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S&P 500 still didn‘t catch second breath since giving up the (for some but not for you, my readers) sharp Dec CPI gains, and getting finished by Powell and the tightening spree continuation around the world (ECB, BoE, SNB) – dashing all hopes of Santa Claus rally. Similarly, the BoJ admissible rates move didn‘t help. Today‘s analysis is going to be a very special one as I‘ll concentrate on the key 2022 developments shaping up the investing and trading landscape of 2023 – across the many markets on my watch, all naturally intertwined with macroeconomics and economic policy notes.

True, inflation has peaked, but I had been telling you earlier in summer that it‘s going to be sticky and stubborn, better to expect only a shallow retreat that would go painfully slow. And PPI incl. core data show that‘s still the case, with more inflation in the pipeline. The Fed has been and will be forced to take Fed funds rate restrictive, and the figure wouldn‘t be 5%, but rather 5.50% – if they get there before breaking the real economy, which I doubt they would be able to avoid. Actually, it‘s the hopes of tightening breaking something far away that would force the Fed to pivot without any real damage washing across the U.S. shores, that forms the Moynihan bullish case for stocks which I argued and refuted some two weeks ago.

The Fed is going to be frustrated by persistent inflation, commodities retreating no more, and both hot job market with wage inflation running hot, participation rate turning lower (not only for males), and unemployment claims slowly trending up. We‘ll continue witnessing cost-push inflation combined with tight labor market – and it would be crude oil‘s time again to gain in value from current levels. I think that apart from long-term share purchases slated for the start of the year, it‘ll be Jan 2023 inflation data would be the catalyst for stock market‘s good month, whereby we would make a peak, quite consistently with the 3rd Presidential cycle year pattern.

Remember, all of the above is set to squeeze profit margins, leading to lower earnings and guidance. Similarly, on the non-corporate front, the consumer confidence data would turn south after the Dec outperformance, which would then reflect upon retail sales, worsening credit, and deliquencies. If in doubt, have a look at e.g. used car prices, which were also one of the key drivers of retreating inflation lately. Yes, the consumer is going to get squeezed as well, it‘s not just about deflating housing and sharply going down manufacturing as recent data have shown.

Notably, I‘m not arguing for a housing crash, but for a solid, long-lasting (18 months?) and well-managed (by the Fed as housing is the first leading indicator to get changing nominal rates – and of course mortgage rates, which have bottomed quite a while ago already, worldwide) retreat in peak to through housing values of say 20%.

So, we‘re firmly on the countdown to recession, which is in several sectors already here but will strike with full force in 1H 2023. Yes, it‘s the coming six months that would illustrate in stocks what we have seen internationally in bonds – just compare the magnitude of retreat in U.S. yields to that seen in European bonds or UK gilts. Have a look at lumber, home sales or housing starts taking it on the chin if you doubt the housing market‘s direction.

This time, the Fed doesn‘t have your back and is willing to (over)tighten. See again my extensive early Dec analysis where I talked about tightening into a slowing economy, and especially the balance sheet operations – $90bn a month being retired while the foreigners have largely stepped away from rotating trading surpluses into Treasuries, now that those surpluses are gone (Europe, Japan). With the Fed away, who is going to step in, and at what price? Just as the persistent and on-par for record books yield curve inversion (flashing red hot about the approaching recession for a long time already), yields are to continue trending higher, putting extra pressures on the corporate front (the cost of capital cutting into profits).

For now, higher yields aren‘t an issue for the Treasury as only $2T needs to be rolled over every year, roughly speaking. If though 4 or 5 years down the road yields were to remain this high, that would be a problem. Remember that we‘re in the era of the end of cheap labor, end of cheap energy, and end of cheap goods – and that it takes on average 10 years to change the secular characteristics of inflation. The Fed has a long, long way to go – and I‘m seeing plenty of headwinds to take down risk assets beyond what I already mentioned – see reverse repos and banking reserves coupled with the Treasury issuing much fresh debt. Not good for stocks or bonds – not at all good.

And you can see it perfectly in junk corporate bonds and Treasuries suffering as the Fed had killed the bond market rally in Dec. 60/40 is dead, and 2023 would bring fresh troubles for both. You can hide in cash, seeing it eaten away by inflation – and anticipate good buying opportunities (the market of pickers) when there is blood in the streets, or take a more active approach.

What are then the best themes for 2023?

(…) I continue being bullish on silver with gold incl. miners, energy ranging from oil to renewables to nuclear, agriculture (incl. fertilizers, $DE), defence sector with aerospace (BA etc). These will benefit during the increased volatility and sticky inflation to be with us in 2023 and beyond.

Sectorally, healthcare wouldn‘t do that bad (XLV, XBI) and my pick from months ago, LLY, continues doing great.

I‘m also bullish oil stocks (XOM, SLB), copper, nickel, lithium, cobalt. This is the decade of resources, necessities of life, precious metals, and disruptive technologies while general Nasdaq troubles are to continue. Just check the Nasdaq to oil ratio for clarity.

Circling back to bonds, hear not only the repercussions on yen carry trade (the dreaded unwinds), but also what the 2-year yield is telling the Fed – you‘re done tightening, if you do more, things will start to break. See again my latest extensive pre-Christmas article where not only the above but the deceptive picture of strength in the job market that the Fed is relying on. However, there is none as:

(…) the differential between Establishment and Household surveys continues to widen, now standing at 2.7 million jobs (Nov 2022), be it thanks to full time, part time or multiple job holders, or the birth-death model. For all the labor market tightness, and the categories seeing gains (sectorally not representing a picture of strength, but rather teetering on the brink of recession), the Fed is in my view relying on a deceptive picture of strength in the job market when the opposite is slowly becoming the truth.

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