The Inflation Trade Is Dead and the Fed Put Isn’t

In September of last year, during the correction we were having, I wrote an article titled “The Reflation Trade Isn’t Dead and Evergrande Isn’t Lehman.” I took a lot of flack for that, and yet, the S&P 500 went on to rally almost 9% further, and oil—a major point of discussion in my article—went on to rally almost 90% further. And furthermore, Evergrande’s demise has had no discernible impact on the global financial system.

I turned out to be right.

Now the talk is that inflation is going to destroy us all, so let me tell you why I do not think that is true.

As with the previous article, I want to involve energy. In the other article, I showed how oil was developing some very bullish structure. Presently, I now believe energy is in a very bearish configuration. That will not serve the “inflation will destroy us all” narrative. For this discussion, I will use $XLE.

Last summer, I came to interpret the large sideways structure as an expanding triangle “B-wave,” the central structure of a larger, 3-wave corrective pattern (the pink A-B-C you see below). I expected us to rally in the final leg of that structure, the big pink “C-Wave,” and we did.


And so now we have just reached equality between pink “A” and pink “C.” And the significant bearish divergence on the RSI shows a lack of momentum that can presage a change in trend. And if the trend does change—and I predict that it will—I expect us to head lower, eventually retesting the multi-year trend line that you see on the chart.

Now, before, everyone wanted the reflation trade to end because everyone wants stocks to crash because everyone is extremely bearish and everyone has been for years and everyone will be for years and so everyone will be disappointed for years.

Deal with it. We’re not stopping until everyone is bullish.

Based off of how things are developing, it’s just going to take a very long time. My realization that my unlikely rise to popularity on Twitter in 2020 while being dead wrong was a remarkable lesson for me. You see, believe it or not, I thought everyone was bullish back then. I thought that’s why we were rising so much back then. And I felt comfortable being one of Twitter’s top bears.

And in many meme stock cases, that’s no doubt true (people were excessively bullish), but with the indices, as the summer of 2020 turned out simply to be a massive short squeeze of historical proportions, only to then get followthrough the next year, I came to realize just how massively bearish market participants were (and it’s much worse now, of course). And I was very much a part of that. As a result, I am far more sensitive to market sentiment now—and my relationship to it—than I was then. You guys may get the death bear market you all want, but you’re going to have to wait until all the YouTube thumbnails turn from flames and concerning looks into rainbows and unicorns.

Now on to the Fed. You guys want a catalyst. Powell just gave it to you. As I interpret his interview with The Wall Street Journal, he accomplished two things. The way you heard it is this: we’re going to crush inflation and markets with it. The way I heard it is this: 1) Once we see signs of inflation abating, we will back off, and 2) The markets are doing as we expected. He literally said that is was “good to see financial markets reacting in advance based on the way we’re speaking about the economy and the consequence.”

One of the reasons I believe the market got panicky is the growing suspicion by market participants that the Fed had lost control. People will say they took too long to react, etc., etc. (narratives ad nauseam). But what he just did with that quote was to say that they are still perfectly in control. On my interpretation, the Fed regained credibility with that interview. Contrary to the popular opinion that the Fed isn’t doing enough to fight inflation, he spent the majority of the interview committing the Fed to fighting inflation. And so if the market priced in a loss of credibility, it now needs to price that back out.

And furthermore, he introduced a statement that said as much by what it didn’t say as by what it did say. What he said was this: “if the economy performs about as we expect, then that’s something that’ll be on the table” (he’s referring to more rate hikes). That is also to say that if the economy doesn’t perform about as they expect, then further hikes may not be on the table. And how do they expect the economy to perform? He expects the economy to grow. Good luck with your recession.

And so, if the other reason the market got panicky is because it’s trying to price in a recession, it now has to price that back out too.

He’s simply not committed to a recession, nor is he committed to spiraling, out-of-control inflation. He thinks he can thread the needle between those two. You want to say that he cannot. But that makes you the one who is trying to “fight the Fed.” Good luck with that.

And if my energy chart is correct, he is going to get the obvious and clear signs that inflation is abating at perhaps scarcely even a moment’s notice.

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