There’s nothing worse than leading into a punch.

The outcome for any mixed martial artist or karate black belt is usually disastrous: a broken nose, brain damage, or death.

It only took a few choice words from Jay Powell’s Friday Jackson Hole speech to set the markets on fire and trigger a 1,000-point rally in the Dow Average. Powell stated that “Increased risks to the economy, particularly in the job market, warranted consideration of a downward adjustment in the Fed’s benchmark rate.” Unsurprisingly, the US dollar (UUP) tanked.

What Powell really wanted to do was to keep us all guessing.

Clearly, the junior “B” team “glass half full” traders left in charge on a slow Friday in August, took the bit between their teeth and ran stocks up. More sober minds might take them right back down on Monday.

Powell did concede that if the data flow is perfect for the next month, then there might be a small rate cut. The problem is that the data flow is likely to be anything but perfect.

Last week, the Producer Price Index came in at a red-hot 0.9%, or a 10.8% annualized rate. That is the fastest pace since the hyperinflation of the 1980s. The PPI would have been much higher if so much inventory hadn’t been brought in prior to August 1.

And here is another puzzle. As dovish as he sounded on Friday, only two days earlier, on Wednesday, the Fed minutes from their last meeting came in neutral, with no immediate demand for an interest rate cut. The concern about tariff-driven inflation overwhelms any worries about rising joblessness.

It all sets up negative GDP figures for the second half of 2025 and possibly well into 2026. Even the most ardent Kool-Aid drinkers or the most junior summer “B” team traders can’t ignore that.

And that is the punch stock investors could be leaning into. The last time we had stagflation like this was during the 1970s. We entered the decade with a price-earnings multiple of 17X, coming off the Nifty Fifty, and came out with a multiple of only 9X. That is why many stockbrokers back then drove taxis to make ends meet. It is also why I started out my career instead of as a floor trader, which I didn’t begin until the 1980s.

It all adds up to a 10-stock market that is topping out now and setting itself up for a big disappointment when Jay Powell fails to deliver a cut in September. Unless the other 490 stocks catch fire soon, we could be looking at big problems.

And the inflation has only just started. Goods that come into the US by plane, like electronics, started paying higher tariffs on August 1. Heavy goods, like furniture and cars, arrive by ship and take three months to reach US retailers. All this means is that inflation is the gift that will keep on giving. This is why the government is in such a hurry to cut interest rates now, before inflation really gets out of control and cuts become impossible.

And that is only half the picture. With the dollar down 15% against the Euro since January, this effectively doubles imported inflation to a 30% rate, sending prices through the roof and demolishing the US economy. This applies to all of the $4.1 trillion that the US imported in 2024. Apply both the tariffs and strong foreign currencies, and you end up with new de facto import taxes this year of $1.2 trillion.

That is going to leave a bruise!

The great irony in all this is that lower interest rates will have less of a positive impact than at any time in the past. The ten stocks now making up 50% of total stock market capitalization don’t borrow to finance growth. Instead, they use massive internal cash flows or new equity issues. If anything, lower rates will cost them money as their gigantic holdings of 90-day US Treasury bills, $55 billion worth in the case of Apple (AAPL) alone, will yield less.

Interest rate cuts won’t help homebuyers because loans there are based on rates for 30-year bonds, which are unlikely to move much, even if rates are cut. The declining credit status of the US government, a result of increased borrowing at a record $5 trillion rate, makes any serious rally in bonds unlikely. As the Fed tells you at every opportunity, they don’t control the bond market.

There are some sectors of the economy that do benefit from falling overnight rates. They will help those running large credit card balances, which are based only on overnight rates. Anything related to the auto industry does well, as car leases and sales are also based on short-term rates. Witness the ballistic moves in General Motors (GM) and Ford (F) on Friday. And I expect a surge in demand in floating rate mortgages and away from traditional fixed rate 30-year ones, which brought us a decent move in lender Rocket (RKT).

In fact, many of the biggest stock moves on Friday sent us running for our ticker symbol look-up apps because they haven’t moved in so long. They include anything that can even remotely be viewed as a bond. They encompass high-yielding REITs like Prologis (PLD) and American Tower (AMT), big dividend payers like Pepsi (PEP), utilities like Duke Energy (DUK), and regional banks like Zion Bancorp (ZION). Take a look at iShares Core S&P Small Cap ETF (IJR), which includes only profitable small-cap companies, mostly banks.

