Much Pain

There once was a nation quite strong

Whose policies worked for so long

But war in Ukraine

Inflicted much pain

And now it seems they were all wrong

Relying on, energy, cheap

They rose to the top of the heap

But when prices rose

They’d naught to propose

‘Bout how to, advantages, keep

It turns out that Germany has fallen into a recession after all.  The German Statistics office revised down their Q4 2022 GDP reading from stagnation at 0.0%, to a -0.5% reading after adjusting for a substantial decline in government spending.  Meanwhile, Q1 GDP growth fell -0.3%, so Germany is solidly in a recession, at least based on the traditional definition of two consecutive quarters of negative GDP growth.  It certainly is remarkable that an economy that predicated itself on levering cheap, imported energy into the manufacture of steel, chemicals and machinery would encounter any problems simply because it became totally reliant on raw materials from a communist regime…NOT!  But in fairness, the Germans have hamstrung themselves by spending hundreds of billions of euros in their Energiewende program to reduce greenhouse gas emissions.  Unfortunately, this included shuttering their entire nuclear power fleet, which had produced upwards of 25% of their electricity with zero emissions and replacing it with heavily subsidized solar and wind power generation.  (By the way, whoever thought that solar power was a good idea in Northern Europe?  Arizona I get, Germany not so much.)

Granted, prior to Vladimir Putin invading Ukraine, things were going along swimmingly.  China was soaking up so much of what Germany was producing, and of course the rest of Europe were huge customers as well.  But it turns out risk management is a real thing, and not just when it comes to your foreign exchange or interest rate risks.  If we learned nothing else from the Covid pandemic it is that surety of supply of critical products or inputs is worth a lot, perhaps just as much as the price of that supply.  

Once Russia invaded, though, the world changed dramatically, and a critical flaw in the German economy was exposed.  Prior to the invasion, because of Energiewende, German electricity prices were the highest in Europe and approaching the highest in the world.  And that included cheap Russian gas as a source.  Now those prices are higher still and major manufacturers are picking up stakes and moving their facilities to places where they can get reliable, and relatively inexpensive, energy.  BASF moving key production to both China and Saudi Arabia is merely indicative of the problems Germany will have going forward.  It strikes me that Germany has a long road to hoe in order to get their economy back working as effectively as it had in the past.  This does not bode well for the euro (-0.2%) which is continuing its slow grind lower this morning, as the dollar continues to buck the majority analyst view of USD weakness.

The future belongs to AI

At least that’s what bulls glorify

So, last night we learned

Nvidia earned

A ton helping futures to fly

Obviously, this is not an equity piece and so I rarely cover specific names, but the buzz on Nvidia’s earnings is having a significant impact on markets overall.  The most instructive thing is to look at the performance of the NASDAQ vs. that of the Dow, at least in the pre-market futures trading.  At this hour (7:30), NASDAQ futures are higher by 2.0% while Dow futures are lower by -0.4%.  This dichotomy continues to grow on a daily basis, with the tech megacaps generating virtually all of the equity market performance seen this year, hence the relative outperformance of the NASDAQ vs. both the S&P 500 and the Dow.  The narrowing breadth of the market’s performance, with 7 names accounting for more than the entire S&P 500 gains this year means the other 493 names are actually lower.  From a more macro point of view, historically, price action of this nature has preceded significant bear markets every time it has occurred.  It is very easy to look at the totality of information including still high US inflation, softening growth metrics and a stock market that is reliant on just 7 names for its performance, and conclude a reckoning is coming.  Oh yeah, did I mention that the Fed remains committed to keeping its policy at current, relatively tight levels?  It is no wonder that the recession that is forecast to come soon is so widely forecast.

Quickly, the FOMC Minutes yesterday indicated that while there was a lot of discussion as to whether or not rates needed to go higher, there was zero discussion that rates would need to decline anytime soon.  The commentary we have heard since the last meeting has certainly had a less conclusive tone regarding further hikes, with several members indicating they thought a pause for observation was worthwhile.  But unless the economy craters, and Unemployment spikes much higher, there is no reason  to believe the Fed is going to change course.  And that, my friends, will continue to support the greenback for quite a while.

As to the overnight session, after a weak US equity performance yesterday, Asia was mixed and most European bourses are edging lower on the order of -0.2%.  It is certainly no surprise that the DAX is falling, and we have also seen lackluster data from France weighing on the CAC.  The problem for Europe is they don’t have any megacap tech stocks to support the indices.

Bond yields continue to mostly edge higher with gains on the order of 1bp this morning although there was a standout here, Gilt yields have risen by 9bps, still feeling the hangover from yesterday’s inflation data.

Meanwhile, in commodities, recession is the watchword as oil prices (-1.2%) are giving back some of their recent gains, although copper has seen a trading bounce.  

And finally, in the FX markets, the dollar continues to perform well, rising against all its G10 and most EMG counterparts.  Remarkably, the debt ceiling concerns seem to be the driver as the dollar is still considered the safest of havens despite the issues here.  There have been no outstanding stories to note other than the risk-off nature of things.

On the data front, we see Initial (exp 245K) and Continuing (1800K) Claims as well as the second look at Q! GDP (1.1%).  Also, Chicago Fed  National Activity (-0.2) is released, which has been pointing to slowing economic growth for a while now.   Two Fed speakers, Barkin and Collins are on the slate today, but I feel that mixed message continues unabated and won’t be changed here.

Ultimately, until the Fed backs off, the dollar is going to continue to perform well, keep that in mind.

Good luck


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