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September 1, 2020

With the health crisis, when we wanted to know how things were progressing, we had to ignore the experts and the politicians and look at the data.

The data told us the health crisis peaked in April, when the daily change in intubations in New York hospitals started to decline, and soon thereafter, went negative. Something (a treatment) was working. This wasn’t going to be another Spanish Flu, with millions, if not tens of millions of deaths.

Again, in June, when the experts, the media and the politicians were telling us a second wave was beginning, we looked at the data, and while cases were rising, the deaths relative to cases were falling sharply. The data told us that more aggressive testing was simply revealing the degree of asymptomatics in the population.

So, just as the data has told the story on the health crisis, the data is also telling the story on the economic crisis. And the story is a positive one.

Nothing tells the story of reality versus perception like the Citi Economic Surprise index.

You see the big spike at the far right of this chart, above? That reflects the degree to which the expert community has misread the economy, which is a result of misreading the policy response and misreading the health crisis (i.e. they’ve been dead wrong).

We had another data point to add to this surprise index this morning.

Manufacturing activity for August ran at its hottest levels in late 2018.

If you read the report (here), this is a story of strong demand, low inventories and production trying to catch up.

That leads to the big inflation theme we’ve been talking about. And that’s being reflected in this next chart, the prices paid component of the report. It’s aggressively moving higher, and it will continue …

Pro Perspectives 8/31/20

August 31, 2020

Warren Buffett just invested $6 billion into five of Japan's biggest "trading companies."

Assuming he took a little greater than a 5% position in each, he became the largest shareholder of each of these companies — the combined market cap of which, would make it the biggest publicly traded company in Japan. So, Warren Buffett is now the second most influential shareholder in Japan, behind the Japanese government (which would include the Government Penion Investment Fund).

Now, the timing of it is interesting.

The Prime Minister, Shinzo Abe, just announced his resignation on Friday (for health reasons, he says). On Monday morning, just before the Tokyo stock market opened, Buffett announced he had made this investment.

These are diversified conglomerates, but with common themes. The common themes: infrastructure, energy, metals, raw materials, chemicals, food, textiles.

Is this a bet on new leadership and a new plan to end three decades of economic stagnation in Japan?

Is a bet on a revival of Japan's role in the world as an exporter, assuming China is headed toward the "trade penalty box," to be enforced by a global alliance – led by the U.S.?

Maybe both. Japan's decline came, not coincidentally, with China's ascent.

Japan's Nikkei remains 41% off of the all-time highs, marked three decades ago.

Pro Perspectives 8/28/20

August 28, 2020

As we discussed yesterday, the Fed has now formalized their strategy to let inflation run hot, to insure that the economic recovery, that they've paid trillions of dollars for, is secure.

Again, this is not new information. They've been telling us this even before the pandemic, and they've made it more abundantly clear in recent months. Now it's formal policy, to allow a period of hot inflation, to compensate for the long period of below target inflation.

What does it all mean?

It means the Fed's pandemic policy response is, by design, inflating GDP, inflating away debt, and consequently resetting the price of everything higher (consumer stables, consumer products, services, labor, stocks, real estate, commodities … everything). They will do nothing to risk choking it off to early.

So rates will remain at zero for quite sometime. And as we've discussed, with zero rates, the multiple on stocks can go much, much higher – for a lack of alternatives for return.

With this in mind, the S&P 500 trades above 3,500 today.

But ignoring the rate environment, and ignoring the deluge of liquidity that has been dropped on the world in recent months, those that try to call tops and constantly see bubbles are getting noisy – for reasons like, "too far, too fast" or "too expensive" or they just don't like the level of the index (the eye test, "too high").

For perspective on where this can go, let's revisit my analysis on the long term trajectory of stocks, and what it would take to put us back on path of 8% annualized, from the pre-global financial crisis peak of 2007.

