Once upon a time the Fed said they would cut interest rates. So Wall Street went ALL IN…
What we have learned since 2008 is that monetary policy does not have unlimited power over markets, but it does have unlimited power over the imagination of 8 billion gamblers. Therefore, until such time as the last fool is found, it can indeed appear as if monetary policy is unlimited. If the powers of monetary policy were unlimited, then China which has been easing all of 2023 would NOT have the weakest stock market in the world right now. And Japan which has been easing for the better part of three decades would not STILL be below the 1990 high.
Therefore, it's ironic that Japan is finally moving away from negative interest rates which have been in place since 2007, which will put to test my theory that monetary divergence - now going in the exact opposite direction - will cause the $3 trillion Yen carry trade which accumulated while U.S. rates were rising, to explode as it did in 1998.
Ignored Risk: Exhibit A.
In the U.S., the belief that only monetary policy matters and all risks should be ignored grew out of the 2008 bailout and the attendant ten year span of 0% interest rates. That faith in monetary policy was reinforced again during the pandemic. Central banks have magical powers to bail everyone out. Investors seem to forget that both of those events came along with explicit government assurances that all bank depositors - insured or uninsured - would be made 100% whole. Something that the FDIC itself has already stated would be TOO EXPENSIVE to repeat in the future:
FDIC (May, 2023): Options for Deposit Insurance Reform
"Following the 2008–2013 banking crisis, the reliance by the U.S. banking system on uninsured deposits grew dramatically, both in dollar volume and as a proportion of overall deposit funding.20 From year-end 2009 through year-end 2022, uninsured domestic deposits at FDIC-institutions increased at an annualized rate of 9.8 percent, from $2.3 trillion to $7.7 trillion"
Ignored Risk: Exhibit B
Banks are now three wave corrective over the Spring (Feb '23) bank run. Shorts have covered on the belief that the worst is over. When in fact the worst has not even started yet.
Another key risk factor that giddy investors seem to forget is that home prices usually decline when interest rates are coming down. Whether that is correlation or causation is up for debate. However, clearly declining interest rates attend a weakening economy and the housing market is highly sensitive to overall economic activity.
Ignored Risk: Exhibit C.
As a fourth risk I would point out that this is the SECOND Dow Theory Non-confirmation that investors are buying in three years. And we all know how the last one worked out. Essentially what happened was that investors became more bullish over the course of 2019 as the Fed moved from pivot to full on easing. Which is why when the pandemic struck, they were maximum levered to risk.
The 2024 risks that are "invisible" now to bulls are invisible as the pandemic was in late 2019.
Ignored Risk: Exhibit D. Dow Theory confirmation requires that the Dow Transports make a new high to confirm the Dow Industrials new high. As we see, the Transports are a long way from confirming the Dow. In addition, the Nasdaq, S&P 500 and of course Russell 2000 have not confirmed the Dow either. As a reminder, the Dow is the ONLY price weighted index, so it is not representative of market cap.
In summary, if you think that this divergence between investor fantasy and global reality has a happy ending in 2024, then indeed ignore all risk and go ALL IN. And then you will realize the hard way that in an Idiocracy, there is no strength in numbers.
"Check out the performance of the “Magnificent Seven” compared to the rest of the S&P 500 Index since the beginning of the year...the Mag 7 has done +71%, and the rest of the S&P 500 stocks have managed just 6%!"
These levels of concentration are unlike anything we’ve seen before — even the late ‘90s dot-com bubble doesn’t compare"
And it’s all happening because investors from all over the world keep chasing the same Big Tech higher and higher"
Ignored Risk: Exhibit E and F.
