Welcome back to What’s Happening Now, following a grim week for investors, especially those hanging on for that last evasive yet entirely possible “melt-up” in stocks to come should the Fed print more dollars out of thin air.
Beyond (and more important than) the impeachment proceedings launched in the U.S. last week, China trade negotiations fell off track again as new U.S. threats to contain even passive investing in China, along with Chinese company listings on U.S. Exchanges, were floated.
A resolution of the trade war would send markets temporarily much higher; as of today, however, such a resolution remains elusive.
In the meantime, U.S. manufacturing data continued to plummet… to below breakeven.
And on the Central Bank front, necessary Fed repo rescues alarmed the U.S. as chaos at the European Central Bank mounted.
In short, a lot is going on and not much of it is objectively good, though further Fed “stimulus” could easily buy us more time and highs.
U.S. Crackdown on Capital Flows
Late last week, U.S. officials ramped-up efforts to limit U.S. investor portfolio flows into China, along with threats of delisting Chinese companies from U.S. exchanges, adding a whole new stress point to U.S./China trade/tariff negotiations.
When this news broke on Friday, the Invesco China Technology ETF and iShares China ETF fell more than 2%, while the iShares China Large-Cap ETF fell 1.2%, according to Bloomberg below. U.S. equity indexes fell as well.
Over the weekend, Washington walked back on this narrative, but here’s the thing: Restricting investment capital flows is an even bigger deal than imposing tariffs; it takes protectionism to a whole new level that could hasten the next recession if not otherwise resolved.
The key political and/or economic question thus boils down to this: If this is a game of chicken with China, which side will falter first?
Unlike the U.S., China has no democratic election cycle to hasten their hand. If they choose to punish the sitting U.S. President, then holding out until after the 2020 election is a weapon they carry.
Regardless of politics, no one wins a trade war. So, again, who will falter first?
Continued Bad News on U.S. Manufacturing
Back here in the U.S., we haven’t much to boast about either as our contribution to both domestic and international economic prosperity continues to tumble.
In the chart below, U.S. manufacturing, new orders, production, and employment are all heading south together, tumbling below that all-important 50% breakeven threshold (the dotted white line).
This is bad. These vitally important industrial metrics are not just correcting… they’re failing now, as they did ahead of the Great Recession of 2008 and as they have done twice since.
Three strikes and you’re out? We can only wait and see.
Then there’s this. If manufacturing is heading south, slowdowns in hiring can’t be far behind; and that, my friends, leads to that oh-so-low (fake) unemployment rate rising; and that would be a surefire marker for recession.
Stressed Central Banks
Combine the tariff wars with impaired capital flows and a declining U.S. economy, and you have two very stressed out central banks. That’s right, not just one but two – the U.S. Fed and the European Central Bank (ECB).
Here in the U.S., as I reported last week in Fed Sees Red and in The Ongoing Repo Question, the Fed is simply throwing the kitchen sink at the repo market. The money printers are back, which means time, and perhaps new market highs, are still to come – but not without risk.
Recently, Fed Chairman Powell all but confessed that the Fed will resort to QE (money printing) if the markets so require, which is a transparent signal to (as well as moral hazard for) companies and banks to rely on steroids to push markets higher, as natural market cycles have now officially been replaced by central bank liquidity cycles – i.e. money printers.
Everything now hinges upon the supply (amount printed) as well as cost (rates) of the U.S. dollar, a topic I will hit this week in force.
As for now, the chart below displays where rates ended up last week. Thanks to a trillion in printed dollars, the Fed Funds Effective Rate fell to 1.85% – well below the target rate. Take no chances. Take no prisoners. The Fed is up to its old magic.
Today, September 30, is the last day of the quarter when fed funding markets often hit extremes. We’ll have our eye on that for you. Expect more “accommodation” from the Fed of Oz, which is now the effective “invisible hand” of so-called “free-market” capitalism. Sorry, Adam Smith…
In Europe, as economic stress mounts, so has the stress levels and personalities over at the European Central Bank (ECB).
I went over to Europe last week for a walkabout and just returned on Saturday. Let me tell you this: The mood there is bad – very bad. The ECB is the talk of the Union, as is its revolving door.
For example, while I was over there, Germany’s ECB Executive Board Member, Sabine Lautenschläger (a vocal opponent to kick-starting another round of quantitative easing), announced her resignation effective the end of October, more than two years early. That was a shocker.
She knows money printing postpones pain, but it only makes the pain greater down the road. Result? She quit in disgust. Hats off to her courage.
Then there’s Christine Lagarde… This former Managing Director of the International Monetary Fund (IMF), who’s taking over the ECB from Mario Draghi in November, will be inheriting an increasingly dysfunctional ECB at a critical time for Europe, with European interest rates (Germany especially) now negative out as far as 15-20 years.
Das ist ja verruckt – aka, that’s crazy!
That’s also two central banks that are freaking out over fast-falling and negative interest rates. Think of them as effectively two “Lance Armstrong” central banks surviving entirely upon the twin-steroids of money printing and artificial rate-suppression.
We all know what happened to Lance.
As someone who reads a lot of French financial articles, I can tell you what the smart money in Europe knows about Lagarde. She’s a very articulate (though controversy-stained) lawyer, and that’s precisely why she’s being brought in to lead the ECB – which otherwise requires math wizards, not legal wordsmiths.