In the chart, the blue line represents what the S&P 500 would have looked like had it continued its long-run annualized growth rate of 8% from the 2007 (pre-crisis) peak. We would have an S&P 500 near 4,300. That's 23% higher than today's close.

The orange line is the actual path of stocks.

Even though we're up big from 2009 bottom, and we're up big from the March lows of this year, we still have not recovered the lost growth in stocks of the past decade.

That is clearly displayed in the GAP between the orange line (the actual S&P 500) and the blue line (where stocks would be, had we continued along the 8% annualized path).

The recipe is now in place to close that gap.

Pro Perspectives 8/27/20

August 27, 2020

We’ve talked about the coming inflation tsunami, thanks to the bazooka monetary and fiscal policy response that is proving to abundantly outweigh the economic damage caused by the Pandemic.

And we’ve heard along the way, from Jay Powell, that the Fed plans to keep the policy pedal to the metal, in recovery, to let the economy run hot.

He made that official policy today, in his speech at Jackson Hole, announcing formally that the Fed would let inflation run hot.

They’ve talked about this “symmetric” view on inflation for the past few years, telling us that they would allow inflation to run “symmetrically” above their 2% inflation target, to balance against the period of time where inflation ran below their inflation target.

This communication has always been about trying to dial UP inflation expectations. It hasn’t worked to this point, as you can see in this chart of core pce (the Fed’s favored inflation gauge) …

With the large majority of data points residing below the white line (the Fed’s target inflation rate), this chart tells us that we should expect the Fed to happily watch an inflation rate that rises and persists in the 3%+ area for quite some time. In that scenario, they would be very slow to start moving rates higher (as they have explicitly told us), giving the economy plenty of runway to sustain recovery. This is the best-case scenario.

But remember, this will be a recovery juiced by trillions of dollars of excess money from the policy response (well in excess of the damage). That means the Fed will likely have to chase inflation at some point, to contain it, with a rapid succession of rate hikes. But they will still let it run hot, early on. This is still a good scenario. That bad scenario, is deflation, due to economic collapse, which means a very bad outcome for all, and unlikely salvageable by even aggressive policy actions.

Let’s stick with the optimistic (high probability) outcomes …

Guess what will “inflate” along the way in these inflation scenarios: Nominal GDP.

GDP measures the market value of the goods and services. So, price goes up, GDP goes up.

If we look back to the inflation spikes of the early 70s and early 80s, nominal GDP grew by an annual rate of better than 10% during those periods.

If we had a similar spike, we would regain peak levels of GDP by middle-to end of next year, and we would be on the way to a $30 trillion economy by 2024, which would (by design) go a long way toward repairing, if not resolving, our debt as a percent of GDP problem.

Pro Perspectives 8/26/20

August 26, 2020

The hurricane in the Gulf of Mexico has been upgraded to a category 4. That will make landfall tonight.

We've talked about this storm, and the resulting supply disruption that may prove to be a catalyst to get oil prices moving.

What oil and gas companies would benefit from higher oil prices? All of them.

Remember, we came into the year with a bubbling confrontation with Iran and with a U.S. economy that was positioned for the hottest stretch of growth in two decades. It was a formula for $100+ oil. And that backdrop would have solidified the comeback and sustainability of the shale industry. And then the rug was pulled out — from the events you can see annotated in this chart …

This plunge in oil prices put practically everyone on default watch: the energy industry, banks that lend to the energy industry, countries that are heavily dependent on oil revenues (and everyone that deals with these entities, relies on them as part of their business or daily lives, lends money to them, etc — i.e. makings for a total global meltdown).

With that, if there was any question about whether or not policymakers would/should fire the bazooka of monetary and fiscal stimulus, the collapse in oil made it an easy decision.

As part of the policy mix, the Fed brought the U.S. energy industry back from the brink of death by becoming an outright buyer of corporate bonds. So, these distressed companies have been able to raise money, to stay afloat, now they need higher oil prices.

