Monday, November 18, 2013

Is That Really a Reason To Be Bearish?

Calling asset prices a bubble explicitly, or implicitly as a function of the Fed’s large balance sheet, is fairly popular these days. Market commentary projecting a “melt-up” driven by “excess liquidity” seems to be common. So whilst TMM do believe this to be a factor we would like to go one stage further and posit that DM equities are not expensive relative to other asset classes.

Now we realize this is a pretty hairy topic, mainly because there are a lot of ways to look at this asset class and hence a lot of ways to claim that they are rich or cheap. So instead of then trying to ‘prove’ that they are cheap (when we have just said the diversity of cheap/rich measures makes results inconclusive), we will go over the more popularly cited reasons for why they are expensive and follow with some counter points as to why they are not.

Yields are excessively low. Hence the high Equity Risk Premium is a mirage.

The Fed, along with a majority of market economists, pegs LT nominal GDP growth at 4%. 30y Treasury yields are not far from that level at all.

Short Term yields are unlikely to move a great deal relative to the size of the ERP. Even if the Fed hikes a year earlier than anticipated, (let’s say Sept 2014, and then at the 100bps / year pace that it has projected) fair value for 5y yields would be ~2.10%, vs ~1.5% now, a difference of ~60bps. This compares to an ERP of 225bps, using 30y yields, or ~350bps using 10y yields, both of which are historically very high.

Size of Fed Balance Sheet is huge. By implication, the money the Fed has printed is finding its way into stocks.

For this theory to hold, the private sector will have needed take the cash it has received from the Fed from selling bonds and used the cash to purchase stocks. Now, a balance sheet of all major entities in financial markets is hard to come by, but this story does NOT hold water based on retail flows. 377bn has been taken OUT of equities since 2007: (This conclusion was also recently reached by a McKinsey study)

Earnings as a percentage of GDP are too high. They will revert back to the long term mean, which means substantially lower profits.

That is only true if you look at TOTAL earnings. DOMESTIC earnings are NOT excessively high as a percentage of GDP. Much of the recent earnings growth over the past decade has actually come from abroad:

CAPE10 (Cyclically Adjusted Price to Earnings average over the past 10 years) is too high. The chart looks something like this one. This metric has always mean reverted, so stocks are bound to come down.

This cyclical adjustment process basically deflates earnings over the past 10 years by the CPI, and then takes the average. This process means that the adjusted earnings measure assumes the surge in profits from overseas over the past decade will revert. It also assumes that the financial crisis that we’ve had will recur every 10 years. Neither assumption seems especially probable.

Here is an alternative way to look at this metric: The current CAPE10 is ~24.8. The inflation adjusted trailing 12m P/E (CAPE1) is ~16.7. The S&P price is the same in both calculations, so the difference is purely in the adjusted earnings measure. The 1y inflation adjusted EPS is 104.6. The 10y inflation adjusted EPS is 71.3 – a discount of 32%. So you have to ask yourself – do you believe that a third of S&P earnings unsustainable and will eventually disappear? Keep in mind that 25% of earnings are from foreign sources.

Commodities are not going up with stocks. Hence, the growth isn’t ‘real’.

Equity Bull markets in conjunction with commodity bear markets are not uncommon. The previous such instance lasted from 1980’s to the late 90’s.

What is more, we see the increase in supply of metals and the drive to gas, which are keeping prices low, as a benefit. This time around commodity prices damped by increases in supply won't be a tax on growth.

Consumer confidence and employment are not going up as quickly as stocks. Hence, the growth isn’t ‘real’.

Higher profitability seems to be one RESULT of the weak employment growth. The jury is still out, but one line of thinking is that technology has increasingly replaced humans in low value added roles, with the cost differential going to corporate owners. The chart below from Blackrock illustrates this, and highlights a trend that seems to be over a decade in the making. Furthermore, we have not heard of a good reason to believe that this trend will reverse.

It’s all PE expansion, not earnings growth. Hence it is not sustainable.

Historically, PE’s expand during growth periods. Growth = more earnings and more savings = higher equity prices. This tendency is pretty common, sustainable and usually only interrupted by a recession or sharp slowdown.

Equity market capitalization as a percent of GDP is too high. Hence, it has to mean revert.

A higher share of earnings from overseas should mean a higher market cap to domestic GDP ratio. Globalization means more foreign companies may list in the US. Publicly traded companies also have financing advantages, and fewer large companies are remaining private. Companies like Berkshire Hathaway buying up private businesses also increase the market cap to GDP ratio, but arguably does not destabilize anything.

