Blain’s Morning Porridge Feb 5th 2024: US Economy Doing Good – But Is It Investible?

“Everyone can agree on only one thing; who they want to lose. It’s always the English.”

Friday’s US Employment Report confirmed the underlying strength of a robust economy. Little to worry about, except to wonder why 40% of the electorate are so unhappy and blame the current government. That’s an issue for investors to figure out.

Before talking about markets – what about the Rugby?

It’s that “Six Nations” Time of Year; when England, France, Ireland, Italy, Scotland and Wales seek to dominate the thugs game played by gentlemen. For the next 7 weeks Monday’s Morning Porridges might be a wee bit heavy on Rubgy – my opinions expressed as irrefutable facts as to how the oval ball offers insights into market behaviours.

This morning – The Criticality of Momentum.

It has been my pleasure and curse to have suffered the “cruel and unusual punishment” of being a Scotland Rugby supporter for some six decades. It’s feast or famine: one good year, then a decade in the wilderness. When it comes to the slings and arrows of outrageous fortune, we get them in bulk. Finally, the current Scot’s team is playing in the upper half – and shows promise season-to-season.

Yet, nothing prepared me for what nearly happened in Cardiff’s Millennium Stadium on Saturday. I was there. Scotland dominated the first half, making Wales’s new team look unready, careless and talentless. The Welsh fans were in despair as Scotland went into the break with a 27-0 lead. The home fans were silent in their disappointment.

The Welsh must have received and all-mighty tongue-lashing from the coach at half-time. They came out re-energised and galvanised. Scotland had a man sent off and went on the back-foot. The Welsh struck and opened a new attacking game, forcing the Scots into mistakes. As the Welsh scored pushovers the 80,000 capacity stadium woke up. Suddenly the visitors found themselves playing 40015 Welshmen. They started scoring in grand style. They nearly cracked the Scots, but the line was held to a nail-biting final score of 27-26 to the Scots.

In the streets of Cardiff on Saturday night the stunned Scots were shaking their heads in disbelief, as the Welsh fans drank as if they’d won a famous victory. It was a squeaky bum moment for Scotland – but a necessary wake-up before we play the French next week. It was a moment of affirmation for the new Welsh team – they know they can play and can win, and next week is their key match – the English at Twickenham.

It was all about Momentum – there was a sudden moment it switched from Scotland to Wales in the second half, and the Reds literally ran with it, rewriting the game narrative.. It all goes to show, it’s never over till it’s over, and when something changes, it can change the outlook very fast…

And with that… back to markets.. when does the momentum shift?

What have we got to look forwards to this week?

Top of the agenda is how to play Friday’s extraordinary US jobs number – much stronger than expected with a massive upwards revision to the previous month. It confirms the US economy is strong even as inflation numbers continue to drop – begging the question why would the Fed now risk overheating the economy by easing rates? Fed Head Jay Powell was interviewed over the weekend and confirmed the Fed is in no rush to ease – still watching the inflation tape he says – but maybe three cuts later this year. (That sounds about right!)

The Fed is playing a delicate balance game here: just how robust will the economy prove to sustained higher interest rates? And, just how high can the Fed keep rates without crashing the economy? Normalised interest rates is an unstated Fed goal – they aim to take the mispricing of money out the market as that will ultimately resolve an over-inflated market from distorting economic behaviours and unbalancing the unequal wealth of the economy.

On the corporate side of the equation higher rates do not seem the massive problem many expected – the bond markets provided record amounts of new debt liquidity in January, the primary market absorbing record new issuance volumes. Corporate default rates were expected to soar as “Zombie-firms” (those unable to service higher debt levels) failed, yet the numbers actually crashing remain low-ish – hinting the economy is coping with higher normalised rates better than expected. (Zombie defaults are a good thing – removing busted firms from blocking market niches, allowing new firms to evolve and profitably fill their slots.)

Towards the end of last year, there was an expectation squeezed consumer discretionary spending would impact credit card and auto-loan debt – even in a soft-landing economic scenario, but, again, it doesn’t seem to have impacted with much force. Consumers appear to be more resilient than expected, and although they are leveraging up on yet more debt – mass defaults have so far been avoided. January’s US consumer confidence leapt from 69 to 79 in the University of Michigan’s confidence index – as did business confidence.

There are few reasons to be fearful of markets tipping the board. There is far too much credence given to the ups, downs and roundabouts, of the Big Tech firms, but there are no immediate reasons to anticipate a major confidence collapse. (Economic confidence could cope with a market correction.) There isn’t much to fear on earnings. If anything, the roll out of AI across the economy looks set to create productivity gains earlier than expected.

Clearly there are problems – there are always problems. Yet the wobbles in secondary banks over high commercial property exposures is a factor of how the post-covid economy has changed behaviourally in terms of office work, rather than symptomatic of underlying crisis in the economy. (The number of European financial exposed by the collapse of Austrian Property Shell-game Signa is extraordinary – but that looks increasingly like irrational banking.)