And with the exception of a position Carl Icahn has (and has had) in Occidental Petroleum, no one has these stocks. Wall Street has left the industry for dead. That probably makes these U.S. oil and gas stocks a buy.

Pro Perspectives 8/25/20

August 25, 2020

Yesterday we talked about the catalyst for a move in crude oil.

Today, crude was up as much as 2.8%.

The storm brewing in the Gulf has now caused nearly 300 oil and gas drilling platform closures, which represents over 80% of the production from that area. And the forecast on the storm has now been upgraded to a major hurricane (category 3) by landfall. Harvey was a category 4, two years ago.

Like Harvey, this storm will likely impact refinery operations that are near the shoreline as well — which should further disrupt production and the supply chain.

Again, this is all developing into a catalyst to get oil prices moving (higher).

In addition, overnight it was reported that the U.S. and China had positive talks on carrying out phase one of the trade deal. Within that agreement, China has a commitment to buy, in addition to their normal annual imports from the U.S., $12.5 billion of agricultural commodities, and $18.5 billion of energy-related commodities.

As you can see in the chart below, at seven full months into the year, China is well behind on its commitment – to the tune of about $10 billion in ag spend, and about $12 billion in energy.

With that information, not surprisingly, commodities led the way today. Coffee was up 3.4%. Nat gas was up 3.2%. Corn was up 2.6%. Lean hogs, up 2.6%. Lumber, up 2.3%. Soybeans, up 1.6%. Wheat, up 1.5%.

Now, a fair question: Do we really want China to fulfill on this commitment right now?

It was just a month ago, that Pompeo made the case for building an alliance of "free nations" to stand up against the Chinese government, calling for regime change, and calling the Chinese Communist Party a threat to the free world. The media gave little coverage to this speech, which sounded at best like a cold war declaration (at worst, like a 'hot' war declaration). If you didn't see it, you can find the transcripts here.

So, given that we are emerging from an economic crisis, that has already resulted in a supply shock, do we really want to be sending our food and energy to China? And do we want to do so, in a fragile economy, knowing that it will put upward pressure on prices, where inflation is already brewing.

Pro Perspectives 8/24/20

August 24, 2020

We talked about crude oil late last week. Let’s continue on this theme today, as two supply disrupting storms make their way through the Gulf of Mexico.

As we’ve discussed, oil has been disconnected from a very hot stock market. Stocks are hitting new record highs. Oil prices are down 35% from the highs of the year.

Apple, the biggest company in the world, has doubled in value (to over $2 trillion over the past two years). The value of crude oil has been nearly cut in half over the same period.

Meanwhile, we are in the early stages of an aggressive bounceback in economic growth (projecting +26% annualized for Q3, at the moment). The dollar is falling, and inflation is brewing, as money pours into popular inflation hedges (with gold and silver leading the way).

And yet, crude oil (globally traded primarily in dollars) trades just in the low $40s.

Is it lacking a catalyst?

Well, historically, supply disruptions are often a powerful catalyst to get oil moving.

And we may now have a catalyst.

With the storms in the gulf (or on that path), over 100 rigs have already been evacuated, accounting for 58% of the oil production in the Gulf.

What could it mean for oil prices (in combination with the backdrop we laid out in the above)?

Let’s take a look back at oil prices from August of 2017, when Hurricane Harvey, a category 4, tracked through the Gulf and devastated Texas.

Harvey hit over the weekend in late August of 2017. It was a big one. Both offshore platforms, and onshore refineries were hit hard. The fallout was assessed over the following days, and by the end of the week, the bottom was in for oil. Within 12 months, crude was trading over $70.

Pro Perspectives 8/21/20

August 21, 2020

We talked about the outlook for inflation.

Global central banks have explicitly devalued cash, flooding the world with trillions of dollars of new money (excess liquidity). Add to that we’ve have a supply chain disruption, meeting a demand shock. And as the economy regains it’s prior capacity, it’s unlikely that supply will be able to ramp at the same rate that demand will ramp. We should expect prices to be higher.

