Dear Valued Clients and Friends,
As of press time mid-day on Thursday, the market was down about 250 points on the week, which is not noteworthy in that 250 points is nothing, especially divided by 28,000, and especially because it is three or four days of action. I only mention it because (a) Some of you are getting bored by the low volatility market of the last few weeks, and this makes it sound like markets moved, and (b) Some of the chatter behind the couple of points we moved are interesting.
But I am not going to pretend that there is much substance behind a 250 point move; markets can move 250 points on a sneeze! What I will do this week is provide some history, provide some economics, and provide some perspective – because frankly, I don’t think there are a lot of other places to get it right now!
So with all that, grab your coffee and jump on into the Dividend Cafe! It is worth the 5 minutes …
Dividend Cafe – Podcast
Dividend Cafe – Video
Did someone say trade deal?
If the entire U.S.-China trade situation was once again violently reversing, I promise you that we would not be talking about 200 or 250 points. However, the headlines have gotten worse in the last couple weeks (and yet markets have held up just fine), which either means the market thinks it knows more than the headlines (it usually does), or there is just more going on than we all understand.
There are high profile discussions about exemptions huge companies want from the planned December tariff escalation. That can end three ways (A – all those tariff escalations are held back; B – Just this one company gets an exemption; C – no one gets an exemption). The idea of discussing option B would imply that we are headed to option C, where most have assumed we are headed to option A. So again, this remains in flux even as the markets continue to absorb the high likelihood of some beneficial, cosmetic “phase one” deal.
We are not able to make investment policy or decisions around stories, anonymous quotes, and non-event non-actions … The headlines may impact market volatility, but we believe the heavy indicators point to a phase one deal happening, and along the way, we are not remotely surprised that there will be “noise” to contend with.
A little refresher on what is going on in the world
We presently have a United States government spending $4.4 trillion annually (21% of GDP), and a Fed that is injecting liquidity into the system (to maintain their reserves aspiration), and a Fed that has cut rates three times in the last few months. Japan and Europe are aggressively injecting liquidity in their economies as well. Everywhere one looks there is fiscal stimulus and monetary stimulus. The surprise is not that markets up as they are; the surprise is that they are not up more!
Now, the yield curve has steepened a bit and the U.S. dollar has paused. But the direction of the dollar into 2020 will really depend on how strong other global economies prove to be. The U.S. can do whatever it wants; if the rest of the global economy stinks, it rallies the dollar and maintains a superior environment for deflationary investments. If the global economy can get some sort of legs, it likely does boost emerging markets and reflationary trades, led by a softer dollar.
Economic Update for the Week
Industrial production declined in October -0.8% month over month. Q4 real GDP is now expected to be approximately +0.3%. The NY Fed Manufacturing Index is falling. The business confidence numbers were up a bit in October vs. the awful numbers of September but still point to decline and slowdown.
How does it match up to the smoking hot stock market and the historically low unemployment? The stock market is pricing in an improvement on the trade front, and it was the trade front that caused this slowdown in business activity. A pick-up in trade means a pick-up in manufacturing and business investment, which ultimately means a pick-up in profits. And where do new dynamic growing jobs come from? Profits. Always and forever, profits. So the chain of needed activity starts with trade.
NAFTA 2.0 needs to get passed. The market thinks it will be. Phase one China trade deal needs to get across the finish line. The market thinks it will be. Both things are true at once in this economic and market paradigm – that business activity has slowed because of the trade war, and that it may pick back up because of an end to the trade war. There is risk. But there is hope.
An economic question I am not thankful for
One of the predominant themes in the [mostly Keynesian] macroeconomic research that exists on Wall Street and in academia is a discussion of “whether or not central banks are doing enough” to deal with the various economic circumstances I describe above. Most agree that obvious catalysts to significant global growth improvement are not easy to find (an improvement in the trade war would be a sine qua non to the pro-growth story), but we are not sitting around waiting for A to happen or B to happen to combat what is the known downward pressure on global economic growth: Excessive indebtedness. So when economists respond to that by saying, “well, what else could the Fed be doing?” it is a concession to the idea that academic central bankers can play God with the economy, even after the most aggressive monetary interventions the world has ever seen. This does not mean that on the margin there are not things that may ease some liquidity pressures or what not – but ultimately what needs to happen for better organic growth and economic health is not central bank related, at all. Even hearing the question ruins my appetite.
