Days like these make it difficult to stick by any disciplined “strategy,” no matter how simple you’ve tried to make things.
The two-day decline for US equities hardly counted as a “rout,” but at the lows, it was tempting to add some exposure. That might sound absurd considering valuations. Regular readers may remember the figure (below) from two weekends ago, but I think it’s useful, so for those who missed it, I wanted to highlight it again. It speaks for itself. Literally — just read it.
Despite valuations and notwithstanding the cacophony of “bubble” calls and breathless harangues about “raging manias” (to quote Stan Druckenmiller), we’ve simply never seen a policy conjuncture quite like that currently unfolding stateside.
One of the most amusing aspects of market commentary these days is the extent to which lots of very intelligent people begin by explaining just how unprecedented policy largesse really is, only to insist that traditional metrics and analytical frameworks for evaluating asset prices still apply.
My question to those folks is always the same: “Is this time different, or isn’t it?”
If it’s all about the policy conjuncture (and it is), and the policy conjuncture is unprecedented, then this time is different by definition. What else does “unprecedented” mean?
To me, that seems incompatible with the notion that this time can’t possibly be any different for asset prices.
That’s not to say I particularly enjoy adopting what amounts to a strategy that entails conceptualizing of a 2% drop as a “correction,” especially when reinvesting dividends in a market that never sells off amounts to constantly buying at record highs anyway. Note that on a one-year chart, you can’t even discern the drop over the last two days (top pane below).
If you squint, you can see that the 14-day RSI moved back below 70 (bottom pane) and it’s fairly obvious that recent momentum is lost.
But just as medical advances are helping to make “70 the new 40,” fiscal-monetary partnerships along with literal plunge protection for equities (in Japan) and the Fed’s “crossing the Rubicon” moment in corporate credit last year, may together mean that “2% is the new 10%” when it comes to corrections.
Don’t misconstrue that. While it’s true that, as SocGen’s Andrew Lapthorne wrote Monday, “anything bearish is met with groans given [the] almost euphoric market backdrop,” there’s a sense in which online financial content is dominated by bearish commentary. That’s what sells, after all. Over the years, netizens have become accustomed to such dour musings, and tend to groan at anything that’s bullish despite the observable fact that more than a decade of overtly bearish commentary emanating from various portals has been almost completely wrong-footed at every conceivable turn. So, there’s actually a sense in which anything bullish is often “met with groans” and I wouldn’t want anyone to groan (or growl) in my general direction.
The point is just to say that we live in a world where growth is a religion. Pick a world leader. Any world leader. From Joe Biden to Donald Trump to Narendra Modi to Recep Tayyip Erdogan to Xi Jinping to Boris Johnson to Vladimir Putin. They all want economic growth. They may have different ideas about how best to go about achieving it, but they all worship at the same altar. Growth is seen as indispensable, and anyone who suggested the world should just be satisfied with the current “pie” and not try to grow it any further, would be dismissed as a heretic.
This means that when something comes along and threatens to derail growth (in this case a pandemic), no expense will be spared across major economies in the effort to restore it.
Falling stocks, wider credit spreads or any other market outcomes not conducive to this pursuit are seen not just as undesirable, but as unacceptable.
You might well argue that increasingly ridiculous efforts to leverage monetary policy in pursuit of growth are actually working against policymakers by forestalling creative destruction in true “zombie dynamics” fashion (figure below). But that’s a longer discussion.
My point here is just that it’s becoming more and more difficult to imagine a scenario wherein policymakers would countenance anything beyond, say, a 25% decline in equities or, just to pick a number, a swift 100bps widening in investment grade credit spreads.
Again, though, I implore you not to misconstrue the point. Just because it may be a semblance of accurate to suggest that “70 is the new 40” doesn’t mean people can’t die at 65. Similarly, just because policymakers are determined to prevent “real” selloffs doesn’t mean you won’t get a crash.
Indeed, the paradox of central banks’ efforts to administer asset prices is that “fragility events” have become more common over the years, not less.
That said, it’s worth noting that market depth and liquidity are actually decent currently, at least in the post-Volpocalypse context (figures below, from Goldman).
So, what do you do when you see 3% or 4% or 5% shaved off the top of a rally? Well, you’re tempted to add risk. If you want to stay on the “right” side of the inequality equation, you absolutely can’t put yourself in a situation where the rate of return on your capital falls below trend growth.
That calculus is a bit convoluted right now due to pandemic distortions, but if you’re sitting on a quarter-million in dry powder, and you don’t find somewhere to deploy it for at least a 5% return, that’s dead money. If it stays dead, it might actually end up setting you back on a relative basis. And that’s to say nothing of whatever inflation eats.
And with that, I’ll close with a non sequitur. Netflix disappointed on new paid adds for Q1. Wall Street was looking for more than six million. The company delivered just four million (figure below).
“We finished Q1’21 with 208 million paid memberships, up 14% year over year, but below our guidance forecast,” the company said. “We believe paid membership growth slowed due to the big COVID-19 pull forward in 2020.”
The pandemic effect is waning for Netflix. It’ll likely ebb for other COVID “winners” too. The question is whether the handoff to expected reopening beneficiaries will be smooth, or whether the baton gets dropped, leading benchmarks lower.
I have always been of a Bearish nature and always believed that the tides do turn. I think it has become different with the Dam/Dike of Central Banks. It is not that many of us were wrong about our views that were steeped in a mere Century or Two of observation but if the World changes when do you acknowledge such. You ran an article this winter that compared this rally to 1933 and it was sobering. My only thought can be that computerization along with Central Banks have truly changed everything. We avoided what should have been a deflationary depression.
