The Week That Was (Nov 14th-20th 2021)
“Brazil is the country of the future and will always be.” Charles de Gaulle
This week, it was Bill Ackman’s turn to call the top. Such bold statements make me nervous, especially when they come from someone like Ackman.
He’s a fantastic stock picker but his calls on the market can be subpar. He is no Soros. And there’s always the chance his comments are closely linked to the positioning of his fund.
In my opinion, we will continue higher into January, as discussed previously (The Week That Was (7th-13th November, 2021) — by Mateen Chaudhry — Mateen’s Newsletter — Discuss The Tape (substack.com).
This year has been no different from any other QE fueled first year of a presidential term. And we are about to enter the silly season.
The inflows into Vanguard S+P 500 funds should rise over the next few weeks. A lot of people sold at the lows in 2020 and have been watching the market edge higher each month. They have seen record earnings announcements from a range of companies. And they are constantly being reminded that youngsters are making money hand over fist in crypto and meme stocks.
That tends to lead to FOMO at this stage in the cycle. The money will probably enter the market through passive index funds. Market leadership will become more concentrated, not less. And I expect some big up days from tech compounders soon (+2–3%) — passive funds invest based on VWAP, not price.
As discussed last week, Apple should get some attention because of its i-phone sales this Christmas and its well-timed disruptive move into digital advertising. But you can also look at stocks like Microsoft, Nvidia, Tesla or Qualcomm.
This is not the time for small cap (IWM is failing to break out?) or materials as pricing power will continue to be an important factor in investment decisions.
By the time we carve our turkey, we should feel like champs. The key to avoid feeling like a chump at the end of January, however, will be how you position yourself in the first couple of weeks of that month.
But that’s a topic for another newsletter.
For now, stay long!
Big Forecasts for 2022
This is the busiest time of the year for Wall Street strategists. They get to make their calls for the following year.
If I had to summarize, most of Wall Street seems to be upping S+P price targets above 5000 on the basis of higher EPS estimates for the index. The consensus seems to be that 2022 will be more volatile than the last 2 years and that there will be a rate hike at some point.
For me, though, not enough attention is being paid to the impact of slower growth in China on the global economy and on inflationary forces. China has played a crucial role in keeping the global economy pumping since at least 2009, when it made the decision to add huge amounts of liquidity to its economy. But growth at all costs is not what President Xi wants anymore.
And that’s VERY significant.
President Xi, like all true Confucian leaders, cares about stability at home. And he needs to unwind the debt bubble as soon as possible. Just as in Japan in the 1990s, the increased levels of debt have meant the marginal impact of a unit of credit on a unit of growth has diminished. The new money just refinances the bad debt. It does not go into anything productive.
Unwinding a debt bubble is fiendishly difficult and where it has been attempted before, growth suffers as do the general level of prices. China could easily slip into a deflationary spiral. The One Child Policy was a key part of its success over the last 40 years. It is now a liability as demographics look awful for the country. The country needs the energy only the young (and educated) can provide.
We are already seeing worrying signs. During Japan’s Lost Decade of the 1990s, consumers sat on their hands and stopped spending as they waited for prices to go lower. Recent consumption data has been terrible in The Middle Kingdom.
The CPI prints were huge in the US, UK and in Europe in October. But perhaps we need to get some perspective, especially as they were low in Japan and China.
Bridgewater pointed out that the increased CPI prints in the US have just as much to do with a demand shock as a supply shock.
Importantly, we have seen this before. Demand for goods went through the roof in 1950 as the American public panicked rations might return when the North Koreans fired their first bullets into South Korea. And there was intense pressure on the Treasury to do something.
What was interesting is that the bond market didn’t react (sound familiar?). And within a few months, CPI started to normalize.
Irving Fisher said bond yields were a function of growth and inflation expectations. So what does a 10 year yield of 1.55% tell us about next year? Maybe we should listen to the bond market more than pundits like Mohammed El-Erian?
What’s also interesting in the US is that velocity of money there is at all-time lows. Doesn’t that suggest it might be demand and supply driven and not a monetary phenomenon?
I think it makes sense to re-examine 2011/2012 to understand the impact of slower growth in China. President Xi’s attempts then to restructure the economy had a big impact on China’s growth, which in turn caused commodities to drop and inflation expectations to crash 6–8 months later.
Could this happen again?
Perhaps the market is telling us it will. Industrial metals have been weak since May. Bell weather stocks like FMG, RIO and VALE have been lackluster. Steel rebar prices are rolling over.
Are we sure the demand side will be as strong as we think next year? Could we have a growth scare sometime in Q1?
Aren’t we overstating inflation anyway?
Inflation is a very divisive topic but I think there’s plenty of evidence that the inflation data overstates it.
Let’s think it through.
Gas is down about 65% (?) in 10 years. Computers are much cheaper and do 10x more every 3 years. Whatsapp calls are free. Drugs like Viagra and Lipitor are both off patent. Cars are much more reliable now with 95% of Camrys still on road. And how much easier is my life that my car has a rear-view camera?
The inflation data does not take into consideration qualitative aspects of goods and services.
We also need to be particularly careful with broad statements that inflation will impact the poor the most. We have had 40 years of deflationary forces and it is during that time the wealth poor divide has got out of hand. Social mobility was better in the 1980s compared to the 2010s and inflation was 4% (?) plus per year then.
Walmart is where the “working poor” shop and they are not raising prices despite the wages of the working poor going up recently. That’s significant when you appreciate the scale of Walmart.