Demographics imply lower PE. The rising number of baby boomer retirees implies strong demand for fixed income and weak demand for equities, which should lower equity valuations.

Arguably, this should only affect the valuation differential between fixed income and equities. In other words, perhaps the Equity Risk Premium could remain higher than average until this demographic effect fades. But as we noted above, with LT yields appearing reasonably fair, the ERP remains very high, and arguably would still be high if treasury yields were 100bps higher.

With those general points covered we can move on to a topical specific.

Hussman Funds recently published another piece on why stocks are too high and though we don’t want to single them out, we do want to address their piece because there are similar claims popping up all the time. (And hence our rebuttal would also apply)

HF Claim: Without reviewing every detail, recall that this model partitions market conditions based on whether the S&P 500 is above or below its 39-week smoothing (MA39) and whether the Shiller P/E (S&P 500 divided by the 10-year average of inflation-adjusted earnings) is above or below 18. When MA39 is positive and the Shiller P/E is above 18, conditions are further partitioned based on whether or not advisory sentiment (based on Investors Intelligence figures) has featured more than 47% bulls and fewer than 27% bears during the most recent 4-week period. Investment exposure is set in proportion to the average return/risk profile associated with a given set of conditions (technically we use the “Sharpe ratio” – the expected market return in excess of T-bill yields, divided by the standard deviation of returns). While a simple trend-following approach using MA39 alone (similar to following the 200-day moving average) has actually slightly underperformed the S&P 500 over time, that trend-following approach has had a fraction of the downside risk of a buy-and-hold strategy, with a maximum loss of about 25%, versus a maximum loss of 55% for a buy-and-hold. By contrast, the very simple Sharpe ratio strategy here has clearly outpaced a pure trend-following approach, with much smaller periodic drawdowns.

Let’s see… 39 week moving average, CAPE10 below 18, 47% bulls vs 27% bears over the past 4 weeks. Why pick those numbers, except that they make the results look good? If there isn’t much more of a reason, then ladies and gentlemen, please see this Wikipedia entry on overfitting. The point is that you can make the historical data say any you want. As a rule, we are skeptical of any claim using numbers alone.

HF Claim: I should also note that overvalued, overbought, overbullish conditions have been entirely ignored by the markets since late-2011… With no need for further stress-testing in future cycles, and every expectation that overvalued, overbought, overbullish syndromes will continue to bite as sharply as they have in every other complete market cycle, I continue to believe that the future belongs to disciplined investors who adhere to historically-informed strategies.

Ironically, this is a claim that is not backed by numbers, and furthermore, relies on very subjective assessments.

Overvalued? Most people think markets are fairly valued here, and TMM actually thinks they are cheap. Problems with the CAPE10 metric have already been noted.

Overbought? What does that even mean? If it means being above a moving average, then as they noted themselves, being long equities when equities are above a long term average has done pretty well. In that case, being overbought is a BULLISH indicator.

Over-bullish? Again what does that mean? Look again at the chart of mutual fund flows at the beginning of the post, that shows 377bn taken OUT of equities since 2007 – a trend that only stabilized at the beginning of the year. That suggests over-BEARISH to us.

We are pretty sure we haven’t covered all the ‘evidence’ that equities are overly rich, but hopefully this does at least cover most of the quantifiable ones. Claims that the stock market is in a bubble because of Twitter’s crazy IPO or other anecdotes are pretty hard to either prove or disprove, so they are not included here.


Hotairmail said...

I would suggest off-shoring has been a significantly greater source of transferance of value added to owners than technology. (although it has to be recognised that technology has aided the process of offshoring.

More to do with deliberate 'globalisation' by the capitalist running dogs as an attempt to break the international solidarity of hard pressed workers. ;=)

Leftback said...

The Mickey Mouse Momo Complex is down big today. TSLA, SCTY, FB, TWTR, are all being hammered and it's hard to make the claim that they are undervalued here. Then again, you can easily find real economy stocks that do not look to be especially expensive. Just one reason why trading this market is exasperating to many.

Leftback said...

Problems ahead for Abenomics?

Japans Banks Find Few Borrowers Of Kuroda's Easy Money

Money Mountain Growing in Japan

Anonymous said...

