In this episode of Markets Weekly, published on October 17th, the host reviews a difficult week for markets where the S&P 500 and NASDAQ both lost their 50-day moving averages, accompanied by a noticeable flight to safety into Treasury Securities. The primary concerns driving the market are potential escalations in the Middle East and emerging cracks within the AI trade.
Starting with the macro backdrop, the host examines big bank earnings from institutions like J.P. Morgan, Citi, and Wells Fargo. These banks indicate that the U.S. economy remains solid with strong nominal spending (J.P. Morgan reporting a 10% year-over-year growth in credit and debit card transactions). However, looking closely at Bank of America’s data, a significant portion of this spending increase is driven by higher gasoline prices, mirroring aggregate GDP statistics where 2% real growth is accompanied by 3% or 4% inflation. Overall, credit continues to flow at a healthy pace, supported by a resilient labor market.
On inflation, recent CPI and PPI data came in hotter than expected. According to the Cleveland Fed, PCE inflation is trending upwards, driven by rising energy prices (gasoline, jet fuel) which risk flowing into broader basics. Despite this, Federal Reserve officials have strongly signaled no rate hike in October, leaving a December hike more likely. Chair Warsh’s recent comments at an IMF panel in Thailand suggested data is evolving as expected, removing urgency for an October move. The host notes that tighter financial conditions from longer-lived yields and the upcoming November election make a pause in October sensible unless equity markets tank.
The bond market continues to trade closely with rising oil prices, which are surging due to further escalation between Saudi Arabia and Yemen. Houthi rebel forces easily striking Saudi energy infrastructure—and Saudi Arabia's perceived lack of defense capacity—are causing oil prices to spike, creating ongoing inflationary impulses.
However, the markets focused heavily this week on cracks in the AI trade, which poses a threat to real economic growth since a large portion of GDP growth relies on AI build-outs. The host highlights three major cracks:
1. **Technological Breakthroughs in China:** China is catching up faster than expected in RAM technology and GPU production capacity, which threatens major profits for companies like Micron, SK Hynix, Samsung, and NVIDIA. The KOSPI index has seen a parabolic blow-off top followed by poor performance.
2. **NeoClouds:** Highly levered companies like CoreWeave, which borrowed $35 billion to buy and lease out compute, face immense risk from fluctuating asset values, potential demand shifts from model builders like Anthropic, and exposure to higher interest rates. CoreWeave's credit default swap (CDS) prices are spiking, and an Australian neocloud pulled its IPO.
3. **Model Layer:** Model builders like Anthropic are reporting revenue growth lower than investor expectations, complicating their lofty valuation goals.
Despite being in monthly options expiration, which is usually supportive, the market sold off. The VIX soared above 20%, indicating increased put option buying. Furthermore, heightened geopolitical risks ahead of midterms—such as Professor Pate estimating a 66% probability of an Iranian strike—and suspicious oil trades tied to White House actions are adding to market unease.
Finally, the host reiterates that bonds remain a strong hedge going into this dicey period, as a risk-off event would drive a bid for bonds, lowering rates, while potential resolutions could bring down oil prices and reduce the need for Fed hikes.