Professional

We published our macro narrative Monitors last week (attached here), and something really jumped out at me.

Media attention to an inflation narrative turned dramatically in December, and I will tell you that I see signs of it continuing to accelerate to the upside here in January, particularly in sell-side analysis and reports (which are typically NOT picked up in our Monitor analysis, which pulls from publicly available media).

Does this mean that real-world inflation is off and running? No idea. I mean … my personal opinion is that real-world inflation is much more prevalent and entrenched than we are led to believe by the mandarins, but that’s just my personal opinion. I do not have a professional opinion on real-world inflation. I DO have a professional opinion on narrative-world inflation, however, and that is YES, this a classic “Emerging Narrative” set-up. We are a couple of CNBC missionary statements away from everyone knowing that everyone knows that inflation is off and running. We are one “hot” employment report from everyone knowing that everyone knows that inflation is off and running.

And that’s going to be a very squirrely day for markets.

Why? Because it’s going to bring the politicization of the Fed into sharper focus than any amount of overnight and short-term repo financing will ever achieve.

The Fed is playing a weak hand. If we get an inflation narrative now, just as the “global recession is nigh” narrative kicks the bucket, then the chatter immediately becomes whether or not the Fed has to HIKE. Not “stand pat”. Hike.

There is zero market anticipation for this, which makes this a dinner bell for the trader types reading this note, and a warning bell for the buy-and-hold types. Political risk starts to get real after the Iowa caucuses in a few weeks. Put that together with an incipient inflation narrative and you’ve got the makings of a volatility party. Be careful out there.

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PDF Download (Paid Subscription Required): The Long Now

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Every year, I try to put together a series of notes that captures where I think we are, from both a political and investment perspective. This year, that series is The Long Now. I’ve compiled the four notes in that series into a single PDF, attached here.

The kicker here is that I think both parties have embraced a profoundly destructive meaning to the fiscal powers of the State – to tax and to spend. When the tether between taxes and spending is severed – and make no mistake, both the Republicans and the Democrats have been working to this end for 20+ years – then taxes become a pure mechanism for the exercise of government power. They don’t exist to pay for government programs. They exist to satisfy the ruling regime’s conception of justice, equity and retribution for prior wrongs done by the other side. Again, this isn’t a partisan thing. This is a power thing. This is a Management thing.

Regardless of who wins the 2020 election, I believe we are going to be buffeted by punitive fiscal policies in the years to come … punitive on the tax side in the usual sense, where the rich and the old will be pitted against the non-rich and the non-old, back and forth … punitive on the spend side in the inflationary sense, where we will all feel the bite of a monster we haven’t seen in 40+ years.

You know, there was an article in the Wall Street Journal today, titled “China is Taking No Chances with Stagflation”. As if this were something that could be banished by fiat … as if soaring pork prices and declining growth would cease to exist if Chinese citizens were just TOLD that they didn’t exist.

As with every “outlook” or “analysis” article in the WSJ that talk about China, I took this as a crystal ball for what’s coming down the pike in the US in 6-12 months. Seriously. It’s uncanny how that works. (and the subject for another note another time)

So yes, that’s what I think is going to be the Big Story for the next several years … disappointing growth + alarming inflation + a government that tries harder and harder to TELL us that everything is wonderful. A United States that becomes more like China *politically* as well as economically. Smiley-face totalitarian flirtations on the political front, and old-fashioned stagflation on the economic front, all bearded by a stock market that has been transformed into a propped-up-at-all-costs political utility.

The thing is that – depending on where you stand in the pecking order – it won’t feel that BAD as the world is undone by inflation and the politics that comes with it. As the country song goes, “Funny how fallin’ feels like flyin’ … for a little while”. But this IS what undoes us.

We need to get together and talk about all this. Maybe I’m wrong about The Long Now. Maybe I’m exaggerating the issues here. Wouldn’t be the first time. But right or wrong I think we’d all be well served to connect in person and share our ideas and observations. Stay tuned for details on timing and location … probably early fall before the election. Let me know if you’d like to help.

