Shareholders’ Dreams

The contrast is hard to ignore
Twixt growth, which is still on the floor
And market extremes
Where shareholders’ dreams
Of gains help them come back for more

“There’s no way I can lose.  Right now, I’m feeling invincible.”

This quote from a Bloomberg article about the massive rally in the Chinese stock markets could just as easily come from a US investor as well.  It is a perfect encapsulation of the view that the current situation is one where government support of both the economy and the markets is going to be with us for quite a while yet, and so, stock prices can only go higher.  So far, of course, that view has been spot on, at least since March 23rd, when the US markets bottomed.

The question this idea raises, though, is how long can this situation endure?  There is no denying the argument that ongoing monetary support for economies is flowing into asset markets.  One need only look at the correlation between the gain in the value of global equity markets since things bottomed, and the amount of monetary stimulus that has been implemented.  It is no coincidence that both numbers are on the order of $15 trillion.  But as we watch bankruptcy after bankruptcy get announced, Brooks Brothers was yesterday’s big-name event, it becomes harder and harder to see how market valuations can maintain their current levels without central bank support.  Thus, if equity market values are important to central banks, and I would argue they are, actually, their leading indicator, it leads to the idea that central banks will continue to add liquidity to the economy forever.  In other words, MMT has arrived.

Magical Money Tree Modern Monetary Theory is the controversial idea that, as long as governments print their own money, like the US does with dollars, as opposed to how euros are created by an “independent” authority, there is nothing to stop governments from spending whatever they want, budgets be damned.  After all, they can either issue debt, and print the money needed to repay it, or skip the issuance step and simply print what they need when they need it.  The proponents explain that the only hitch is inflation, which they claim would be the moderator on overprinting.  Thus, if inflation starts to rise, they can slow down the presses.

Originally, this was deemed a left leaning strategy as their idea was to print more money to pay for social programs.  But like every good (?) idea, it has been co-opted by the political opposition in a slightly different form.  Thus, printing money to buy financial assets (which is exactly what the Fed has been doing since 2009’s first bout of QE, is the right leaning application of this view.  To date, the Fed has only purchased bonds, but you can see the evolution toward stocks is underway. At first it was only Treasuries and then mortgage-backed bonds, which was designed to aid the collapsing housing market.  But now we are on to Munis (at least they are government entities) and investment grade corporate ETF’s, then extending to junk bond ETF’s and then individual corporate bonds.  It is not hard to see that the next step will be SPYders and DIAmonds and finally individual stocks.

It is also not hard to discern the impact on equity prices as we go forward in this scenario, much higher.  But ask yourself this; is this a good long-term outcome?  Consider the classic definition of Socialism:

      noun:   a political and economic theory of social organization which advocates that the means of production, distribution, and exchange should be owned or regulated by the state.

Would it not be the case that if the central bank owns equities, they are taking ownership of the means of production?  Would the Fed not be voting their shareholder rights?  And wouldn’t they be deciding winners and losers based on political issues, not economic ones?  Is this really where we want to go?

The EU is already on the way, with a new plan to take equity stakes in SME’s, the economic sector that has been least aided by PEPP and the ECB versions of QE.  And already the discussion there is of which companies to help; only those that meet current ‘proper’ criteria, such as climate neutrality and social cohesion.  The point is that the future is shaping up to turn out quite differently than the recent past, at least when it comes to the financial/economic models that drive political decisions.  Stay alert to these changes as they are almost certainly on their way.

Once again, I drifted into a non-market discussion because the market discussion is so incredibly boring.  Equity markets continue their climb, based on ongoing financial largesse by central banks.  Bond markets remain mired in tight ranges and the dollar continues to consolidate after a massive rally in March led to a more gradual unwinding of haven asset positions.  But lately, the story is just not that interesting.

Arguably, the dollar’s recent trend lower is still intact, it has just flattened out a great deal.  So we continue to see very gradual weakness in the greenback, just not necessarily every day.  For example, in the past three weeks, the euro has climbed 1.25%, but had an equal number of up and down days during this span.  In other words, if you look hard enough, you can discern a trend, it is just not a steep one.  In fact, as I type, it has turned modest overnight gains into modest losses, but is certainly not showing signs of a breakout in either direction.  And this is a pretty fair description of the entire G10 bloc, modest movement in both directions over the course of a few weeks, but net slightly firmer vs. the dollar.

Today, the pound is the big winner, although it has only gained 0.25%, coming on the back of the government’s announcement of an additional £30 billion of fiscal support for the UK economy focused on wages, job retention and small businesses.  As to the rest of the G10, SEK is firmer by 0.2%, although there are no stories that would seem to support the movement, while the other eight currencies are less than 0.1% changed from yesterday.

In the emerging markets, the story is somewhat similar with just two outliers, RUB (+0.6% as oil is higher) and ZAR (+0.5% as gold is higher).  In fact, the currency that has truly performed best of all this year is gold, which is higher by nearly 20% YTD, and shows no signs of slowing down.  Arguably, the rand should continue to find support from this situation.

Once again, data is scarce, with today’s Initial and Continuing Claims data the highlights (exp 1.375M and 18.75M respectively).  At this stage, these are probably the most important coincident indicators we have, as any signs of increased layoffs will result in a lot more anxiety, both in markets and the White House.  Of course, if those numbers decline, look for the V-shaped recovery story to gain further traction and stronger equity markets alongside a (slightly) weaker dollar.

Good luck and stay safe