The artist René Magritte formerly said, “Everything that is visible hides something that is invisible.” As a money manager, one is constantly looking at any range of market indicators to ascertain where we now stand and where we may be led from the financial markets. As always, attempting to unpeel the “visible” signs may result in various interpretations. But, today’s market also shows an extreme amount of exploitation. By way of instance, considering US treasury returns as a sign looks fruitless since the Federal Reserve is currently controlling the return curve. The MOVE indicator (an indicator measuring bond market volatility), which is currently below pre-Covid amounts, is effectively worthless since the Fed has pumped so much liquidity to the bond market.
On the flip side, when you examine the VIX (a judge for stock market volatility), the indicator stays elevated. Additionally, the CLO (collateralized loan obligation) marketplace has seen defaults , since these markets are unmanipulated from the central banks. At length, the huge overseas exchange markets have placed downward pressure on the US dollar, which has dropped into the highs experienced in March when all of markets have been coming apart — indicating to me that we’re undergoing a change to a weak US dollar atmosphere. These factors warrant a continuing amount of marketplace caution especially since a few of the biggest U.S. technology stocks (i.e., FAANG, tech-monopolies) have plagued the assumed stock market recovery since March. While I consider the Nasdaq
today, we could point to Japanese bank stocks in the late 1980s. At the peak in 1989 the capitalization of the broad Topix represented more than 50% of the entire world’s market cap, and Japanese banks’ shares by themselves made up half the Topix by capitalization. Therefore, at their height, Japanese bank shares made up 25% of the world market cap! Guess how things ended? Even thirty years later, they are an inconsequential fraction of the world’s aggregate equity market. Nowadays, the market value of the Nasdaq is greater than the MSCI World (ex US) market cap. Hmmm?
Traders work on the floor of the New York Stock Exchange (NYSE) from New York, U.S., on Tuesday, Jan. … [+] 3, 2017. Photographer: Michael Nagle/Bloomberg
© 2016 Bloomberg Finance LP
Frankly, this group of stocks reminds me most of that the “Nifty Fifty”, which were seen as ‘one decision’ stocks that could do nothing wrong in this early 1970s. Furthermore, they were deemed “scarce” assets and perceived to be of the only companies that could grow. As Louis Gave states, excess money pushed valuations of these “scarce” stocks higher “until 1973, when oil prices spiked and all of a sudden investors were forced to reassess what was scarce (oil) and what wasn’t (production capacity).” Today, this new group of large U.S. tech companies may turn out “to be neither very nifty, nor that scarce.”
Similar to the 1970s, we are entering a period of inflation after an extended period of disinflation. Secondly, we have seen gold rally and hit recent new highs although we are still in the early stages of its own bull market. Finally, the Federal Reserve is becoming simply another regulatory agency under the power of the politicians. The politicians are determining how much money is needed for endless stimulus, while the Fed is rendered powerless and forced to hit the print button. As the investor Russell Napier recently mentioned, “It’s ironic that most investors believe in the seemingly unlimited power of today’s central banks. But in fact, they are the least powerful they have ever been since 1977.” By the time the 1970s ended, financial assets were cheap, while real assets were expensive. Today, it’s just the opposite. Back then, we were so upset about inflation that we were willing to endure a recession to fight it. Now, we are so resistant to a recession that we are willing to endure much more inflation. How times have changed.
Already we are seeing signs of inflation from everything to groceries, haircuts, and menu prices in restaurants. Some of the price shift is demand driven, but we are also seeing more scarcity at some areas. For example, just as there was a scarcity of facemasks and toilet paper during those early innings of Covid in March and April, we see many other examples manifesting now across industries. Take for example, aluminum. Brewers have had to scale back production of smaller brands they face an aluminum can shortage. As we continue to see more and more examples of real scarcity (not perceived scarcity like we see in the valuation of large cap tech stocks), we will experience more and more inflation. Most recentlywe saw Warren Buffett purchase an energy infrastructure company. Why? Perhaps he views increased regulation and an inability to build more capacity in the future will make those resources more valuable. I tend to agree. Buy things that are (or may become) scarce, not simply perceived are so. Owning real assets like energy infrastructure and gold, along with businesses with solid balance sheets that sell essential products and services, and maintain a healthy chunk of liquidity are important in the current investment environment. Since this French historian René Girard formerly said, “The revelry is always over some scarce object, it is acquisitive mimesis, the desire for something scarce.”