'D' for Dis-Equipoise
Doug Nolan
Nvidia sank 12.6% this week.
The Semiconductor Index (SOX) slumped 12.2%, with the Nasdaq100 (NDX) down 5.9%.
The S&P500 dropped 4.2%.
The KBW Bank Index fell 5.5%.
The VIX (equities volatility) Index jumped 7.38 to 22.38, the highest close since August 8th (as the index retreated from its August 5th spike).
“Stocks Hit by Jobs in Worse Week Since March 2023.”
“Risk off” was global.
Japan’s Nikkei 225 Index lost 5.8% this week, South Korea KOSPI 4.9%, Taiwan’s TWSE 3.7%, and China’s CSI 300 2.7%.
Major equities indices were down 3.7% in France, 3.2% in Germany, and 3.1% in Italy.
“Stocks Trashed as Job Gains Fall Short of Forecasts.”
The SOX sank 4.5% in Friday trading, with the Nasdaq100 down 2.7%.
The afternoon chatter on Bloomberg Television questioned what in the jobs report might have justified the equities rout.
It’s a fluid, complex and extraordinary environment, just as we should expect at such a critical juncture for history’s greatest Bubble(s).
With the backdrop so confounding, it would be surprising if market pundits, Wall Street strategists and the economic community weren’t befuddled.
Let’s see if the “financial sphere” and “economy sphere” analytical framework can lift the fog a little.
Credit and speculative Bubbles have distinct impacts on the two individual but interconnected spheres.
And when we contemplate the current backdrop, it is imperative to remind ourselves of the unprecedented Bubble excess experienced over the past five years.
There was the $5 TN of QE commenced in pre-Covid September 2019.
There were U.S. short-term rates reduced to zero in March 2020 and held below 1% until May 2022, while the Bank of Japan imposed negative rates for eight years - and were close to zero for 24. Government finance Bubble excess included $9 TN of Treasury issuance over five years.
Analysis that disregards the impact of unprecedented debt growth, monetization, market manipulation, and deeply ingrained speculative dynamics will fail to recognize key cycle inflection points.
How was virtually everyone blindsided by developments in September 1929?
The market closed the week pricing a 4.18% policy rate after the Fed’s December 18th meeting – down 15 bps this week, implying 115 bps of rate reduction over the next three months (or so).
Do aggressive rate cuts appear justified from a “economy sphere” perspective?
While cooling, the economy still added 142,000 jobs during August.
The Unemployment Rate dipped to a historically low 4.2% (2000 to 2020 monthly avg. 5.9%), while the 0.4% monthly increase in Average Hourly Earnings pushed y-o-y gains to a historically elevated 3.8% (‘00 -‘20 avg. 2.5%).
And while job openings (JOLTS) have dropped from March ‘22’s peak 12.182 million to last month’s 7.673 million – vacancies remain elevated compared to the 2000 to 2020 average of 4.489 million.
The U.S. “Bubble economy” is today more imbalanced than weak.
August Services PMI was reported at a stronger-than-expected 55.7 (above 50 expanding), with the ISM Services Index near expectations at 51.5.
The ISM Services New Orders component added almost a point to 53, with Prices Paid at an elevated 57.3. At 50.2, Employment was still indicating growth.
The Atlanta Fed GDPNow forecast remains above 2%.
The economy today demonstrates notable dispersion in performance – from impressive strength to concerning weakness.
Overheated labor markets generally have cooled, while many companies and industries still struggle to fill openings.
But all the talk of impending recession disregards ongoing strength in services industries (that dominate the U.S. economy).
From an “economy sphere” perspective, the U.S. economy has become inherently vulnerable to tighter financial conditions and faltering asset Bubbles.
As of this week, finance flows freely.
The talk on August 5th of the need for an emergency Fed meeting and an aggressive inter-meeting rate cut seems silly a month later.
Or does it?
From the perspective of the “financial sphere”, there is rationale for the Fed to be prepared to administer aggressive rate cuts.
Intraday on August 5th, the market at one point priced in 148 bps of rate reduction by year-end.
That was not a reflection of “economy sphere” performance, so much as it was of acute “financial sphere” fragility.
It is not hyperbole to suggest that the “financial sphere” today is a real quagmire.
Bubble distortions have compounded over many years to the point of deep systemic maladjustment.
In short, Bubble effects are prevalent throughout, with speculative Bubble dynamics commanding market behavior.
Speculative Bubbles, especially post-melt-up, don’t function in reverse.
To simplify, I would highlight three momentous Bubbles: the global “yen carry trade;” the “AI/tech” global arms race Bubble; and the U.S. domestic “basis” and “carry” trades Bubble.
