Interview With Financial Sense on US Debt

We were interviewed by Cris Sheridan of Financial Sense on November 9, the day after the US presidential election. During the interview, we discuss fiscal spending, US debt at the federal and consumer level and the impact on all these with the election of Donald Trump.

Our thanks to Cris for the opportunity to speak with him and to his editor for making these disparate thoughts seem cogent.

Listen here.

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Fund Flows, Investor Positioning And The "Secular Low in Yields"

Summary: In July, fund managers' had their highest exposure to bonds in 3-1/2 years. In other words, they expected yields to keep falling. Instead, yields reversed higher and have since risen so sharply that several smart money managers now say that a new secular uptrend in yields is taking place. That is a big call, given that the foregoing secular downtrend has lasted more than 35 years.

Over the past 18 months, investors' money has been flowing consistently out of equity funds. Where has that money gone? Mostly to bond funds. Money usually follows performance, so it's a good guess that fund flows might soon begin to favor equities. If past is prologue, then equities should gain and bond yields should continue to rise. Whether that will constitute the start to a new secular uptrend for yields it is far too early to say.

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Perhaps the most prevalent storyline in the markets over the past several years has been the long term secular decline in interest rates. Not just in the United States, but worldwide, low economic growth and persistently weak inflation has contributed to falling sovereign yields.

Interest rates have historically moved in cycles. On a relative basis, yields were as low as they are now for most of the period between 1900 and 1960 (the 10 year is currently 2.2%). Rates rose for 20 years until 1920 and then fell for 30 years into the 1950s. Then came a long secular rise in rates until 1980. That 30 year period has been followed by one even longer, as rates have cycled down over the past 4 decades. Enlarge any image by clicking on it.

Demographics: The Boomers Have Already Been Overtaken By The Millennials

Summary: Demographics is a key driver of economic growth. Most people focus on the aging of the Boomer generation. But the working-age population in the US has been growing almost as fast as the retirement of Boomers. Millennials are now the largest living generation and will be in the working-age population until well past 2050. "By 2030 the top 11 birth cohorts will be the youngest 11 cohorts. The movement of these younger cohorts into the prime working age is a key economic story in coming years."

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Nearly 20 years ago, investors started becoming concerned about the aging demographic profile in the United States. The concern was understandable: the largest birth cohort in the nation's history was close to entering retirement. Between 1940 and 1950, the number of births per year in the US increased by a massive 45%, and that group would begin retiring in 2005. Enlarge any chart by clicking on it (data from Doug Short).

Copper Prices And The Global Economy

Summary: The rising price of copper is probably a good sign that the global economy is non-recessionary. When copper has risen, so has GDP. But the converse is not true: falling copper prices have not signaled a slump in the economy.

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Copper prices are surging. The metal's price is up over 20% in 2016. Current prices are the highest in about 18 months. Enlarge any image by clicking on it.

November Macro Update: Wage Growth Accelerates, But Some Signs of Weakness Creeping In

Summary: The macro data from the past month continues to mostly point to positive growth. On balance, the evidence suggests the imminent onset of a recession is unlikely.

That said, there are some signs of weakness creeping into the data. Retail sales are at a new all-time high, but overall growth is decelerating and less than 2% real. Employment growth is also decelerating, from over 2% last year to 1.7% now. Housing starts and permits have flattened over the past year. There is nothing alarming in any of this but it is noteworthy that expansions weaken before they end, and these are signs of some weakening that bear monitoring closely.

Overall, the main positives from the recent data are in employment, consumption growth and housing:

• Monthly employment gains have averaged 197,000 during the past year, with annual growth of 1.7% yoy.  Full-time employment is leading.
• Recent compensation growth is the highest in more than 7 years: 2.8% yoy in October. 
• Most measures of demand show 3-4% nominal growth. Real personal consumption growth in September was 2.4%.  Retail sales reached a new all-time high in September.
• Housing sales are near a 9 year high. Starts and permits in August remain near their 8 year highs, but growth has been flattening.
• The core inflation rate has remained near 2% since November 2015.

The main negatives are concentrated in the manufacturing sector (which accounts for just 10% of employment):

• Core durable goods growth fell 2.0% yoy in September. It was weak during the winter of 2015 and it has not rebounded since. 
• Industrial production has also been weak, falling -1.0% yoy due to weakness in mining (oil and coal). The manufacturing component grew +0.1% yoy.

Prior macro posts from the past year are here.

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Our key message over the past 2 years has been that (a) growth is positive but slow, in the range of ~3-4% (nominal), and; (b) current growth is lower than in prior periods of economic expansion and a return to 1980s or 1990s style growth does not appear likely.

Modest growth should not be a surprise. This is the typical pattern in the years following a financial crisis like the one experienced in 2008-09.

This is germane to equity markets in that macro growth drives corporate revenue, profit expansion and valuation levels. The saying that "the stock market is not the economy" is true on a day to day or even month to month basis, but over time these two move together. When they diverge, it is normally a function of emotion, whether measured in valuation premiums/discounts or sentiment extremes (enlarge any image by clicking on it).

A valuable post on using macro data to improve trend following investment strategies can be found here.

Let's review each of these points in turn. We'll focus on four macro categories: labor market, inflation, end-demand and housing.


Employment and Wages

The October non-farm payroll was 161,000 new employees plus 44,000 in revisions.

In the past 12 months, the average monthly gain in employment was 197,000.

Monthly NFP prints are normally volatile. Since 2004, NFP prints near 300,000 have been followed by ones near or under 100,000. That has been a pattern during every bull market; NFP was negative in 1993, 1995, 1996 and 1997. The low prints of 84,000 in March 2015 and 24,000 in May 2016 fit the historical pattern. This is normal, not unusual or unexpected.