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“Ice Is Coming”: Morgan Stanley Warns Odds Of “Destructive” 20%+ Correction Are Rising

"Ice Is Coming": Morgan Stanley Warns Odds Of "Destructive" 20%+ Correction Are Rising

One month ago, we said that when Morgan Stanley’s chief…

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This article was originally published by Zero Hedge

“Ice Is Coming”: Morgan Stanley Warns Odds Of “Destructive” 20%+ Correction Are Rising

One month ago, we said that when Morgan Stanley’s chief equity strategist Michael Wilson hiked his year-end price target from 3,900 to 4,000, he did so very “reluctantly“, as if someone was tapping on his shoulder with an Uzi, because while the note was supposed to be cheerful and rosy, all Wilson could talk about was the downside scenario which included all the usual sorts of fire and brimstone.

Well, fast forward to today when suddenly global markets are writing under the throes of Evergrande contagion sending spoos sharply below their 50DMA critical support level, and when early this morning, Michael Wilson is back in his prime as Wall Street’s biggest bear, going back to his core thesis that the current Mid-cycle transition will end in either “Fire”, i.e. a sharp market correction…

… or “Ice”, with consumer spending grinding to a halt…

… and observes that “the ice scenario would be worse for markets and we are leaning in that direction given the fall in consumer confidence and reset lower in PMIs we expect.”

Backing up a bit, for those unaware, since March, Wilson had been espoused a mid-cycle transition narrative for US Equity markets, which he says has played out to script for the most part, with large-cap quality outperforming while the average stock has materially underperformed the S&P 500, the exact opposite of what occurred during the early cycle phase of recovery.

Relieved that he no longer has to hide his bearish views behind a facade of cheerful optimism (observed most recently during his August S&P target hike), Wilson than mocks the “many commentators and clients” who continue to point to the S&P 500 near all-time highs as a leading indicator and rationale for even higher prices ahead, and cautions that in his view, “the relative strength of the S&P 500 and Nasdaq 100 is further confirmation that the market understands the mid-cycle transition narrative and has bought into it hook, line and sinker. After all, the S&P 500 is the highest quality large cap index in the world. In short, it should be outperforming right now.”

The question, as Wilson puts it, whether the mid-cycle transition will end with a correction in this index as it typically does, or whether it’s different this time? His prediction: “With our year end target 10% below current levels, our view is clear: the mid-cycle transition will end with the rolling correction finally hitting the S&P 500.”

And so, for the benefit incredulous bulls who can’t believe all the red they are seeing this morning, Wilson explains that “the mid-cycle transition will end with the rolling correction finally hitting the S&P 500.” He then reminds MS clients that he has laid out two near-term risk paths that could lead to this outcome: “fire” (the Fed begins to remove monetary accommodation in response to an overheating economy) and “ice” (earnings revisions and higher frequency macro data points decelerate amid demand pull forward, supply chain issues and margin pressure).

And while in his weekly note he dives deeper into both of these paths and points “to accelerating risks on both the policy and growth fronts” the emphasis is on the “Ice” scenario which could result in “a mode destructive outcome, i.e., a 20%+ correction.” Here’s why:

The typical mid-cycle “fire” outcome would lead to a modest and healthy 10% correction in the S&P 500. However, the “ice” scenario is starting to look more likely, and could result in a more destructive outcome – i.e. a 20%+ correction. As a result, we continue to recommend a barbell of more defensively oriented quality (Healthcare and Staples) to protect from the “ice” scenario while keeping a leg in Financials to participate in the “fire” outcome as higher rates materialize.

The next question is what would catalyze the upcoming correction, whether it is the 10% “fire” or 20% “ice” drop. Wilson responds:

We have presented two potential scenarios for why / how the correction will ensue. The more traditional ending to a mid-cycle transition is a “fire” outcome whereby the recovery overheats and the Fed begins to remove accommodation. In the 1994 and 2004 transitions, that meant raising the Fed Funds Rate. In 2011, it was simply the ending of QE2. This time we think it is the tapering of asset purchases later this year/early next year. Given that the taper was effectively pre-announced at Jackson Hole 3 weeks ago, is it a coincidence that equity markets have been softer in September? Under this scenario, the economy reaccelerates from the summer slowdown but not enough to offset the tightening of financial conditions from higher back end rates and less liquidity in the system. In addition to the anticipated tapering of asset purchases later this year, we point to the fact that the Treasury’s General Account (TGA) has fallen by $1T since March (Exhibit 3).