Keep in mind, all of the focus on how a strong U.S. dollar has hurt U.S. multi-national companies really under-states the dynamics of what matters around the strong U.S. dollar – namely, that it has hurt other countries far, far worse. The advantage some countries seek with a currency weaker than the dollar for themselves in export/trade and exporting of their own deflation is globally offset by the fact that so much world debt is now denominated in dollars, and that so much world trade is executed in dollars as well.
Contrarian indicator of the week
$180 billion has flowed into U.S. bond funds this year as the asset class has had its best performing year) led by declining rates in a long time. $210 billion flowed into bond funds in 2017. What followed? The worst total return year in 2018 for bonds since 1994.
All-time high phobia
I wrote a couple weeks ago about the 215 times since the financial crisis investors had a chance to be wrong about “all-time highs” in the market, as new high after new high (215 of them) were formed … An interesting tidbit I will share: The all-time record for new highs created in one calendar year was 1995 (that year the market hit a new high 77 times in one year). What did markets do after all those awful “all-time highs”? It went up over 20% per year from 1996 to 1997 to 1998 to 1999.
Let history and facts, not emotions and faulty intuitions, inform you.
Final trade deal conclusions
With unconfirmed reports and potential comments from possible people suggesting maybe delaying some of the suggested parts of phase one (you get the idea?), you should probably know that Chinese purchases of U.S. agriculture has continued to increase, that Liu He has more emphatically addressed the need for reform of China’s state-owned enterprises, that President Trump has extended new export licenses for Huawei, and that China lifted its ban on importing U.S. poultry. Watch what everyone is doing much more than what anyone is saying (or tweeting).
Could it be deja vu all over again?
I would say that two statements (amongst others) are undoubtedly true over the last several years of equity investing: (a) Surprise at the levels investors are willing to bid technology stocks up to; (b) Surprise at the levels investors have forced oil and gas pipeline stocks down to. And those two statements would have been no less true (actually, much more so) in 1999 as well. Yet seeing how the oil and gas pipeline world (AMZ, below – the blue line) performed after tech blew up and brought the whole market down with it is quite interesting … The chart shows nothing predictive about how things will go in the years ahead – but it does historically reiterate how counter-cyclical the oil and gas pipeline world has been … And counter-cyclicality is on our mind these days!
Politics & Money: Beltway Bulls and Bears
- Betting odds are down to 45% about NAFTA 2.0 passing before the end of the year, as the labor unions continue to waffle in their support giving cover for some on both sides to hesitate in their support. I see this going from a “behind the scenes/get it done” thing between Lighthizer and Pelosi to a more aggressive “Trump team on the offensive” thing if there has been no movement by the end of the year.
- As Mayor Pete Buttigieg (of South Bend, Indiana) has climbed the most significantly in the polls in recent weeks, our Investment Committee will have a podcast out this coming Monday the 25th thoroughly assessing his economic platform and various policy impact to markets. It will not be one you want to miss.
- Interestingly to many (all depending on what one’s own views are, I suppose), the public support for impeachment polling has dropped since the public hearings began.
Chart of the Week
It is hard to not pay attention to the almost perfect correlation between the yield curve and the tariff threat in recent months. Less tariff pressures mean a steeper curve, and more tariff vulnerability means a flatter (or inverted) yield curve. The stock market is taking it all in, but we are watching the yield curve as the better indicator we can find of risk pricing around this ever-moving geopolitical story.
*Strategas Research, Policy Outlook, p.3, November 21, 2019
Quote of the Week
“If you ever want to get something done, ask a busy person to do it.”
~ George Wood
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I am leaving today for a Thanksgiving week with my family that I really am as excited for as any year I can remember. I love this holiday, and I love this time away with my family (which I do far, far less than I ought). We will have a special Thanksgiving Dividend Cafe next Wednesday, so I will save my Thanksgiving wishes for then!
Enjoy your weekends, and enjoy the last six weeks of 2019. This is a special time of year, but from tax-attention to portfolio positioning to prep for Q1 review season, it’s not a boring time of year at TBG. We are here for anything you may need that will impact your financial life for the better. It is to that end that we work.
David L. Bahnsen
Chief Investment Officer, Managing Partner
The Bahnsen Group
This week’s Dividend Café features research from S&P, Baird, Barclays, Goldman Sachs, and the IRN research platform of FactSet