Sent: Wednesday, October 21, 2020 8:45 AM
Subject: Ross Rant Oct 21
Further to my last Rant, and the implications of the massive effort by central banks to monetize the downturn in the world economy. Countries across the world have resorted to massive fiscal spending programs to try to sustain their populations through the shutdown of the world economy. Just as the US had the CARES Act, the EU and other nations including Russia and China used similar funding to sustain their own economies. As with everything else, there is no free lunch. The world was over levered before the virus, and now parts of the world are way over borrowed. The central banks, just as the Fed has done, have printed money, and then bought the bonds of their governments since there was not the capacity in the free markets to buy it all. Now the entire world is in so deep, it is unlikely there is any way out. The world economy simply cannot grow its way out. Here are recent statements by two Fed presidents. Rosengren: If you want to follow a monetary policy that keeps rates low for a long time, you must have a robust supervisory authority. Low rates for a long time are counterproductive. Kashkari: I know we can’t keep doing what we are doing. As soon as there is risk everyone flees, and the Fed has to step in and bail out the markets.
In the EU, the banks were weak to start because they never fully took the all of the steps the US banks took to clean up the mess from 2008-9. EU banks have relatively low equity capital compared to the big US banks which are all in excellent shape, even after the virus. Spanish banks are especially weak, as are the Italians. The old Deutschemark was a bedrock of Europe, as was the Swiss Franc. There is no Deutschemark anymore. That is now the Euro. As a result the northern nations have to carry the southern ones who do not seem politically capable of solving their banking and fiscal problems.
Likewise, as you know, the US Congress is dysfunctional, and unable to deal with the fiscal mess we are in. Many EU stocks trade below book value, so they are not able to raise new equity capital at a price that makes sense. Large numbers of US stocks still sell at prices below where they were in 2019. The Dow is flat for the year. The Nasdaq is up 30% and PE’s are too high at 33.6x. The S&P is up only 7.8% with a 35x TTM PE. Ignoring 2009, that PE is almost at its all-time high. That is a big bet on future earnings. So we are left with the central banks monetizing the huge deficits of the industrial nations. This has several potential outcomes. The EU might decide to nationalize some of its banks since the ECB is keeping some alive as it is. There has to be a consolidation of EU banks, and new equity raised, or there will have to be a government or ECB takeover. That would be really bad. At some point soon, the northern nations might finally say no more bailouts to the southern countries like Italy and Spain. They are very close to doing that. As the willingness of the market to invest in the bonds of weak nations continues to disappear, rates will rise, and the ECB will have to continue to be the buyer, or as is happening, it becomes the issuer of the bonds as it is the only real credit left. At some point various nations might resort to currency controls to try to protect their banks and currencies. This never works out well. As it gets harder to market the bonds, rates rise, and the squeeze becomes worse. There could be a point at which the EU devalues the Euro in order to compete with China and the US. None of this is for sure, but any or all these things are possible in the new world of pandemic which has completely upended the financial and currency markets.
Real interest rates are negative across the world, including the US now. In time, all of this is bad news for bondholders. As currencies weaken, and possibly devalue, that breeds inflation. That leads to higher rates eventually to attract buyers for their bonds. Just look at Argentina . It just lurches from monetary crisis to crisis, and the people become poorer. Bonds become worth even less. The US is not much better off for bonds. We have negative real rates, and an inability for the private market to absorb all the Treasury issuance. In time that will force rates higher and bond values lower. The 40 year bull market in bonds is ended, and it is most likely losses from here for most bondholders. The money managers keep telling you to own 40% or more in bonds, or ladders. That worked for a few decades, but it no longer makes any sense. That strategy ended. Not only do you get nil yield, but now you also have increased credit risk, and you now also have major principal market risk. This is exactly what Biden’s proposed plan will bring you. Huge deficits and, in time, higher rates, more Fed purchases, a weaker US dollar, and inflation. When this occurs stocks and bonds also get hit badly.
The virus has changed the world, and not for the better. There is no way to predict when the pandemic will really end. Luckily the US is in the best position of anyone to get out of this with the vaccines having been fast tracked to be ready by year end. That will turn out to be a massive great advantage for the US that the press does not understand at all. They prefer to attack Trump over the virus instead of encouraging everyone to get the shot. Guthrie thought it more important to demand to know which day he tested positive, instead of asking when will the vaccine and therapeutics will be ready. The big issue is to get everyone to take the shot. Other countries will come second even though there are supposedly plans to have worldwide distribution, and so the disruptions will continue longer in the EU, and parts of Asia and the Mideast. That is not helpful to the US economy since we need tourists, and we need to sell things to the rest of the world. This means the full world recovery is years off. Many countries will be left in essentially insolvent shape. Poverty is rising again. That means social disorder in more places. Technology will become essential as work from home and order online become embedded. Again the US is in better position than most with our tech industry being in the lead. Once 5G is fully in place, and available throughout the country, and AI is embedded in many more functions, we will be able to take another technology leap forward.
The EU will continue to get squeezed between China and the US, leading it to be even weaker. It is why I have said for a long time, do not invest in Europe. It is possible the EU could face deflation in the future as its economy remains weak. Now, with a major resurgence of Covid in the EU, it will simply exacerbate the recession in the region. The big PE groups that raised EU distressed funds may find themselves in deep problems if the US prospers and the EU sinks. China will continue to challenge us, and will make further efforts to take over Taiwan which has chip technology China needs. However, the rest of the world that took Chinese loans for infrastructure are turning against China, as are many others as a result of their being the source of the pandemic, the concentrations camps, and the seizure of Hong Kong, threats against Taiwan, and domination of the South China Sea. Xi may have gotten too aggressive, and the US may be able to get much of the rest of the world on board with us as a result. Pompeo has been working hard at this. If they do try to invade Taiwan, things could easily spin out of control instantly. It is why we need a vastly superior military with a much bigger Navy as soon as possible. One other outcome that is already happening is the end of globalization. Trump has ended that, and the pandemic has crushed it.
