“What if today, we were grateful for everything?”
As we approach our national day of Thanksgiving in the US, individuals are naturally thankful for family, friends and, hopefully, good health. Cheers to that! This year, particularly after last year’s tough fourth quarter, investors are also very grateful for the bountiful harvest of capital market returns. In many ways, investors can’t believe their good fortune. Despite slowing global economic growth, stagnant corporate profits, volatile trade tensions and rising geopolitical risks, US stocks continue to reach all-time highs. In addition, spreads between US Treasury and corporate bond yields remain historically tight, suggesting a sanguine environment for credit markets. Not to mention that most measures of market volatility are signaling the all-clear ahead. Sometimes it is better to be lucky than good.
Legendary investor Sir John Templeton famously said, “Bull markets are born on pessimism, grown on skepticism, mature on optimism and die on euphoria.” This unusually unloved bull market doesn’t exhibit any of the classic signs of euphoria, perhaps further rewarding investors with guts and staying power. However, when investing conditions seem foolproof, shrewd investors continually ask, What am I missing? They proactively seek out opposing viewpoints. Conversely, when the investing landscape is crashing, prudent investors remind themselves of the benefits of a long-term horizon, the power of diversification, the discipline of a proven process and the opportunity to put capital to work at much lower prices.
So although today’s investing environment is hardly euphoric, returns have been outstanding this year and throughout this decade. As a result, many of my recent Uncommon Sense warnings may seem overly cautious at a time when many benchmarks are reaching new heights. I feel a strong obligation to use this platform to push our collective thinking in potentially uncomfortable ways that enable us to ask ourselves, What could go wrong? However unpleasant, there will come a time when markets collapse and together, we will have to find the courage to stay disciplined and, if appropriate, gobble up bargains with abandon.
In the meantime, while we anxiously await what’s next in today’s markets, I’ll enjoy two of my favorite holidays in November — Veterans Day and Thanksgiving. Three if you count my birthday as a holiday. Who doesn’t count their birthday as a national day of celebration? But I digress. Anyway, in a year when seemingly lots could have gone wrong, I thought it would be refreshing to take a much-needed break from my Chicken Little Syndrome and reflect on what investors are truly thankful for this Thanksgiving.
Let’s Talk Turkey
At the top of the list of things that investors should be thankful for this year is the US Federal Reserve (Fed). Despite President Trump’s constant whining and calls for much lower interest rates, the Fed has delivered in spades. The Fed has slashed interest rates by 75 basis points over the past few months to a target range of 1½ to 1¾ percent, all but eliminating last year’s rate increases.
In early October, at a rare unscheduled meeting, the Fed committed to purchasing Treasury bills into at least the second quarter of next year in order to maintain reserve balances at or above the level that prevailed in early September. At that same October meeting, the Fed pledged to conduct term and overnight repurchase agreement operations through at least January 2020 to “ensure that the supply of reserves remains ample even during periods of sharp increases in non-reserve liabilities, and to mitigate the risk of money market pressures that could adversely affect policy implementation.”1 This latter action was the stunning extension of the Fed’s response to unexpected pressures in the repurchase (repo) market that began in mid-September. Still, many market observers and central bankers dismiss this extraordinary policy response as nothing more than addressing a repo market structure issue, a so-called plumbing problem. The Fed refuses to label either of these two actions as quantitative easing, but we know better, don’t we?
The three Fed rate cuts, the commitment to purchase Treasury bills and the promise to conduct repurchase agreement operations have pushed short-term interest rates lower. At the same time, long-term rates have modestly increased as fears of recession have receded and optimism regarding a potential phase one US-China trade deal has grown. As a result, the yield curve has steepened over the past several weeks. The Fed has successfully and purposefully un-inverted the yield curve through their powerful policy responses. This has further flattered stock prices to new all-time highs, particularly for portions of the market that were previously out of favor, such as cyclicals, value stocks and financials.
Sorry, Mr. President, but the Fed has helped you out, bigly. And investors everywhere are grateful to the Fed this Thanksgiving.
Please Sir, I Want Some More
Each year, the American Farm Bureau Federation (AFBF) releases a survey of the average cost of the traditional Thanksgiving feast. This year, the average cost of a Thanksgiving meal serving 10 people is $48.91. That’s less than $5 per person and up just one penny from last year’s average, after the cost had fallen each year since 2015.
This leads me to the second item on our list of things that investors are thankful for this November — inflation is dead. Perhaps like other premature death claims (i.e., the now infamous headline on the cover of Businessweek from August 13, 1979, “The Death of Equities: How Inflation is Destroying the Stock Market”), this one will prove false, too. Well, if inflation was destroying stock market returns in 1979, the absence of any inflationary pressures today certainly seems to be bolstering share prices and valuations. While an unanticipated inflation scare in 2020 is plausible, it’s hard to envision a repeat of the rampant inflationary environment of the 1970s and early 1980s.
