As binary as it gets — Bulls, bears and pivot

It’s a binary world. To an extreme extent, opinions on the market are divided, and they are split on one key issue: Will the Fed have to “pivot” towards easier monetary policy in the next few months, or won’t it? This question vitiates investment decisions in almost any asset you care to mention. Everywhere you look, choices are contingent on that central call of whether the Fed has to reverse. Meanwhile, prices of most assets are set at some mid-point, based on a set of conditions nobody expects.
Absolute Strategy Research Ltd’s latest quarterly survey of global asset managers, managing $4.3 trillion, suggests “bulls” and “bears” are almost exactly in balance. Overall, optimism is low. The survey’s composite optimism indicator, based on answers to several questions about the economy and markets, is just above 50% and barely higher than it was three months ago.
But this conceals deep differences. First, although there is much pessimism or bearishness about the economy, that doesn’t translate into similar negativity towards markets.
The contradiction is resolved to an extent by a belief that bad news is good — that the economy will be slow enough to push the Fed into reversing course early and starting to cut rates. In such circumstances, markets can prosper despite a poor economy. Those who feel that way make a narrow majority in what Bowers calls a “bimodal” or tribal division.
Absolute Strategy’s Charles Cara breaks down the survey responses using machine learning to find clusters of opinions. Usually, there are several distinct schools of thought.
Broadly, the bulls think that there will be a recession, but a shallow one that is already over by the end of 2023 thanks to the Fed. Bears think the Fed will still be tightening the screws a year from now and that the economy will be slow. “Bears” by this definition have grown in strength over the last few weeks. Also, note that the Absolute Strategy survey was taken just before last week’s awful inflation report for August.
How seriously should we take the bullish case that the Fed will not need to force the economy into recession to bring inflation down? It’s maddeningly difficult to dismiss. Despite contemporary fashion for hurling abuse at our fellow humans, both bulls and bears have good arguments on their side.
Beyond the Federal Open Market Committee meeting on Wednesday, the critical issue is how long rates keep rising, and when they start falling. This creates problems for investors. Generally, when investing you want an “edge” — a reason to believe you know better about what you’re investing in than the rest. That’s not possible on an issue where so much information is publicly available as is the case for the Federal Reserve. And it’s easy to be wrong for the right reasons, and vice versa. You never want to be in a position where a macro call makes so much difference, but it’s unavoidable.

—Bloomberg