While this has been a good offset to the decelerating M2 growth (Exhibit 4), that offset is probably finished now. Bottom line, this is the time of the mid cycle transition when P/Es for the broader index properly contract (Exhibit 5).

Piling on the pessimism, Wilson then notes that “there are several key variables we are monitoring that currently support a view for a worse than expected growth deceleration.”

  • First is NTM earnings estimates. Even if the economy rebounds in 4Q from the slowdown this summer, it likely won’t translate into higher earnings estimates as incremental margins rollover due to higher costs and taxes. This is the mirror image of the past year when costs were being eliminated as revenues benefitted greatly from the fiscal stimulus. Indeed, NTM EPS estimates for the S&P 500 appear to have been flattening out over the past month after a record recovery to levels that are 20% above the prior peak (Exhibit 6). This will be critical to watch as we enter 3Q earnings season and companies update investors on costs/margins and potential payback in demand from the consumption binge earlier this year.

Another way to analyze this rate of change on earnings momentum is to look at earnings revision breadth (or ERB), which Wilson thinks is vulnerable to a simple reversion to the mean from today’s very elevated levels of +2 standard deviations (Exhibit 7). If earnings revision breadth (ERB) normalizes to its average over the next 3 months, the S&P should fall approximately 11%. If the ERB falls toward 1 standard deviation below average, the S&P 500 should fall 19%, and at -2 standard deviations, the S&P 500 falls 27% (Exhibit 8).

  • Second, and as discussed here most recently on Friday, consumer confidence has recently fallen sharply. It started with the University of Michigan survey plummeting in August to lower levels than we witnessed during the entire pandemic and recession last year. While the Conference Board Consumer Confidence Survey remained elevated in July, it saw a big catch up to the downside in August as well. According to Wilson, these surveys are important variables because they have strong positive correlations to the y/y change in the S&P 500. In other words, based on the UMich survey, the S&P 500 appears vulnerable to at least a 10-20% correction if the survey doesn’t improve next month.

Here, Morgan Stanley’s view is that “consumers aren’t as naïve as they are often made out to be. They know the last year has been a bit of a bonanza working from home while receiving stimulus checks from the government that many didn’t need (85% of all Americans received stimulus checks).” Meanwhile, prices of everything are up a lot just as the extra money has stopped going out. That’s a bad combo for sentiment and supports not only our stagflation thesis, but also Morgan Stanley’s expectation of payback in demand view and underweight on Consumer Discretionary stocks, particularly goods-related ones.

Finally, while Wilson concedes that many businesses have done extremely well during the pandemic, “the trends here are also likely to subside” and the best way to gauge the fadiing momentum in businesses will come from the Purchasing Manager Surveys. While earlier this year we reached record highs in many of the subcomponents, much like economic surprise indices and earnings revision breadth measures, the PMIs are mean reverting. Indeed, as Wilson – who used PMI data to cement his mid-cycle thesis – the peak rate of change was in April just as the PMIs peaked as well. Most importantly, as we observed previously, the prices paid component (inverted) leads the headline by approximately 12 months and suggests the decline in the PMIs will likely be worse than typically witnessed during the mid-cycle transition phase – i.e., back toward 50, if not lower (Exhibit 10). This, as Morgan Stanley points out, would imply the Headline PMI is down 10-20% y/y by December: “Given a tight relationship with the y/y change in the S&P 500, the implication is that the S&P could see at least a 10-20% decline over the next 3 months (Exhibit 11).”

