A-Inflation

How much can the stock market inflate the AI beach ball?

Yes, that image was generated by an AI agent provided by Google, the company with the highest free cash flow in the S&P 500. Despite that, they announced their intention to raise an additional $80B in capital to fund next year's AI infrastructure spending. With the arms race for AI dominance a feature, not a bug, for the economy as a whole. But just as any bug will, this feature will eventually bite.

U.S. capital spending is running at a rate relative to GDP only rivalled by the likes of 19th-century railroad construction, the 20th-century electrification build, and the 2000 Dotcom tech boom. Each episode ended quite badly, with a huge inflation of both asset values and goods inflation that only a bout of monetary contraction solved. Wealth was created, wealth was destroyed, but ultimately it produced a better economy for all.

So this analogue is once again creating a wealth boom, along with spinoff benefits for the real economy. Although we have the playbook, we just don't know the timeframe for the ultimate reckoning. But we do know that this mania will end at some point.

What I'm watching for - some may say Godot-like - is the broadening out of the leadership in the market. It had begun to appear late last year but has been short-circuited by Trump's Iran gambit. But the AI arms race has sufficiently masked this rotation, leading us to the nosebleed new highs we are currently enjoying.

AI is also creating a K-shaped job-creation pattern. Those involved in the actual infrastructure build have job security like never before, while the prospects for white-collar workers in entry-level employment are weakening dramatically. My undergrad diploma in economics, which got me into business school, is just a birdcage liner today.

So, with the 'sell-in -May' crowd ( I was one of them) frustrated once again this year, and the AI IPO hype phase just ahead of us, it will make for a tricky patch here. But Technology, a crowded and soon-to-be supply-choked sector, is not where alpha is now. Stock selection in Tech will become a function of luck more than skill as sentiment swings on headlines that come fast and furious.

What's a Macro guy to do? Just watch the bond market has been my byword this year. Fixed-income investors seem to have weathered the first hurricane of $125 oil, but the hurricane season for bonds is just beginning. Fiscal discipline is non-existent globally, and the issuance of bonds is at record levels.

The economic boost from a drop in oil later this year will add to already frothy investor vibes. The eventual reopening of the Strait of Hormuz could usher in a sell-the-news top (the sound of trumpets will be very loud)! But I don't hear them just yet.

The upcoming data dump from Washington should reveal an economic bounce off the oil shock as the AI capex surge takes effect. That will create a floor under inflation expectations, offsetting any hopes that lower oil prices will lead to lower rates. The new Fed will meet in two weeks, and there are already dissenters lining up to oppose any attempt to lower policy. Kevin Warsh is between an AI rock and a Trump hard place now.

So, as my old friend Pat Taylor used to say, keep buying until the last day of the bull market. We know that when that guy in the picture stops pumping, the resulting pop will not be pretty.

Risk Model: 3/5 - Risk On

The model is signalling a bounce here that should generate a new leg for the left-behind stocks. Today's Alphabet raise is evidence of a topping in the tech rally, as looming supply will satisfy demand. The narrowness in the recent rally should give way to a renewed emphasis on the economic beneficiaries of the AI boom. Copper is a direct play on AI now and can continue to outperform Gold in my view. The chart below shows a perfect entry point for this rotation is at hand. Remember, I like Teck, not Tech.

Teck Resources vs S&P Technology ETF

The Air Canada call ('Sea Fog' - April 18) has worked out well so far, but a breakout from this base would count much higher.