GameStop - Game Over

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Market observers and participants have been temporarily distracted in the past week by the battle between Reddit’s plucky retail investors and lazy short-selling hedge funds over the fate of Game Stop (GME). It won’t be the last time the world stops to watch such an event in the same way that people, who would otherwise never watch a race, are glued to the screen when F1 drivers crash into the barrier or each other. Pundits have tried to turn this into more than it is, but until people turn up with actual pitchforks in front of Mr. Griffin’s $60M penthouse pad in Chicago, I am inclined to side with George Pearkes’ take on the matter; move on, nothing (much) to see . People with time on their hands, and a stimulus cheque(?), have decided to take a punt. On the face of it, they have been successful, but most will have bought and sold too late to avoid the gut-wrenching losses that are all but inevitable in the context of the kind of volatility, which GameStop has exhibited recently. 

Meanwhile in the boring and dusty world of global macro trading, investors’ eyes are still focused on the long bond in the U.S., where it is, or isn’t, going, and what this means for other asset classes, the economy, not to mention the Fed’s reaction function? Friday’s NFP report was, as ever, a case in point. A hot report would, I suspect, have driven the 10-year yield above 1.2%, and while yields fell in response to Gazelle2299the actual number—a consensus undershooting 49K—commentators were quick to point out that the worse the economic data, the more aggressive the fiscal stimulus. This latter dynamic, obviously, ought to drive yields higher.

Put differently, investors are still trying to put numbers on the idea of “reflation”, what it means for the long bond—factoring in a front-end that’s pinned to the floor—and other asset classes. The consensus seems to be that long-term yields won’t be allowed to increase too far too fast, and that the Fed won't lift short-term interest rates anytime soon.

Both assumptions probably are correct, but look closer and markets are already grinding away at them. The first chart on the next page shows that the yield curve—adjusted for strong forward guidance holding down the front-end—is still steepening. The 2s5s is now as wide as it was in 2016, with the difference between the 2s5s and 2s10s pushing 2014 levels. The second chart shows that markets are pricing in lift-off in the Fed funds rate by 2023.

There are two ways that these trends can reverse. In the first instance, the Fed decides that enough is enough, and tries to lean on the long-end, either via outright purchases, or more strenuous communication. The second is that fundamentals bring it to a halt. A steepening curve, in an environment where short-term rates are locked, has an inbuilt correction mechanism via the increasingly attractive roll and carry. Private investors will eventually buy that carry, and it’s possible that the Fed is happy to let markets evolve accordingly.

As far as macroeconomic fundamentals are concerned, Simon Ward’s recent missive suggests that the reflation story is getting stale. He presents evidence to the fact that global manufacturing is now losing momentum, and points to stretched stock-to-bond returns. If Simon is right, the 10y is a buy. I am partial to this conclusion, though we shouldn’t lose sight of the main indicator, inflation, and what markets and policymakers would do if it came around, even temporarily. As it turns out, we might be about to find out.


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Adam Reynolds 3 weeks ago Member's comment

Nah, don't think so.

Bill Johnson 3 weeks ago Member's comment

Good read, thank you for sharing.