Holiday sales look flat. While online sales were up, sales at traditional retailers were lackluster. Penney’s, Kohl’s, L Brands, Macy’s, Urban Outfitters, Bed Bath & Beyond, all reported lower sales vs. a year ago. Meanwhile, in what looks to be a “frugality” or “trade down” movement on the part of the consumer, same store sales at Walmart, Costco, and Target rose. The Wall Street Journal reported that nearly 40% of exchange listed companies lost money in 2019.
In China, auto sales fell -7.4% in 2019 on top of the -5.4% posted in 2019. And January sales have started off lower than the same year earlier period. Non-Farm payrolls disappointed at 145K, but if we take out the -14K from the October and November downward revisions, and the +52K from BLS’s plug number for small business, the net is only +79K. (The BLS doesn’t survey small business; it has an algorithm that plugs 50K to 100K jobs per month into its headline jobs number.) And there are some anomalies in the data. For example, ADP (the payroll company) has shown small business employment shrinking for most of the year, which doesn’t comport with the +52K plugged in by BLS. In addition, ADP indicated -21K in Leisure & Hospitality while that category was +40K in the BLS survey. And, BLS’s +41K in retail will surely be wholly or partially reversed in January given the lackluster sales at traditional retail outlets.
Still, the equity markets continue to melt-up.
Historically, the Fed’s policies have always had a huge influence on stock prices. That is truer today than ever before. With markets at nosebleed valuations and completely ignoring corporate and economic fundamentals, I find more and more economic commentators concluding that stock prices are reacting to liquidity rather than to those fundamentals.
It is quite clear that the Fed is sensitive to financial markets. That began with Greenspan, was intensified by Bernanke, adopted by Yellen, and now by Powell. During his initial days as Fed Chair, it did not appear that Powell would play the role of market “Protector.” Prior to his appointment, his public remarks had questioned the new, unconventional, Fed policies like Quantitative Easing (QE). And then we had 2018 when his Fed was tightening and unwinding QE. During this time Powell was dealing, not only with virulent Presidential tweets, but by year’s end with the financial markets in near chaos. We all know what happened next, affectionately known as the “Powell Pivot” in January 2019.
Despite a world and U.S. economy that can be characterized (generously) as growing at “stall speed,” the stock market has rallied 13% since the Fed’s mid-September meeting. In the Fed’s official statements, it is their clear intent not to raise or lower rates in 2020, i.e., an “even keel.” But while the official position is “even keel,” they did embark on a balance sheet expansion in order to ensure that the overnight repo markets (where banks lend their reserves to each other) had enough liquidity. In this “technical” operation, they’ve added $300-$400 billion to their balance sheet, as big an operation as any of Bernanke’s QEs. And while Powell insists that it isn’t QE4, no one takes that seriously, as any Fed balance sheet expansion is, by definition, QE. So, in September, the direction of monetary policy actually changed toward more ease and more money printing, and, as could be predicted, the markets reacted by rising.
Most investors are familiar with Mohamed El-Erian, originally at Pimco and now at Allianz (which acquired Pimco). In a recent interview, he said that while he doesn’t see a recession, he does see a great “risk of change” in financial markets such that he, personally, has gradually reduced his own exposure to publicly traded securities and allocated much of that reduction to cash. That tells you that one of the world’s leading economists, one who has been cheerleading the rally in equities, now sees a lot of risk in these markets.
Economist David Rosenberg, perhaps the leading voice of worry regarding recession, now believes that, in the equity markets, the momentum is overwhelming and liquidity conditions are so flush that they more than offset a very challenging earnings and economic backdrop. According to Rosenberg, the primary driving force behind the advance in equity prices is increased liquidity/money flows – massive injections of funds of $100 billion per month by the world’s leading central banks. And these flows are now expected to continue through April, and potentially longer.”
In fact, the Friday January 10th edition of the Wall Street Journal ran with a headline “Fed Injects $83.1 Billion Into Markets.” The sub-head read: “Official says some repo operations might be needed at least through April.” In the body of the article we find the following: “A top official said the central bank may keep adding temporary money to markets for longer than policymakers had expected in September.” My thought: I wonder what their definition of “temporary” is, and what the market’s reaction will be when the “temporary” period ends. It won’t be pretty!
The real issue, of course, is that the economy shows no signs of accelerating. Maybe that is a good thing for the markets as long as the Fed keeps expanding its balance sheet. We see that there are early signs that some central banks in Europe are now moving away from negative interest rates, concluding, after several years, that they don’t have the desired impact on real economic growth. (Didn’t Einstein define “insanity” as doing the same thing over and over thinking you were going to get a different outcome?) My training as an economist and market commentator tells me that, eventually, markets will revert to reflect economic fundamentals.
Meanwhile, with Fed largesse, the signing of the Phase1 trade deal with China, and the diffusion of major tensions with Iran, there doesn’t appear to be much standing in the way of a continuing market melt-up, at least in the near-term.
As indicated above, the jobs data on Friday, at 145k, disappointed the 160k consensus view and the excitement that was generated the prior Wednesday by the ADP 202k reading. The real story in the employment report was the tepid 0.1% rise in wages (consensus: +0.3%) and the fact that aggregate hours worked in Q4 rose at just a 1% annual rate. So, from a GDP perspective, Q4 real GDP growth will be tepid, in the +1% to +2% range. That report, by the way, will be the next big market moving economic report due for release on January 30.
Still weighing negatively on global growth are the structural problems of a depleted capital stock resulting in no to low productivity growth, aging demographics, and excessive debt loads. In today’s market melt-up, small-cap stocks, the heartbeat of the domestic economy, and the Dow Transports, the economy’s pulse, have not participated, and the bond market is clearly not confirming the narrative that the economy is reaccelerating.
When asked what people would learn from the financial crisis in 2008, investor Jeremy Grantham replied: “In the short-term, a lot; in the medium-term, a little; in the long-term, nothing at all.”
Robert Barone, Ph.D. is a Georgetown educated economist. He is a financial advisor at Four Star Wealth Advisors. www.fourstarwealth.com. He is nationally known for his writings and Robert’s storied career includes his having served as a Professor of Finance, a community bank CEO, and a Director and Chairman of the Federal Home Loan Bank of San Francisco. Robert is currently a Director of CSAA Insurance Company (the AAA brand) where he chairs the Finance and Investment Committee. Robert is the co-portfolio manager of the UVA Unconstrained Medium-Term Fixed Income ETF (FFIU).