Rabo: All Market Memes And Narratives Must Be Bullish… The More Bullish They Are, The Less Sense They Have To Make

By Michael Every of Rabobank

Nah-rative and meme too

The market decided the “peak inflation” meme is the new “transitory” yesterday. The US yield curve bull consequently flattened dramatically: US 30-year yields were -15bp from their intraday peak, 10-years -15bp from theirs, and 2-years only -5bp. Painful USD/JPY and USD/CNH FX cans were able to be temporarily kicked a little further down the road. Markets do love a good –and very simple– narrative or meme, even when they make no actual sense.

As I mentioned the other day, think of ‘BRICS’. What did that mean: ‘five emerging markets whose initials form an acronym homonymic to a noun associated with construction’? Doesn’t matter – kerching!! But how many of that quintet yielded golden market returns vs. the US? And today the talk is of “the end of globalization” and a New World Order, which, as I was discussing last night, has its own meme ‘issues’.

How about FAANG? (“Ooh, that sounds like it has teeth!”) Kerching!! But Facebook is now Meta, so it’s MAANG, and Google is Alphabet, so it’s MAANA. That still sounds heavenly, and reflects something appearing out of thin air. But the last few days have seen a slump in streaming services that, apparently to some subscribers, also specialize in nonsensical narratives. Does that mean MAA? Might the second-coming of Second Life at Meta (“I want a moustache too!”) mean AA? This is in no way to try to stock pick, but rather to point out the need to think carefully about market memes rather than embracing the latest one.

Of course, timing is everything. Much as I hate to admit it when I see something and others don’t, if everyone else in markets is going to go long a stupid narrative (“Ooh, BRICS! Ooh, FANG! Ooh, Goldilocks! Ooh, common prosperity is just regulation! Ooh, transitory! Ooh, peak inflation!”, etc.), you will get flattened pointing out the plot holes,… until markets eventually fall into them themselves, and forget you had warned them, because everyone “failed conventionally” together. And, usually, then get bailed out anyway.

But back to ‘peak inflation’. The Fed’s Beige Book said US economic activity expanded at a “moderate” pace, with “moderate” employment gains. Consumer spending “accelerated”; manufacturing was “solid”, but supply chain backlogs, labor market tightness, and elevated input costs posed challenges. Commercial real estate accelerated “modestly”, and there was “strong demand” for residential real estate but limited supply. The overall outlook was “clouded by the uncertainty created by recent geopolitical developments and rising prices.”

In more detail, employment increased at a “moderate” pace. Labor demand was strong but hiring was held back by a lack of workers; several districts reported signs of modest improvement there; but many firms reported significant turnover as workers left for higher wages and more flexible job schedules. Indeed, “persistent labor demand continued to fuel strong wage growth, particularly for footloose workers willing to change jobs. Firms reported that inflationary pressures were also contributing to higher wages, and that higher wages were doing little to alleviate widespread job vacancies.”

However, “some contacts reported early signs that the strong pace of wage growth had begun to slow.” There you have the ample evidence on which a pronounced bond-market meme rally was actually based!

Likewise, inflationary pressures remained “strong”, with firms continuing to pass “swiftly rising input costs” through to customers. There were “steep increases” in raw materials, transportation, and labour costs, and “spikes” for energy, metals, and agricultural commodities, with still unfolding COVID-19 lockdowns in China worsening supply chain disruptions. (And the full effect of that won’t be felt for weeks.) “A few reports noted that input suppliers were making use of more flexible contract terms or only honoring price quotes for 24 hours.” – which is how emerging-markets with crazily-high inflation have to do business, for those who have seen such things.

However, “contacts in a few districts noted negative sales impacts from rising prices.” Again, that was the ample evidence on which a pronounced bond-market meme rally was based! Sink your FANGs into them BRICS, Goldilocks, it’s transitory peak inflation!

Yes, a flattening tone to the US curve is far more logical than a steepening one – eventually. And a bull over a bear one – eventually. However, I would not rule out marked volatility and further steepening at times ahead.