Bottom line according to Wilson, the typical “fire” outcome would lead to a modest and healthy 10% correction in the S&P 500, but “the “ice” scenario is starting to look more likely, in our opinion, and could result in a more destructive and unexpected outcome.” As a result, we continue to recommend a barbell of more defensively oriented quality (Healthcare and Staples) to protect from the “ice” scenario while keeping a leg in Financials to participate in the “fire” outcome should higher rates materialize.

Tyler Durden
Mon, 09/20/2021 – 09:36




Author: Tyler Durden

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Economics

Visualizing The World’s Biggest Real Estate Bubbles In 2021

Visualizing The World’s Biggest Real Estate Bubbles In 2021

Identifying real estate bubbles is a tricky business. After all, as Visual Capitalist’s…

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Visualizing The World’s Biggest Real Estate Bubbles In 2021

Identifying real estate bubbles is a tricky business. After all, as Visual Capitalist’s Nick Routley notes, even though many of us “know a bubble when we see it”, we don’t have tangible proof of a bubble until it actually bursts.

And by then, it’s too late.

The map above, based on data from the Real Estate Bubble Index by UBS, serves as an early warning system, evaluating 25 global cities and scoring them based on their bubble risk.

Reading the Signs

Bubbles are hard to distinguish in real-time as investors must judge whether a market’s pricing accurately reflects what will happen in the future. Even so, there are some signs to watch out for.

As one example, a decoupling of prices from local incomes and rents is a common red flag. As well, imbalances in the real economy, such as excessive construction activity and lending can signal a bubble in the making.

With this in mind, which global markets are exhibiting the most bubble risk?

The Geography of Real Estate Bubbles

Europe is home to a number of cities that have extreme bubble risk, with Frankfurt topping the list this year. Germany’s financial hub has seen real home prices rise by 10% per year on average since 2016—the highest rate of all cities evaluated.

Two Canadian cities also find themselves in bubble territory: Toronto and Vancouver. In the former, nearly 30% of purchases in 2021 went to buyers with multiple properties, showing that real estate investment is alive and well. Despite efforts to cool down these hot urban markets, Canadian markets have rebounded and continued their march upward. In fact, over the past three decades, residential home prices in Canada grew at the fastest rates in the G7.

Despite civil unrest and unease over new policies, Hong Kong still has the second highest score in this index. Meanwhile, Dubai is listed as “undervalued” and is the only city in the index with a negative score. Residential prices have trended down for the past six years and are now down nearly 40% from 2014 levels.

Note: The Real Estate Bubble Index does not currently include cities in Mainland China.

Trending Ever Upward

Overheated markets are nothing new, though the COVID-19 pandemic has changed the dynamic of real estate markets.

For years, house price appreciation in city centers was all but guaranteed as construction boomed and people were eager to live an urban lifestyle. Remote work options and office downsizing is changing the value equation for many, and as a result, housing prices in non-urban areas increased faster than in cities for the first time since the 1990s.

Even so, these changing priorities haven’t deflated the real estate market in the world’s global cities. Below are growth rates for 2021 so far, and how that compares to the last five years.

Overall, prices have been trending upward almost everywhere. All but four of the cities above—Milan, Paris, New York, and San Francisco—have had positive growth year-on-year.

Even as real estate bubbles continue to grow, there is an element of uncertainty. Debt-to-income ratios continue to rise, and lending standards, which were relaxed during the pandemic, are tightening once again. Add in the societal shifts occurring right now, and predicting the future of these markets becomes more difficult.

In the short term, we may see what UBS calls “the era of urban outperformance” come to an end.

Tyler Durden
Sat, 10/23/2021 – 22:00

Author: Tyler Durden

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Precious Metals

JPMorgan Turns Positive On Crypto, Sees “A Bullish Outlook For Bitcoin Into Year-End”

JPMorgan Turns Positive On Crypto, Sees "A Bullish Outlook For Bitcoin Into Year-End"

The launch of the first Bitcoin ETF, BITO, even if based…

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JPMorgan Turns Positive On Crypto, Sees “A Bullish Outlook For Bitcoin Into Year-End”

The launch of the first Bitcoin ETF, BITO, even if based on futures, was the culmination of seven years of anticipation for bitcoin bulls and it certainly did not disappoint: the leaks and the actual news propelled the cryptocurrency to a new all time high above $66,000 (with some profit-taking to follow).

