Pro Perspectives 3/11/21

March 11, 2021

U.S. stocks hit new record highs today (indicies tracking small caps, blue chips, broad market … all of it). 

Before that, the European Central Bank ramped up the efforts in Europe this morning, with a  promise to "significantly" increase the pace of QE in the next quarter. And like the Fed, and White House economic voices, the ECB too downplays any inflationary expectation of aggressive policies, as short-term. 

Without question, they will continue to press the accelerator in Europe on stimulus (fiscal and monetary).  It's important to remember, the ECB had already re-started QE before the Pandemic (now ramped up to about $2.2 trillion).  And in response to the Pandemic, they've relaxed fiscal constraints in the European Union, allowing for fiscal stimulus from some of the weaker member-states.  That has been extended to 2023.    

Given this backdrop, and given the record highs in U.S. stocks, we've talked about the opportunities in European equities, which have lagged.

On that note, Italy continues to be one of the most interesting opportunities.  Remember, the former ECB head and architect of the global financial crisis recovery in Europe, Mario Draghi, is now the Prime Minister of Italy.  His "whatever it takes" strategy, as ECB chief back in 2012, saved the euro zone from a sovereign debt crisis.  

He's still getting his feet wet as leader of Italy.  But a bet on Italy here, is a bet on Draghi, his experience and his connections to the ECB and European Commission leaders.  It's a good bet, especially when you consider this chart above, which tracks Italian equities.   This breakout (in the chart) is just getting underway. 

Pro Perspectives 3/10/21

March 10, 2021

If you questioned whether or not pouring another $1.9 trillion onto an economy, that was already on track to do better than 5% growth this year, would be inflationary, the White House is now discussing plans for another $2.5 trillion in deficit spending. 

This, they say will address "infrastructure."  That's code for the clean energy transformation.  And if that (clean energy plan) spending requirement will come in this next package, then where exactly is the trillion dollars going, of the $1.9 trillion, that is not associated with covid relief?

Logic would tell us that rapidly increasing the money supply, as our policymakers have done, will create inflation.  

With that, for perspective on money supply growth, here's the latest look at M1 (the most highly liquid assets, cash and coins in circulation + demand deposits …).  This is before this next wave of money hits …

The average year-over-year growth in M1, dating back to 1995 is a little better than 5%.  The growth in M1 over the past year has been about 350%. 

With that, the deluge of money, in the hands of people, should finally get this chart moving higher. 
This is the velocity of money.  This is the rate at which money circulates through the economy.  And you can see to the far right of the chart, it hasn’t been fast over the past decade (therefore, no inflation). 

We get inflation, only if the recipients of the money, spend it (if it circulates).  That didn't happen coming out of the global financial crisis.  Banks used cheap/free money from the Fed to recapitalize, not to lend. 

In the current case, by design, money is being dropped directly into the hands of consumers.  This money will inevitably translate into hot demand for stuff (it already has in many cases).  And based on the surveys from manufacturers, it will be met with "a scarcity of supply chain goods."  Logic tells us prices will go up. 

But the Fed has told us, inflation is not a concern (it will go up, but will be short-lived).  Powell says, arrogantly, that the long period of low inflation won't "change on a dime."  On a related note, I've just looked through an academic paper that concluded that inflation and money supply growth were positively correlated prior to 1990, but no longer — "inflation is no longer a monetary phenomenon; it is a wealth allocation phenomenon."  Why? Because in wealthy countries "commodity supply is abundant" (they say).

Commodities markets clearly haven't been given this message. 

This complacent view toward inflation sounds a lot like "this time is different."  And historically, in markets, when people say "this time is different," it doesn't end well. 

With this backdrop, gold (the historic inflation hedge) has been moving lower recently since August of last year, but it bounced perfectly into this long term trendline — a good spot to buy or add to gold, on the inflation theme.   

Pro Perspectives 3/9/21

March 9, 2021

Yesterday we looked at charts of the key "big tech" stocks.  These stocks (FB, AMZN, AAPL, TSLA) make up over 13% of the S&P 500 index.  And the recent drag from these stocks had the index in a vulnerable position at yesterday’s close. 

Today, we get a big bounce back, which bolsters the technical picture for the S&P 500 (as you can see in the chart below). 

