Predictions Suffered Last Week - Weekly Blog # 789

 

Mike Lipper’s Monday Morning Musings

Predictions Suffered Last Week

 

Editors: Frank Harrison 1997-2018, Hylton Phillips-Page 2018

 

 

 

The price movement of various securities indices reported in the electronic and old form press is believed by the public and some not very sophisticated investors to be insightful. What is worse is that the current readings compared to past readings are considered predictive of future readings.

 

On Wednesday afternoon the Federal Reserve announced that it was not going to raise interest rates. The chattering media and pundits proclaimed that this would send a false signal of a new bull market. We saw a substantial increase in trading volume compared to the rather low transaction volume seen in the second quarter. If this was meaningful, we should have seen a continuation of higher stock market prices. IT DIDN’T HAPPEN. The percentage of declines on the NYSE for the week was 1.8%, and 4.9% for the more market savvy NASDAQ. The VIX volatility indicator was near its low for the year.

One of the lessons on betting (handicapping) at the track is to first read the conditions of the race, which may be different for each race. The fixed income market is often ahead of the equity market, particularly in terms of risk. According to Barron’s, the average yield on 10 high-yield bonds jumped 50 basis points compared to a similar measure of mid-quality bonds, which declined 7 basis points. There is good reason for rates on high-yield bonds to go up, as there have been 30 defaults in the last 5 months, with 11 in the last month. This is concerning after worrisome conditions for the race changed.

Most market worriers focus on the probability of a recession, which is often quickly over, generally lasting under two years. Stagflation is another and possibility worse outcome, generally resulting in more than ten years of anemic growth with rising inflation. The Fed is watching what they call core services, which is largely influenced by the level of inflated wages.

The key background for investors was a press conference following the announcement, which was devoted to the reasons the Fed was skipping a rate increase and considering two rate increases for the rest of the year. My belief, denied by the Chair, was recognition that the Fed has become more politically conscious, much like the Supreme Court. It appears that it was difficult to get enough governors and senior staff to cogently agree to a specific policy.

This highlights a growing lack of confidence in various speakers, be they officials or pundits. Making no decision is in effect making a decision. The biggest problem facing long-term investors is attempting to meet the need to pay for future obligations. Based on past experience, the relative price of solving future needs will be higher than average prices in the same category. I expect to pay at the high end of future interest rates. Thus, in many cases my future needs will be more expensive than they presently are. I must therefore grow the capital committed to meet future requirements.

On an intermediate term basis, the cutback in the level of employment in the financial sector opens up risk to the rest of the financial losers.  It reduces potential sales for the industry, resulting in less capital and higher interest rates for the users of capital. Additionally, some departing the industry were tasked with preventing errors of omission and commission.

The soul of long-term investing is the growth and use of capital. On a long-term basis this relies on population growth and the skills of people, which are changing. Below is a table projected by some experts of the five leading countries in 2022, 2050, and 2075:

Five Leading Global Economies

2022               2050            2075
USA                China           China
China              USA             India
Japan              India           USA
Germany            Indonesia       Indonesia
India              Germany         Nigeria

While I might somewhat disagree with this array, I need to ponder these things for the benefit of my grandchildren and great grandchildren. I welcome any thoughts from our subscribers.

(This draft was partially written on a delayed flight from Newark. The United Captain explained that the delay was in part due to COVID. A number of aircraft controllers did not return to their jobs and the government actions* have been slow in replacing them. This may be one of the frictional problems leading to less efficient delivery of services. We can measure this in the overall lower productivity of labor as much as expected.)

* For example, adding politically motivated holidays when each non-working day can lower productivity by half of one percent (.5/200)   

I must make our capital work harder when interest rates drop, and stock prices do not correspondingly rise due to low productivity and government actions. We can’t afford to wait too long before we raise our commitment, even if we temporarily miss possible future bargain prices.

Conclusion

Beware of quick and easy solutions.

 

 

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