Yet despite the clear impact on the price of bitcoin, which has more than doubled from its July lows, not everyone is uniformly bullish on the impact of the first bitcoin ETF. As JPM’s Nick Panigirtzoglou writes in his latest widely-read Flows and Liquidity note, “the bulls are seeing this ETF as a new investment vehicle that would open the avenue for fresh capital to enter bitcoin markets” while the bears “are seeing the new ETF as only incremental addition to an already crowded space of bitcoin investment vehicles including GBTC in the US, ETFs listed in Canada since last February which have been already accessible to US investors, regulated (CME) and unregulated (offshore) futures, and plenty of direct investment options using digital wallets via Coinbase, Square, Paypal, Robinhood etc.”

For its part, JPM – not surprisingly – falls into the skeptics’ camp (we say not surprisingly because for much of 2021, the largest US bank has been publishing bearish note after note, as we have repeatedly detailed, urging clients to ignore the largest cryptocurrency and if anything, to take profits. In retrospect, this has been a catastrophic recommendation for anyone who followed it). 

According to the JPMorgan quant, the launch of BITO by itself will not bring significantly more fresh capital into bitcoin due to “the multitude of investment choices bitcoin investors already have. If the launch of the Purpose Bitcoin ETF (BTCC) last February is a guide, as seen in Figure 1, the initial hype with BITO could fade after a week.”

Here, once again, JPM’s superficial “analytical” approach shines through and we are confident that Panigirtzoglou, who has been dead wrong about bitcoin for the past year, will once again be wrong in his take on BITO. Instead, for a much more nuanced – and accurate – view of the daily happenings in bitcoin ETF land we recommend Bloomberg’s inhouse ETF expert, Eric Balchunas who points to what is clearly an unprecedented, and rising demand for crypto ETF exposure (one can only imagine what will happen when Gensler greenlights an ETF based on the actual product not spread-draining and self-cannibalizing futures). Indeed, as Balchunas pointed out on Thursday, BITO – which is “maybe too popular for its own good”, has already “used up 2/3 of its total bitcoin futures position limits, only about 1,700 contracts ($600m) left bf it hits 5k total. Could hit in next day or two.”

But what about the ramp in bitcoin prices in recent weeks? Surely the anticipation of the ETF launch was the main catalyst? Well, according to JPM the answer is again no, and instead the JPM strategist writes that “while we accept that bitcoin momentum has shifted steeply upwards since the end of September, we are not convinced the anticipation of BITO’s launch was the main reason.”

Instead, as the Greek quant explained before (see “JPMorgan: Institutions Are Rotating Out Of Gold Into Bitcoin As A Better Inflation Hedge“) he believes that rising inflation concerns among investors “has renewed interest in inflation hedges in general, including the use of bitcoin as such a hedge.”

As he further explains, “Bitcoin’s allure as an inflation hedge has been strengthened by the failure of gold to respond in recent weeks to heightened concerns over inflation, behaving more as a real rate proxy rather than inflation hedge.” This is actually correct, and as we have shown previously gold indeed correlates much more closely to real rates that nominals, although in recent months, even real rates suggest that gold prices should be notably higher, perhaps confirming ongoing precious metal price suppression of the kind we have previously documented to be emanating from the BIS.

In any case, JPM also updates a chart we showed previously, the shift away from gold ETFs into bitcoin funds, which was very intense  uring most of Q4 2020 and the beginning of 2021, has gathered pace in recent weeks.

