Michael Pento | Feb 09, 2023 02:50PM ET
Inflation is supposedly on its way to falling gently back to 2% like a fluffy snowflake while the US economy roars ahead. Or at least that is what Wall Street needs you to think.
However, the US economy is in the eye of the hurricane right now; and the other outer eye wall is approaching as the storm is intensifying. Hence, the following are the four reasons why the January rally will fail.
All of this is why last week's short covering rally was one of the most significant on record.
So, what is the setup now? The bottom line is that the US economy should be in recession by the second half of 2023. This flips upside down the widely held belief that the 1st half of this year would be weak, but the second half would see a strong rebound in stocks and GDP.
To re-emphasize why the soft-landing b.s. is a myth, China will be fully reopened in Q1, and they cannot reopen twice; the Treasury General Account at the Fed will need to be replenished, and that will exacerbate the $95 trillion per month QT program at the Fed. Come June, it will be QT on steroids.
We will then be left to endure the lagged effects of the most coordinated global tightening of monetary policy in history that took place over the past year, which has yet to fully economic growth and EPS but should absolutely do so by the end of Q2. The yield curve continues to sink further into inversion.
It is now the most inverted since 1981, which presages not just an ordinary recession but one that is extremely trenchant. The cost of capital for Zombie corporations and consumers has surged over the past year. This will cause massive layoffs from the 20% of listed companies that need to issue new debt just to pay interest on existing obligations.
The plethora of hiring freezes and layoffs announced over the past couple of months will begin to greatly inhibit consumption. And, the battered US consumer, 2/3rds of whom are living paycheck to paycheck and have less than $400 in savings, should begin to shut down consumption.
The economy will also be struggling through a Fed Funds Rate that is stuck above 5% for a long time. Most importantly, the great cascade of the base money supply and Fed credit should cause bank lending to begin to seize up and cause chaos in credit markets. The coming recession will push the current mild decline in EPS into a significant plunge.
Of course, this will eventually lead to a genuine Fed pivot, but it will come in response to an equity market crash and credit market freeze…not ahead of one.
Unfortunately, this means Powell will pivot before inflation has been dead and buried, which in turn means the next inflationary cycle will dwarf the previous 40-year-high battle fought in 2022-23. Alas, for those 60/40 buy-and-hold investors, these inflation/deflation boom and bust cycles will grow more intense and more destructive over time. But for those fortunate to have a robust macroeconomic model, it provides opportunities to outperform the market.
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