Change | Seeking Alpha

If you look at markets, there are some big changes on the horizon. Change is happening at an exponential pace in the outside world, and there are consequences in the markets.

We had several conversations about plumbing this week. Thank goodness not in our house but from an investing perspective. You have seen the headlines about Ukraine and the oil markets. Paying $4 a gallon at the pump isn’t a lot of fun. You may have even heard and understand the significance of corn and wheat not being planted this year in the Ukraine. Thanks to Mr. Mauldin, we even learned that there could be a shortage of neon gas that comes out of the Ukraine and that is needed for semiconductors. The world’s just-in-time supply chains are in complete disarray and may not come back for years. There was plenty of fear to go around this week, but we are focused on the plumbing of financial markets. That is where the real problems come in. If you have read our note for some time, you have heard us rant that the day-to-day narrative in markets does not really matter. When things matter is when markets develop liquidity issues, or what we call plumbing problems. The sanctions on Russia are having multiple negative unintended consequences and the plumbing is being affected. We are facing what could become a classic liquidity crisis. Banks are becoming more reluctant to lend to one another, and that can be an issue – or maybe more accurately, the issue. The system is getting backed up, and trust – the bedrock of any financial system – is eroding. Sanctions are the new siege. We are already at war.

We thought that inflation was going to go out with a whimper as Congress couldn’t pass another stimulus bill. We may be wrong. It seems that the folks in DC have found another way to keep inflation running hot. The conflict in the Ukraine is impacting wheat, corn, cooking oils, energy and semiconductors. More restrictions on Russian oil will only send West Texas Crude towards $150 a barrel. We are all but guaranteed a recession with oil rising so quickly – and especially so if the Fed continues to look to raise rates. The seven rates hikes that many predicted are off the table. We told you so. While that shock to the economy is lessened, the inflation shock is heating up even more. That’s why we own gold. The Fed will not be in a position to raise rates high enough to stop inflation.

I have used the late 1960s, early 1970s analogy in the past. We would refer you back to that era. While we had the 1968 pandemic and civil unrest reference in past letters, we are now seeing something akin to the 1973 oil embargo and shock that sent inflation roaring. What’s next? We hate to say it, but in 1973-74, we suffered one of the worst bear markets in our history. We have pared back some exposure. We are underweight growth/tech stocks and prefer value. Our oil and gold positions have absorbed a good part of the hit so far in 2022. Here’s the thing. Markets are oversold and in negative gamma. Negative gamma swings both ways. That is why we get 800-point rallies in the Dow Jones. A significant rally may be in the horizon if Russia backs off. We would be sellers. We see 15-18 months of sideways to lower in the markets for now.

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