Hussman has spent the best part of the last two years making similar claims. At some point he has to admit he is wrong. His clients have missed an extraordinary market rally. Just because you write a weekly comment about why the market is over-valued and how you have stress tested your model which failed in the GFC doesn't mean you are right. At the end of the day the scorecard says he is wrong. I can't think of any great investors who based their investing success on buying when the market PE was low and selling when it was high. There maybe some. Most of the great investors have a value bias and try and pick cheap stocks and minimise risk. The fact Hussman has not found anything to invest in for two years suggests he's not been looking hard enough. It's time for him to stop writing weekly notes and look in the mirror. He's wrong. FULL STOP.

amplitudeinthehouse said...

I threw the bollinger bands out long ago.There's one measure I use that I find interesting ...Shiller 10yr CAPE minus CPI , anything over 20 seems to be a touch overbought.
Counterpoints in this trend are in a similiar stage as the last of the 2011 reflexivity trade..who cares.. there's top building up and do you want me around when it happens?

amplitudeinthehouse said...

Before I read Statistics for Dummies I found this quote in a forum..

Statistics are a great way to MODEL , MEASURE, PROVE AND DISPROVE something you understand
They can't lead a horse to water - too many people use them that way, and its leads to BAD RESULTS
Broad stats can scan large amounts of data, indentifying areas of market to investigate, If you find something strange you need to investigate
the root until you know EXACTLY why it happens. PROVING OUT STATS WITH STATS IS JUST A FALLACY

Charles Butler said...

The internet's had the effect of changing what was once (maybe) information into gossip with that revered social activity's huge bias towards the binary assertion, regardless of its rigour. The benefit is that it gives ample opportunity to narrow down what might be true-ish by eliminating what patently isn't. Just like detectives discarding suspects.

Personally wondering for how long Hussman can continue to treat everything post-March 09 as an outlier not worthy of inclusion in his dataset.

Killian Connolly said...
This comment has been removed by the author.
Anonymous said...

"the fact Hussman has not found anything to invest in for two years suggests he's not been looking hard enough. " anon 8:04

I believe he did find something---precious metal shares!!

Anonymous said...

To be fair to Hussman I think he does acknowledge he was wrong in 2009 but that he has since developed "ensemble methods"---whatever he means my that---that would have allowed him to ride the post 2009 bounce for longer.

ps that does smack of a "curve fitting" approach as alluded to by TMM

Anonymous said...

The winners and losers in the low interest rate environment...

"From 2007 to 2012, governments in the eurozone, the United Kingdom, and the United States collectively benefited by $1.6 trillion both through reduced debt-service costs and increased profits remitted from central banks (exhibit). Nonfinancial corporations—large borrowers such as governments—benefited by $710 billion as the interest rates on debt fell. Although ultra-low interest rates boosted corporate profits in the United Kingdom and the United States by 5 percent in 2012, this has not translated into higher investment, possibly as a result of uncertainty about the strength of the economic recovery, as well as tighter lending standards. Meanwhile, households in these countries together lost $630 billion in net interest income, although the impact varies across groups. Younger households that are net borrowers have benefited, while older households with significant interest-bearing assets have lost income."

Steve From Virginia said...

Whether equities are 'appropriately priced' or not doesn't matter as much as that minds (machines) can be changed in milliseconds.

Bull today, bear ... later today!

In any event there will be a raft of good excuses. (The dog ate my stock certificates/my ten year Treasuries/my GLD ... etc.)

There is no reason for stock prices to be anywhere because there is a generalized absence of reason, everywhere. We are dumb people being greedy, grubbing like hogs in the mud, expecting something for nothing. Why? Because some of us have gotten something for nothing in the past and we expect to future to be like it has always been. (Which it never is ... )

The problem with equities right now is the too many markets are insisting uponlabic 'more' when physics is offering less. In the end, physics wins.

chaman said...

I would disagree Sir...
"Corporate profits rise as labor compensation stagnates"

Stagnating Labor Compensation is not going to induce a demand led growth.
This should further imply that demand should stagnate and hence a case for lower future profits (attributed to demand growth).

Corporate profits have risen because of efficiency gains which in a way is cost cutting (i.e firing the worst performers and automation).

Again in this whole scheme the rich/top management becomes richer and poor becomes poorer....

chaman said...

Also stagnating labor compensation is not good for credit demand uptick...

Leftback said...

EURJPY still alive and kicking here, making a 4 year high today. There is mild resistance here and then stiff resistance at 139, but we are clearly some way away from that level. Nothing bearish about this, folks, we return you to your regularly scheduled equity short squeeze.

A sane way to play markets like these has always been to stay modestly long, while keeping half an eye open, so as not to be the last one to wake up and run away when things finally go to hell. Here and there, there are always going to be some obvious set-ups from the long or short side that present trading opportunities.

