The Waiting Game

At least to some extent, right now seems like a bit of a waiting game. Will the Iran War settle down? Will rates settle down? Will the market start to worry more about any of it? Along those lines, I’m just going to write down how I’m looking at these things.

I don’t see the point in pretending I know anything special about the Iran War. All I can do is look at market data and try to interpret it correctly. We can see crack spreads are high on business disruption. That’s bad but can get fixed quickly. The oil futures curve has seen a lot of volatility on the front-end as we moved from pricing in resolution to further problems. The longer-term still expects a normalization, though.

The only thing I’d add is my belief that humans have a tendency to believe that whatever’s happened in the recent past is going to continue. That’s recency bias. Thus, people tend to assume this recent bout of pessimism on Iran resolution will persist. I don’t know what happens, but people are pricing in pessimism over optimism, so optimism is likely to pay much better.

Will rates settle down? Recent soft economic data has really caused the short-end to relax, already, as rate expectations start to price out near-term hikes. Longer-duration rates, like the 10Y and 30Y yields, however, continue to hit long-term highs. Why are long-term rates moving so high?

I talked about that a fair amount, yesterday. There are intelligent people out there who view high long rates as a sign that the market thinks the Fed is making a mistake by not hiking, or that it’s a view AI keeps productivity high and rates aren’t going down anytime soon. Honestly, I think those are reasonable ideas, but I disagree that’s the main culprit.

Fundamentally, if this was a rate issue, shouldn’t the dollar be going up instead of down? Sustained high rates should be supportive of the dollar, and that’s not what we’re seeing. Instead, I think high rates are largely a side-effect of strong AI-focused demand for debt to fund the buildout. That’s caused unseasonal demand that the market seems to have struggled to digest.

On the bright side, S&P Global, and others, believe this frontloading of debt should fade as the year goes on. It’s certainly something to keep an eye on, but people who should know better than I do are of the belief this is a temporary issue. If true, long-term rates may be in the process of peaking. Here’s hoping, for the sake of the stock market.

To what extent is the market worried about these things? That seems messy. On the one hand, volatility (VIX) is pretty low, indicating little fear. On the other hand, the Nasdaq still hasn’t surpassed the June peak and the chart above that’s making the rounds today shows asset managers and levered funds have a big short on tech. You can have an argument, here, but I sure don’t think this looks like euphoria.

I do think there are reasons to worry, and I do think it’s valid to say those worries are more significant than they were a few weeks ago. However, I also think those worries are well known to the market and pretty priced in. Given that, while I’m more focused on downside risks and have a little bit more cash than we used to, I don’t think most investors are positioned for more upside, so that’s probably where you can get paid.

Empire State Manufacturing was 20.6 vs. exp. 11. That’s a four-year high on strong orders and hiring.

NAHB Housing Market Index was 35 vs. exp. 33. Not a huge change, but conditions under 50 show weakness for a 28th straight month.

Oil was up 3% and bonds down over pessimism on the prospects for an Iran deal.

The 30Y T yield touched 5.33%, the highest since 2007.

Fabrinet (FN) was -10% on strong earnings and guidance. Guess they don’t like the cash flow burn.

The whole semi space is seeing a downturn today following a nice run, with SMH -3%.

ADP Employment, Empire Fed Services, Housing Starts, and Import/Export Prices, today.

Bottom line: Semiconductors are getting taken to the woodshed after a nice bounce back.

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