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AMD | Brevan Howard | PCE & US recession risk

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AMD Stock & Tech Bubbles

Everything is a bubble, except for middle-aged men in hedge funds glued to their desks all day, speculating on whatever is currently ticking on their screens. Instead of wasting time and money trying to short Big Tech stocks, why not look for the next Nvidia?

Did we buy AMD shares last year? Or do we wait for them to rise by another 20-30% before people start speculating that it's the next trillion-dollar company?

AMD | Brevan Howard | PCE & US recession risk | Speevr
Source: Google

This just goes to show that Bitcoin-like returns with lower risk are possible in regulated markets.

At present, the only view/position burning a hole in our pocket is within the banking industry: Long on Goldman Sachs and short on US Bancorp equity. Otherwise, our long-term thesis:

remains intact. The missing piece is a central bank digital currency (CBDC). Then, Bitcoin cements its position as a tech protocol for offshore banking, and incumbent banks will face unprecedented competition.

GSWM Investment Outlook 2024

There has been a lot of interest in the Goldman Sachs Wealth Management 2024 outlook we covered in our previous update. Perhaps a gentle reminder is in order: we selected the 2023 outlook this time last year for more fundamental reasons than the authors' market forecasting skills. A good investment outlook is not a compilation of all analysts' Q4 work spun around the most topical genres of the day. That's reserved for Davos.

Israel-Hamas War

Speaking of Davos… the attendance of the Iranian Foreign Minister at the World Economic Forum last week was an unusual development. Senior US State Department officials were also present at Davos. Was it a convenient setting for back-channel discussions between Iran and the US on the conflict in the Middle East?

Our best educated guess is that Israel has been given a deadline until the end of the month to further dial back its operations in Gaza, to proceed with the next phase of the conflict resolution process. The rest is a matter for Israeli domestic politics to come to terms with.

Brevan Howard Chief Economist on US Inflation & Recession Risks

First, let's recap some basics:


Based on our recent analysis of US Fed Funds (FF) futures contracts, we can say:

– Roughly 40% of the interest rate cuts currently priced by FF stems from 2023 progress on disinflation. Another ~40% (0.5%) is the pricing of a US recession in the next 12 months, assuming an unconditional average recession probability of 15%. The remaining ~20% represents investors' optimism that inflation will fall quicker than official Fed forecasts. If the US economy does not enter a recession in 2024, and inflation remains well above the Fed's 2% target in the foreseeable future, then it implies that the FF are trading slightly rich.

– Alternatively, we may assume a median recession probability of 45%, as per a panel of economists recently surveyed by the Wall Street Journal. In such a scenario, almost all the Fed cuts anticipated by the FF December 2024 contract may be attributed to the elevated risk of a recession. In our assumptions, we neglect stagflationary outcomes where inflation remains stubbornly high despite economic contraction.

AMD | Brevan Howard | PCE & US recession risk | Speevr
Source: Goldman Sachs Investment Outlook 2024

– Taking together our previous two points, we can say: In a median outcome where the US economy does not enter into a recession, at least two rate cuts (of 0.25%) in the official Fed guidances are the fruits of past progress on inflation, and an additional cut is contingent on a continuation of a gradual decline in core-PCE inflation toward 2-3% in 2024. Therefore, we can safely conclude that bullish sentiments on short-end rates are premised on a higher probability of a US recession (than 45%), or an expectation for inflation to fall much quicker than anticipated this year.

– We also noted that traders who speculate on short-end rates are more astute followers of Fed monetary policy actions. Therefore, their opinions should carry greater weight than the average market participant, or at least, they are more often right than average.

Jason Cummins on the US Economy

Jason Cummins, Chief Economist at Brevan Howard Asset Management, gave a rare public interview on Bloomberg Odd Lots worth listening to. He keeps it very simple and coherent. Cummins is firmly in the US recession camp and probably falls in the group previously mentioned with a disproportionate say on FF contracts.

Here's where it gets interesting… Cummins anticipates the upcoming core-PCE, due to be released this Friday, to fall to 2.9%—a decline of 0.3% over the previous month (November 2023)—more than the 0.2% average steady decline in recent months we noted in a previous update.

According to the most recent official forecasts (released in December 2023), the median core-PCE inflation year-on-year (YoY) in September 2024 is expected to be around 2.6%.

AMD | Brevan Howard | PCE & US recession risk | Speevr
Source: Federal Reserve

Therefore, a decline of 0.3% in core-PCE to 2.9% in December is likely to challenge official Fed projections for 2024.

AMD | Brevan Howard | PCE & US recession risk | Speevr
Source: Federal Reserve

A Rapid Decline in US Inflation Increases the Likelihood of a Recession

At the start of 2023, the average/median Wall Street economist estimated a probability of ~65% for a recession. Goldman Sachs Research estimated a 35% probability that the US economy would enter a recession over the next 12 months. We produced a recession probability estimate of 10% based exclusively on statistical analysis using historical data. The purpose of the exercise was to produce an estimate independent of economic forecasts.

The primary reason for our far below consensus estimate was a lack of historical precedence for the US economy experiencing two recessions within 2-3 years. Qualitatively, we also argued that elevated inflation was more indicative of an economy running ‘too hot' rather than one already in a recession, as some had claimed.

Here's where it gets even more interesting from our perspective… Further rapid declines in US inflation increase the likelihood of a near-term US recession, contrary to market expectations which presume additional central bank easing.

While a softer than expected upcoming core-PCE inflation number is likely to be perceived as bullish for risk assets in the immediate future, we would urge caution, as it would bring Cummins' recession thesis firmly into play. This view has both statistical and economic merits.

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AMD | Brevan Howard | PCE & US recession risk

Careful what you wish for on inflation. The ‘everything’ is a bubble thesis