One of our original macro narrative Monitors attempted to analyze the US credit cycle, but we rarely got enough media articles in a given month to generate robust results, so we placed it on hiatus. Recently, however, we (and once again this is the royal we … it’s actually all Rusty) hit upon a clever way to recast our search queries so that we think we are now able to capture a decent narrative signal on debt and credit markets. Here’s the narrative map for Debt and Credit in November, first colored by cluster topics and then colored by sentiment (you can see the high resolution graphics in the Monitors document):

We’ve got three takeaways from these maps and the prior 12 months of narrative analysis with the new query formulation:

1. After a mid-year bout of complacency in credit markets, the past few months have seen a rapid acceleration in cohesion (focused and connected narrative topics) mostly around a negative sentiment narrative of concern regarding leveraged loans, CLOs, and the liquidity of CCC loans.
2. This is taking place as the proportion of articles we measure as Fiat News (highly opinionated/editorial articles) has risen consistently. Missionaries are increasingly promoting the idea of a ‘coming collapse’.
3. At the same time, however, there is also an almost equally positive sentiment narrative building around technology-based lending solutions in consumer credit.

We’re going to do more with credit narratives in 2020, as we know that a lot of our Professional subscribers work in FI and credit markets. If you have questions regarding our Debt and Credit Monitor, please give us a shout!

That brings our total of ET Pro Monitors to six, covering:

1. Inflation
2. Central Banks
3. Trade and Tariffs
4. US Recession
5. US Fiscal Policy
6. Debt and Credit

Of the six, Trade and Tariffs remains the most dominant in terms of narrative attention. It’s also relatively coherent, as it remains dominated by US-China vocabulary. But I want to highlight two really striking (to me, at least) narrative phenomena happening here:

1. As described in the last several emails I’ve written you (“Silly Season” and “The Sillier Season”), coherence continues to collapse across almost all macro narrative categories. What does this mean? It means this is a market waiting for a Big Narrative from a Big Missionary. Could be a positive narrative and it could be a negative narrative. But the will-they-or-won’t-they-sign-a-deal narrative regarding the US and China, what I’ve described at length as a game of Chicken where no odds are assignable, is no longer enough to move markets up or down with any sort of narrative half-life. I think that if nothing else, we’ll get a Big Narrative of some sort coming out of the Iowa caucuses in early February. Maybe that will be a market-positive narrative. Maybe that will be a market-negative narrative. Maybe we’ll get something else before then. But right now there is nothing to serve as a narrative engine – risk-on or risk-off – for this market. God help us, but fundamentals and stock-picking might actually matter for a while. I’d be long dispersion while this continues.
2. The other really striking finding is in regards to the inflation narrative. Attention has collapsed, as has cohesion. This is the most complacent narrative structure around inflation that I’ve ever seen. If you’re looking for an asymmetric trade, where a little narrative shock could go a loooong way, this is where you need to spend some time.

And that leads to a final thought. It’s been a fantastic year of growth here at Epsilon Theory, and we truly couldn’t have achieved that without your support. We are more committed than ever to being an independent voice for original research and original thinking, and the Professional subscriber base is our most important resource for ensuring that. THANK YOU!

Happy holidays (and yours in service to the Pack),

Ben

Every day we run the Narrative Machine on the past 24 hours of financial media to generate a list of the most linguistically-connected and narrative-central individual stories. We call this the “Zeitgeist” and we use it for inspiration or insight into short-form notes that we publish a couple of times a week to the website. It’s usually pretty obvious why the articles rise to the top of our natural language processing (NLP) metrics, as they tend to be about specific companies or specific market events … topics where you see the headline and think “oh yeah, I understand why this article is appearing in financial media.”

Until recently, that is.

For example, Rusty wrote a brief note today (“Our Dumb World”) about one of the highest scoring financial media articles, “Amazon Removes Auschwitz Christmas Ornaments, Bottle Openers After Outrage”. This is as horrible as it gets, but we’ve been having lots of weird or off-narrative articles scoring high for narrative relevance recently. The same weird article never stays in the Top Ten from day to day, but it’s another weird flash-in-the-pan article day after day.

