... or what recently caught my attention in several points:
1) PPI inflation in the US for December turned out to be the "dot on the i’s" in the market's perception of recent inflation trends. Virtually every measure - the annual and monthly change in both headline and core PPI was below market expectations.
Yet, the total two-day effect of Thursday's CPI and Friday's PPI inflation is as follows:
(i) the yield of 2-year UST bonds fell during this period by approximately 19bps, 10-year decreased by ca. 5bps, and the yield of 30-year bond did not change,
(ii) as a result, the probability of the Fed cutting rates at its meeting on March 20, 2024 increased from 67% to 81% after the data.
It can be summarized that the start of the interest rate cycle is practically a done deal, and the incoming data by March 20 this year will decide whether the FED will start in March or only at the meeting on May 1 (I am betting on March). Currently, the market estimates the probability of the first cut no later than at May 1, 2024 FOMC’s meeting at 100% (before the data it was 94%).
However, what the market values beyond the next two FOMC meetings should be looked at with a pinch of salt, just look at how much the market has been "wrong" in the last two years. For example, in the wake of the regional banking crisis in March 2023, the market priced in the first cut for June 2023. And at the peak of the higher-for-longer narrative, on October 17, 2023, the market priced in the first cut...try … in September 2024.
The start of the cycle of interest cuts is important from the point of the market cycle and we can now draw several conclusions:
(i) after the PPI inflation data, the H4L (higher for longer) narrative has definitely "died", and if the FED cuts rates on March 20, the Fed's pause would last only 8 months... which is the perfect average pause over the last 4 cycles of the years 2019, 2007, 2001 and 1989 (see Figure 1),
(ii) from the first rate cut, we can start the countdown to when the next standard narrative in the market cycle, i.e. the "soft landing", will die (or be confirmed). While each subsequent market cycle is different and usually surprises investors with something new, the history itself unfortunately suggests that "soft landings" are a rare species... if I were to make a prediction, a test (whether it’s soft or hard landing) ... could take place after at least 3 cuts, i.e. if the FED cuts rates by 25bps at the meetings on March 20, May 1 and June 12... so such a test could take place in Q3 2024... exactly a few months before the US presidential elections... It can be interesting..
2) Tesla's price dropped by 3.7% yesterday and has been down 11.9% since the beginning of the year.
Within the Magnificent 7 club, which as a whole has been in positive territory since the beginning of the year (+1.01% assuming equal weighting of each company in such a basket), the decline in Tesla's prices is interesting and deserves attention (see Figure 2). Let me just mention that the Mag7 club earned 108.5% in 2023, including Tesla itself +101.7%.
Recently, in the case of Tesla, we have had a series of bad news:
(i) price cuts for cars sold in China (up to 6% for Model 3 Model Y),
(ii) suspension of production at the gigafactory in Berlin for two weeks due to the situation with delivery disruptions via the Red Sea, as well as …
(iii) recently announced wage increases for all American workers.
On the other hand, the number of cars delivered in Q4 2023 was a record in the company's history (495,000) and beat market expectations (473,000). Tesla reports Q4 2023 results as the first from the Mag7 club on January 24 after the close. The key will be the company's profitability and how much Tesla has already become a cyclical company (i.e. susceptible to market cycles and high interest rates - most cars are purchased on credit). Cutting sales prices in such a situation is a good strategy, but the market will not like it.
Elon Musk said this at the last earnings conference about high interest rates:
“I am worried about the high interest rate environment that we're in. I just can't emphasize this enough, that the vast majority of people buying a car is about the monthly payment (…) If interest rates remain high or if they go even higher, it's that much harder for people to buy the car. They simply can't afford it (…). “A lot of -- a large number of people are living paycheck to paycheck.”
And this is what he said about whether Tesla will postpone the construction of a new factory in Mexico due to weak demand:
"We're definitely making the factory in Mexico (…) The question is really just one of timing. And there's going to be a broken record on the interest front. It's just the interest rates have to come down. Like if interest rates keep rising, you just fundamentally reduce affordability. It is just the same as increasing the price of the car. So, I just don't have visibility into -- if you can tell me what the interest rates are, I can tell you when we should build the factory (…). But I am still somewhat scarred by 2009 when General Motors and Chrysler went bankrupt (…).”
Comments