And don’t the bottom 75% of the population have all the debt? What do low mortgage rates do for them?
Perhaps, it’s the aspirational classes, namely the upper middle class, that are most affected. They tend to be the loudest too as from that crowd come the media personalities. House prices are going up the most in very desirable places, school fees for good schools have skyrocketed, and lift tickets are more expensive than they were in 2010. But most people aren’t living in Dana Point, sending their kids to private school or going skiing in Aspen.
Just a thought.
Biden’s Successes — “what will we leave our grandchildren?”
Was it really a surprise that President Xi and President Biden had a conciliatory meeting? There is more coordination going on than we think. Both know the risks of deflation are much more grave than some tit for tat around Taiwan.
With that in mind, we should celebrate the passing of the infrastructure bill and the initial momentum of structural reform, namely progress on universal child care.
When Trump lost (and I was a fan), the course was set: Keynsian economic policy and globalization. Janet Yellen didn’t get her position for no reason. She lives and breathes Keynes.
The plan will only be effective if it’s executed with conviction. That means QE plus structural reform plus public spending. It worked in Japan. It will work in the US.
What is interesting is how certain parts of the media are portraying this move. The go to catchphrase is “we will leave our grandchildren with huge amounts of debt.”
It’s a nice emotive statement but it’s not true. Just like “our pensions will be underfunded,” it’s a statement that strikes fear into people but doesn’t really deal with the facts.
And if Eisenhower (a Republican) had taken a similar view, the highways may not have been built in the US, which in turn lead to tremendous growth in the US from 1958–1967.
The truth is we will leave our grandkids with infrastructure, better working conditions and better education opportunities globally if we build.
The media rarely talk about what underspending has done to the US economy despite the evidence being everywhere. JFK is worse than many airports in the Third World. Potholes make driving hazardous along the i-95. And there is no affordable housing available for returning servicemen. And US public education has deteriorated. It hasn’t got better.
The media also never talk about how some of the spending over the last 20 years has been incredibly unproductive.
Six trillion dollars was spent on wars with Iraq and Afghanistan. They resulted in millions of civilians dead, biblical cities like Baghdad being destroyed and a huge refugee crisis in Europe.
How did any of that make the world better for future generations?
Instead of war, let’s build!
Two Very Different Approaches: Walmart vs Macy’s.
The market is rewarding companies that can maintain their margins at a time of elevated input costs and labor disputes.
Rising revenues need to be matched with rising gross margins for a stock to outperform.
This is why Walmart’s share price got hurt this week. It deliberately decided not to pass on costs to its customers.
Management went as far as saying their DNA is to fight inflation. When you think about the sheer scale of Walmart, that statement matters A LOT in the inflation debate.
Macy’s, on the other hand, raised prices and its earnings were very good. Did they just have a lot of old inventory that they could shift at higher prices? (I’m sorry I can’t get excited about traditional retailers like Macy’s).
What stands out is the public’s willingness to pay higher prices for now. Perhaps it’s due to their improved balance sheets/higher wages or just a desire to have fun after nearly 2 years of Covid.
Whatever it is, they don’t seem to be complaining about prices at the moment. That might change next year.
Pundits talk endlessly about the stickiness of labor costs. If wages go up, they stay up. But what will corporates do with prices if input costs go down? And what will the reaction of the public be if they don’t take down prices?
Emerging Markets — Why bother?
Charles De Gaulle is a fascinating person to read about. He said some really insightful stuff. His comment about Brazil never realizing its potential is a case in point.
Goldman loves to package things up to sell to their clients in wealth management. They gave them MLPs. They gave them infrastructure funds and commodity funds near the peak. They are presenting them with crypto products now, no doubt.
Goldman also gave the world the term BRICS, a cobbled together narrative that a bunch of very different countries (Brazil, Russia, India, China and South Africa) had a lot of similarities.
In some ways, they did. Their economies were growing quickly and there was huge room for reform but the narrative always felt a bit stretched and contrived. It got worse when they introduced the Next 11, which included Vietnam, Pakistan and Nigeria, a real free-for-all.
To be fair, most have been disappointing. And there are now signs that the wheels are coming off some of them. Turkey’s currency this week almost collapsed.
The stronger USD isn’t helping and nor is Covid and 2021’s oil shock. But overall, political leadership has been relatively poor in many of the countries, reform has been slow and IPOs in these countries always tend to have that “friends and family” feel.
Goldman, seizing an opportunity again, have now turned around and come up with a new group, BEASTS (I’ll leave you to look up what those letters stand for). There might be a trade somewhere but I am thinking it’s best to ignore emerging markets for the next 2 years. There are world class companies — I like Cemex in Mexico and Embraer in Brazil, for example — but I think all the good stuff might happen in developed nations, especially in the US and Japan, over the next five years.
You can spend a lot of time on a domestic consumption name in Bangladesh and deal with issues like shareholder rights, the rule of law and transparency or you can buy a US based SaaS solution that’s growing like weeds.
Sometimes, it pays to keep things simple. Visit Thailand; just don’t buy the stocks?
As always, thanks for reading. If you like what you read, please share it with friends, colleagues and family. I am still in the building phase. As always, feel free to send me feedback. I can handle abuse.
DISCLAIMER: None of this is financial advice. The opinions expressed are purely my own opinions and it is imperative for you to do your own research. They do not represent the views of any company I am associated with.