When the Fed Charges, So SHALL WE!

June 24, 2022

It’s 7am.

I’m on vacation . . . or so my wife tells me.

Actually, I’m sitting in a hotel lobby nursing a large cup of coffee. I’m watching patrons begin to wake and glancing half-heartedly at a Lord of the Rings rerun on the TV int he corner. Really, I’m puzzling over the commodity sell-off and deconstructing narratives.

Yes, it’s early, yes, it’s vacation, and yes, the game never ends.

If you’re a money manager, you know this life.  Numbers and narratives are never far from your mind.  We tend to be an obsessive and curious bunch, two traits that when combined means it never shuts off.  We’re addicts, both by choice and personality type.  No doubt there’s a Myers-Briggs test out there that scores us as deeply flawed.  Still we persist because again, the game never ends.

The game we’re playing though has changed in recent days.  Narratives are shifting, the investment landscape changing, and the story growing increasingly uncertain. 

A few weeks ago, we were marching along in good spirits, singing songs as our group traversed the landscape. As we ventured forth on our quest, some dungeon master suddenly informed us that our party has encountered orcs.  More accurately, inflation orcs.  We’d seen them before, here and there, but many in our party had thought they were transitory. Apparently not, as they’re big, there’re a lot of them, and they sure look mean at 8.6%.

Ugh . . . I hate orcs. Especially when it’s almost the quarter-end. 

Did I mention that I’m on vacation?  Well at least my wife says I am.

Regardless, the Federal Reserve that accompanies our party lunges forward, raising its sword and swinging feverishly. They raise short-term interest rates as they begin the assault, doing massive damage, 75 basis points. If you think they’re spent, oh no young venturer, they’re just beginning.  One in June, another one in July, and then maybe a few 50 bps raises thereafter.  It’s powerful and it’s a lot.  Not just in nominal terms, but in sentiment.  It’s a full throated war cry from our nation’s bankers that this inflation shall be tamed. Jerome Powell declares . . .

“I see in your eyes the same fear that would take the heart of me.  A day may come when the courage of men fails, when we forsake our friends and break all bonds of fellowship, but it is not this day.”

Stirring stuff.

So they charge. 

As do many macro-fund managers.  Growth investors too as they all shout with rage.  How dare they debase tech, how dare they forsake growth.  We will be victorious this reporting period and forever!  Follow the Fed.  If inflation is slayed, then short commodities, short crops, short materials . . . short oil.

Shed the last vestiges of commodity protection that we begrudgingly strapped-on when this venture started.  Cast off the low margins and high volatility that chafed our portfolios.  We charge with the Fed.  Follow the Fed! 

The death of inflation orcs means prosperity lies ahead.  We will no longer be driven back to the cliff’s edge and even if so, we’ll achieve a soft landing.  So they charge.  Leeroy Jenkins style.

And we watch.

We’re the squire in the back row.  Invested in energy and commodities, and we’re picking-up the strewn armor on the battlefield as they ride off. Have fun staying poor they chortle as they toss pieces at us.

“But wait sir, won’t you need this?  Has anything really changed over the last two weeks?”

“Foolish squire, have you not heard the Fed?  Everything has changed!”

“Your Excel assumptions?”

“OUR CERTAINTY!”

So they charge and that momentum will carry.

If July’s inflation data for June prints high, they’ll scream with fury, but continue.  

“The Fed is with us . . . we ride!”

By August, if inflation data for July prints high, they’ll rage.

“The Fed’s plan will work . . . we charge!”

They will keep doing so because this is about confidence.  It’s about courage.  Let not the Fed nor these managers falter because if inflation truly vanquishes us, then all is lost . . . all is defeated.

The narrative is changing now, and despite the inflation prints in the coming months, nay, even if the inflation prints come in high, the market will attempt to look past the figures because they believe the Fed will be successful in taming the orcs. They want to believe in the soft-landing and the recovery of growth/tech. They needs it.

That very notion perplexes us though. The Fed seldom (some would arguably say never) achieves a soft landing. Moreover, raising rates (i.e., the cost of money) can suppress demand, but didn’t the orcs appear because we failed to secure supplies?  Isn’t inflation largely a supply issue?  How does raising rates fix that? How does steeling confidence fill grain silos?

Tamp down demand (if even possible in the context of food and fuel), you’d still have the structural supply issue. Given that, aren’t those spears pointed at us still as sharp and as dangerous as they were a few weeks ago?

Might we suggest a bit of armor?

“Sir the financial markets play, but the physical disciplines . . . our voice trails off.”

“This is why you’re a squire.”

Chiseled chins, broad chests, and full throated cries are apparently enough.

So they charge.

The narrative shifted, but if we’re right, the story will change again as reality intrudes on this literary fantasy.

Either we have or have not, and commodity prices will reveal the truth.

For now we watch . . . weighed down by our armor and all.

Jesus, that coffee was strong.

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