“Taking into account the terrorist act by the Kyiv regime with the participation of British experts against the ships of the Black Sea Fleet and civilian vessels involved in ensuring the security of the grain corridor, the Russian side suspends participation in the implementation of agreements on the export of agricultural products from Ukrainian ports,” announced Russia’s Ministry of Defense on Saturday. Sixteen aerial and maritime drones had attacked Putin’s Black Sea fleet. “The preparation of this terrorist act and the training of military personnel of 73rd Marine Special Operations Center were carried out under supervision of British specialists in the city of Ochakov, Nikolayev region in Ukraine,” continued the Ministry, further accusing the British Navy of being behind the September Nord Stream pipeline attacks. The British Defense Ministry responded with the following: “To distract from their disastrous handling of the illegal invasion of Ukraine, the Russian Ministry of Defense is resorting to peddling false claims of an epic scale.” Video of the drone attacks went viral, but unsurprisingly provided no direct evidence of UK involvement. We may never know whether the British were involved. Just like we may never know whether Covid-19 leaked from a Chinese lab. At the time, it seemed to many reasonable people to be the most likely explanation. But we were told that it categorically was not. Until this week, when a US Senate report confirmed that, “It appears reasonable to conclude that the COVID-19 pandemic was, more likely than not, the result of a research-related incident.” Naturally, none of this matters to the millions who died of Covid. Or to the millions who will die of starvation due to the Ukraine conflict and its associated supply chain disruptions. It will only matter in a year or two, when starving refugees flood into Europe from the Middle East and North Africa. And for those of us paid to invest, the thing that matters most is that the world’s most heavily armed governments are becoming explicitly hostile toward one another. Stirring up their citizens, who no longer know what to believe.
Week-in-Review (expressed in YoY terms): Mon: Sunak to be next UK PM, MOF intervenes in USDJPY again, Russian defense minister says Ukraine is prepared to use a “dirty bomb”, Chinese equities plunge after Xi consolidates power at Party Congress, China 3Q GDP 3.9% (3.3%e) / IP 6.3% (4.8%e) / ret sales 2.5% (3%e) / expts (5.7% (4%e) / impts 0.3% (0.0%e), EU mfg PMI 46.6 (47.9e) / serv 48.2 as exp / comp PMI 47.1 (47.6e), UK mfg PMI 45.8 (48e) / serv 47.5 (49e) / comp 47.2 (48e), US Chicago Fed activity 0.10 (-0.10e), US mfg PMI 49.9 (51e) / serv 46.6 (49.5e) / comp 47.3 (49.2e), S&P +1.2%; Tue: USDCNH weakest fix in 14 years / PBOC contacted local banks to discuss their FX positioning, Hunt to remain as Chancellor in UK, Germany IFO business climate 84.3 (83.5e), Mexico eco activity 5.69% (3.1%e), Brazil IPCA infl 6.85% (6.78%e), US Case Shiller Home prices 13.08% (14%e), US cons conf 102.5 (105.9e), US Richmond Fed -10 (-5e), S&P +1.6%; Wed: BoC hikes 50bp (75-100bp expected), PBOC rumored to be intervening to stop CNH from weakening, BCB left rates unch as exp, META misses expectations, Meloni rumored to consider EUR 10b new assistance package, Musk refutes rumor that he plans to cut 75% of TWTR jobs, Japan PPI services 2.1% as exp, Australia CPI 7.3% (7%e) / trimmed mean CPI 6.1% (5.5%e), France cons conf 82 (77e), EU M3 6.3% (6%e), US new home sales 603k (580k exp) / -10.9% MoM (-15.3%e), Russia IP -3.1% (-1.4%e), S&P -0.7%; Thur: ECB hikes 75bp (as exp) / adjusts TLTRO as exp / comes across as dovish bc drops ref to hiking at ‘several’ more meetings, AMZN and AAPL both miss, US Q3 GDP 2.6% (2.4%e) – but all driven by trade with flat domestic demand, Xi says willing to work with US to find ways ot cooperate, EU to ban combustion engine cars from 2035, S. Korea 3Q GDP 3.1% (3%e), Germany cons conf -41.9 (-42.3e), Turkey trade balance -9.6b (-10.4b exp), Italy cons conf 90.1 (-93.5e), S. Africa PPI 16.3% (15.6%e), Mexico unemp 3.34% (3.5%e), Brazil unemp 8.7% as exp, US durable goods 0.4% MoM (0.6%e), US init claims 217k (220k exp), US KC Fed -7 (-2 exp), S&P -0.6%; Fri: BOJ maintains current easy monetary policy as exp / core CPI forecast raised but still below 2% target for 2023 and beyond, Japan PM Kishida unveiled new $200b stimulus package, Russia CB unch as exp, Chinese regulator says ‘people who sell RMB now will regret it’, Nancy Pelosi husband hospitalized after home invasion attack, Japan Tokyo CPI 3.5% (3.3%e) / core CPI 2.2% (2%e), Japan jobless rate 2.6% (2.5%e), Australia 3Q PPI 6.4% (5.6%p), France cons spending -3% (-3.2%e), France 3Q GDP 1% as exp / CPI 7.1% (6.5%e), Italy PPI 53% (50.5%p), Germany 3Q GDP 1.2% (0.7%e), EU economic conf 92.5 (92.4e), Italy CPI 12.8% (9.9%e), Germany CPI 11.6% (10.9%e), US emp cost index 1.2% for 3Q as exp, US PCE 6.2% (6.3%e) / Core PCE 5.1% (5.2%e), US pending home sales -10.2% MoM (-4%e), US UofM final 59.9 (59.6e) / 1y infl exp 5% (5.1%e) / 5-10y infl exp 2.9% as exp, S&P +2.5%.