With FX volatility extremely low, and no overt signs of credit stress on the horizon, you'd have to say "never short a quiet market" still applies. It's one thing to see that credit spreads in Europe and US seem artificially tight, and quite another to waste money on bearish trades, at least until those spreads begin to widen again. Sometimes the best thing to do is nothing at all.....

Charles Butler said...

"never short a quiet market"

That's the one... and stay long real world, short banks until further notice

I Will Never Accept The Terms of Service said...

Re PE expansion vs earnings growth:

PEs were contracting earlier in this recovery. The bears never considered that a buy signal either.

abee crombie said...

nice post Pol, especially timely when GMO just published their letter, who garners much more respect vs Hussman and the blog that shall not be named. Inker (the new Grantham) thinks stocks are overvalued but doesnt really make the case for grossly overvalued. Howard Marks has also been in the news recently saying we are in the middle of a bull phase and not to get too pessimistic just bc of valuation.

My thoughts. Equities in 2008-2010 traded risk on risk off, very little sector difference. 2011 financials/Europe/Auto got killed and consumer plays led, sector rotation started occurring. 2012 more of the same. 2013 you start to see some froth, TSLA, 3D printing, Biotech, MLP mania, but its hard to say many sectors are fundamentally OVERVALUED. There are pockets (junior biotech) but you still have many large caps trading at decent valuations (macy's blows out earnings and is still only at 14x).

Now can you find stocks/assets that are cheap. Well that depends on your definition and things are surely a lot harder. If a company hasnt turned around its sales/profits by now, something is probably wrong (in the US, less so in EU) but its hardly a reason to sell. 6% for a B bond, I dunno?

You sell when either everyone has bought (still lots of $$ on sidelines) or when all the good news is priced in (debatable). Equity markets are starting to price in the good news of 2014. I think March April will be a good sell off time

Anonymous said...

Great stuff ! Thanks for your work

CV said...

Nice one TMM, maybe some of us have been too bearish after all ;). Still you are forgetting the most important price of all ... the US 10y yield.

Tell me where that is in a month and I will tell you where everything else is going too.

Long US bonds, long EM equities anyone? ;)


Skippy said...

The most compelling argument for me is that aggregate valuations are "neutral" albeit there are clearly pockets of euphoric optimism.

On more important topics, while England "should" win the Ashes series Down Under, I sense a reversal of fortunes

Anonymous said...

I guess I don't understand your points concerning Hussman's analytics. The only thing that matters is which metric does the best job of forecasting future market returns. As I understand it, there is NO high probability metric that accurately forecasts the market one day\week\month in advance (if I'm wrong there please share :). However Hussman's analytics do accurately forecast the market return over 7-10 years- indeed, more accurately than any of the metrics you mention that he doesn't use (because they don't provide an accurate forecast). Can you find numbers today to support a position that the market is undervalued? Sure (see your article). And so could analysts in 1999 and 2007 (and 2003). The question is what is the predictive value of the stat of one's choice, and over what time period. Hussman does a far more rigorous job at that than almost any other prognosticator and with a far higher degree of accuracy than most.

Leftback said...

Interesting observations, after the FOMC minutes and Bullard saying a Dectaper is on the table. The Fed really seem like they want to do a symbolic taper, but of course rate hikes are miles away. The market's reaction was as follows: DX hardly budged, XHB sold off for a bit, as the 10y spiked (but only by about 4bps), but the REITs hardly wavered. Net result, not a lot.

One can infer from this, at least for the time being, that the following may be true:

1) The market doesn't believe they will taper, OR
2) The market has already priced in a limited taper. AND
3) The market thinks the US recovery may be weakening.

Anonymous said...

Bespoke: Remember last week (2 weeks after last FED meeting), 10 of 11 economic indicators were weaker than expected.

Anonymous said...

Look at the long bond. BB leaving Janet a nice steaming bag of you know what on his way out.

Anonymous said...

If we look at purely from the point of view that who is buying treasuries, we must assume that whatever the Tapir is going to be, it will not be very big. Outside demand for them ain't that great.

Atleast foreign states haven't been buying that much in the last year (which means the FED is probably increasing ownership of all outstanding treasuries at a rapidly increasing pace). The Tapir just can't be of any meaningful size without the risk to the yields (and I bet they wouldn't be very happy about the falling bond values either):

We saw what kind of a scarecrow effect this had back in May, so if the Tapir really materializes (even in a tiny form), wouldn't it be prudent to assume a massive over reaction for the EM's and TSY's?

