Healing, Growing, Unfolding
Dear Friends,
You may have noticed a lot of volatility in the markets right now. I think it’s possible to view this volatility as a kind of inflammatory process through which healing and new growth will likely ensue, as well as an eventual stabilization. Here are a few of my thoughts along those lines.
The Nasdaq has been selling off, but I don’t think this is long term. It seems to me that this is an unwinding of the speculation that drove these companies up so rapidly. The small rise in long term interest rates, itself a speculative move driven not by the scarcity of capital but by fear of the cost of capital going up, has caused the recent selling of these companies. The ambiguity between the Fed’s position of keeping short rates as low as they have been, while at the same time whetting the appetite to push tech stocks higher based on P/E expansion (which seems temporarily exhausted) has caused long rates to jump up. Speculators initiated the above mentioned selloff when they interpreted this ambiguous Fed position as a signal that it would react to the rapid rise in GDP (as the economy accelerated out of the pandemic) as inflationary. It didn’t happen.
Powell very clearly, strongly, recently stated that this rapid growth would not cause the Fed to raise rates, and set a time-frame of 2024 for rates to rise. A tug of war has since begun between the aforementioned speculators’ interpretation and the Fed’s recent statements. My view is that the Fed will prevail.
The $1.9T about to cascade into the economy, followed by $2T just announced as part of Mr. Biden’s “Build Back Better” agenda, will overcome all of this “inflammatory response” style volatility. This influx will push the equity market higher as it happily absorbs all of this new stimulus money as well as the release of trillions more that will flow out of savings as people break out of their COVID-19 stupor.
Amid all of this good news, however, it important to remember that the equity markets might move in fits and starts. This will likely be the result of the battle in Congress reengaging as Mr. Biden rolls out his plans for higher taxes. Another important overriding factor to consider is that any big initial changes in the markets will soon be tempered by the already looming mid-term elections. The Senate and House could easily be affected by any misstep, like real inflation emerging, a faltering in the rise of GDP next year or persistent unemployment. So, it is my sense that Mr. Biden will show some restraint in his proposals to protect his precarious control of the Congress. Regardless, net, net, and with lots of jagged moves, the economy and markets will still tend to go higher. If GDP growth continues, with only modest threats to the Fed’s resistance to abandon lower rates, and productivity shows a real net gain, the expanding growth will be very positive for the health of the markets.
I realize that this seems like a lot of “ifs,” but remember, power is inherently resistant to letting go of its influence and this pattern is a driving force; for now. My usual disclaimers about the future still hold; markets are driven in the short term by forces other than fundamental good sense. Markets are subject to the massive power of technology most (all) of which is dedicated to the short term pursuit of profits; therefore, it is also dedicated to creating the very conditions it needs to justify them. For instance, some of the recent frenzy has actually been created by the flow of funds into the markets, thus pushing it higher through its own creation of demand. It is important to remember that the market is not necessarily driven by actual growth in earnings and other usual fundamentals. The sheer volume of money flowing into the markets can and does create the justification for higher valuations of the equity markets. So, where does this self-induced inflammatory process lead?
The deciding factor, at some point, will be the reconnection of the markets to the real economy. The market economy can only be the main causal factor for a time. Then, the real economy will either grow to support the market generated prices or decline to a lower, more authentic and sustainable price level. We won’t know which of these paths it will be for a while or how substantial the accompanying adjustment will be. Good solid planning, long term strategies and ongoing attentiveness remain the name of this unfolding game.
Meanwhile, in my opinion, the old adage still rules: don’t fight the Fed.
Warmly,
Jerry