offensive than the real-life actions of the inept policy makers, corrupt elected leaders and short, paranoid dictators who infest our little planet. Yet we suffer their indignities every day. Oh yeah, past performance is not indicative of future returns.