Diminishing Returns

It’s eminently possible that everything worth saying about markets and the outlook for the economy has already been said — for the time being, I mean.

As I put it in “High Stakes, Peak Profits,” everything feels like an exercise in recitation right now. Part of that is attributable to the so-called “summer doldrums,” a catch-all term for myriad seasonal phenomena and also for the generalized (and contagious) apathy on display among anyone chained to a desk.

But it’s not just that. We’re in suspended animation. Dutifully treading water while we wait to confirm (or disconfirm) the applicability of the adjective “transitory” to elevated inflation. And staring vacantly at inconclusive signals from a labor market that, despite hefty monthly gains, still presents as a thirsty sponge — it could absorb plenty more if only there were any water around.

That conjuncture has been analyzed and debated from every conceivable angle. And someone, somewhere has worked through the policy implications of every potential outcome. It feels, on most days, like there’s just nothing left to say.

The vast majority of analysis aimed at determining how the Fed would respond to various permutations of CPI, PCE, GDP and unemployment will be rendered useless, by definition. The data will evolve however it evolves. Alternative trajectories, along with the policy prescriptions which may have accompanied them had they become reality, will just be bullets we dodged or benign outcomes that could have been if only we’d done this or that.

None of that’s to say the analysis conducted up to now amounted to one giant, exercise in futility. We’re at a crossroads both in the real economy and in the realm of economic theory. Gaming out scenarios was a crucial exercise. But I think it’s safe to say we’ve reached the point of diminishing returns.

Laugh as you might (I’m not sure why it’s funny, but I laughed before I wrote it), corporate management may help refine expectations or otherwise provide something in the way of incremental information during earnings calls over the next month.

If you’re Goldman (you’re not, but if you were), you’re asking three questions from the C-suite, the bank’s David Kostin said, in his latest.

The first question is how management plans to preserve margins. S&P 500 margins hit a record high near 12% last quarter, but as the above makes clear, “What have you done for me lately?” is irrelevant. Now, it’s “What do you plan to do for me over the next year?” and, just as important, “How do you plan to execute given the impossibly convoluted operating environment?” Kostin noted that on the bank’s valuation model, only equity duration is more important than profit margins.

And then there are corporate cash piles or, more aptly, what to do with them. Corporates have, of course, tapped markets for obscene amounts of capital in the pandemic era. Updating my IG issuance chart (below) shows high-grade supply for 2021 now totals more than $812 billion as of late last week.

Kostin went on to observe that both aggregate and median S&P 500 cash/asset ratios have not only recovered, but in fact now sit near record highs. The rebound, he wrote, was “driven in part by record high corporate bond and follow-on equity issuance during the last 18 months.”

Some are concerned about all the leverage accumulated during the crisis, but profits can help compensate. Although Goldman expects capex to account for the largest share of S&P 500 cash use this year, the fastest YoY growth will be in cash M&A and buybacks, Kostin said.

Notably, US corporates have authorized almost $630 billion in buybacks so far this year, according to Goldman’s buyback desk. That, Kostin remarked, is the second-briskest clip ever, behind only 2018, when the Trump tax cuts delivered a windfall to corporate America which was subsequently passed on to shareholders.

Finally (and apropos) Goldman reckoned investors should be interested in how management is thinking about the prospect of higher corporate taxes. Although Republicans are playing the Joe Manchin card for everything it’s worth on Capitol Hill, Democrats are hell-bent on higher taxes and, now, governments around the world are poised to agree on a global corporate minimum rate. In other words, this shouldn’t be just another exercise in peppering management with perfunctory tax questions. Any analyst worth his or her salt should be asking how firms plan to cope with a world in which attitudes towards corporate taxation have changed materially, a shift set to be enshrined in actual policy.

Coming full circle, is it likely we’ll come away from Q2 earnings season any wiser about the macro outlook? In a word “no.”

But the prospect that literally no one knows what to expect is unnerving. So, we’ll ask the questions anyway and pretend the people making 300 times what their workers make have said something meaningful when they recite some version of the same narrative we’ve all recited ourselves. Talk about diminishing returns.