Net office absorption is negative 29 million sq ft this year. The worst since 2001. Vacancy is 13.8% and headed higher. There is increased supply completing construction and coming on line with nil demand. Urban office has more down to go. Hotels in big Dem run urban cities occ down 77% on average. In Republican Midwest down 38% +-. That is the difference between political lockdowns and reopen
Offsetting this gloom was the Philadelphia Fed manufacturing indexes. The diffusion current activity index for October was up 115% over September, new orders are up 67% and most futures indexes are up. Employment however, was down 19% although 23% of firms hired more and 10% reduced staff. If the new orders are so high, employment will have to follow up this next few months. On the other hand the NY Fed indexes slowed. So it is a mixed picture, and highly likely impacted by which region and state reopened more or less. NY is way behind much of the rest of the country in reopening.
So where does all that leave us. Not in a good place as investors long term. It is why the election is so critical. If the Dems get full control, the fiscal budget will explode, Taxes will go so high it will kill the stock market and the economy. The Fed will have to expend trillions more to monetize that debt. The actual tax rate on cap gains for very high income investors, be it in stocks, real estate, or companies, or your second home, will be confiscatory. It will be 60%, or higher, all in for NYC, CA, NJ, and an end to step up on inheritance. Taxes will be levied in time on middle income workers as well to cover all the spending, and the economy will pay a big price through lower wages, and higher prices to cover the taxes. The stock market will crater. Bonds will crater as the deficit rises and rates rise to sell all that debt. You get crushed. The flight out of NYC, CA and NJ by big taxpayers will accelerate to a tsunami. So what to do you ask. Great question. Maybe gold or gold mining stocks. Maybe cash. Holding cash for a while might make sense. But better to vote for Trump and a Republican Senate. Go vote. Everything depends on it. It is not that the fiscal debt does not get larger, but it will do so much more slowly and your taxes will not rise. In the short run equities may be the right thing, but I am very ambivalent. I have already monetized a portion of my portfolio, and may sell some more. I prefer cash in hand to get past Nov 4. Make your decision after the debate, and after much more is known about the Hunter emails, a stimulus package, and more earnings this week.
This is all really ugly and depressing, but we must face reality of where the world really is, and what could possibly happen. There are a lot of very expert voices now warning loudly of what could, and likely will happen. I am not suggesting all this will happen, but parts of it will, and so hunker down for the next few years. The big party in the stock market is possibly over, or soon will be. My intent is to get you thinking about all these things, and to then make more well thought out decisions. There is no magic answer, and there is so much uncertainty and chaos, it is hard to make predictions. Biden does not get you stability. He compounds the problems. The stock market may rise for a while on the expectation of good earnings, big stimulus spending, and the vaccine finally being released, but it does not mean the real structural issues laid out here will not come into play. It is just a matter of time. This is a time to stay conservative with your investment dollars, and in easy to liquidate assets. Best to invest in solid US companies with big liquid balance sheets, and good cash flow that have products or services that benefit from the pandemic. The problem is, many of the growth companies have too high PE multiples already. Even if Trump wins, the above monetary and world issues remain.
Based on Trump’s very aggressive efforts to rally voters, the high registration of new Republican voters, the massive door to door ground game being done by Republicans, the strengthening of the economy-(maybe GDP up 33% in Q3), earnings are above projection, the Hunter emails now seem to be real, Joe’s refusal to answer about packing the court, and the coming of a vaccine, my gut guess is Trump wins. He has momentum and Joe is hiding, which suggests he can’t answer about Hunter or he has to lie. The polls are wrong again. But that is just gut. If Trump stays calm in the debate, and talks economic policy, taxes, Hunter emails, packing the court, and China, and lets Joe talk and bury himself, Trump will reverse the damage from the last one, and can possibly win. The Hunter emails are not a Russia disinformation program according to the FBI, CIA and DOJ, and so they are the October surprise and will damage Joe. The Republicans need to hold the Senate no matter what. There are now supposedly two more relevant computers the FBI has seized belonging to other people involved, and that are on different servers. DNI Ratcliffe gave an interview which said Schiff is lying again, and intelligence has no information to suggest the emails are Russian originated. The receipt issued by the shop has Hunter’s signature, so the laptop is really his. Biden won’t discuss it which suggests it is all real, or the campaign would have said it is fake. Nobody has denied that was his computer, nor his emails. There are supposedly some pretty bad things related to some type of sexual incidents or topics. We will know a lot more in a few more days. If all of this is proved real, Biden is finished. We will see what is real or not. This could be a bigger scandal than the Russia hoax, and far worse than Watergate if it is proven to be true. If true, Twitter and Facebook are in deep trouble. Pelosi needs to put up or shut up now. This is the big week when it all happens.
Why is Joe hiding two weeks before the election:1. He needs time to memorize his responses for Thursday, 2, he was too tired after traveling and campaigning and needs rest, 3.the emails so far and more to come today and tomorrow are true and he has no good explanation. Take your pick. It is one of them
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