GOBBLE GOBBLE
Does the tryptophan in turkey make you sleepy, or is it the glycemic shock of massive overeating?
Does indulging in cheap credit make you a smart investor, or have governments and central bankers lulled you to sleep with massive intervention (QE, stimulus checks, PPP loans, bail outs, etc.)?
No matter how you chose to stuff your face on Thanksgiving 2021, good chance you got caught napping in 2022.
Imagine if you fell asleep this time last year (2021) for a year-long slumber. It would be understood if you rolled over and asked to not be woken up again until the nightmare of the last 12-months was over.
It’s hard to believe 2022 is nearing its end, but for the majority of market participants, or anyone who doesn’t live under a rock, putting an end to this year is probably a welcomed change.
It is nearly impossible to find a segment of the market which is poised to end the year in the green.
Even the energy sector is struggling to keep its head above oil water.
As much as I wanted to keep you up to date this year on all things market related, one could hardly blink without some dramatic twist or market meltdown, especially in crypto – the digital darlings turned disaster are merely the exclamation mark for a year littered with the carcasses of “when genius failed”.
So, what happened?
Well … how much time do you have, or how many charts can you stomach to look at?
In this email I’m going to recap 2022 and let you know what 2023 might have in store for us.
I know we still have a month left, but let’s pretend not a creature is stirring, not even a hous-ing crash.
I’m the type who asks for the bad news first, rips the bandage off all-at-once, and faces his demons head on.
2023 is probably when the real fury of this ungodly hell of a bear market is unleashed, and better we accept our fate gracefully now, then to later fall from grace without a parachute.
THE FED
The Fed is both the firefighter and the arsonist, taking credit for fighting a fire they are responsible for lighting.
After more than $5 Trillion of Quantitative Easing from the Fed, NO ONE is surprised that we have inflation.
The year-over-year change in CPI (Consumer Price Index), a measurement of inflation, reached as high as 9.1% in June, the highest in nearly 40-years.
To fight the five-alarm blaze that they started, the arsonist Fed has embarked on the most dramatic rate hiking cycle in history.
In addition to aggressive rate hikes the Fed has started to shrink its balance sheet.
Quantitative Easing is when The Fed performs open market operations by purchasing bonds, such as US Treasuries and Mortgage Bonds.
Not exactly “money printing” as the popular narrative suggests.
Instead, the asset purchases are held as reserves on the Fed’s balance sheet.
Unlike government stimulus (stimmy checks, PPP loans, etc.) this does not create new money.
Only commercial banks can print money by creating new loans, which is The Fed’s goal of doing QE and expanding its balance sheet.
One way The Fed can reduce its balance sheet is by not reinvesting the money from maturing bonds.
This eventually leads to slower (or negative) credit growth, thus it is like sucking liquidity (money) out of the economy.
In just a few months The Fed Balance Sheet reached its lowest level in almost a year, down $222 billion from a peak in April … only $8.7 trillion to go!
Although the balance sheet has a long way to go (if they actually intended to run it down to zero), the impact can already be seen in the US broad money supply (M2).
We had the biggest six-month decline in M2 on record.
The year-over-year pace also fell to the weakest level since 1995.
The tides of liquidity have been waning, driving global paper wealth lower.
This has been the fastest tightening cycle, and destruction of wealth (in dollar terms), since the Great Financial Crisis in 2009.
So, when will the Fed (and global central banks) to the faucets back on again?
Data shows central banks are much more afraid of deflation then they are of inflation.
On average since 1960 central banks stop tightening (rate hikes) once inflation slowed by 10%.
They don’t even wait for a decline, but merely a 10% slower pace of rising inflation.
(i.e., 5% > 4.5%)
This is on average and considering the 40-year high inflation reported in 2022, The Fed is likely to continue hiking for longer.
However, once central banks pause, the first rate cut usually comes only 7-months later and within the first year is 200 basis points (2%) of cuts.
Initial rate cuts are not the signal to YOLO back into risk assets either.
The Fed usually starts reducing the Fed Funds before the market has bottomed.
Another 50 basis points increase in the Fed Funds overnight lending rate is almost a guarantee for the December FOMC meeting (Dec 13).
If this is the last hike (maybe) and the Fed pauses sometime in Q1 2023, we will likely see rate cuts before the end of 2023.
This also suggests that the bottom in markets (housing too?) might not arrive until 2024.
Regardless of the timing, The Fed cannot keep raising rates, even despite sticky inflation data.
Not unless they won’t to bankrupt the US (not to mention their own balance sheet losses).
The National Debt is now a whopping $31 Trillion.
Servicing that debt will be twice as expensive given the rapid increase of interest on US government debt.
The US Treasury is also losing income as asset wealth plummets, so will the tax receipts collected from capital gains.
The Fed won’t be sending checks to the treasury either, after the rapid change in rates has resulted in the Fed losing money on the assets they accumulated from their Quantitative Easing (QE) asset purchases.
Fed data shows the central bank reported earnings (due to the US Treasury) is negative $10,500,000,000 as of Nov 23.
The Fed went from blow, to suck (quantitative tightening), and now with a massively negative P&L prove they also suck at making money for the US Treasury.
To continue reading the financial markets “2022 Year in Review” click here for PART 2.
FINANCIAL MARKETS 2022 YEAR IN REVIEW
PART 1 | PART 2 | PART 3 | PART 4 | PART 5
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