"A lot of my work is a matter of reacting to surprises in life." - Alexander Wang
The S&P 500 (SPY) and bonds around the world rallied as investors cheered the Fed's "surprise" decision to not taper its quantitative easing program which was highly expected to occur. On CNBC the day prior to the FOMC decision, I made it a point that the main thing to focus on was if the Fed acknowledged the yield spike which for several months we have been addressing as a major concern for markets and the economy. Bernanke explicitly referenced "tighter financial conditions" which is code for just that. This, combined with renewed speculation that dovish Janet Yellen may head up the Fed next year, seems to have sent bond bears (TBT) running away for now.
The non-taper decision is not a surprise from our perspective, and takes off the table some of the risks of a 1987-style repeat given that the bond market appears to be on the verge of reversing its significant overreaction. The 10 year yield (IEF) went from touching 3% to 2.73% in the blink of an eye. Inflation expectations ticked up, and emerging markets continued their melt-up. Our ATAC models used for managing our mutual fund and separate accounts continue to indicate that enormous potential remains for a mean reversion trade in the BRICs, with many still down on a year-to-date basis. I will be live on Bloomberg co-hosting from 3-4 PM EST Monday providing new perspectives which support the idea that emerging markets and inflation expectations are now one and the same. I will also aggressively stress why 2013 is an outlier factually.
US stocks and bond yields have priced in reflation which has not happened. There are two extreme ways this can be resolved. The first is through a downward resync of both to inflation expectations. The second is through inflation expectations (IPE) rising as US assets consolidate. If the latter scenario is what takes place, the Dollar falls and emerging markets stand to benefit the most. Indeed on a relative ratio basis the trend of strength look early, and from an intermarket standpoint is classic given negativity and many under the impression that a "crisis" is happening. When extreme negativity and disconnects meet with rotational leadership, significant movements can occur, and fast.
The ultimate contrarian scenario is a faltering US stock market, falling yields, and rising emerging market stocks (GMM). All three of these are corrections in their own ways. US stocks might begin to question just how strong the economy is given the Fed's inaction this week. Falling yields might occur on the long-end of the Treasury curve as spreads narrow, correction false taper expectations. Emerging markets could rise to correct for crisis pricing. Every single correction is exploitable for macro, absolute return managers such as ourselves.
We continue to be excited by the future, although we really hate the fact that for many more months the word "taper" will continue to be so popular…
Additional disclosure: This writing is for informational purposes only and does not constitute an offer to sell, a solicitation to buy, or a recommendation regarding any securities transaction, or as an offer to provide advisory or other services by Pension Partners, LLC in any jurisdiction in which such offer, solicitation, purchase or sale would be unlawful under the securities laws of such jurisdiction. The information contained in this writing should not be construed as financial or investment advice on any subject matter. Pension Partners, LLC expressly disclaims all liability in respect to actions taken based on any or all of the information on this writing.