Blain’s Morning Porridge – March 26^th 2024: Stocks – Still Don’t Trust This Market

“Health insurance, rip off lying, FDA, big bankers buying, Fake computer crashes dining, Cloning while they’re multiplying”

Stocks are taking a breather this week after a succession of successive record highs. With the Fed now deep in QT, how can the market be rising when liquidity is supposed to be tighter, and underlying conditions tougher? Somethings just never make sense…

She-who-is-Mrs-Blain bravely set off to drive the few miles to Southampton Parkway very early doors this morning. Travelling at the crack of sparrows, she planned to avoid the blocked local roads caused as a consequence of the resurfacing work to dumb down the M27. Instead, the roads were empty. She just called from an empty train – as far as South Coast commuters are concerned it would appear the financial markets are already shut for the Easter Holiday – I’ve heard some schools have 5 weeks off.

Someone should think about doing some data analysis on how “Working From Home” mentality, longer school holidays, and activity in offices have changed in recent decades – and how that works in markets. I’ve certainly noticed a distinct lack of ambition among clients to actually do anything immediate – leave it till April is the refrain. Worrying.

Back on planet market….

It’s no surprise it’s shaping up as a quiet week for markets ahead of the Long Easter Holiday Weekend, but as always there is plenty bubbling under the surface. Speaking to clients (those in reach of mobile phones while not wrestling down their kids), there is a clear sense the current rally – that’s seen the S&P 500 hit successive records – is looking overbought. Now it’s time for some sober reflection on where value really is in this fervid market.

We know how that will playout.. the big stocks will rest a day or so, and then jump higher on the next new, new news, triggering more automated index buying. Repeat. What’s not to like about the current US market? The Fed has promised to SLASH interest rates, the economy is robust and resilient, companies are doing well, and AI is about to make everyone exceedingly rich…

Or, is the reality something substantially less will follow if the Fed remains reluctant to make the mistake of over-inflating financial assets and the markets by repeating over-easy money mistakes, or might a slowdown in corporate earnings as consumer discretionary spending collapses in the wake of rent and interest rate burdens trigger a recessionary stumble, or even the mounting distraction of the US election?

As always, the most likely path for markets is the one of least resistance, which absolutely suits Blain’s market mantra No2: “Things are never as bad as we fear, but seldom as good as we hope.”  However, also bear in mind mantra No 1: “The market has but one objective; to inflict the maximum amount of pain on the maximum number of participants.”

I have a very simplistic approach to the value of global and national stock market: surely the price of financial asserts (stocks and bonds) must be related to the value of the underlying economy. In the case of the US:

• GDP was $15 trillion in 2010 and today is some $23.4 trillion – a very respectable doubling in size of the economy, an increase of 55%.
• However, the S&P 500 has risen 367% from 1157 on Jan 1 2010 to 5218 today. That looks – fundamentally wrong and unsustainable….

In effect the value of stocks has grown 6 times as fast as the economy…. How and why? (In contrast, the UK economy has grown 25% since 2010 and the stock market (which to be fair, hardly represents the nations’ economy reality) is up a more modest 52%.)

For US stocks, the “why” is relatively straight forward: easy money fuelled speculation. The QE era of distorted interest rates took off in 2010 when zero-interest rates and pumping money into the system directly drove financial asset inflation in markets, the everything rally, through 2022 – when real-economy inflation suddenly took hold following the Ukraine invasion.

Although QE is now over, the influence of QE on market behaviour still holds – a majority of asset allocators, wealth managers and investment teams comprise young financiers (who never really experienced real interest markets pre 2007), who sincerely believe central banks stand ready to pump markets with liquidity on any sign of trouble. If not.. markets will throw something worse than just a Taper Tantrum.

The key point about QE was how excess liquidity flooded markets with easy money causing relative asset inflation, an incoming tide lifting all good and bad boats. It enabled speculation on the grand scale – as we now know.

Surely QT – quantitative tightening; selling more securities to mop up liquidity, raising interest rates to tighten liquidity, and add raising the amount of capital banks have to hold (thus restricting easy lending) through the new Basle 3 negotiations (you know the bank regulators must be on the right track because banks are objecting to them vehemently!) – would cause an equal and opposite reaction, reduced liquidity being like the tide going out. Nope.

Financial markets are not reliable and predictable – like the tide going in an out. They are subject to enormous bias and belief distortions, and therefore unpredictable.

You could of course argue the value relationship I’ve posited for stocks vs the economy is still distorted by the highly speculative prices of the few major tech firms that make up the bulk of the S&P index gains – that most US stock prices have effectively flatlined. Or maybe QT is fatally distorted itself? While the Fed is supposedly tightening, US banks have availed themselves of the Fed’s Bank Term Funding Programme to effectively monetise their US Treasury holdings for liquidity, although these are held to maturity at a substantial mark-to-market loss. (You may recall it was unrealised bond losses that triggered the liquidity driven deaths of US banks last year.)

As a result Banks are lending like its 1999, (who wouldn’t when lending margins look so attractive), hedge funds are leveraging up in multiples to play markets, and nothing has really changed in terms of liquidity except the price on the sticker. Nothing will really change…. Until it does. Probably suddenly and violently.

What kind of thing could trigger a market reaction? Donald Trump’s Truth Social suddenly being worth $3 billion? Adam Neumann making a bid for bankrupt We-Work?  Something silly in the bond market? Who knows…

Some point to the degree of insider selling as Jeff Bezos, Mark Zuckerberg, Peter Thiel and a host of others raising billions by selling record amount of their companies’ shares – the inference is they know it’s the top of the market. The reality is they may have taxes to pay (don’t be ridiculous, the uber-wealthy don’t pay taxes, so maybe they need money to pay people to make sure they don’t pay taxes…?)

Out of time, and back to the day job – anyone out there want to talk about stuff?

Bill Blain

Strategist – Author of the Morning Porridge

Wind Shift Capital