So, this big trendline remains intact.  That's good news, because this line has plenty of significance.   

If we look back at major turning points in markets, historically, they tend to come with some form of intervention.  This past crisis was no different.  It took intervention to mark the bottom for stocks.  The Fed came in last year, on March 23rd, promising to buy unlimited Treasuries, and they announced that they would buy corporate bonds AND corporate bond ETFS.  This latter piece meant the Fed had (officially) crossed the line, and had entered the stock market.

 
That gave us everything we needed to know about how the Fed would respond to a falling stock market.
 
The Fed knows how important the stock market is in promoting confidence, stability and wealth (and therefore, economic recovery).  If stocks were to get messy (i.e. a quick and "disorderly" decline), we know exactly what they would do.  There is no doubt. They would outright buy stocks.
 
In fact, they will do anything and everything to preserve stability and to preserve the recovery — and to protect the trillions of dollars that have been spent to manufacture that recovery.  With that, any dip in the benchmark S&P 500 is a buying opportunity. 

Pro Perspectives 3/8/21

March 8, 2021

As expected, the Senate passed the $1.9 trillion spending package over the weekend.  This has been a done deal since the Georgia Senate run-off installed two democrat Senators in early January.    

As we discussed on Friday, the dollar will be key to watch as this bill officially becomes law.  The question is: Will foreign investors begin punishing this blatantly profligate deficit spending? 

The risk is that foreign investors sell our Treasuries and sell the dollar. So far, not yet.  Interest rates (bonds) were tame today. And the dollar was up. 

What is moving, is the favored "store of value" for global money over the past few years:  big tech stocks.  They are on the move, lower.  And the technical picture is looking ugly.  

Let's take a look at some charts …

First, here's a look at the S&P 500.  This yellow line represents the very clean uptrend from the March lows of last year, manufactured by government and central bank intervention.  This line broke last week, recovered today, but closes right on the big line. 

This picture of broader stocks looks vulnerable, especially when you consider the technical picture of some big constituent stocks of the index…  

Facebook is down 16% from the highs, and is trading below the 200-day moving average (bearish). 

Amazon is down 17% from the highs and trades below the 200-day moving average (bearish).  

Apple is down 20% from the highs (a technical "bear market" for Apple), and is approaching the 200-day moving average. 

And Tesla, isn't looking good — down 37% from the highs of late January and sitting on a key trendline here.  A move down to the 200-day moving average would represent a 47% drawdown, in what has been the world's investment manifestation of the global clean energy transformation.  Money is moving out. 

Where will this money (from big tech exits) go? 

So far, plenty is finding a home in value stocks.  Will some of this money plow into our Treasuries, at an attractive interest rate (1.6% on the ten-year) relative to the rest of the world?  Or will this money leave the dollar?  We will see. 

Pro Perspectives 3/5/21

March 5, 2021

The Senate may ram through the $1.9 trillion spending package over the weekend, which will likely require a tie breaking vote by the Vice President.  With that outlook, unsurprisingly, stocks reversed course from the beating of this morning.

We've talked about the dangerous inflation that is brewing under the expectations that another additional $1.9 trillion will be poured onto an economy that is already projected to run at least three times faster than pre-Pandemic levels. 

On that note, we had more evidence this morning that the hot economic recovery is already underway, thanks to the over $3 trillion of aid and stimulus rolled out last year.  The jobs number from February came in hot — twice what economists expected. And average hourly weekly earnings were up almost 6% compared to the February of last year (pre-Pandemic).  

And these numbers are coming with parts of the country still burdened by varying levels of government imposed constraints on their respective economies.  Any subjective economist would tell you the economy does not need another penny of stimulus, especially given that the constraints are being lifted. 

But it's coming.  And that's why yields have been running UP, and asset prices have been running UP.

So what happens when that next tranche of money gets the official stamp from Congress?  

We may find that foreign investors start voting on our policy decisions on Capitol Hill, with their feet.  That would mean, exiting the bond market, and selling the dollar.  This weaker dollar scenario is the typical and rational counter-balance to the rise global commodities prices (which are mostly priced and traded in dollars).  