The dollar/yen closed the week at 142.30, with the yen stronger than the August 5th close of 144.18.
Friday’s intraday dollar/yen low of 141.78 compares to the August 5th intraday low of 141.70.
I’ll add that the (“king of carry”) Mexican peso/Japanese yen currency cross traded Friday just below the August 5th intraday low.
The Japanese yen jumped 2.7% this week versus the dollar.
Against EM “carry trade” currencies, the yen surged 6.1% versus the Chilean peso, 3.9% against the Peruvian sol, 3.9% versus the Mexican peso, 3.2% against the Argentine peso, and 2.8% against the South African rand.
The yen has rallied 13.63% against the dollar since July 10th.
Over this period, EM currency declines versus the yen include the Mexican peso 21.4%, the Colombian peso 16.3%, Argentine peso 15.4%, Chilean peso 15.0%, Turkish lira 14.9%, and Brazilian real 14.9%.
I believe the yen “carry trade” Bubble is deflating, a process of deleveraging that could unfold over weeks and months.
From July 10th peak mania highs, the SOX Index has deflated 23.3%, while the NDX has dropped 10.9%.
Nvidia has deflated 23.8% from July 10th highs, with Micron down 36.7%, Lam Research 34.9%, ASML 31.5%, Applied Materials 31.5%, Advanced Micro Devices 27%, and Qualcomm 24.2%.
Nvidia closed the week at 102.83, off the Friday intraday low of 100.95.
This compares to the August 5th closing price of 100.45 (intraday low $90.69).
The SOX Index’s 4,528 weekly close was slightly above the August 5th close of 4,519 (intraday low 4,290).
The NDX ended Friday at 18,421, less than 3% above the August 5th close of 17,895 (intraday low 17,435).
Technology stocks desperately need to regain composure next week or risk a problematic Bubble deflation acceleration.
An egregiously inflated and speculative “financial sphere” now confronts de-risking/deleveraging from two major Bubbles (yen carry and AI/tech).
Thus far, what would have typically been destabilizing liquidity impacts have been ameliorated by rapid inflation of the third major Bubble - the U.S. “basis/carry trade.”
Money Market Fund Assets (MMFA) jumped another $37 billion last week.
MMFA has inflated $166 billion in five weeks and $268 billion in four months.
I view MMFA growth as a decent proxy for “repo” market expansion – the funding source fueling the historic “basis trade.”
Faltering “yen carry” and “AI/tech” Bubbles significantly boost the likelihood of aggressive Fed rate cuts, with prospects for Fed easing fueling a significant bond market rally.
At 3.71%, 10-year Treasury yields have collapsed 100 bps from April highs.
Two-year Treasury yields have dropped from 5% to Friday’s 3.65% (down 27bps this week).
MBS yields sank 22 bps this week to 4.92% - the low back to April 6, 2023.
MBS yields ended April at 6.23%.
September 4 – Bloomberg (Olivia Raimonde and Finbarr Flynn):
“Investors from New York to London to Tokyo are clamoring to buy investment-grade bonds, spurring heavy sales of the securities.
At least 81 high-grade bond sales have launched or been completed worldwide this week, including 19 that teed up for the US on Wednesday after a record 29 a day earlier.”
September 4 – Bloomberg (Josyana Joshua):
“Investors have welcomed an abundance of issuance in the blue-chip primary debt market this week, with many of the deals that debuted on a record-setting Tuesday already trading tighter the next day.
Over $43 billion of new high-grade bonds sold on Tuesday, the third-busiest day on record.
Spreads on most of those bonds tightened in the secondary market on Wednesday…
One of them, the biggest chunk of Mastercard Inc.’s $3 billion deal, traded 11 bps tighter.
A further $29 billion of investment-grade notes priced Wednesday.”
September 4 – Bloomberg (Amanda Albright):
“It’s already a record-setting year for muni-bond sales, and the relentless pace of mega-deals — those over $1 billion — is displaying little signs of slowing.
State and local governments rushing to raise cash ahead of the presidential election in November have driven sales to $325 billion so far this year, an all-time high for the period, according to data compiled by Bloomberg going back to 2013.
Some $65 billion of those offerings are mega-deals, the most in at least a decade.
And more jumbo debt sales are planned for September.
The pipeline of scheduled deals rose to about $20 billion as of Wednesday, the highest in more than two years…”
Faltering “yen carry” and “AI/tech” Bubbles have triggered a major decline in yields and significant loosening of financial conditions.
There’s a decent argument that this is coinciding with peak “basis/carry trade” speculative Bubble.