Is that what Austrian purists believe would have been in our best interest as a Nation or for the World?. People are still dying the world over but the supply lines did not freeze as they may have. Market purity could have starved many millions of people. Oh but then markets would be pure, washed clean of all the bad business and the people who work there. Yep and it would cheapen labor. Moral nonsense. Most of the naysayers are looking to keep labor cheap even if in denial of it.
Disparity may have been heightened but the awareness of its cause has been heightened also. Is it different this time? At this moment, absolutely. It has been better than any plausible bad outcome, even if the rich get richer.
This is all a big gamble….always is. Nothing is true, only guesstimates. If the sky falls I am betting that it is soft and lightweight and bounces back where it belongs.
“Yep and it would cheapen labor. Moral nonsense. Most of the naysayers are looking to keep labor cheap even if in denial of it.”
When you hear a GOP lawmaker or candidate proclaim his allegiance to the tenets of the Austrian School, remind him that him that the Austrians also advocate for the free movement of labor across borders. Along with goods.
Let us not forget that many of our central beliefs about the world were born of heresy.
I find myself both surprised and confused at how much I agree with some of the points put forward by the H yet find others where disagreements are irreconcilable.
Ha. What you’re experiencing is the “confusion” associated with reading honest, intelligent and, most importantly, balanced commentary in a world largely devoid of it.
Perhaps you should assess the other sources where you get your information and compare the style and quality to what you find here, then ask yourself this: “Who’s really telling me the truth and who’s feeding me one-sided nonsense all day for clicks?”
(Hint: I’m the guy with the uncompromising commitment to quality and balance. Everyone else falls short.)
The confusion comes from the fact there are some well developed and reasonable ideas as the ones outlined in this article that come in conflict with some of the MMT arguments put forward. The fact that the premise is correct (how public expenditure is financed) does not lead to correct conclusions (ergodicity).
As long as you acknowledge that the premise is correct, you and I don’t really “disagree.” Where I become somewhat exasperated is when people pretend like public expenditures in advanced economies are everywhere and always “pre-funded” from tax money or borrowing. As you seem to be acutely aware, that simply isn’t true. It isn’t a matter of politics or “theory,” it’s just facts. It seems like you fully grasp that, you just don’t like where people go next with the analysis. Which is totally fine. That’s your prerogative. Disagreements based on the same set of acknowledged facts are healthy. Unfortunately, most disagreements (at least in the US these days) are based on one party to the argument not understanding (or accepting) the facts. Maybe things are different abroad. I hope so. 🙂
I totally agree with your assessment.
H’s assessment that is.
I am myself a junior economist at best, but reading this blog off and on for a number of years I have gained some great insights. I still do believe that the Central banks are staving off pain now for more pain later. I think they are accelerating the devaluation of the USD and setting China up to be in a position to use their digital yuan to replace the USD as the sovereign currency globally. Will that happen this year? No. In 10 years? Possibly. But, shrinking rates on top of growing debt that is full of unknown tranches of quality is the housing bubble on a much more broad scale. Zombie corps have become the norm and the stock market has become purely gambling with no fundamental investing knowledge required. Crypto’s have become giant stores of wealth and no one knows if they will even be considered legal in 5 years. Housing prices have been flying off the charts for years and make no sense when compared with real wage growth. Tech corps are making massive profits off of sketchy business practices and have zero accountability with what they do with their user’s data. It’s like we’ve got 4 bubbles inflating simultaneously at once. the dot.com bubble, the housing bubble, a stock market bubble, and the crypto bubble. What happens if they all pop at the same time? 1929.
Re: your comments about China. It is clear from many of H’s recent posts that he believes that government budgets are essentially a useless appendage, at least in the US and other developed nations with central banks issuing currency. If we need something, since we are a sovereign nation who’s central bank and treasury can essentially create whatever money is needed we should just write the check, as it were. I’ve been thinking about that and although the Yuan is not yet a global reserve currency, the Chinese government treats its economy in the same way we do. It effectively buys what it thinks is needed, shuts down the taps when it wishes and directs the country’s resources to fit its priorities. As more and more Yuan are moved into the developing world, China is making friends and supporters in many regions without regard to debt. If the money spends then it will be desired. Regardless of what labels we apply to China, if it walks like a duck and quacks like a duck (a Pekin Duck at that) …. it’s obviously a duck.
“So, what do you do when you see 3% or 4% or 5% shaved off the top of a rally?”
Allocate cash to bonds. I spent the early spring predicting 2% on the 10yr by Memorial Day — which seems increasingly unlikely. Could sell everything in May and go away, but behind his placid exterior Jay Powell seems like a pretty determined guy. So time to try bonds as a hedge against falling equity prices. For a little while, at least.
Confusing, indeed.
We all strive for balance but no one is compelled to agree with everything on these pages. H.. your commentary provides the best guardrails available anywhere that I have ever encountered . We are all the Captain of our own ship but this blog is a navigation chart that I consult for clues to tomorrows Hazards as well as trends above all others . Here I would conjecture we have a strong majority in agreement..
I definitely would not feel as confident as I do regarding making my own investment decisions without the Heisenberg Report. I have sworn off Maria, often throw away an unread WSJ (On my “to do” list to shift to online only deliver) and have committed to reading a lot of non fiction books on subjects of interest.
On the other hand, I read every single post by Prof. H.
What you write is interesting, but the counterpoint is Japan.
Japan had been “all stops” trying to promote growth since the Plaza Accords.
How is that working out?
Where did I say: “This works out 100% of the time for everyone always?”
All-in-all, not so badly in Japan.
On a GDP per capita basis? Pretty well, tbh.
And while people argue/complain about lost decade(s), I would argue that social malaise (assuming there really is a social malaise in Japan vs. journalists looking for confirmation of their narrative) is better than economic depression.
That said, I’m pretty sure Japanese leaders wish their predecessors had done things differently in the late 80s/early 90s…