Indeed, while the Fed’s Beige Book was upbeat, the IMF just slashed its world GDP growth projections due to the “seismic shocks” from Ukraine. That is hardly a surprise: more so was the Fund’s fiscal affairs director stating governments acting in their “special role to protect the vulnerable when things fall apart go a long way to keeping social cohesion”, and that it is “an absolute imperative for public policies everywhere to provide food security for all.” How? Demand subsidies against a supply shock? I think we all know how that narrative will play out. Or a food Marshall plan, from the suddenly warm, cuddly, humanist IMF? Details please. And NOW.

The IMF chief also stated geopolitical fragmentation could “curb 75 years of gains”. What a lazy narrative! Have you seen a map of what the world looked like in 1987, when the Berlin Wall still stood, or 1967, before Nixon went to China? And in 1947, China was not yet Communist, let alone reintegrating with global capitalist markets again.

Relatedly, the WTO also just published a report that also contained a key false narrative. It argues: “Longstanding economic relationships have been disrupted by the war and by the sanctions imposed in its wake. WTO economists have simulated various scenarios to illustrate the channels through which trade could be affected and to explore possible short-run and long-run effects. Global trade growth is projected to slow by up to 2.2 percentage points in 2022. Longer term impacts could also be large and consequential. There is a risk that trade could become more fragmented in terms of blocs based on geopolitics. Even if no formal blocs emerge, private actors might choose to minimize risk by reorienting supply chains. This could reduce global GDP in the long run by about 5 per cent, notably by restricting competition and stifling innovation.”

I disagree only on the last part: it’s neoliberal nonsense to overlook that a huge chunk of innovation is led by US defense spending: DRAM; click wheels; touch-screen; GPS; SIRI; lithium batteries; signal compression; LCDs; micro hard-drives; microprocessors; the internet; and mobile phones all grew from the US military, not Silicon Valley. It’s a case of BANG, not FANG. So, if we see Cold War again, and if the Pentagon bureaucracy ever rids itself of neoliberal nonsense, we can expect more of the same with a lag. At least for those in our camp. Perhaps from China too for theirs, or Russia, with its new ICBM being shown off. It’s some potential upside to the geopolitical downside.

The paper I previously shared in the Daily argued: “Since the late 1990s, the US has received large capital flows from developing countries –a phenomenon known as the global saving glut– and experienced a productivity growth slowdown. Motivated by these facts, we provide a model connecting international financial integration and global productivity growth. The key feature is that the tradable sector is the engine of growth of the economy. Capital flows from developing countries to the US boost demand for US non-tradable goods, inducing a reallocation of US economic activity from the tradable sector to the non-tradable one. In turn, lower profits in the tradable sector led firms to cut back investment in innovation. Since innovation in the US determines the evolution of the world technological frontier, the result is a drop in global productivity growth. This effect, which we dub the global financial resource curse, can help explain why the global saving glut has been accompanied by subdued investment and growth, in spite of low global interest rates.” The implication is the need for US tariffs and capital controls – which a Cold War certainly encourages.

That narrative is not one of peak inflation, even if said paper is not US policy. Yet “friend-shoring” apparently is, and that is a big step in the same direction.

Moreover, “friend-shoring” is catchy, intuitive, and right up there with BRICS. Yet while markets love a good –and very simple– narrative or meme, the problem is “friend-shoring” isn’t bullish for them.

That’s a crucial caveat: all market memes and narratives have to be bullish, and the more they are so, the less sense they have to make: the less bullish they are, the more sense they have to. As such, “friend-shoring” will need to show it works to three decimal places, and get underway, before anyone on Wall Street will actually embrace it. We will see a firm ‘nah!’ in that narrative until then.

But, sorry, that still does not mean peak inflation in the sense the market suddenly thinks it does.

In Europe, for those who bought the meme that Le Pen was going to win the French election, President Macron was widely regarded to have handily won the election debate last night, or at least viewers say he did so by 59% – 39%. Will that outcome be repeated this Sunday? Plus ça change, mais plus c’est la mème chose? And let’s see what happens on Russian oil embargoes on Monday.

And in New Zealand, CPI rose less than expected at “just” 1.8% q/q (vs. 2.0% consensus), 6.9% y/y (vs. 7.3%). Peak inflation? Maybe, but more probably, nah. Not that this is stopping a whole lot of RBNZ and NZD market memes too.