So for what it's worth I think that the dip that is formed during the actual event is a buy point. $10bln? $15bln? The effect on the real economy is going to be a yawn.

Anonymous said...

great post guys, thanks very much. My two bob's worth - Fed tapir's, market knee jerk reaction is risk off, fade that move. Fed will stop too much bear steepening.

Anonymous said...

"However Hussman's analytics do accurately forecast the market return over 7-10 years- indeed, more accurately than any of the metrics you mention that he doesn't use"

"Hussman does a far more rigorous job at that than almost any other prognosticator and with a far higher degree of accuracy than most."

From the Hussman website ...
1 Year -6.33%
3 Year -7.40%
5 Year -4.81%
10 Year -0.40%

Net expense ration 1.08%

Is Hussman's job to be a prognosticator?

A fund managers job is to make the line go from the bottmom left to the top right .. period. If you can't do that I suppose you spend the week writing about how the market is wrong and you are right.

Anonymous said...

@Anon at 3:58 AM -- exactly right. I have owned Hussman Funds to my dismay. His line has most definitely not been properly shaped.

Charles said...

I am surprised that a rising share of foreign earning is taken as a plus for the robustness of high valuations. Foreign earnings are subject to higher political interference. For instance, who do you think will be targeted first when China decides the economy must be rebalanced in favor of the consumer, the companies in the SP500 or the local companies owned by the kids of the Party elites ?
Maybe the obsession on the Tapir prevents us to see other dynamics at play

Anonymous said...

I'd say that the main argument for the overvalued camp is that the demand is capped by wage growth. Wage growth would have to pick up (thus costs) before domestic demand starts adding to a real growth (ultimately, growth by cutting costs works for one company, but doesn't work when everyone's doing it). Blackrock factoid is irrelevant, the relevant bit is the share of the GDP that goes to the labour overall (since labour is the largest driver of demand), less so the distribution within the labour market (as long as it's not too skewed and the labour market is reasonably healthy).
As commented, the fact re foreign earnings - those are unstable, and can go up or down over a few Q. Just ask Cisco, IBM and other high-tech companies after the NSA scandal.

Of course, the timing of when wages would start catch up (and the earnings go down) is in the stars, as the short-termism means no-one wants to be the fist off the rank to increase costs and cut profits (unlike the other way around).

abee crombie said...

CV, I will do you one better. Long EM Debt!

If the main argument to owning equities is the risk premium, then EM Debt certainly has to be interesting now. True growth is not going to be like mid 2000's, China rebalancing has far reaching effects, and if you take FX risk, well you never know, but in general EM finances are in much better shape than DM and risk premium has widened out since taper speak.

Its probably the most hated asset class right now. But I am getting interested. Why take 3.5% ERP with more volatility (historically anyways) when you can get pretty much the same thing with EM Bonds and a maturity to hopefully roll back into higher yields.

The tell will be how they react once tapering starts.

Local currency EM bonds, well thats tougher to call, especially when you have to determine which currencies are under/overvalued. I mean how does one do that? PPP? And more importantly, is the USD perhaps undervalued, even given all the money printing, and huge debt/ unfunded liability overhang?

Anonymous said...

Good point Anon 1:26. We could expand the wage growth issue by asking, what are the main factors capping it.

I would guess that in the "traditional" western economies one big factor that is stagnating wage growth is the mass of much cheaper labor supply in SE Asia, South America, Mexico etc. There have been some sign of these wage demands beginning to rise. The big multinational corps have a choice to make: either they can just accept it and live with it, or they can yet spend their time searching for untapped markets with even cheaper labor (eg. China -> Vietnam). However I think we are already much closer to the end than the beginning in the path of utilizing the cheapest labor of all. So ultimately we will end up with the situation, were the majority of global wage growth is concentrated in the (currently) cheap markets. Eventually the Vietnamese will start demanding what the Chinese get, and then there isn't going to be very many escape routes left after that. However it will probably still take a very long time to reach absolute wage levels in the West to "normalize" these differences.

Meanwhile the other side of the coin is the advanced and heavily unionized societies, like Europe and North America. The lowest job levels are already being replaced by automation and the internet, eg. sales persons become irrelevant with RFID payment and when bricks-and-mortar turns to web stores, basic warehouse workers might become replaced by automated warehouse and storing systems, bus drivers might start being replaced with automated navigating systems etc. The ones that thrive in the advanced economies are people that innovate new solutions and solve problems, that have potential to become marketable. Let's face it: only a fracture of people have these kinds of qualities, which is not nearly enough critical mass to sustain all these forward guided economic growth expectations.

