Joseph & the US Stock Market
By David Kotok
Joseph (as in Abraham, Isaac, and
Jacob) was the first (maybe) successful economist mentioned in the Bible. Why do we say that?
Answer: He was data-driven.
Think of it this way. He
interpreted Pharaoh’s dreams. He developed a model (forecast).
He presented it
to the decision maker and persuaded him to agree. He raised the capital (easy
to do in those days if one worked for the deified ruler). He developed and
implemented an infrastructure capital expenditure program (warehouses and food
storage). He planned ahead and had a rainy day fund. He balanced a 14-year
budget that featured seven rich and seven lean years. He avoided deficit
spending.
He was promoted for his efforts and
given prestigious governmental power. He used it to rescue his family and
friends.
Joseph didn’t have to deal with
tweets. Let’s fast-forward a few thousand years.
Washington chaos is now reducing
the odds of the Trump tax/economic agenda ever coming to fruition. We do not
know what is going to happen with tax reform or tax cuts, with repatriation,
with deficit spending, with the debt limit, with the budget, with
infrastructure, with healthcare, with the climate-change agenda (if any), with
foreign policy, with the Voice of America (Bannon is going to run it), or with
Cuba.
(Smart foreign policy would favor
Cuba so as to divide it from Venezuela and weaken Maduro, but dumb policy would
apply sanctions or curtail outreach to Cuba and thereby remove incentives for
Cuba to lessen support for Venezuela. Trump has a major opportunity here to
improve Latin American policy if he plays it well and he invites a terrible
outcome if he bungles it.)
Meanwhile, The Democrats are
salivating as approval rating statistics support a forecast that the House
could swing to a Democratic majority in 2018. That would mean a bill to impeach
Trump is introduced in 2019 and it likely passes in the House.
What happens in the Senate is
another matter. But, for sure, impeachment is a political process. An
impeachable offense was defined by former president Gerald Ford as “whatever a
majority of the House of Representatives considers it to be at a given moment
in history.” An examination of all Republican presidencies of the last century
shows that Trump’s approval rating and the voter outlook support the forecast
of a Democratic House after next year’s midterm election. Will it occur? We do
not know. But the risk is rising daily.
Markets like this political
indecision; make no mistake about that. The US stock market prefers a divided
government that cannot do damage to what is a slow-growth but steadily
improving economy. That is our assessment. Let me quote Mike Drury, chief
economist of McVean Trading and chairman of the Global Interdependence Center
board:
The US, as a
primarily service-oriented, mature, wealthy economy, enjoys much longer cycles
– with the last four since the double dip of the early 1980s (the last factory
recession in America) averaging 106 months. As we are currently in the 96th
month of this expansion, no recession is expected for at least a year (more
likely two), and even a short recession to end the cycle would be 8 months – it
is likely that this will be the longest cycle in US history, topping the 128
months from March 1991 to November 2001. Bottom line, long, slow and stable
cycles in the US are not what drives markets. It is the volatility of growth on
the world’s cheapest factory floor that causes the most ripples.
I asked Mike to interpret the last
sentence, since it can be read two ways. He replied,
I think the
volatility in both commodities and interest rates is due more to China than US.
Long and slow underpins long-run growth in financials. China causes the ripples
that make for trading rather than investing.
We agree. Long-cycle. A rising
stock market through the entire decade. Low interest rates and low inflation
rates for the decade. Government will be a mess in Washington for the decade,
which means gridlock for the decade. Financials benefit, and we are overweight.
Now let’s get to the political
divide. Lyric Hale had a good summation of this on her Econvue website:
I’m beginning to
think that political events, no matter how explosive, no longer have the power
to affect the economy, financial markets, or even oil prices.
Technology, while
entertaining, seems to have lost its ability to create productivity gains.
Structural reforms have become stuck in many economies, and needed
infrastructure improvements just aren’t happening. Income inequality does not
seem to be reversing anywhere, and so one wonders how global consumption can
rebound. Automation has negatively impacted jobs, and nothing seems likely to
stop that momentum. Global risks to the environment, and to health, seem likely
to increase. Where can we find optimism, and new leadership?
As has been the
case throughout human history, the answer could be technology rather than
political leadership. My hometown of Chicago is the only top-20 city in the US
that is losing population, in a state whose bonds are rated close to junk.
However, like other cities in ‘flyover country,’ the Midwest might be in a
state of transition that the bicoastal media has not yet understood – just like
they misunderstood Trump. (Readers, see www.econvue.com for details.)
At Cumberland, we think political
division in the United States intensifies. The coastal elites have disengaged
from the middle of the country. And an unseasoned political adventurer
succeeded in capturing a weak Republican party and then its nomination and then
the presidential election. We have a president with no government experience
and no military experience.
We advise readers on the left not
to take for granted the midterm election reversal. And readers on the right
should not take for granted the status quo. What is apparent is the current
stalemate, though it may or may not persist.
Presidential cycles are for eight
years unless the first-term winner stumbles. Trump might. Or he might encounter
events that rally his base and reelect him. He might lose the House in the
midterm. Or House Republicans may rally and pass some key legislation such as
tax reform and thereby hold onto their majority. We do not know.
We do not have Joseph’s power to
interpret dreams (or tweets), and we cannot project the next seven years, let
alone 14 years. We do believe that markets like stalemates. And we do believe
that earnings growth is accelerating. That means a rising stock market as long
as we do not have a recession and do not have an inflation flare that leads to
much higher interest rates. None of those negatives are in our dominant forecast.
Our targets: That S&P 500 is at
3000 by the end of the decade. Interest rates are somewhat higher but not by
much. Think of it as shorter-term rates at 2% a year from now and coincident
with the midterm election. Longer-term rates a point or so higher. Tax reform
would bring a moderate change in the tax rates, at best. We remain nearly fully
invested in our US stock market ETF strategy. We advise that could change at
any time.
As for interpreting tweets or
dreams, we recall the famous movie line “Frankly, my dear, I don’t give a damn”
(Clark Gable as Rhett Butler, in Gone
with the Wind, 1939.)
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