And there is the small matter of churning geopolitics, conflict and rising tension around the globe… but… even the Fed can’t solve these…

As Powell and the Fed look at the economy they might just smile. Increasingly the data confirms a falling recession risk, while economists and analysts are calling for a “deflationary boom” as inflation trends lower… Although the US economy is more internally cushioned to supply chain and energy risks than Europe, the Fed remains vigilant, with the advantage of being able to wait.

However, Powell will also have cocked a weather-ear to Former President Trump’s comments last week suggesting that if the Fed were to lower interest rates now, it would be a politically inspired act deliberately done to favour Biden and the Democrats. (I am sure Powell will not be expecting his term renewed under Trump.) While Trump now sees the Fed as yet another front of the establishment forces arrayed against him, Powell has previously commented: “We don’t think about politics. We think about what’s the right thing to do for the economy.”

The right thing for the Fed to do might be nothing. The US economy looks strong and robust with substantial job creation, falling inflation, and growth rates that leave most other nations in the shade. Wealth creation – especially for the wealthy – is fuelled by run-away value of stocks.

However, for investors… the US remains a measured call. As a Danish prince might have said; there is “something rotten” in the States.

Despite the economic good news, the coming election is revealing the unhappiest, most divided and polarised nation ever. The 40% of Republican voters supporting Trump all tell pollsters their lives are getting worse, attributing all their woes to the actions President Biden. Why do so many American voters feel so betrayed by their government, and are they right to blame it on political parties?

I have a many chums in ‘Merica, and I’ve been asking them why are people so angry? The answer is mixed and pretty disturbing:

Poorer Americans see the wealth of a successful nation all around them. In the past, the American dream was always that hard work and diligence gave everyone a shot at achieving success. Now they blame government for not working for them, fed by the narrative a cabal of the rich and successful are deliberating withholding that dream through the institutions of the Deep State. It’s conspiracy theory bunkum, but it works because all around the US are signs politicians can point to as proofs it’s happening:

• Decaying inner cities and lawlessness.
• The border threat and immigration
• Job losses.
• Health crises.
• The impression that Covid lockdowns and jabs were repression.
• Being the World’s policeman has done America no favours – The USA may be the most powerful military force, but 80 years of “police actions” at enormous cost and uncounted casualties is a reason to isolate.

Trump’s success is recognising all the above and more, and bottling it in his brand of populism. He succeeds because in the face of little pushback from Biden’s Democrats he retains the momentum.

The bottom line is the US faces the same crises as every other democracy – how to deliver across society. Trump has weaponised that. In the US, its more complex because no one is listening. For the Democrats to win, they need to turnaround the economy and regain the momentum of a brighter future – which in the current fervid polarised maelstrom of what passes for politics in the US, looks impossible. Just telling the truth about the strength and robustness of the economy won’t cut it. Unless, of course, US politics was suddenly to have a momentum shifting moment, putting the ball into Democrat hands?

Unless it happens, if I were a global investor I’d be looking at the divided US and wondering where else to park money..

As a brief aside… One thing that does amuse me as I ask my American chums about the “Whys” of US Politics is the number of times my questions about Trump’s dishonesty, philandering, pettiness and spite are countered with “Hunter Biden’s Laptop”. Three times over the weekend I was cited it as an answer to serious questions.

The HBL has become an article of faith for The Right – a holy relic of irrefutable truth confirming all that is evil and bad about Democrats. Ask a Trump apologist: “Do you really believe the 2020 election was stolen?”, and they will respond “what about Hunter Biden’s laptop…?”

Unlike some, I have not completed a PhD on Hunter Biden’s Laptop, but apparently in 2019 some bloke who said he was Hunter Biden left a laptop in a repair shop. (The repair shop owner says it was Hunter Biden, but he is also a registered blind person….) When the “Biden” didn’t collect it, the repair guy analysed the 129,000 emails on the hard drive and found 2 that “concerned” him so much he gave the drive to Trump’s legal advisor Rudy Giuliani weeks before the election. (Yes, that Rudy Giuliani – do I need to say more?) The New York Post declared the email’s evidence of corruption by the Bidens in Ukraine.

It’s all terribly complex and might or might-not be a Russian plot – said Republican officials when Trump’s star was falling. Subsequent analysis of the hard-drive Giuliani acquired suggests some (but not all) of the emails might be genuine, but the drive has been shown to have been altered and edited many times even after the story broke that it will never pass any court tests. (The famous “dic-pic” files look to have been added much later in a crude attempt to discredit the President’s son.)

At this stage the Laptop is now longer a real thing. It is an article of faith for Trump supporters. A dodgy lap top vs umpteen court trials? You choose. Seems a funny thing to be fighting an election around.

Out of time,

Bill Blain

Market Strategist