We’re seeing the excess liquidity effect on stocks (record higher prices). And we’re seeing both the excess liquidity effect and supply/demand mismatch effect in real estate (record high prices).

We’re seeing it in some commodities (gold is up 27%, silver up 49%), but most commodities remain cheap, but for how long?

Let’s take a look at some charts …

The broad commodity index is still down 20% from the highs of the year, and coming from a very low base (record lows).

Oil is down 35% from the highs of the year.

Food prices remain down on the year.

What’s up, big? Lumber.

Lumber is up 94% on the year. The price is up 230% from the April 1 bottom.

Is this what supply disruption meeting a demand surge might look like in broad commodities at some point in the near future? Maybe.

Pro Perspectives 8/20/20

August 20, 2020

Yesterday, we talked about the $2 trillion valuation of Apple.

And we observed the disconnect between the value of the biggest company in the world, and the value of the most important natural resource in the world. While Apple has doubled over the past two years, the price of oil has about halved.

What’s the relationship? Well, one might think that the performance of Apple is a proxy on the global economy — foretelling, not just an aggressive economic recovery, but one where global asset prices (generally) will be inflated by the excess stimulus money floating around.

Maybe you would expect something like this relationship we saw through the economic ebbs and flows of 2016-2019 …

This relationship hasn’t happened. Oil has only returned to pre-lockdown levels (flat-ish). While Apple is up 80% over the same period.

Interestingly, Tesla has also made a huge run since the Pandemic was globally recognized back in early March. The stock has more than tripled from that point — and up nearly 6x from the lows of mid March.

Does this have anything to do with oil? Maybe. It may have a lot to do with oil and climate change activism.

Climate change activists believe that climate change is an existential threat to the world. And because they view Trump as a climate change denier, they have explicitly said he is an existential threat to the world.

If they believe he is an existential threat, to what extent would they be willing to fight to remove him from office? At the very least, let’s just say that the virus has created a path to his removal.

With that, consider that the financial backing of climate change activism is nearly unlimited. A group called Climate Action 100+ has the most powerful investors in the world (representing $32 trillion in assets under management). And they are dictating how major energy companies are deploying capital on new projects – forcing the pivot to climate responsible initiatives. And then you have every major global government entity/cooperative behind the activist movement, feeding the effort with cash and subsidies.

Now, with that, it seems clear that global capital has indiscriminately plowed into Tesla (likely by the entities mentioned above), as if this company represents the contra-oil industry. If that’s the case, at a market cap of $360 billion, Tesla as an “industry”, relative to oil and gas, is cheap.

Pro Perspectives 8/19/20

August 19, 2020

Stocks reversed into the end of the day, after printing a new record high.

This comes on the day that Apple became the first two trillion-dollar company. Just two years ago (almost to the day), Apple became the first one trillion-dollar company.

Want to replicate Warren Buffett's portfolio? Put about half of your money in Apple, and you're about there. Buffett now has $133 billion worth of Apple — 45% of Berkshire Hathaway.

If we look back to the first crossing of that trillion-dollar market cap threshold, by Apple, it wasn't long before both Amazon (September of 2018) and Microsoft (April of 2019) joined the party.

Will they follow Apple's lead again? Very likely. Both are valued at $1.6 trillion at the moment.

This is either what it looks like when money around the world finds a store-of-value in monopolies (it's like buying gold), or we're looking at the early signs of a global reset of all asset prices, thanks to the trillions of dollars-worth of new money that policymakers have dumped onto the world. It's probably both.

This is not necessarily reflecting a higher value, just a higher price. And that's a formula for a lower quality of life.

Conversely, what's the right price for oil, if these stocks are foretelling a global recovery? Back in August of 2018, when Apple became the first trillion-dollar company, oil was trading over $70. Today, it's trading $42.