This Market Is Totally Out of Its Mind

What’s the setup for the second half of 2021? Well, first one has to analyze the first half.

Stocks quotes in this article:

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Ignorance and apathy may be a potent combination, but, as the old joke goes, I don’t know and I don’t care. So, if my bashing of Powell hadn’t reached fever pitch yet — comparing him to Fauci in yesterday’s column was a little offside, even for me — this morning on CNBC we had St. Louis Fed President James Bullard noting that inflation is “more intense than expected” causing the Fed to “tilt a little more hawkish.”

How can these people just constantly miss everything? I will tell you how. They don’t live in the real world. They aren’t hamstrung financially by the horrible consequences of unchecked inflation the way the rest of the American populace is.

Inflation hurts. To be sure, it hurts some more rapidly than others, but unelected technocrats like Bullard and Powell will never learn. It would seem they don’t care to, although they are spouting more woke cliches lately, especially Yellen. I would like to ignore them all, but I know that Mr. Market never does.

That’s the setup as we reach the end of the first half of 2021. Options traders know that fiscal months end on different days than the calendar months do, and today’s quadruple witching for stocks essentially represents the end of the first half of the trading year. What is the setup for the second half?

Well, first one has to analyze the first half. As of Thursday’s close, the S&P 500 had posted a 12.83% gain year-to-date. While futures trading is indicating a marked decline in Friday’s expiration-added trading, it will still go in the books as a very strong first half for equities.

Are we ahead of ourselves? Just a tad? Well, if Bullard can grudgingly admit that the Fed has “tilted a little more hawkish” then I feel I am well within my constitutional rights to claim that this market is totally out of its mind. As John Butters noted in his always excellent FactSet Earnings Insight piece yesterday:

Valuation: The forward 12-month P/E ratio for the S&P 500 is 22.4. This P/E ratio is above the 5-year average (18.0) and above the 10-year average (16.1).

So, things are just so darn rosy now… but that is factored into estimates. FactSet’s current consensus calls for S&P 500 EPS of $44.68 for the second quarter, which represents 61.9% growth over the year-ago period. But it also represents a sequential decline of about 11%, and that is where the rubber will meet the road.

The first quarter’s net profit margin for the S&P 500 was an all-time high of 12.8%, and that is just not, to use the fashionable term, sustainable. In fact, FactSet’s consensus calls for that margin to decline to 11.7% in the second quarter. Inflation is beginning to show up in higher input costs for corporations and that HAS to show up in print margin pressures. No amount of necromancing and free-money foisting by the Fed can offset that.

Companies that use any type of commodity input are going to feel the pain from higher prices. Also, don’t forget that the most valuable commodity of all — your hard work — is also becoming more valuable, as labor shortages are being reported in a wide variety of industries seemingly by the day.

From a nominal perspective that’s okay for stocks, but unchecked inflation is absolutely terrible for bonds. In 2021, the Nasdaq has become an inverse proxy for Treasury yields, so be careful there. For reasons I cannot explain, the yield on the 10-year Treasury is still hovering around 1.5% despite the worst inflation numbers — both CPI and PPI  — for this business cycle and that makes no sense to me.

So protect yourself from inflation. Buy energy, food and other commodity stocks and don’t forget the companies that ship those commodities as well. And for goodness sake protect yourself against back in interest rates by buying some (TTT) , ProShares UltraPro Short 20 Year Treasury ETF. It may be damning with faint praise to say that you can predict the rate of inflation better than myopic folks like Bullard, Powell and Yellen, but you should be doing it for your portfolio, regardless of your level of depth perception.

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