We start the last month of the year with stocks on record highs, and asset prices broadly having one of the better years on record.

The economy is tracking above 3% growth for the quarter.  The Fed is in an easing cycle.  Businesses and consumers are anticipating a pro-growth, deregulation agenda from the incoming Trump administration.

And the VIX (downside insurance for investment managers), looks like no fear …

Despite the many shock risks in the world, the VIX appears to be signaling relative calm.

With that, the bigger influence on how stocks close the year, and open the New Year, will likely come from the December 18th Fed meeting.

We come into the month with the market pricing in a little better than a coin flips chance of a 25 basis point cut this month (following the 50 bps cut in September and 25 bps cut in November).

But we have a number of Fed members speaking this week, including Jerome Powell on Wednesday.  And we should expect some signaling.

It appears to have started with Fed Governor Chris Waller.

Waller had some prepared remarks at the American Institute for Economic Research today, with the not so subtle title:  “Cut or Skip?”

So, without even getting into the text, clearly the Fed wants to prepare markets for the possibility of a skip, a “no rate cut” this month.

What would justify a skip.

They’ll see jobs data this week.  They’ll see CPI and PPI next week.  All unlikely to justify holding rates at a level the Fed acknowledges to be well in restrictive territory.

And they’ll see this next week …

After the market closed on Friday, Trump named Scott Bessent his nominee for Treasury Secretary.

This is good news.

He comes in as a Trump loyalist, with a clear stated interest in executing on the Trump agenda.

But he has also had plenty of influence on that agenda, and he’s talked about his own equivalent of Abenomics to turn the economy around.

His “three arrows” would aim for 1) 3% real GDP growth through deregulation, lower energy prices and giving businesses confidence to hire and invest, 2) bringing the deficit down to 3% of GDP by the end of the term, through cuts to discretionary government spending and better growth, and 3) increasing energy production by 3 million barrels (boe) a day, which will bring down overall prices.

So, it’s the 3/3/3 plan.

But much of the execution of this plan will depend on how successful he and the Trump team are in dealing with China.

As with Trump, Bessent might be “the perfect man for these times.  Not all times, perhaps not most times, but these times.”

He’s well aware/ on high alert to the vulnerable position Yellen has left the bond market in, by financing record peacetime deficit spending with short-term maturities — a third of the outstanding government debt will need to be rolled over through the next year.

And he’s a China hawk.  He understands very well that the multi-decade global imbalances that have delivered the frequent booms and busts in the global economy have to be resolved — and it’s brought to us by China’s currency manipulation.

On the latter, let’s revisit an excerpt from one of my notes during Trump’s first term (from August 2019) …

Not only does this all still apply, it’s arguably beyond the tipping point now. 

Even Bessent has openly said, this might be “the last chance to grow our way out of the [debt] problem” (the debt problem which is derived from this structural imbalance). 

On that note, currencies are the natural balancing mechanism to prevent the bubbles and global imbalances from forming.

If the yuan were freely traded, with aggressive growth in the economy over the past three decades would come a rise in the value of the yuan (rise in demand of yuan-denominated assets), making its exports more expensive.  The Chinese would consume more with a more valuable currency and richer asset values, and produce less. 

Weaker economies would have less demand for their assets, a weaker currency, and therefore more attractive exports.  They export more, consume less.  And so the cycle would go.

It all spirals down, however, when a major trading partner is deliberately manipulating its currency (keeping it cheap).  But only if its trading partners keep trading with it. 

Unfortunately, Western world politicians have kept trading with China.  They’ve done very little over the years to disrupt the spiral, for a variety of reasons (it’s politically unpalatable … constituents like cheap stuff, governments like cheap credit, and politicians like political and financial favors).

So, as with Trump 1.0, Trump 2.0 will be about dealing with China. 