Underlining the elevated levels of stock prices and risk, Disaster Puts have suddenly become fashionable with institutional investors. These involve the buying of put options on the (QQQ) that are 30%-50% very, very deep out-of-the-money. It is an opportunity to buy downside protection for pennies that can increase several thousand percent in value when markets crash.

The last time Disaster Puts worked was in February when I warned readers that a major selloff was imminent. One client earned a 50-fold profit in a mere six weeks. We saw these work well during the 2020 pandemic. Before that, there was the 2008-2009 Great Recession and the 1987 stock market crash.

Which brings to mind a story I fondly recall from my distant past. During the summer of 1987, Morgan Stanley (MS) hired a young, 24-year-old, bright-eyed and bushy-tailed man whom I will call “Peter”, the son of a big commission-paying retail client. Peter had no previous experience in the financial markets. You saw hires like this all the time at Morgan Stanley, which back then was still a private firm and beholden to no one.

Peter got wind that the senior traders on the desk were expecting a major selloff in the market in October of 1987. This is when “Portfolio Insurance” was the financial engineering innovation of the day, whereby selling by institutional portfolio managers automatically begat more selling.

Peter borrowed $200,000 from his dad and invested the entire sum into the S&P 500 in October 1987, $250 put options ($SPX), when the index was trading at $350, or 30% out of the money. Everyone said he was crazy, and he was just throwing away his rich dad’s money. Then the Great 1987 Stock Market Crash ensued. Peter’s position rocketed in value to $10 million.

Then, after only two months at Morgan Stanley, Peter said, “It’s been great, guys,” and he retired. He moved to Sun Valley, Idaho, and set up a risk management company specializing in “long tail” risks. Specifically, he taught companies how to protect against catastrophic declines in the stock market. He signed up major clients like Morgan Stanley’s Barton Biggs, Fidelity, and the CalPERS, the California Teachers’ State Pension Fund, and made another bundle of money.

The great bull market of the roaring 1990s unfolded, and the stock market proceeded to rise every year for 13 years, almost continuously. His clients lost all their options premiums, dragging down their performance, and Peter eventually went out of business.

Peter then went into the gold market, which was then trading at about $270 an ounce. Today, it is at $3,500. I don’t know where Peter is today, but I bet he is sitting pretty.

Some people have all the luck.

My August performance is showing a rare decline so far, down -0.34%. That takes us to a year-to-date profit of +52.09%. My trailing one-year return rose to +93.74%. That takes my average annualized return to +51.32%, and my performance since inception finally topped +803.98%. These are all non-compounded numbers.

All of the low-hanging fruit has been picked. With the Volatility Index ($VIX) hugging the $14 handle, I executed no GTD trades last week and maintained a rare 100% cash position. Up 52.09% on the year, I have a lot of hard-earned performance to protect, and it’s not with sticking my neck out on a high-risk marginal trade.

Some 63 of my 70 round trips in 2023, or 90%, were profitable. Some 74 of 94 trades were profitable in 2024, and several of those losses were really break-even. That is a success rate of +78.72%.

Try beating that anywhere.

My Ten-Year View – A Reassessment

We have to substantially downsize our expectations of equity returns over the next four years. My new American Golden Age, or the next Roaring Twenties, is now looking at multiple gale-force headwinds. The economy will completely stop decarbonizing. Technology innovation will slow. Trade wars will exact a high price. Inflation will return. The Dow Average will rise by 600% to 240,000 or more in the coming decade. The new America will be far more efficient and profitable than the old. My Dow 240,000 target has been pushed back to 2035.

Manufacturing Flash PMI Comes in Red Hot, at 55.2, a 39-month high. US business activity grew at the fastest rate recorded so far this year in August, according to early ‘flash’ PMI data, adding to signs of a strong third quarter. Growth was seen across both manufacturing and service sectors of the economy. Hiring also picked up. Job creation reached one of the highest rates seen over the past three years as companies reported the largest build-up in uncompleted work since May 2022.

Existing Home Sales Rise 2% in July to a seasonally adjusted 4.01 million units. Sales were up 0.8% YOY. Some 1.55 million homes are for sale, up 15.77% YOY, and represent a 4.6-month supply. The median price of a home is $422,400, up only 0.2% YOY. First-time buyers were 28%, while all cash buyers were a near-record 31%.

