Market Thoughts: Hot, hot, hot!

Risk assets are well-supported. Earnings strength continues to ease what had been fast-rising concern about valuation levels. They’re also helping keep credit spreads in check. The rally we’ve seen is fundamentally driven.

Consumer pain from higher energy costs has been masked by fiscal stimulus. The one big, beautiful bill and tax refunds have stymied a marked retracement in consumption. So far, so good.

Energy prices have ‘held in’ thanks to China throttling back imports by over 5 million barrels per day (mm bpd), according to Vortexa. They’ve also exported a limited amount of oil and refined products across Asia. It’s in their interest not to see the region’s economy break.

The U.S. has increased net oil exports by over 3mm bpd. As importantly, countries continue to draw down commercial reserves. Much of that inventory is held on tankers at sea. We’ve seen modest drawdowns of strategic energy reserves as well. Reserves aren’t bottomless.

Saudi Arabia’s Aramco estimates the oil industry ‘lost’ about one billion barrels of supply since the war’s start, mostly from shuttered production. That’s a lot of oil to make up for in production and reserve rebuilding.

The longer the Strait stays shuttered, price pressure will continue to ratchet up demand destruction. That’s a nice way of saying prices will spiral higher until demand breaks. My observations above help explain why we haven’t seen a more explosive run higher yet in oil prices, but it’s circling.

I liken what we’re seeing to the idea, in chaos theory, of the butterfly effect. Small changes in a complex system eventually have a far greater impact than foreseen. We’re beginning to see some of that butterfly-fueled pressure build across inflation data globally.

U.S. April headline consumer prices came in higher than expected, at 3.8% year-over-year (yoy). Core inflation printed higher as well. Rising, but not alarming. Producer prices are another matter. Headline and core PPI printed 6% and 5.2%, respectively; up from 4.3% and 4% in March.

Energy prices were predominantly responsible for inflation moving higher in April. We’re beginning to see energy prices pass into goods and services. Bubbling, not yet on the boil. AI is adding a kicker. Electronic component prices rose around +25% yoy in April, driven by memory chip shortages.

Bond vigilantes have taken note; yields are moving higher. The U.S. Treasury just auctioned 30-year bonds with a 5% yield, the first time since 2007. Futures have walked back easing in the U.S. They’re factoring in rate hikes for Europe and Japan. As the U.K.’s just shown, a significant sell-off in government bonds in one country can take other bond markets along for the ride.

The risk that’s quietly building in the background across markets is a tightening of financial conditions (rising rates) brought on by higher-for-longer energy prices. I would put a ‘wet finger in the air’ 20-25% probability on that increasing. About the same chance we slip into recession.

We came into the year with a modest overweight to equities and extended credit. We held those positions throughout the tumult and turmoil. We’ve let equity overweights drift higher as risk assets raced to recover. They have. We’ve been rewarded. In certain multi-asset portfolios our tactical equity overweight doubled. We’ve been comfortable with it given the strength of earnings.

For investors that cut risk, they’ve raced to re-risk… whether driven by earnings or hope for reopening of the Strait. Systematic strategies—and hedge funds more broadly—have re-risked. So have retail investors. I mention that because ‘buying power’ isn’t what it was coming into April. Unlike gas tanks, the investor ‘risk-o-meter’ reads pretty much full.

A lot of money’s been made in a very short period. Investors are hedging and/or trimming back some of their gains. We’ve done the same. We remain constructive on the outlook, especially earnings. But it’s prudent to pull back a bit on risk reins. We remain overweight equities, just less so. We’ve hit reset. We’re back to the tactical risk positioning we came into the year with.

Equity market breadth remains unhealthy. Momentum, given the recent run, is vulnerable. And expected heavy supply, in the form of mega-IPOs from SpaceX, Anthropic and OpenAI, is fast-approaching. Companies in the U.S. have announced something like $700bn in buybacks for the year. We’ll likely see $1 trillion. The above combines to keep investor nerves, for now, in check.

We’re due an air pocket or two ahead. I have no idea when or why. Nor does anyone else. Too much of a good thing eventually becomes simply too much. We’re taking the amount of risk we believe we’re being paid for. As of this writing, passage through the Strait is closed… butterfly wings flapping.

Markets are where they are because of fundamentals. If bond yields press higher, investors will begin to reassess the outlook and their risk positioning. Hot, hot, hot!

“People in the party, hot, hot, hot / They come to the party, know what they got.” Buster Poindexter

Unless explicitly stated otherwise, all data is sourced from Bloomberg, Finance LP and J.P. Morgan as of 5/14/26

Opinions, estimates, forecasts, and statements of financial market trends that are based on current market conditions constitute our judgment and are subject to change without notice. We believe the information provided here is reliable but should not be assumed to be accurate or complete. The views and strategies described may not be suitable for all investors.

INDEX DEFINITIONS

The STOXX Europe 600 (commonly called the STOXX 600) is a premier stock market index tracking the 600 largest and most liquid companies across 17 European countries. It serves as a primary benchmark for the broader European equity market, covering approximately 90% of the region's free-float market capitalization.

The S&P 500 (Standard & Poor's 500) is a stock market index tracking the performance of 500 leading U.S. publicly traded companies. It covers roughly 80% of the total U.S. market capitalization and is widely considered the best single gauge of the broader American economy and large-cap equity market.

The NASDAQ Composite is a stock market index that tracks the performance of all common stocks and similar securities listed on the NASDAQ stock exchange. It is heavily weighted toward technology and growth-oriented companies and is widely used as a benchmark for the performance of U.S.-listed tech and innovation-focused equities.