With that, this will be the chart to watch next week …

Pro Perspectives 3/4/21

March 4, 2021

We talked about the 10-year yield yesterday, as the spot to watch for market stability.

On cue, yields did this today …  

And stocks did this …
As we discussed yesterday, the sharp rise in yields, since the beginning of the year, may be a signal that the Fed has it very wrong on the inflation outlook.  

On that note, the Fed Chair, Jay Powell, had a perfect opportunity to atone for any mis-positioning on the inflation outlook today, in a scheduled interview with the Wall Street Journal.  He declined that opportunity, and stumbled through excuses.  The markets didn't like it. 

As we discussed a couple of weeks ago, we should all know that Powell's intent is to signal to markets that rates will stay ultra-low and QE will continue as far as the eye can see.  This is meant to set the expectations (for markets, consumers and businesses), that the Fed will be providing maximum support for years. The intent is to keep any possible impediments to the economic recovery (like behavioral changes from fears of rising prices) out of the picture, to best secure the recovery.  

Market participants are smart enough to see through it.  And I suspect they will continue to push the interest rate market in the direction of reality (up, and stocks lower), up to the point that the Fed will have to respond (probably very soon). 

On that note, as we also discussed yesterday, history shows us that the Fed will easily regain control of the bond market (to keep rates low, to continue unbridled fuel for the recovery).  But subverting market interest rates, at this stage in the recovery, will only create far bigger challenges when they are forced to deal with rapid inflation. 

Pro Perspectives 3/3/21

March 3, 2021

At the highs of last week, the ten-year U.S. Treasury yield had nearly doubled since the beginning of the year (in two months). 

The Fed Funds Rate (the target rate which is set by the Fed) hasn't moved.  But the market interest rate (the rate determined by market participants) nearly doubled. 

This is creating concern for markets and the Fed. 

The concern is not that the economy is too fragile to survive on a 10-year interest rate of less than 1.5%. It's the idea that rates have moved fast, and may continue to rise, and to rise fast.  That would be trouble. 

Aside from the abrupt slowdown effect it would have on the economic recovery, it would represent either 1) a market that thinks the Fed has it very wrong on the inflation outlook, or 2) a market that is taking the cue of recklessly extravagant U.S. government spending, and political and social instability, to dump their long-term investments in our Treasury market (the historically safest and most liquid investments in the world).   Or it could mean both.

And both may be right.  But the Fed has been in control of the bond market.  And recent history (the past 12 or so years) suggest that they will maintain control of the bond market.  That means, we should expect the Fed respond to this sharp rise in market interest rates.  We've already heard them try to talk it down, with promises of keeping rates low, and assurances that they see little-to-no inflation risks.  That hasn't worked.     

Now there is speculation that the Fed will revisit the "Operation Twist" strategy.  They did this in 2011, selling shorted dated Treasuries, and buying longer dated Treasuries.  This flattens the yield curve, bringing down longer term rates (without having to buy more bonds … i.e. without having to increase the money supply).

Let's take a look at what happened to stocks when they did this in 2011.  

As you can see, stocks were already in bear market territory, due to an unraveling European debt crisis at the time.  And following the Fed's actions, stocks continued to fall another 7%, but bottomed within a couple of weeks.

With the 10-year trading at 1.47% today, the Treasury market continues to be the spot to watch.   

Pro Perspectives 3/2/21

March 2, 2021

Yesterday Jamie Dimon said he expects that we will have "a gangbuster economy in 2021, and maybe into 2022." 

That's because the economy has nearly returned to its pre-pandemic operating rate (capacity utilization), and people have a lot more money than they did a year ago.

As we discussed on Monday, disposable income is 13% higher than it was before the pandemic.  And the personal savings rate (at 20.5%) is more than double pre- pandemic levels, and more than double the average U.S. savings rate of the past sixty years.  And yet another couple trillion dollars worth of fuel is about to be poured onto the liquidity fire.

With that, when we get to first quarter earnings (and more so, second quarter earnings), we are going to see some huge positive surprises, as companies report against earnings of a year ago, when the economy was in various stages of lockdown. 

Q4 has already delivered big positive surprises.  Wall Street was looking for an earnings decline of 9% (compared to Q4 2019).  We're nearly through all of the reports, and earnings grew by 4% in Q4. 