Bessent has already telegraphed what he thinks will be another Plaza Accord type of “large scale globally coordinated currency, fiscal and monetary” agreement.  For it to work, it seems like it will have to involve putting China in the trade penalty box.  

As you might suspect, China’s multi-decade economic war (driven by currency manipulation), which has evolved into hybrid warfare over the past eight years (economic, psychological, biological, information, political, cyber) will likely escalate.

PS:  If you know someone that might like to receive my daily notes, they can sign up by clicking below …  

Today we heard Q3 earnings from Nvidia, the most important company in the world.

Is this hyper-growth story still intact?

As we discussed yesterday, coming into this earnings report the stock is no longer cheap, as the rapid earnings growth is no longer outpacing the even more rapid growth in the valuation (now $3.6 trillion).

And we also observed from the Q2 earnings event back in August, that supply constraints seemed to have capped Nvidia’s growth in data center revenues (which is almost the entire business now).

With that, let’s take a look at Q3. 

They beat on revenue and earnings. But after five consecutive triple-digit revenue growth quarters, the year-over-year revenue growth in Q3 was 94% — no longer triple-digits, though still incredible growth, with incredible profitability of $20 billion in net income.  

But the growth rate trajectory from here is down.  As you can see in the graphic above (within the green box), as the size of the key Data Center business has multiplied over the past year, the new revenue added every quarter is fairly stagnant.

That said, the gaming business had some unusual growth (green arrow in the above graphic), though it looks like they may have pulled forward some sales to boost the overall growth for the quarter.  The clue?  The CFO said to expect the gaming revenue next quarter to decline.

So, the growth rate does indeed appear to be capped, at this stage, for Nvidia.  And the CFO acknowledged it today in the prepared commentary and in the conference call, saying that “supply constraints” are keeping them from meeting demand. 

And we can deduce that the issue is manufacturing capacity, given their reliance on Taiwan Semiconductor.

This presents some resistance for the speed of change in the technology revolution, which should start to weigh on Nvidia shares.

With that, and given the likely bumpy path geopolitically over the next couple of months, the Nasdaq looks vulnerable to a correction.

Nvidia will report on Q3 tomorrow after the market close.

Let’s revisit a couple of observations from my August note, just following the Nvidia Q2 earnings.

First, we knew going in that the tech giants were buying as many Nvidia GPUs as Nvidia would sell them.  The price was continuing to go up, and they were all willing to spend whatever it took (which still applies).

With that, we had a good idea that demand in the quarter for Nvidia would be strong.

Indeed, it was another triple-digit year-over-year growth quarter – the fifth consecutive one.  And they made a lot of money.  The net income of nearly $17 billion in the quarter was more than the full year revenue of just three years ago.

But we also observed these two things in that Q2 report:

1) the valuation dynamic for Nvidia had changed,

2) And supply constraints seemed to have capped Nvidia’s growth capacity.

On valuation, as the revenues have exploded higher since early last year, so has the profitability of each dollar of revenue.  Operating margins have nearly tripled.

And with that, even though the price of Nvidia shares have skyrocketed over the period, the share price relative to its earnings power got cheaper along the way (i.e. the earnings growth outpaced even the torrid share price growth).

We can see it in the chart below.  When Jensen Huang shocked the world in May of 2023, declaring the “beginning of a major technology era,” Nvidia was trading 77 times the run-rate EPS at the end of that reporting quarter (Q1 2023 EPS times 4).

And for the reasons we just discussed above, this PE metric declined over the subsequent quarters (the stock got cheaper), even though the share price was soaring.

As you can also see, this dynamic started reversing several quarters ago, and even if they beat estimates tomorrow by a similar margin to previous quarters, the stock will be trading somewhere around 44 times this forward EPS metric.  It’s no longer cheap.  

That’s because profit margins are no longer growing, yet the stock price, particularly after the stock split announcement this past May, has been on a tear, outpacing earnings growth.