This all leads to a problem for the Western economies. At the same time we need consumers to spend on stuff and on the other hand in ordere to do that, they need income. The problem with the debt centric thinking is that, most people are unwilling to obtain loans if they lack the sense of social security to pay it back or otherwise service it. These economies must figure a way out to solve the income problem, or otherwise the local economies will surely deflate, adjusting for the permanently lower income.

Unless all the tech advancements and efficiency thinking don't start taking steps backwards, waiting for the job markets to "correct" and "return to normal" might be quite a long wait. This is the new normal, starting from the bottom job levels upwards.

Leftback said...

Yes. Exactly. Commenters above have hit the nail on the head. Aggregate demand in the DMs has stayed down since the GFC, other than the brief 2009-2010 snap-back. The reason is depressed wages, as higher paying jobs were replaced by minimum wage jobs, if at all. This resulted in part from the ongoing process of off-shoring by US companies.

A similar dynamic is in play in many European countries. There is no wage pressure. Labor markets are generally slack (with a few notable exceptions, like software) and commodity inflation is tame. So the two traditional drivers of wage inflation are dead in the water. This creates a constant deflationary pressure that central banks have continued to try to offset with QE and similar easy money policies. This, in a nutshell, is why the "output gap" will not close in the US.

Tapir or no Tapir (and when he shows up he will most likely be tiny), the evidence of disinflation is becoming clearer by the day, and the major commodity markets clearly reflect slower growth expectations. Yet the internals of the US equity market reflect a market that remains priced for 3-5% GDP growth, as though we were just emerging from a typical inventory-driven recession in the 1980s, or even the 2001 dip.

Rate-sensitive value stocks are trading at low single digit multiples while many technology issues trade at 1000x earnings, or simply have none. This is somewhat like 1999, but we are in a different world now. At some point we will see a rapid re-pricing of risk to reflect the reality of slow growth, faux growth. Although this could be achieved by a slow sector rotation, it's not likely to be an orderly process. What the trigger will be nobody knows, but the Fed may still be trying to use Fear of the Taper to achieve a pre-emptive move to safety.

abee crombie said...

Re: Anon and labour issues. Very interesting comments. I agree mostly. But my conclusions differ.

In this knowledge based economy, SKILLS are the prized asset in wage earning. Currently it is software skills that are all the rage (or else why pay $3B for snapchat that has no revenues and has only been around for 4 years)Previously it was financial skills, tomorrow it maybe BioScience skills, but it doesnt really matter. Those with the in demand skills have bargaining power, those without those skills have a much harder time.

Low skilled labour excels when there is a local economic boom in real assets. Cant offshore your bridge builder/road paver/plumber. The housing boom in the US in the 2000's masked the ongoing decline, just as it is keeping jobs growth high in Brazil, Canada, Auz, China etc. But a slow down in these jobs and the marginal ability to find gainful employment (no walmart doesnt count) is hindered. The economy needs a new engine. So what you end up with is what the US currently has, a two tiered living standard. Rich and poor, with middle class increasingly pushed to either end. Accounting skills in demand = wage power. Graphic artist, sorry not in demand now, now wage power.

This also explains why inflation in health and education in the US far exceeds CPI, because these are in demand, local services.

So on to the income problem, well its a problem for the low skilled workers but at the margin things are getting better for them. US Nat gas, US housing are providng a boost. The retail worker, is still waiting and I feel bad that they are now going to be working on Thanksgiving.

But for the skilled worker, I am much more positive and I see slack as pretty much used up. I think there will be wage pressure in 2014, maybe not in aggregate but you will start to see it in S&P companies. Speak to headhunters, things are looking up!

Leftback said...

This article on QE3 isn't working is thoughtful and well written and represents the views of many who comment here. In fact many of us could have written this (or parts thereof), I think:

QE3 Isn't Working

The key is, surely we in the US should be doing infrastructure projects to update our quaint 1950s era transportation systems, and hence creating actual jobs in a New Deal kind of way?

But the Fed itself cannot spend money on these kinds of projects. This is the fiscal policy side and they have to be approved by Congress and the White House. Because of gridlock in DC, there is nothing happening. So in order to prevent the inevitable deflation and double-dip recession that we all feel is incipient (or has been with us for 2 years if you are ECRI) , Bernanke and Yellen decided to unleash QE3.