Weekly Close: S&P 500 +4.0% and VIX -3.71 at +25.98. Nikkei +0.8%, Shanghai -4.0%, Euro Stoxx +3.7%, Bovespa -4.8%, MSCI World +2.5%, and MSCI Emerging -0.6%. USD rose +2.4% vs Brazil, +0.3% vs South Africa, +0.3% vs China, flat vs Turkey, and flat vs Russia. USD fell -16.4% vs Ethereum, -7.1% vs Bitcoin, -3.0% vs Chile, -2.7% vs Sterling, -2.0% vs Sweden, -1.0% vs Euro, -0.7% vs Mexico, -0.5% vs Indonesia, -0.5% vs Australia, -0.3% vs Canada, -0.3% vs India, and -0.1% vs Yen. Gold -0.5%, Silver +0.7%, Oil +3.7%, Copper -1.1%, Iron Ore -8.7%, Corn -0.7%. 5y5y inflation swaps (EU +2bps at 2.36%, US -1bp at 2.64%, JP -4bps at 0.89%, and UK -5bps at 3.57%). 2yr Notes -6bps at 4.41% and 10yr Notes -21bps at 4.01%.
YTD Equity Indexes (high-to-low): Turkey +48.6% priced in US dollars (+108.8% priced in lira), UAE +21.2% priced in US dollars (+21.2% priced in dirham), Argentina +16.6% priced in dollars (+77.1% in pesos), Brazil +13.8% in dollars (+9.3% in reais), Chile +8.6% (+20.6%), Saudi Arabia +3.7% (+3.8%), Indonesia -1.8% (+7.2%), Mexico -5.1% (-8%), Singapore -6.6% (-2.1%), India -7.3% (+2.5%), Portugal -10.2% (+2.9%), Norway -14% (+1.1%), Venezuela -14.3% (+53.8%), Canada -14.8% (-8.3%), Thailand -15% (-3.1%), Greece -15.6% (-3.6%), Israel -15.8% (-4.8%), Russell -17.7%, S&P 500 -18.2%, UK -18.3% (-4.6%), Malaysia -18.7% (-7.7%), Australia -19.7% (-8.9%), Spain -20.2% (-9.1%), MSCI World -21.9% priced in US dollars, South Africa -21.9% (-11%), Denmark -22.3% (-11.4%), Switzerland -23.2% (-16.3%), France -23.4% (-12.3%), Philippines -24% (-13.6%), Czech Republic -25.7% (-17%), Japan -26.6% (-5.9%), Euro Stoxx 50 -26.6% (-15.9%), Germany -26.8% (-16.6%), Netherlands -27% (-16.3%), Colombia -27.4% (-13.6%), Italy -27.6% (-17.6%), New Zealand -27.7% (-14.6%), Belgium -28% (-17.6%), Ireland -28.4% (-18%), NASDAQ -29%, Finland -29.2% (-19.4%), China -29.8% (-19.9%), Russia -30.4% (-42.8%), Sweden -32.7% (-18.4%), Austria -33.3% (-24%), Hungary -36.3% (-19.1%), Korea -36.3% (-23.8%), HK -36.9% (-36.5%), Poland -38.9% (-28.5%), Taiwan -39.6% (-29.8%).
Different: “The baseline expectation should be that the market pricing is generally right, and the mental model that served us well during every market cycle in recent decades remains the right framework today,” I said, seven of us taking turns, sharing market views. “In that model, the Fed will hike to somewhere between 4.50%-5.50% and keep rates there until something breaks, at which point inflation declines, capacity constraints ease, markets puke, and within weeks or months, a new cycle begins.” We were exploring how this time might be different.
Different II: “But the preconditions for this cycle are wildly different from those we’ve experienced in our careers, dating all the way back to the 1980s. Heading into the 2020 downturn, monetary policy had lost its effectiveness. Rate cuts and QE were no longer able to stimulate the real economy, even if they could still lift asset prices. But unlike in previous cycles, higher asset prices produced very limited wealth effects, and instead amplified inequality, which itself had become a new kind of economic headwind and a growing political crisis.”