Economic expansions typically end in one of three ways — central banks tighten too aggressively, governments make a policy mistake, or an exogenous shock occurs. Central bank tightening is often used to combat rising inflation, a symptom of an overheating economy. Today, meaningful inflation simply does not exist and the economy continues to plod along. This environment provides the Fed plenty of wiggle room to keep monetary policy easy and gives it license to allow the economy to run a little hotter than normal in the future.
Benign inflation that’s boosting asset valuations and keeping the Fed accommodative is not the only good news. According to the Bureau of Economic Analysis (BEA), the personal consumption expenditures price index, the Fed’s preferred inflation gauge, climbed just 1.3% during the past 12 months. Meanwhile, the Bureau of Labor Statistics (BLS) reported that average hourly earnings increased 3% year over year. This suggests that wages are growing more quickly than inflation. In addition to higher asset prices and an easier Fed, investors are thankful that inflation is dead.
There are always lots of great conversations around the Thanksgiving table: who won the high school rivalry football game that morning, business shoptalk, the outlook for the stock market, inquiries about college life, debates about the prospects of another Patriots Super Bowl victory, wild stories about friends and family that sadly are no longer with us and, of course, my personal favorite dinner topic — politics.
At our house, doorbusting is another major topic of conversation. Who’s in? Who’s out? Should we get in line early to beat the midnight rush? Which stores have the best deals? What’s on your shopping list? Are you really going to buy that 75” Samsung LED TV? The start of the holiday shopping season is always a reminder of the incredible power of the US consumer. This brings me to my third item of things that investors are grateful for this Thanksgiving — the US consumer.
If you read last month’s Uncommon Sense, you may now be rightfully scratching your head. In October, I suggested that perhaps we’ve observed the peak of US consumer strength. There’s no debating that the US consumer is strong today. The unemployment rate is at 50-year lows. Jobless claims haven’t been this low since the early 1970s. The labor market continues to add jobs each month. Wages are growing faster than inflation. Taxes have been lowered. Stocks are at all-time highs. As a result, consumer sentiment remains elevated.
What I implied last month was that with corporate profits plateauing and business confidence weakening, it’s difficult to envision the environment for the US consumer strengthening even further from these already lofty levels. However, it's still fitting for investors to be thankful this holiday season for the tremendous positive contributions that the consumer provides to our economy, especially in 2019.
Save Me Some Leftovers
Over much of the past decade or so, my family has celebrated Thanksgiving with friends and neighbors. Admittedly, the traditionalist, set-in-his-ways, antisocial me was a tad resistant to this idea at first. However, through the years, great company, a few glasses of wine, a neat whiskey and a giant piece of apple pie a la mode by a roaring outdoor fire pit in the New England fall have remedied my reluctance. Did I mention that Thanksgiving is one of my favorite holidays? Sharing the significant burden of hosting, cooking and cleaning has been surprisingly wonderful too.
Celebrating with a crowd is fun, but I especially enjoy the leftovers after the guests leave. My Thanksgiving evening favorite is a turkey salad sandwich on a fresh roll accompanied by potato chips, a scoop of candied yams, a smidge of stuffing and a kosher dill pickle. Of course, an ice-cold IPA beer in a frosted mug is perfect for washing it all down. And, if my elastic band sweatpants still allow me, warm blueberry pie with a scoop of vanilla ice cream is the perfect dessert to end the day.
Sincerely, and with a tremendous helping of humble pie, I’m so thankful to all of the readers of Uncommon Sense. Whether this is the first time you have read it or whether you have been reading regularly since 2014, I can’t thank you enough for allowing me into your world for just a few brief moments each month. Simply, it’s incredible. My commitment to you is to continue to push our collective thinking into uncomfortable places and to keep asking the difficult questions like, What are we missing?
I also want to take this opportunity to thank all of my wonderful colleagues that work so hard to make Uncommon Sense happen each month. As you might imagine, there is editing, creating the charts and graphs, design, social media publishing and compliance. These folks work hard and under tight deadlines to make certain that I deliver a high quality article every month. Thank you for making me look good each month!
And Happy Thanksgiving, everyone.
1 US Federal Reserve Press Release, October 11, 2019.
Gross Domestic Product (GDP)
The total monetary or market value of all the finished goods and services produced within a country's borders in a specific time period. As a broad measure of overall domestic production, it functions as a comprehensive scorecard of the country’s economic health.
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