Enemies Real and Imagined

Today I want to share three things I think I know based on what Radiant, our platform for analyzing the prevalence of various narratives in markets, has been telling us. Then I want to share what I think I think about what that means.

First, what I think I know. And no, I don't think any of this is particularly earth-shattering or controversial.

I think I know that the prevailing structure of central bank narratives is that the Fed can't, shouldn't and won't move away from a dovish posture.

Within financial news coverage of central bank activities and interest rate markets, our models determined that, after a brief flurry of begging for Fed intervention in early 2020, the dominant archetypal language in central bank coverage for most of 2020 was speculative inflation language. Traditional media outlets, the sell side, the buy side and corporate earnings releases which discussed interest rates at all emphasized uncertainty and speculation about potential inflation that might result from aggressive intervention.

That shifted in late 2020 toward a narrative structure defined less by speculation about inflation and more by speculation about whether hawkish policy would be necessary or whether dovish policy would continue to be feasible. Our judgment was that common knowledge tilted away clearly from fears that banks would be forced to intervene in the direction of "inflation is transitory" in mid-April 2021. In other words, we think there's a moderate but generally held belief among investors that other investors and the Fed are betting on transitory inflation. More importantly, we think significant missionary effort (i.e. effort to shape common knowledge) is being exerted to maintain this narrative.

I think I know that the most influential language being used to discuss US markets is less convinced that stocks are overvalued, with an emerging pole of those who believe policy and recovery have created pockets of attractive value. These are both features we think create an asymmetric bias toward more constructive / bullish responses to data.

Linguistic patterns consistent with attempts to create a narrative of the market as expensive or overvalued are still at high levels - apparently the "akshually valuations aren't really historically high, it's just a shift in market cap to sectors that should be more expensive" mafia haven't gotten to everyone just yet. The density of these patterns in financial news, research, press releases and transcripts, however, has also been in a period of rapid descent. More importantly, that descent has taken place during period that has almost perfectly overlapped with the transition of the central bank narrative to the dovish "inflation is transitory" variety observed above.

In short, we observe that low-rates-longer-because-inflation-isn't-really-a-thing stories are demonstrating a pretty strong pro-cyclical relationship with descriptions of how much "value" and "risk" are present in markets. We think, but can't explicitly prove, despite how inherently sensible it is, that this relationship is causal. That is, we think that what everyone thinks everyone else thinks about dovish Fed policy is shaping how they characterize and describe the valuation and riskiness of their own portfolio positions. Accordingly, we tend to think that continued dovish rates and fed policy remains by far the most important market narrative, and the one most sensitive to change.