With this, the Wall Street earnings estimates for 2021 have been dialed UP.  But these numbers will still be crushed.   For Q1, they're looking for earnings growth of 21%.  For Q2, growth of 50%.  That sounds like a lot.  But remember, these earnings will be measured against a very low base.  When things are broadly bad, corporate America will always "take cover" from a broad economic crisis, to manufacture lower earnings.  They did just that.

 
As we (easily) predicted, the banks threw the kitchen sink of loan loss provisions into earnings reports last year, even though the Fed, Treasury and Congress had already pumped trillions of dollars into the economy to keep consumers and businesses solvent. That was a direct backstop (protection) against bank loan losses.
 
So, as we look a little more than a month into the future, when Q1 2021 earnings start trickling in, and the reality of what full-year S&P 500 earnings will look like, sets in, we will find that stocks (at least at these levels) look cheap.
 
Even at the current estimate of $175 S&P earnings for full year 2021, FactSet says the twelve-month Wall Street forecast on the S&P 500 of 4,430 (about 15% higher than today).  

Pro Perspectives 3/1/21

March 1, 2021

Trump signed a $900 billion stimulus package on December 30th.  

As we reviewed on Friday, that has fueled a jump in, already lofty, personal income levels and in the personal savings rate. 

Let's take a look at what this has done to asset prices, over just a two month period …

Now, consider what will happen to asset prices after another package is signed into law (maybe by the end of this week) that is twice as big, and will more than double (relative to the December package) the amount of money that is dropped directly into the hands of consumers.   

Prices will run wild. 

On that note, we had another inflation data point this morning.  The Prices Paid component of the ISM Manufacturing report for February came in hot, again — one of the hottest readings in close to 20 years. It was the ninth consecutive month of price growth, and came from hotter demand AND "scarcity of supply chain goods" — that's a double-whammy.   

I'm going to copy in the comments from the survey participants in the report.  There is clear theme, inflation:  supply shortages, labor shortages to deal with overwhelming demand and rising input prices …
With the above in mind, from a quality of life perspective, the wage growth picture has been as good as we've seen in a long time, but wages are going to have to surge aggressively to keep up with rising prices.   
 

Pro Perspectives 2/26/21

February 26, 2021

As another $2 trillion spending package is due to pass the House later today, and move on to the Senate, where it will pass (likely with the help of the Vice President), let's take a look at what the politicians are calling, the "suffering" economy.

Remember, despite a high unemployment rate (which has improved dramatically), and forced business closures (in some, more than other, areas of the country) there has been incredibly aggressive aid disbursed along the way. 

The Federal unemployment subsidy has, for lower wage earners, paid them more than they made while working (about 80% more than minimum wage).  And this has put pressure under wages being paid to those that are working.  The private sector has had to increase wages to compete with what the government has (maybe unintentionally) set as a new living wage (via the unemployment subsidy).  

And within all of this, keep in mind, the economy was never completely shutdown.  At the depths of the health and economic crisis, the economy was still running at 64% capacity (from 77% capacity, pre-crisis).  

And as you can see in the chart, the economy is now nearly back to the pre-Pandemic operating rate.   

With that backdrop, the latest Atlanta Fed GDP model is now projecting an 8.8% annual rate of growth for the first quarter. That’s three times faster than the pre-Pandemic Q4 2019 growth.

Personal income was up 10% in January (compared to December), thanks to stimulus checks from the $900 billion aid package in late December and the extended federal unemployment subsidy. 

The personal savings rate was 20.5% in January. That's more than double pre-Pandemic levels, and more than double the average U.S. savings rate of the past sixty years.  

And real disposable income is 13% higher in January, than it was in before the Pandemic.  

These numbers are doing to go one direction after this next $2 trillion package hits:  UP. 

Sounds great.  But as we've been discussing in my daily notes, this will all be accompanied by prices going UP, maybe a lot. 

Let's revisit the chart from the early 70s, the last time we had a sharp spike inflation.  
This chart shows the dramatic move in inflation from a “shock event.”  In the early 70s, OPEC blocked oil exports to the U.S., sending oil prices up four fold in 1973.  Broader prices in the U.S. economy followed, spiking by double digits.