And this brings us to the second point we observed in the report last quarter, “growth constraints” …

It doesn’t appear that Nvidia will be a triple-digit revenue grower much longer, because of this …

If we look at the trend in the quarterly-change-in-revenues, Nvidia seems to be on a rhythm of consistently adding $4 billion a quarter in new revenue.  

We already know demand is insatiable, so both the rapidly advancing technology in accelerated computing and supply constraints seem to have capped Nvidia’s growth capacity (at least at this point). 

If this trend of $4 billion a quarter of additional revenue continues, Nvidia will be growing at a year-over-year rate closer to 50% by the middle of next year (no longer triple-digits).

We heard from Jerome Powell today for the first time since the November 7th post-FOMC press conference.

He was in Dallas at a World Affairs Council event, where he delivered some prepared remarks and did Q&A.

Here are some takeaways:

With the CPI and PPI data of the past two days, they project their favored inflation gauge, PCE, to come in at 2.3% when it’s reported on November 27th.  That would be an uptick by two-tenths of a percent.

And he said, “the economy is not sending any signals that we need to be in a hurry to lower rates.”

That sent yields higher, stocks lower.  And the interest rate market priced OUT some of the near certainty on a December rate cut.

Add to that, in last week’s post-meeting press conference, Jerome Powell was asked how the Trump agenda is influencing the Fed’s view on inflation and rate setting.

Here’s what he said:  “… in the near term, the election will have no effects on our policy decisions  … We don’t know what the effects on the economy would be … and to what extent those policies would matter for the achievement of our goal variables, maximum employment and price stability. We don’t guess, we don’t speculate, and we don’t assume.”

That wasn’t the case in 2016.  The host brought this up, and Jerome Powell wasn’t too pleased to hear it.

Following the 2016 Trump win the Fed hiked rates in December, restarting what had been a one-and-done rate hike campaign from a year prior (the economy was too weak, and they abandoned the tightening plan after just one hike in 2015).

Also in that December 2016 meeting, the Fed revised UP inflation forecasts, saying “some of the participants” incorporated the “assumption of a change in fiscal policy” into their projections.

So, yes, the pro-growth Trump agenda did indeed influence the Fed’s policymaking back in 2016 (just a month after the election).  They did assume a hotter price pressure environment was coming, enough to proactively hike rates in an economy that had averaged only slightly above 1% PCE inflation that year.

Yesterday, we looked at this chart of the 10-year yield.

Despite 75 basis points of easing from the Fed since September, bond yields have moved aggressively higher, not lower.

And we came into this morning’s October inflation report testing this big trendline.  The inflation number did nothing to change the rate path for the Fed (i.e. trajectory lower), but yields finished higher on the day, again.

And now the benchmark 10-year yield is trading above the election day highs — to the highest level since July 1st.

In my note yesterday, we talked about Scott Bessent’s view on the bond market risk.  I was mistaken in saying he was formally named Trump’s Treasury Secretary nominee.  He wasn’t, but he’s the likely nominee (maybe named tomorrow).

Let’s continue the discussion on his concern about the current Treasury Secretary’s management of the economy, in a way that trades short term gain (in attempt at political gain) for medium and long-term economic pain — leaving the pain for the new administration.

As you can see in the right side of the chart below, the government has been funding the largest deficit spending in peacetime history, by issuing an unusually large proportion of short-term debt (Treasury bills, the blue bars).

By funding more of the deficit with shorter dated Treasury bills over the past year, Yellen paid more to borrow, as short term rates were higher than long term rates (an inverted yield curve).

But by focusing on Treasury bills, and limiting the increase in longer-term bond issuance, Yellen was able to influence longer-term interest rates lower or prevent them from rising further.

Bessent has made the case that this looks like Yellen purposely manipulated financial conditions through this strategy to “goose the economy.”

And now, for the new administration, these short term Treasury Bills will have to be refinanced, creating risks for rate volatility and “the potential for a financial accident.”