Imagine if we played a drinking game over the next week and every time we saw an article, blog post or CNBC segment on the Brexit, we drank?
We’d give Nicholas Cage a run for his money in Leaving Las Vegas and our liver would probably fail by 11am on Tuesday.
I’m not downplaying the importance of Brexit but I’m saying be careful not to be lured in by The Brexit Sirens. When the dust clears, investors will once again be faced with $10T in negative yielding government bonds, rising corporate delinquencies, slowing global growth and monetary policy that looks as if it was invented on the Island of Dr. Moreau.
If you want a huge edge over other market participants, then you need to harness the power of now. Stop looking backwards at 3-month old data or looking at forecasts 6 months into the future and focus on developing a better understanding of what is happening right now.
The effects of the Brexit will be felt for months and years into the future. There is no way to know what exactly the ripple effects will be but I can promise a ton of internet ink and mainstream media airtime will be devoted to exploring all of the possible outcomes. What’s happening right now is far more important to the value of your portfolio.
First things first, I need to get some things off my chest. Janet Yellen was once again center stage last week, prior to Brexit. I swear that woman was put on this Earth to test my ability to control my swearing.
There is no question that Janet Yellen has forgotten more about economics than I’ll ever know but at some point you have to call “Bulls#@t.” Janet said that US consumer spending had “picked up smartly” and that she was “optimistic on further improvement in the labor market and the economy.”
When I read this, my head almost exploded. First off, what the hell does it mean for something to improve “smartly.” I actually Googled the word because I was convinced she made it up. It’s not a made up word but I still have no idea how it corresponds to the growth of a data point.
Second, if she’s optimistic about the labor market and the economy then why, just last week, did the Fed downgrade their growth forecasts for not only 2016 but 2017 as well? She went on to say that the growth has been “uneven” lately and that she believes the recent slowdown in the labor market is “transitory.”
Growth in the US has actually been quite even - evenly deteriorating - since Q2 2015. Just a couple of weeks ago, I wrote about the fact that 80% of the critical economic indicators in this country have gotten worse since January. US growth has been slowing for over a year and continues to head in the wrong direction.
As for the labor market, I’m not sure what Janet’s definition of “transitory” is but the three most reliable indicators of the US labor market: Labor Market Conditions Index, ADP payroll and Nonfarm payrolls, have all been deteriorating for 6-9 months. Is 6 to 9 months considered transitory? Does it freakin’ matter when data is registering at the same level as a full-blown financial crisis?
Janet, stop propping up equity markets and do your job. Don’t even get me started on Obama saying that now is the best time to invest in the US. Before I lose the Democrats out there, politcally agnostic – both parties are clueless. But, I don’t care who’s in the White House, it’s flat out reckless for the President of the United States to say something like that in the midst of the current economic environment. I can promise you that Obama’s blind trust is not levered up with US equity exposure.
Is it any wonder that boom and busts occur more frequently than statistics would have us believe? There’s plenty of blame to go around and Wall Street is certainly at the center. But these elected and unelected officials that spout off at the mouth are a real problem too. And if I was the only one who thought so, Donald Trump, the No. 16 seed, wouldn’t be in the Championship Game of the Presidential Bracket. Please don’t lose my point in the midst of my outrage. Focus on what’s happening right now because you can’t trust anyone, elected and unelected politicians included, to do it for you.
The Brexit isn’t the only thing rocking the Eurozone right now but it’s the only thing you’re going to hear about, so allow me to shed some light on other factors that will surely impact financial markets.
Last week, we got an updated look at growth in both the service and manufacturing sectors of the Eurozone economy and it’s the slowest growth that the region has had in 2 years. Growth has been declining for a year now but I’m sure it’s just “transitory,” right Janet? Economic growth looks horrible but there is one thing that is growing right to the moon, the ECB’s balance sheet. Surpassing the 2012 record high, the balance sheet hit a new record just last week. This new record is just in time for the launching of another round of financing for banks with extremely generous terms. At some point the ECB just starts paying the banks to borrow their money.
Speaking of banks, everyone is paying attention now because of the slaughter that occurred on Friday. The Eurozone banks got stuffed in a locker like a band geek. But as I pointed out in last week’s commentary, all of the major banks had already crashed, declined 20% or more, so far this year. The banks had major problems before Brexit, the additional 15% declines on Friday just added insult to injury. But as is always the case, what matters most in macro always happens on the periphery and never gets any attention, until it does.
Such is the case with one of Germany’s largest banks, which is considering stockpiling cash. Commerzbank is “examining the possibility” of hoarding billions of Euros in their vaults. Think about it for a second, this makes a ton of sense. By hoarding cash, banks can avoid the -40 basis points penalty for parking cash with the ECB.
Apparently Parker Brothers lied to us, there is no such thing as “Free Parking”. It’s not coincidental that the ECB is beginning to discontinue larger bills. They know that discontinuing larger denominations increases the cost of storing cash and makes hoarding by banks less likely to occur. All that the ECB has done to stimulate the economy and ultimately it's stimulated nothing but slower growth, unhealthy banks and now a revolution.
I ended last week’s thoughts by saying “…don’t be in the majority of investors who wake up to a sea of red in world markets and scratch their head saying, “what happened?” I had no idea that just a short 96 hours away, investors would wake up to a sea of red. The Brexit was a monumental event and the implications are widespread.
The first observation about the Brexit is that it proves my point that embracing the power of now is critical. Not one group of forecasters got the outcome correct. Capital markets, bookmakers and even the “events” markets got it wrong. Enough with forecasting already.
As I said earlier, Brexit will have impact for months and years to come. If you think you missed an opportunity on Friday, have some patience, you’re going to have plenty of opportunities to profit because the uncertainty isn’t going away anytime soon. What happens to Eurozone banks based in the UK? What happens to UK debt deposited with the ECB? Just a few of many questions to be answered.
Remember, equity markets closed higher the week that Lehman Brothers went belly up, the real cascade didn’t begin for another 2 weeks. The Dow had its largest gap down since 1986 on Friday. Spain’s equity market had its worst day since 1992. That’s right, Friday was worse for those markets than Black Monday in 1987 and the Financial Crisis.
It’s also estimated that quant funds designed to mitigate risk will have to unload approximately $150B in assets over the next week because they are forced to trend follow. The further the S&P drops, the more these funds are forced to sell. They are also forced to buy volatility as a hedge, further exacerbating the issue.
This is exactly what happened last August with the market’s reaction to the Chinese devaluation. Even the great Ray Dalio took it on the chin with his risk-parity strategies. The point is that we don’t know what the market’s reaction will be to Brexit. Friday’s price action was the warm up, the game hasn’t even started yet.
A lot of people, mostly US-centric investors, are freaking out in the aftermath of Friday. It’s easy to get lulled into a false sense of security when your equity market defies gravity. Friday was a nice reminder for those folks that markets take the stairs up and the window on the way down.
Embrace the power of now and you won’t get caught with your pants down when the next Brexit occurs. Even better, if you embrace the power of now, like TWR subscribers, instead of waking up to a sea of red, you’ll wake up to a sea of green and finish the day with a gain.