Who Do You Trust More: OPEC or Stock Traders?
Market analysis, like so many other things in life, comes down to trust. Traditionally, that is more of an issue with technical analysis than fundamental: Which technical signals or indicators do you trust and to what degree? After all, charts are open to interpretation, and if you look hard enough, you can usually justify both bullish and bearish views with the same chart based on which patterns you highlight.
Traders, therefore, pay attention to the ones that their experiences have taught them to trust. On the other hand, fundamental analysis is, in theory, simpler and effectively trustless. Economists generally believe that the numbers are the numbers, and they can be objectively analyzed to show the current situation. That can then be used to arrive at an unbiased forecast for the future. However, right now in the U.S., it isn’t that simple.
There are conflicting signals at every level, and rather than clearing things up, the picture seems to be getting murkier all the time. On Friday, for example, we saw a jobs report that indicated continued economic strength, then woke up this morning to the news that the Saudis have decided to cut their oil output. That is something they normally do to support prices, but if the economy is still showing strength and a soft landing is now a distinct possibility, why would they do that? Do they know something we don’t know about a coming recession?
Maybe they do, and if so, it is partly a product of the broadness of their view and the narrowness of ours. It is too easy to forget, despite its strength, that America accounts for only around 15 percent of the global GDP. Things here in the States can be fine, but for a commodity like oil that relies on global demand, that might not matter if the other eighty-five percent of the world economy is feeling the pinch. If that is the explanation for this morning’s seemingly confusing news, then it may help to explain another side of the market, the Federal Reserve, and why the market is anticipating no rate increase this time around.
The Fed will meet next week to decide on whether or not to hike rates again, and the chatter about what they will do has changed significantly in the last week or so. Until recently, almost everyone was convinced that they should pause this month, but that is beginning to change. That strong jobs report and other data that show continued economic strength have begun to increase the talk of another 25 basis point hike. To this point, that looks like just talk, though.
The CME Group’s FedWatch Tool shows that the market is currently pricing in a 77% chance of no hike this month, so bond traders clearly don’t buy into the “one more hike” idea. They know that while the Fed is mandated to care only about the U.S., that central bankers are aware their actions both influence and are influenced by things beyond the border, and that continuing to raise rates in response to persistent domestic inflation while the rest of the world is wobbling could have nasty consequences.
For investors, though, it is “wait and see” time. There is still a chance that the Fed will institute another 25 basis point hike next week. If they do, a market that has now priced in a pause will react badly. Even if the doves win out at this meeting, there could still be a significant move down in stocks if Jay Powell does indicate that global weakness is a concern.
There are mixed messages about the Fed’s intentions and the state of the economy. So, once again, it comes down to trust. Do you trust the analysis of the Saudis and OPEC, who seem to believe that oil demand is about to plateau at best and maybe even decline? Or do you trust U.S. stock traders, who have pushed the Nasdaq up well over thirty percent year-to-date in the belief that the Fed has got it right, and that inflation can be tamed without any pain?
Although I am loath to admit it, history suggests that on this point at least, the Saudis are more likely to be correct than traders. OPEC countries get these calls right more often than not; inflation is rarely if ever beaten without turning economic growth negative. Whatever the Fed decides next week and whatever wording is used to justify and explain the decision, I believe recession is still a very real risk, and will be maintaining a cautious, somewhat defensive approach to investing throughout the summer.
The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.