Weekly Jobless Claims Jump 11,000, to 235,000. The number of Americans filing new applications for jobless benefits rose by the most in about three months last week in an initial signal that layoffs may be picking up and adding to signs the labor market is weakening.

The Labor Force is Shrinking, due to mass deportations and Hispanics hiding from ICE. High inflation will be the inevitable result. The size of the foreign-born labor force has declined by about 1.2 million people since January, to 32.1 million total people in July, according to the Bureau of Labor Statistics. That explains the rush to cut interest rates, before inflation really accelerates.

Housing Starts Rise, with single-family housing starts up 2.8% in July, the Census Bureau reports. Thirty-year fixed-rate mortgages hit their lowest level since October, according to Freddie Mac. Residential investment contracts, impacting US economic output.

Homebuilder Sentiment Hits Three-Year Low. A gauge of U.S. homebuilder sentiment fell unexpectedly in August, slipping back to its lowest level in more than two-and-a-half years, with more than a third of residential construction firms cutting prices and roughly two-thirds of them offering some form of incentive to lure buyers sidelined by still-high mortgage rates and economic uncertainty. The National Association of Home Builders/Wells Fargo Housing Market Index fell to 32, matching the lowest reading since December 2022, from 33 in July, the association said on Monday. Economists polled by Reuters had expected the sentiment score to improve to 34.

UnitedHealthcare (UNH) rockets on News of Buffett’s Involvement. Shares of UnitedHealth Group surged nearly 14% on Friday after billionaire Warren Buffett’s Berkshire Hathaway (BRK/B) bought 5 million shares of the company, providing a shot in the arm for investors who think the health conglomerate will turn around under its new CEO. The shares have lost nearly half their value in the last year as the company struggled to adapt to rising healthcare costs and changes to government reimbursement plans.

MIT Tanks the Market, the august university published a report claiming that 95% of companies using AI lose money at it. Only the top mega-caps are actually making money on AI. Despite the rush to integrate powerful new models, about 5% of AI pilot programs achieve rapid revenue acceleration; the vast majority stall, delivering little to no measurable impact on P&L.

Sales of Foreign-Branded Cell Phones in China Plunge 31.3%, a fallout from the trade war. Apple is the biggest victim as Chinese consumers shun American brands. The shipments of foreign-branded phones slid to 1.971 million units in June, from 2.869 million handsets the same month a year earlier.

S&P Maintains US AA+ Rating, keeping the downgrade from AAA after a massive increase in government borrowing. S&P said the outlook on the U.S. rating remains stable. The ratings agency expected the Federal Reserve to navigate the challenges of lowering domestic inflation and addressing financial market vulnerabilities.

Is AI Really Worth $16 Trillion? Expectations for eventual returns on the vast amounts of money companies are pouring into artificial intelligence are now driving most of the gains in the stock market. Research from Morgan Stanley highlights why that might make sense. Companies could accrue annual net benefits totaling some $920 billion, considering how AI could affect job automation and augmentation.

Novo Nordisk Cuts Ozempic Price by Half, to $499 a month for cash buyers, in a boon for the obese everywhere. Novo said the offer is unrelated to its discussions with the US government. It comes less than a week after weight-loss rival Eli Lilly (LLY) made its own adjustment, raising the list price for its obesity shot in the UK by as much as 170%. Still, it’s not yet clear how much difference either measure will make when it comes to variations in what patients actually pay across countries.

On Monday, August 25, at 8:30 AM EST, New Home Sales are out.

On Tuesday, August 26, at 7:30 AM, Durable Goods Orders are announced.

On Wednesday, August 27, at 7:00 AM, we get EIA Crude Stocks. Nvidia (NVDA) announces earnings.

On Thursday, August 28, we get Weekly Jobless Claims. We also obtain Q2 GDP.

On Friday, August 29, at 10:00 AM, we obtain the Core PCE, an important inflation report, Personal Income and Spending, and the Baker Hughes Rig Count.

As for me, in the seventies, Air America was not too choosy about who flew their airplanes at the end of the Vietnam War. If you were willing to get behind the stick and didn’t ask too many questions, you were hired.

They didn’t bother with niceties like pilot licenses, medicals, or passports. On some of their missions, the survival rate was less than 50%, and there was no retirement plan. The only way to ignore the ratatatat of bullets stitching your aluminum airframe was to turn the volume up on your headphones.

