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The Observatory is how we systematically track the evolution of financial markets and the US economy in real-time. Without further ado, let’s dive into what our systems are telling us:
Markets: Last week, equity markets bounced considerably into the end of the week, and cross-asset pricing generally reversed the recent trend of surging inflation. These moves create opportunities for our systems, as they continue to estimate we are in (+) G (+) I regime, with significant emphasis on the rising inflation component. Resultantly, these moves have created opportunities across the board to add exposures, with our Alpha generation strategy picking up positions across assets. Additionally, our system's fundamental estimate of growth and inflation supports these views, compounding the signal we should take. Conditions continue to align for a regime shift.
To summarize our systems' current assessment: Our Market Regime Monitors show that we have started the week once again in (+) G (+) I; though (-) G (+) I has dominated the month of February. Our Momentum Monitors continue to flag that cross-asset momentum favors inflation. The market-implied probability of (-) G (+) I has recently risen sharply, increasing the potential for a regime shift. Gold and Commodities remain well supported during both (+) G (+) I or (-) G (+) I. Consequently, our systems tell us that the best opportunities are LONG Bonds, Gold, Cotton, Lean Hogs, Live Cattle & Sugar, and Short: Communications. However, our Risk Management Monitors indicate that we can ADD to LONG: Bonds, Communications, Lean Hogs, Live Cattle, Sugar, and SHORT: Communications. We can REDUCE our LONG: Gold & Cotton. Our Expected Return Strategy is LONG: Bonds, Gold, Cotton, Lean Hogs & Sugar, and SHORT: Communications.
Macro: Consensus currently estimates that US GDP for 2022 will be approximately 3.7%, and CPI will be 5%.1, on a YoY% basis. Our systems tell us that both these measures are highly elevated relative to what is likely to transpire. While Q1 GDP estimates have already been lower significantly, there remains room for the rest of the year to weigh on economic momentum.
To summarize our systems' current assessment: Slowdowns from our Liquidity Indices are beginning to show themselves in Growth data. Since September 2021, our systems have called for a material GDP growth slowdown in March-April 2022. Further, they estimate that CPI will slow from its currently torrid pace. These moves are highly likely and show little sensitivity to our various stress-test scenarios. However, there is likely to be a window of time during which growth falls faster than Inflation, creating a window for (-) G (+) I before an eventual transition to (-) G (-) I.
The future is dynamic, and our systems adjust as new information is available. Our bias is to allocate for the existing regime while trying to peek around the corner to what the future may hold. Finally, we optimize these views to minimize portfolio risk, resulting in our trading signals. We show all this in the document below.
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