The result is boom times for the Beltway, Los Altos, Greenwich, Manhattan, Short Hills and a few other gilt-edged zip codes. The rest of the nation is rarely seen by many investors, but can be viewed through the prism of hard data releases like the Philly Fed survey. Visit places like Chester, PA Vallejo, CA Camden, NJ or even parts of Hartford CT and you'll think you walked into the 1930s.

Anonymous said...

U.S. factory workers wages…down…down…and more down:

(…) The average hourly wage in U.S. manufacturing was $24.56 in October, 1.9 percent more than the $24.10 for all wage earners. In May 2009, the premium for factory jobs was 3.9 percent. Weighing on wages are two-tier compensation systems under which employees starting out earn less than their more experienced peers did, and factory-job growth in the South.

Since the U.S. recession ended in June 2009, for example, Tennessee has added more than 18,000 manufacturing jobs, while New Jersey lost 17,000. Factory workers in Tennessee earned an average of $54,758 annually in 2012, almost 10 percent less than national levels and trailing the $76,038 of their New Jersey counterparts, according to the Bureau of Labor Statistics. (…)

Some of the states where factory jobs are growing the fastest are among the least unionized. In 2012, 4.6 percent of South Carolina workers were represented by unions, as did 6.8 percent of Texans, according to the U.S. Bureau of Labor Statistics. New York, the most-unionized, was at 24.9 percent.

Assembly workers at Boeing’s nonunion plant in North Charleston, South Carolina, earn an average of $17 an hour, compared with $27.65 for the more-experienced Machinists-represented workforce at the company’s wide-body jet plant in Everett, Washington, said Bryan Corliss, a union spokesman. (…)

In Michigan, which leads the U.S. with 119,200 factory jobs added since June 2009, automakers are paying lower wage rates to new hires under the United Auto Workers’ 2007 contracts. New UAW workers were originally paid as little as $14.78 when the contract was ratified in 2011, which is about half the $28 an hour for legacy workers. Wages for some of those lower-paid employees have since risen to about $19 an hour and the legacy rate hasn’t increased. (…)

General Electric Co. says it has added about 2,500 production jobs since 2010 at its home-appliance plant in Louisville, Kentucky. Under an accord with the union local, new hires make $14 an hour assembling refrigerators and washing machines, compared with a starting wage of about $22 for those who began before 2005. While CEO Jeffrey Immelt has said GE could have sent work on new products to China, it instead invested $1 billion in its appliance business in the U.S. after the agreement was reached.

The company is also moving work to lower-wage states. In Fort Edward, New York, GE plans to dismiss about 175 employees earning an average of $29.03 an hour and shift production of electrical capacitors to Clearwater, Florida. Workers there can earn about $12 an hour, according to the United Electrical, Radio and Machine Workers of America, which represents the New York employees. (…)

Wages?...the U.S. seems to want to make do without workers...

Labor force participation (blue Line) and the civilian employment-to-population ratio (red line).

Anonymous said...

Abee, understand completely. The economy does need a new engine, more like a modern day equivalent of the industrial revolution to pull us out of the ditch(atleast with similiar effects for aggregate demand and employment, whatever the invention itself might be). Whether someone is going to pull a rabbit of this magnitude out of the hat, remains to be seen.

Until that happens, I would say we are stuck with efficiency increasing and companies/organizations/services being able to float with fewer and fewer people onboard all the while serving a bigger portion of the population.

Probably the biggest question mark yet to be unfolded will be, whether the labor skill "quality" shift upwards and the new subsequent demand will be enough to offset the squeeze of the low skilled worker, on an aggregate economic basis. Or in other words, whether there will be enough demand for these highly skilled ppl to offset effects from less demand for low skilled workers, while not distorting the economic growth. If not, the lacking income needs to be compsensated somehow if we want to maintain economic status quo (done now with social security funded through wealth transfers and sovereign debt).

I mean if we have $1M: is it better from the economy point of view to distribute $1M to one person or $100k to 10 people? This I think is the important issue that the labor market transition is inevitably going to produce for the modern (stagnant) economies, until we get that next modern industrial revolution to brake us away from the efficiency cycle.

Anonymous said...