I think it’s related to the observation I sent you a few weeks ago (“Silly Season”) where I mentioned the low attention and coherence scores we were seeing across all of our macro narrative Monitors. It led me to ask a Big Question, one that I didn’t have an answer for:

At what point, if ever, do political narratives about Inflation and Fiscal Policy become market narratives about Inflation and Fiscal Policy?

We won’t have this month’s macro Monitor analysis completed for another few days, but I’ll tell you what it feels like to me. It feels like the lack of coherence around our “standard” macro narratives like Inflation or Central Banks or Recession has expanded into a lack of coherence around ANY market narrative, standard or not, macro or not. It’s like anything goes in financial media over the past few months, where not only is the ground unsteady beneath our feet in the real-world of market or company fundamentals, but it’s ALSO unsteady in narrative-world.

It feels like literally anything could happen in narrative-world. I honestly can’t imagine anything that would surprise me, or anything that would make for an investable move in markets, up OR down. It’s like the narrative-world heart is just quivering without a stable rhythm or beat of any sort.

We need a defibrillator.

Can you believe that the Iowa caucus isn’t until February? I think that’s going to be the defibrillator, the first real-world electoral result that begins to focus the political competition that’s going to dominate 2020 markets. That’s when I think political narratives start to become coherent market narratives.

Until then … the silly season is going to get even sillier.

There’s something weird happening in narrative-world, and I’ve been trying to figure out what it means since we published our monthly Narrative Monitors update last week (attached to this email). I still can’t figure it out, but instead of continuing to wrestle in silence, I’m going to tell you what I find odd and ask what you think it means … if anything. It’s entirely possible that I’m just too much in my head on this.

First I’ll report on what we saw in the Monitors from October’s financial media.

Inflation – “Inflation narratives faded in both cohesion and attention in October. Any inflation narrative exists almost wholly within political worldas opposed to market world.”

Central Bank Omnipotence – “the level of attention on central bank narratives has faded rapidly: common knowledge has emerged that other investors are more focused on trade, IPO market/growth issues and election politics.”

Trade and Tariffs – “the attention on Trade War narratives has ticked down from our maximum level for the first time in months.”

US Recession – “US recession commentary drifted downward in both cohesion and attention in October.”

US Fiscal Policy – “there is no Fiscal Policy, Deficit or Austerity narrative, at least as it concerns markets.”

Individually, none of these Monitor reports is that odd. Taken together, though … well, that’s the weird part. Our measures of attention (drumbeating on an issue in financial media relative to all other issues) fell in October for ALL of these market-impacting macro narratives. Yes, Trade & Tariffs is still garnering a lot of attention, clearly the most of any of these standing issues. But even there we saw a noticeable decline in both the number of articles published in financial media on the topic and – much more importantly for our research – the centrality or “gravity” of those articles relative to other topics.

What took the place of these core macro factors? Well, we saw a ton of articles about politics … both impeachment and “how a Warren Presidency would destroy markets as we know them” articles. We also saw a lot of “OMG, WeWork” articles. I doubt that the spate of WeWork articles persists, although the Street really needs a good IPO to take the stench out … so we’ll probably get just that.

But I think we’re just getting started on the dominance of political narratives in financial media.

In fact, if you look at the Monitor narratives in terms of political-world rather than market-world, both Inflation and US Fiscal Policy are pretty darn robust in their attention scores. That is, “people are talking” about prices and taxes and spending as it impacts politics. People are not talking AT ALL about prices and taxes and spending as it impacts markets.

Or market prices.

Which leads me to the big question I have … and it’s the big question I don’t have an answer for:

At what point, if ever, do political narratives about Inflation and Fiscal Policy become market narratives about Inflation and Fiscal Policy?

Because right now they’re not, so we gravitate to new market high after new market high. And it is entirely conceivable to me that they never do – become market narratives, that is – and we continue to live in this, the best of all possible worlds. But I’m trying to figure out what might make that transition happen. Is it just time and getting closer to the election? Is it something else? That’s the weirdness that I’m wrestling with. As always, I’d love to hear your thoughts.