Different III: “A post-war trend of deepening globalization was also reversing as we entered the pandemic. And the world was entering a period of rising geopolitical hostility. The pandemic spurred a massive fiscal stimulus, and this required proactive politicians. They had been absent for decades, neglecting to address our growing problems, like climate change, infrastructure, and inequality. With the rising post-pandemic international conflict, these same politicians now must also address inadequate military spending and the re-shoring of strategic industries.”
Different IV: “Naturally, this has spurred inflation unlike anything seen in decades. But will it sustainably subside as it has in every previous cycle? It seems unlikely. The government needs to unburden itself from excessive debts and entitlement obligations. With potential GDP growth of 1-2% per year, the only practical way to do this is by growing nominal GDP at very high rates. This year, for example, nominal GDP grew at a +7.26% annualized rate while real GDP stagnated at a -0.10% rate. That seems like a decent outcome for the government.”
Different V: “So maybe we have years of high and volatile inflation as the global economy deglobalizes, re-shoring production, which is by nature a process of increasing redundancy while losing efficiency. That will keep certain supplies relatively low, and demand for certain inputs high. Whenever there is an economic slowdown, the government will borrow and spend more, putting labor to work on the numerous causes which we deem vital: climate, infrastructure, defense, strategic reshoring, inequality. And such capital allocation will be inefficient.”
Different VI: “It’s pretty easy to imagine the economy becoming rather dysfunctional if this is how it operates in the years ahead. The inefficiencies will drive continued inflation, which will hurt the baby boomers most, and this will narrow the inequality between young and old. It will hurt people with financial assets, narrowing inequality between rich and poor. And it will inflate away government debt and entitlements, which is far too high and requires a reboot similar to what we faced after the last world war. All these things kind of seem inevitable.”
Different VII: “We won’t know for years whether this new mental model for what to expect looking forward is in fact the right framework. So much will depend on politicians, policy, geopolitics, and how it all interacts with inflation. How this affects inflation expectations, which no one fully understands in a fiat world, and which have finally started to become unanchored, will also be critical. What we must do, is look out for things in this cycle that behave differently from what our old models suggest. The more persistent the surprises, the more likely it is that this different model should become our baseline.”
Anecdote: We ran an internal exercise at One River this week which included exploring our individual strengths and weaknesses. Often the former is also the latter. I’ve always wanted to lead an exceptional life, without ever quite pinning down what that means. In my teens I focused on sports, fighting my way onto the field in college. In my twenties, I took crazy risks, in my career, in markets, on motorcycles. Late one night I climbed the Bronx-Whitestone Bridge, watched the sunrise. At thirty, I moved to the Alps to mountaineer. People said it was career suicide, which made me want to do it more. It was there I gained an appreciation for taking measured, smarter risks. And reaped a lifetime of rewards. Then it was back to markets, business, mostly entrepreneurial, twenty-five years of successes, failures. Honestly, it’s been brutal, excruciating, beautiful, exhilarating. A few times it almost broke me, and there’s still time left. Through it all, I developed an ability to stay calm when facing abnormal levels of uncertainty and stress, in business, markets, life. Without exposing ourselves to these things, and without confronting failure, it is not possible to lead an exceptional life, no matter how we may individually define that. Believing otherwise is to have succumbed to an illusion. So I keep pressing, and this is probably, at its core, the source of my greatest strength. Naturally, I want the people I care most about to experience these same things on their life journeys. So I push hard to expose them to risk, uncertainty, and refuse to shield them from the accompanying pain. My approach is often hard on those relationships. And to make matters worse, when things get extremely difficult in life and business, I tend to get very calm. This can make the people I love feel like I don’t really care, or that I lack compassion, when in fact, it is exactly the opposite. And an inability to convince them otherwise is one of my many weaknesses.
Good luck out there,
Chief Investment Officer
One River Asset Management
Disclaimer: All characters and events contained herein are entirely fictional. Even those things that appear based on real people and actual events are products of the author’s imagination. Any similarity is merely coincidental. The numbers are unreliable. The statistics too. Consequently, this message does not contain any investment recommendation, advice, or solicitation of any sort for any product, fund or service. The views expressed are strictly those of the author, even if often times they are not actually views held by the author, or directly contradict those views genuinely held by the author. And the views may certainly differ from those of any firm or person that the author may advise, converse with, or otherwise be associated with. Lastly, any inappropriate language, innuendo or dark humor contained herein is not specifically intended to offend the reader. And besides, nothing could possibly be more offensive than the real-life actions of the inept policy makers, corrupt elected leaders and short, paranoid dictators who infest our little planet. Yet we suffer their indignities every day. Oh yeah, past performance is not indicative of future returns.