Felix (no last name) taught me to fly straight and level so he could find out where we were on the map. We went out and got drunk on cheap Mekong Whiskey after every mission just to settle our nerves. I still remember the hangovers.

When I moved to London to set up Morgan Stanley’s international trading desk in the eighties, the English had other ideas about who was allowed to fly airplanes. Julie Fisher at the London School of Flying got me my basic British pilot’s license.

If my radio went out, I learned to land by flare gun and navigate by sextant. She also taught me to land at night on a grass field guided by a single red-lensed flashlight. For fun, we used to fly across the channel and land at Le Touquet, taxiing over the rails for the old V-1 launching pads.

A retired Battle of Britain Spitfire pilot named Captain John Schooling taught me advanced flying techniques and aerobatics in an old 1949 RAF Chipmunk. I learned barrel rolls, loops, chandelles, whip stalls, wingovers, and Immelmann turns—everything a WWII fighter pilot needed to know.

John was a famed RAF fighter ace. Once, he got shot down by a Messerschmitt 109, parachuted to safety, took a taxi back to his field, jumped into his friend’s Spit, and shot down another German. Every lesson ended with a pint of beer at the pub at the end of the runway. John paid me the ultimate compliment, calling me “a natural stick and rudder man,” no pun intended.

John believed in tirelessly practicing engine-off landings. His favorite trick was to reach down and shut off the fuel, telling me that a Messerschmitt had just shot out my engine and to land the plane. When we got within 200 feet of a good landing, he turned the fuel back on, and the engine coughed back to life. We practiced this more than 200 times.

When I moved back to the US in the early nineties, it was time to go full-instrument in order to get my commercial and military certifications. Emmy Michaelson nursed me through that ordeal. After 50 hours flying blindfolded in a cockpit, you get very close to someone.

Then came flight test day. Emmy gave me the grim news that I had been assigned to “One Engine Larry,” the most notorious FAA examiner in Northern California. Like many military flight instructors, Larry believed that no one should be allowed to fly unless they were perfect.

We headed out to the Marin County coast in an old twin-engine Beechcraft Duchess, me under my hood. Suddenly, Larry shut the fuel off, told me my engines had failed, and that I had to land the plane. I found a cow pasture aligned with the wind and made a perfect approach. Then he asked, “How did you do that?” I told him. He said, “Do it again,” and I did. Then he ordered me back to base. He signed me off on my multi-engine and instrument ratings as soon as we landed. Emmy was thrilled.

I now have to keep my many licenses valid by completing three takeoffs and landings every three months. I usually take my kids and make a day of it, letting them take turns flying the plane straight and level.

On my fourth landing, I warn my girls that I’m shutting the engine off at 2,000 feet to practice an emergency engine-off landing. They cry, “No, Dad, don’t.” I do it anyway, coasting in, bang on the runway numbers every time.

A lifetime of flight instruction teaches you not only how to fly, but how to live as well. It makes you who you are. Thus, my insistence on absolute accuracy, precision, risk management, and probability analysis. I live my life by endless checklists, both short and long-term. I am the ultimate planner, and I have a never-ending obsession with the weather.

It passes down to your kids as well.

Julie became one of the first female British Airways pilots, got married, and had kids. John passed on to his greater reward many years ago. I don’t think there are any surviving Battle of Britain pilots left. Emmy was an early female hire at United Airlines. She married another United pilot and was eventually promoted to full captain. I know because I ran into them in an elevator at San Francisco airport ten years ago, four captain’s bars adorning her uniform.

Flying is in my blood now, and I’ll keep flying for life. I can now fly anything anywhere and am the backup pilot on several WWII aircraft, including the B-17, B-24, and B-25 bombers and the P-51 Mustang fighter.

Over the years, I have also contributed to the restoration of a true Battle of Britain Spitfire, and this summer I’ll be taking the controls at the Red Hill Aerodrome for the first time.

Captain John Schooling would be proud.

 

Captain John Schooling and His RAF 1949 Chipmunk

 

A Mitchell B-25 Bomber

 

A 1932 De Havilland Tiger Moth

 

Flying a P-51 Mustang

 

The Next Generation

 

John Thomas
CEO & Publisher
The Diary of a Mad Hedge Fund Trader

 

50 Years of S&P 500 Index