After it was all said and done, the silver price closed above $23.
With silver dumping and pumping intraday on Dec. 16, the white metal ended the session up by 0.10%. Moreover, with the S&P 500 coming under pressure, silver’s outperformance was relatively uncommon. But, with the USD Index and the U.S. 10-Year Treasury yield largely consolidating, the PMs view the fundamental backdrop as constructive.
Furthermore, with the Cboe Volatility Index (VIX) – which measures the S&P 500’s expected volatility over the next 30 days – falling on Dec. 16, the lack of fear keeps liquidations in check for now.
Please see below:
To explain, the green line above tracks the S&P 500, while the red line above tracks the inverted (down means up) VIX. If you analyze the relationship, you can see that spikes in volatility often occur when the S&P 500 falls.
When the S&P 500 was near 3,850 in June and September/October, the VIX was north of 30. In contrast, the metric declined on Dec. 16, and stands near 23. As a result, investors don’t fear a higher FFR, an earnings malaise or a potential recession, and the complacency highlights their misguided faith in the Fed.
As further evidence, data from Bank of America emphasizes the mentality that developed due to the Fed’s plethora of pivots following the global financial crisis (GFC).
Please see below:
To explain, the gold line above tracks the S&P 500’s rolling two-year total return, while the blue bars above track U.S. households’ rolling two-year fund flows. If you analyze the relationship, you can see that the S&P 500’s bottoms during the dot-com bubble and the GFC occurred after U.S. households capitulated.
Conversely, the blue bars on the right side of the chart show how Americans have not pulled money out of the stock market on a two-year rolling basis, even as money poured into equities during 2020 and 2021 (see the height of the blue bars).
Thus, not only are U.S. households holding their positions with little anxiety, but the imbalances built up before this recessionary bear market were at an all-time high. Yet, since the crowd assumes another post-GFC pivot will send stocks soaring, they’ve been trained to wait for the Fed to save the day. However, unanchored inflation is a different animal, and the Fed can’t solve this problem by printing money.
Speaking of which, the global liquidity drain has gone into overdrive, and higher interest rates should have drastic implications in the months ahead.
Please see below:
To explain, the blue and yellow bars above represent the number of global central bank interest rate hikes and cuts. If you analyze the right side of the chart, you can see that 2022 has culminated with 348 increases and 15 decreases, with this year's hikes exceeding the previous six years combined. Consequently, the economic impact is underappreciated and profoundly bearish for corporate profits.
Likewise, while market participants remain invested in underperforming assets like the S&P 500 and silver, their poor risk-reward analysis should elicit regret over the medium term.
Please see below:
To explain, the blue line above tracks the percentage of assets with a lower six-month return than two-month Treasury Bills. If you analyze the right side of the chart, you can see that roughly 95% of assets are underperforming cash. So, while a higher FFR provides investors with a risk-free return of 4.25%+, the post-GFC gamblers want to hit a home run by owning risk assets and awaiting a dovish pivot.
Yet, the gambit is the opposite of prudent risk management, and that’s why we warned on Oct. 26 that the crowd was fighting a losing battle. We wrote:
With two of the four largest companies in the S&P 500 suffering, the squeeze may have already run its course. Moreover, while positioning is still heavily short, the index offered tactical value near 3,600, not 3,850.
In addition, with the bearish medium-term fundamentals rearing their ugly head, and the Fed poised to raise interest rates by 75 basis points next week, stocks offer a poor risk-reward proposition when the FFR should hit 4%.
Furthermore, with the S&P 500 ending the Dec. 16 session at ~3,852, the index has gone nowhere in roughly a month and a half. In contrast, cash returns have increased as the Fed hiked the FFR. Therefore, with resilient inflation, employment and growth poised to push the FFR even higher, the risk-reward proposition of owning the S&P 500 and silver is even poorer now.
As such, while investors like to learn these lessons the hard way, the more they position for a dovish pivot, the less likely it is to occur.
Alex Demolitor
Precious Metals Strategist