In turn, by putting upward pressure on bitcoin prices, JPM argues that this shift away from gold ETFs into bitcoin funds likely triggered mean reversion  across bitcoin futures investors which had reached very oversold conditions by the end of September. This is shown in Figure 3 via the bank’s position proxy based on CME ethereum futures. Looking at Figure 3, JPMorgan now claims that “there had been a steep decline in our bitcoin futures position proxy” which pointed to oversold conditions towards the end of September triggering a bitcoin rebound. This rebound appears to have accelerated over the past days ahead of BITO’s launch with the blue line in Figure 1 fully recapturing all the previous months’ unwinding. In other words, the price ramp into the bitcoin ETF launch was just a coincidence. Yeah right, whatever.

Where JPM is however right, is in its assumption that a significant component of bitcoin futures positioning encompasses momentum traders such as CTAs and quantitative crypto funds. Previously, the bank had argued that the failure of bitcoin to break above the $60k threshold would see momentum signals turn mechanically more bearish and induce further position unwinds; it also claims this has likely been a significant factor in the correction last May in pushing CTAs and other momentum-based investors towards cutting positions. At the end of July, these momentum signals approached oversold territory at the end of July and have been rising since then in reversal to last May-July dynamics. The shor-tterm momentum signal has exceeded 1.5x stdevs, a z-score that we would typically characterize as overbought for other asset classes but still below the exuberant momentum levels of January 2021.

So with both With Figure 3 and Figure 4 pointing to exhaustion of short covering and more crowded bitcoin positioning in futures, Panigirtzoglou sees bitcoin relying more on other flows outside futures to sustain its upswing. To him, this elevates the importance of monitoring Figure 2, i.e. the importance for the current shift away from gold ETFs into bitcoin funds to continue for the current bitcoin upswing to be sustained.

In our opinion, the main problem for bitcoin over the previous two quarters had been the absence of significantly more fresh capital as shown in Figure 5 and Figure 6. Figure 5 shows our estimate of retail and institutional flows into bitcoin with an overall downshift in Q2 and Q3 of this year. Similarly, Figure 6 shows that the previous steepening in the pace of unique bitcoin wallet creation has largely normalized returning to pre-Q4 2020 norms, again implying an absence of significantly more fresh capital entering bitcoin.

And yet, despite this latest (erroneous) attempt to downplay the impact of the bitcoin ETF, which JPMorgan says “is unlikely to trigger a new phase of significantly more fresh capital entering bitcoin”, by now too many JPM clients are invested in the crypto asset as Jamie Dimon (whose opinions on bitcoin have been an absolute disaster for anyone who traded on them) recently admitted, and so while tactically staying bearish on the impact of BITO, not even JPM’s house crypto “expert” can objective stay bearish in general, and as he concludes, “istead, we believe the perception of bitcoin as a better inflation hedge than gold is the main reason for the current upswing, triggering a shift away from gold ETFs into bitcoin funds since September.”

So with Bitcoin now perceived as the best inflation hedge among non-traditional assets, Pnaigirtzoglou concludes that this gold to bitcoin flow shift “remains intact supporting a bullish outlook for bitcoin into year-end.”

 

Tyler Durden
Sat, 10/23/2021 – 19:10


Author: Tyler Durden

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Economics

Different CPIs

A recent exchange [1] on Econbrowser regarding forecasts of CPI reminded me that — even among the official series — there’s more than one CPI. Figure…

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A recent exchange [1] on Econbrowser regarding forecasts of CPI reminded me that — even among the official series — there’s more than one CPI.

Figure 1: CPI-all urban (blue), and CPI-wage earners and clerical workers (red), s.a., in logs 2020M02=0. NBER defined recession dates shaded gray. Source: BLS, NBER and authors calculations.

 

Figure 2: Year-on-year inflation rates for CPI-all urban (blue), and CPI-wage earners and clerical workers (red), s.a., calculated as log-differences. NBER defined recession dates shaded gray. Source: BLS, NBER and authors calculations.

Inflation for the bundle that wage earners/clerical workers has outpaced that for all-urban, by about 0.6 ppts by September.

Interestingly, the weights for the two CPI bundles indicate that wage earners/clerical workers have a higher weight on food, food away from home, and private transportation, and less weight on housing, than all urban consumers. As elevated housing costs feed into the CPI housing components, the places might switch.

Author: Menzie Chinn

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