But with Brexit on the horizon and the European Union living on borrowed time (and tons of borrowed debt), the ECB will need lots of wordsmithing and internal negotiating to put fancy words ahead of bad math, a classic example of form over substance – the modus operandi of current market and economic leadership here and around the globe.
If you’re tuned into the Fed, there’s plenty more Fed speak this week: Charles Evans, Michelle Bowman, and James Bullard on Tuesday; Thomas Barkin, Patrick Harker, and John Williams on Wednesday; Evans again, along with Loretta Mester and former Fed Chairman Ben Bernanke on Thursday; closing the week with Raphael Bostic and Eric Rosengren on Friday. That’s 10+ speeches on the economy and Fed policy.
In other words, roll out the wordsmithing, ignore the math, and keep investors calm so that the game can “carry on.”
The take-home here is that the folks who run the Fed and the folks who run the ECB don’t quite know what to do with interest rates so low and the global economies running out of steam.
The bottom line is that these magicians (and wordsmiths) are running out of tricks (and adjectives).
Meanwhile, the U.S. Fed will talk about rate reductions and more money printing, which can and will send markets up when announced. But once yields on U.S. Treasuries match the zero to negative levels of Europe, then who on earth will buy our debt?
Again, we’re running out of magic.
We had tons of questions last week, and for good reason. So, let’s hit ’em.
First, your reader feedback on portfolio expectations and risk sensitivities was greatly appreciated. We are seeing that many of you are carefully positioning yourselves. We will be addressing portfolio matters in separate articles.
In response to my piece on the three broken legs of the U.S. economic stool, there was the welcomed observation from L.Z. that I tend to over-concentrate on the negatives while avoiding the positives, such as possibly winning the trade war or underestimating the guidance of a powerful Fed.
Fair observations. As I’ve said many times, a trade resolution would be a welcomed tailwind. And I agree, the Fed is extremely powerful, and no one should underestimate it. When QE resumes, markets will go higher – but with less steam behind the earlier QE initiatives.
Our take, however, is longer-term, and based primarily upon the objective data revealed here, here, and here, we are currently less optimistic going into 2020 and 2021. Are we infallible? Absolutely not. We welcome other views like yours.
Leon B. was curious about why we do not recommend silver and gold miners, given our concerns about the longer-term direction (south) and risks (high) facing domestic and global economies.
In fact, we have been extremely bullish on gold and silver, as most recently outlined here.
We see precious metals as a long-term insurance play, and despite three weeks of gold declines, are adamant in our views. Having broken $1,500, for example, gold can and will see pullbacks, with a $1,380-$1,390 floor; longer-term, however, our outlook is decidedly optimistic for both metals.
As for mining stocks, I share your interest, but have been less willing to dive into this space for two reasons: (1) it is a niche market of which I am less of an expert, and (2) while mining stocks can show exceptional outperformance over their underlining metals, they can also show much higher downside volatility (based on operational risk), with which not all of our readers may be comfortable.
Again, this is not an argument against miners, just a note of higher caution.
Edouard D’O. chimed in with agreement regarding the three broken legs of our economy (namely stock buybacks, overvalued index ETFs, and the Fed) but observed that stock buybacks continue to surge, ETFs are rising, and the Fed is not giving up with its “support.”
Edouard, ETFs have been on the rise for sure, but some chinks in the armor are apparent as August and September give way to October. Those highlighted ETFs below (namely utilities, real estate, and consumer staples) are leading the pack in a flight-to-safety as the rest of the group begins to tumble.
These legs may be shaking, but you are ultimately correct, they have yet to fully break, so your observation that “hopefully” you can get out before they do break is well-noted.
From our perch, the legs will break, so now is the time to get out – i.e. by at least 47% to cash (nod to Jack K.) as per our Storm Tracker metrics. This way you capture the limited upside, but avoid fuller exposure to the much higher downside, and thus have more cash to buy into bottoming (rather than topping) markets.
Our view, of course, is that it is better to be safe than sorry, and we recommend going more (not all) to cash before the aforementioned legs break.
Such a decision, of course, is entirely yours to make, and we acknowledge (here) that the Fed can keep these rigged markets going much longer than our fundamentals-based data can forecast, as Fed-driven markets are entirely uncharted waters for easy forecasting.
That said, no economy in history – going all the way back to the bronze age – has ever survived based on “faking it” with astronomical debt, money printing, or artificial rate suppression. Not one. Not once. Not ever.
Sadly, the last resort for such overextended and failing economies has often been war, and as we’ve written here, war is good for otherwise troubled markets.
Sibbet F.S. chimed in last week confessing confusion by how the otherwise “educated bankers and professors” could have brought us to such a centralized mess. Sibbet, don’t be too hard on yourself. Like so many good people, you assume the experts have the answers – and the public interest – as their guiding drive.
If you need actual evidence that such healthy trust has otherwise been broken, just click on the following link examining the history of our elites here.
Finally, I thank Robert L.T. for his take on “corporate capitalism.” Robert, you would likely enjoy my take on this topic here.
In the interim, stay informed, stay safe, and be patient as we roll out more “what to do” in coming updates.
Later this week, I have a special treat for you on the otherwise “boring” topic of the U.S. dollar supply, which I promise to make (or try to make) entertaining, as well as eye-opening in our ongoing and collective efforts to be the most informed circle of investors out there.
9 responses to “Grim Week Bodes Poorly for Your Pocketbook – What to Do Now”
September 30 2019