Moreover, I will posit that this is a precarious situation.
Equipoise: “A state of equilibrium.”
From New York Fed President John Williams’ Friday speech, “‘E’ Is for Equipoise.”
“The significant progress we have seen toward our objectives of price stability and maximum employment means that the risks to the two sides of our dual mandate have moved into equipoise.”
“With the economy now in equipoise and inflation on a path to 2%, it is now appropriate to dial down the degree of restrictiveness in the stance of policy by reducing the target range for the federal funds rate.”
Reminiscent of “transitory.”
And I wouldn’t do it, but I guess one could today try to get away with “equipoise” in describing the current “economy sphere.”
But when it comes to the “financial sphere,” it’s “‘D' for Dis-equipoise.”
Two faltering and one vulnerable Bubble create a state of acute disequilibrium. The week’s market dynamics offered a microcosm.
“Record Bond Issuance Well-Absorbed as Most Trend Tighter.”
The week saw record two-day issuance, with the week’s $81 billion (59 issuers) “the fifth highest ever.”
Tuesday’s 29 borrowers “was the most crowded single session on record…”
With market yields sinking, financial conditions seemingly couldn’t be looser.
And it is difficult to contemplate an economy sinking into recession with federal, corporate, and municipal debt markets running so hot.
Is this a backdrop for aggressive rate cuts?
Meanwhile, financial conditions indicators suggested trouble brewing, especially late in the week.
High yield CDS prices surged 10 Friday and 27 for the week to 349 bps, second only to the 38 bps jump in the week of August 9th - for the period back to September 2023.
High yield spreads (to Treasuries) widened 17 to 322 bps.
The five-year breakeven rate (expected inflation) sank 15 bps (27 bps six-week decline) to 1.89%, the low back to December 2020.
And the market ended the week pricing a 2.80% policy rate for the December 2025 Fed meeting, down a notable 28 bps for the week and 46 bps over three weeks.
The Bloomberg Commodities Index fell 2.5% this week to a three-year low.
Crude sank $5.88, or 8%, to the lowest level since June 2023.
Copper dropped 3.3%, Nickel 4.4%, Tin 4.1%, Zinc 6.2%, and Iron Ore 7.3%.
Flashing safe haven store of value, Gold bullion slipped only 0.2%.
Sovereign 10-year yields were down 20 bps in the U.S., 20 bps in Canada, 13 bps in Australia, 14 bps in New Zealand, 13 bps in Germany, 13 bps in the UK, 17 bps in the Netherlands, 14 bps in Sweden, 14 bps in Spain, and 16 bps in South Korea.
It appears global markets are sniffing out a “financial sphere” accident.
The rapidly inflating “basis trade” has been crucial in sustaining marketplace liquidity in the face of nascent yen “carry trade” and AI/tech de-risking/deleveraging.
But with both deflating Bubbles at the cusp of destabilizing acceleration phases, “basis” and “carry” trades are at heightened vulnerability to a more systemic de-risking/deleveraging dynamic and attendant liquidity issues.
Disorderly August 5th trading dynamics were a harbinger of fears of de-risking/deleveraging engulfing the “core” U.S. Credit market.
Much is riding on the “basis” and “carry” trade Bubble.
While the AI/tech speculative Bubble has begun to deflate, it remains acutely vulnerable to tightened financial conditions.
The amount of investment to build the necessary technology and energy infrastructure is massive.
This mania has attracted scores of negative cash-flow enterprises, while profits for most participants are at best some years away.
The eruption of de-risking/deleveraging in corporate and leveraged finance would be a devastating blow for an already deflating Bubble.
A critical juncture is unfolding for the “financial sphere,” and the leveraged speculating community in particular.
September 3 – Bloomberg (Paula Seligson and Katherine Doherty):
“Citadel Securities and Jane Street Group LLC, two of the largest market-making firms in the US, are on track for record annual revenue hauls as they further encroach on the big banks’ trading territory.
First-half net trading revenue rose 81% to $4.9 billion from the same period a year earlier at Citadel Securities, and gained 78% to $8.4 billion at Jane Street…, both well ahead of the pace needed for an all-time high annual total…
Ken Griffin’s Citadel Securities generated $2.7 billion of adjusted earnings in the first half, up from $1.1 billion a year earlier...
The second quarter contributed $2.6 billion of net trading revenue and $1.4 billion of adjusted earnings...
First-half adjusted earnings at Jane Street were around $6.1 billion, nearly double the $3.1 billion of a year earlier.
About $2.9 billion of this year’s total came in the second quarter, when the firm had $4 billion of net trading revenue.
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