Blain’s Morning Porridge – January 14th 2020
“We have seen economic growth, but without growth in earnings. That is a problem.“
Today sees the start of the Q4 earnings season as US banks report. If stock markets reflect the earnings and profitability of the companies in their indices, then earnings should be substantially higher following the gains in stocks through the last 11-years of record beating market rally. But, they aren’t. Investors would desperately like earnings to be reflected in prices – it justifies them. As the FT writes this morning: “Investors are hopeful corporate America will report its first quarter of earnings growth since the end of 2018 and that profits, and not a flood of liquidity, will power Wall Street in 2020.”
There is little hope of that.
I seldom find it difficult to find stuff to write about markets – but sometimes it’s tough to work out why I should bother? We all know markets are utterly distorted and insanely mispriced – but folk don’t want to hear it. Why bother saying it and spoil the party? I want to scream they should correct and collapse. US corporate price/earnings (P/E) rose from 14 to 19 times last year, and no one seems bothered!
Investors say they aren’t concerned because so many factors will conspire to keep market higher. Are they like crack addicts saying they can give up tomorrow? Euphoric Markets don’t pay attention to warnings of imminent pricing woe and misery. You can’t argue with a market convinced the party won’t ever end. It doesn’t seem to matter how many times I highlight the unsustainability of it all – for instance:
· Boeing had literally the worst year in its existence – yet the stock is down a fraction from 12 months ago. Rather than develop new aircraft types, its maximised stock buybacks and made its execs rich. It failed across the board.
· Tesla is at record levels and worth more than the rest of the US car industry – which sells about 20 times as many cars as it does, and is profitable.
· There must be a million similar stories of price indifference to reality.
(Telsa-philes get antsy when I point out that until it proves otherwise – it’s just a car maker making good but low margin units. It’s protected by a rather thin “moat” garnered from being first mover in the electric car revolution. It’s at a record price, but it’s got a limited window to really establish dominance before other manufacturers replicate its drive-train, data and systems tech. If you look at the history of car makers in the original auto revolution – Merc is the stand out survivor, which Tesla might be this time. But does its current position justify it’s multiple over the rest of the US car industry that produces 20x more cars at higher margins? Porsche makes even fewer cars than Tesla, but $4-5bln per annum profit on them, and guess what – its new electric Taycan is apparently outselling everything. And yes, I know Tesla has opened a factory in China… so have lots of car makers.)
But this is not going to be a rant about individual stocks.
It’s about how markets are stoked by irrational exuberance, unshakeable convictions, and the dangerous belief that this time it’s really different.
Lots of people are telling themselves it is…
I filtched this from the internet yesterday: over the past 68 years, US elections where a sitting president is standing (think about that for a moment), typically see stocks post an average 10% gain! If it’s a second term election, or open election as the US rags call it, then gains in stocks are far more limited – less than 2%. Based on the above 10 second internet trawl, I therefore confidently advise diving into Stocks. And second term presidents like to juice the markets to make themselves look good. As the Democrats bicker among themselves about the electability of a female candidate, Trump is likely to win. Get over it.
But stocks are about more than politics – although Donald has proved a tax-give away helps. The big issue for investors should be earnings. Have they grown enough to justify the 300% gain in stocks since 2009? Er… actually that doesn’t matter.
There are a number of reasons to support the “just keep buying” thesis..
Central Banks can’t/aren’t going to allow stocks to fall and trigger a new financial crisis. The UK is now talking about easing rates, the Fed is very much aligned to act on any sign of weakness, and even the Germans have finally come round to acknowledging the need for fiscal spending, after years of bitching about Draghi doing whatever it took. (See: Will Lagarde conquer the ECB’s German image problem?)
Recessionary signals are receding – even though trade war stand-downs will provide limited upside for earnings in a more suspicious global environment. Global supply chains are changing.
And I’m sure I could come up with other reasons to keep buying.
None of them matter. Everybody knows stocks are overvalued, but the market is going up because the market is going up. Its going up because too much money is circulating in financial assets. The current earnings outlook simply does not justify current prices.. Except.. as we all know, we are not in normal markets. There is so much money slooshing around financial markets meaning inflated financial asset prices will remain justified – right up to the moment it becomes blindingly obvious they aren’t.
But that’s unlikely to happen any time soon. Where would all that money go? Into bonds which are just as distorted and yeilding the cube root of zero? I doubt it… but stranger things have happened. Keep buying.. we can cold turkey tomorrow..
Euphoria is contagious symptom of FOMO. The “fear of missing out” on the biggest investment give-away ever is difficult to ignore. The only thing that can overcome euphoria is a sharp dose of reality – the kind that broke markets back in 2008, in 2000 and 1987. It WILL happen again.. The longest stock rally in financial history continues apace.
Maybe this rally does has longer to run? (And therefore, ultimately, further to fall!)
With Central Banks primed and ready to rescue any market weakness… what’s not to like about stocks when bond yields and spreads are so crazy? (The real problem is: how do the central banks intend to exit this distortion? Clue: inflation….)
Back on Planet Earth:
China being removed from the currency manipulator list, the UK is mulling a rate cut – why?
UK regional airline Flybe is in the news – again. In any normal world it would go bust, but perhaps not. Its place in the UK as the de-facto domestic airline is critical to the economy. Without it a host of regional airports will dis-appear and the UK will be increasingly confined to a few hub airports – which would be a disaster when our rail transport is so appalling. (My train from Southampton has been 30% late every single day this year…) With its focus on regional non-London centric growth, the new Government knows we need a domestic airline offering simple fast connections across the UK. Surely, it’s not beyond the wit of man to make it pay?
Meanwhile – for US readers.
You might be reading lots of stuff about Prince Harry and Megan being hounded out of the UK by the “racist” British tabloid press. The stories appearing in US “quality” papers about inherent UK racism forcing them out bear no reality to the story as it unfolds across here. From our perspective it looks like a swarm of ill-informed “woke” self-appointed experts are looking for an agenda platform. They’ve grabbed the story of the Royal Bust-Up to invent a new narrative about how Megan was forced out of the UK by racism.
It’s simply not true.
Megan Markle was welcomed to this country and embraced by us all. For whatever reasons, the love affair between Megan and the UK hasn’t lasted – and our tabloid press is partially to blame. But racism was never part of it. It’s a tragic story of relationships and roles within “the Firm”, sensitivies and unfulfilled expectations within the Royal Family. Her ancestry was never ever an issue. Her desired role became one.
The UK is not perfect when it comes to race – but we’re not guilty this time.
Five Stories To Read This Morning
Out of time, and got a day job to do!
Bill Blain, Shard Capital