C Says
We all need a reason to climb onboard so all the 'analysis' is much appreciated by those who are still looking for one inparticular. Make no mistake though a further 10 or 15% climb in the S % P for example is not an issue that is determined by some far seeing analysis of valuation. Other factors mean so much more eg portfolio allocation (spare cash) ;no policy change etc etc.
I would have thought that if people wished to pursue say equity with anything like the fervour with which they pursued other asset groups in recent years then it is not hard to visualise further upside. This in my view has nothing to do with valuations as determined by people like Hussman ,or Grantham. In the fullness of time they will probably both be right in seeing longer term low returns. As we know though markets are merciless in making people painfully wrong before they become right.
I am not actually defending Hussman who frankly was abysmal for a long time in maintaining a pigheaded position on equity risk.

In recent years it's become quite clear that relative asset values have been very important as opposed to attempting specific asset group valuation historically. The first allowed for the effects of underinvestment allocations to be deployed post GFC whilst the second did not.

GMS said...

Thanks for all the comments, everyone, and apologies for the delay in responding!

@amplitudeinthehouse 9:15AM - well noted!

@chaman 4:19PM - We certainly agree that stagnant labor compensation can not propel higher corporate profits forever! But in terms of secular forces at work that is shifting pricing power from consumers to corporations, we think there is a good chance the gains in corporate profitability that came at the expense of labor costs can be sustained.

@Anon 4:28PM - we don't think we can respond with anything better than @Anon 3:58PM

@Charles 12:05PM - we fully agree that foreign earnings are subject to higher political interference - via tariffs, FX intervention, tax breaks for local competitors, etc. Having said that though, the sources for foreign earnings is large and diverse, and much is sourced from countries with a history of maintaining open trade. Furthermore, as trade has becoming increasingly bilateral over the past couple decades, the risk of a backlash from the US is probably a major inhibitor for political interference. In any case, the trend of rising earnings from international sources has been pretty strong and persistent for several decades now, and even if we don't understand exactly why that is, we aren't sure that we should be fading it!

Anonymous said...

U.S. Corporate profits after taxes:

U.S. Labor’s share:

Income taxes collected from U.S. citizens fiscal 2014:
99.106 billion
Income taxes collected from corporations fiscal 2014:
6.475 billion

The U.S. is a mere corporate oligarchy.

Leftback said...

Good call on the cricket, Skippy. England getting a good old-fashioned hammering.

Skippy said...

Thanks LB,

I am enjoying it after the experience in England.

Leftback said...

Aussies back to being a bullying, sledging, swaggering steamroller for now. Warner reveling in the role of pantomime villain and clearly engaging in psychological warfare. We'll see what this England team are made of after a very soft showing at the Gabba. Hopefully they will show more steel in Adelaide. Someone clearly did their homework as we now see the Aussies exploited technical problems for Trott and Prior. Finn should play 2nd Test. Test cricket is about taking wickets, as Johnson just demonstrated.

Leftback said...

The coming week is absolutely loaded with US economic data, especially relating to housing. The moment of truth for all kinds of alleged recoveries is approaching. This week's meme might be Taper Off. If RORO is dead, then the new theme is surely TOTO.

Anonymous said...

"November 25, 2013
An Open Letter to the FOMC: Recognizing the Valuation Bubble In Equities

"I earned my doctorate in economics from Stanford, studying with Tom Sargent, John Taylor, Ron McKinnon, Robert Hall, and Joe Stiglitz, and spent several years as a professor at the University of Michigan and Michigan Business School before focusing on finance."

??? ... Make the line go from the bottom left to the top right ... period ...

Anonymous said...

March 5, 2012
Warning: A New Who's Who of Awful Times to Invest

S&P500 +32% since ... not that aweful?

Anonymous said...

The bear wavered in April 2013 "We certainly don’t require an implosion of the stock market or a collapse in valuations in order to shift to a much more constructive stance". This was a 22.3% higher than the who's who of awful times in March 2012. ZeroHedge all over it .. mutual quoting society yet Hussman didn't realise Tyler was a stage name .. gold .. "Tyler Durden of ZeroHedge has started referring to the Federal Reserve as simply "CTRL+P" - which is brilliant, because it really captures the full intellectual content of Fed policy in recent years."

Leftback said...

Anon @ 2:46, yeah, bloody PhDs....

Here's a short and sweet summary of where we are with US housing. Nice data, nice graphics.

US Housing Recovery

XHB being sold into the data this morning. We are not shorting here. Rates are falling, shorts are asking to get taken out here. Wait until tomorrow.

Anonymous said...

Yes, it's looking frothy and feels like it too. Taste of whats to come ala pending sales of housing.

But hey, what happened to "bad data is good data"? Real estate not changing hands just means the job market hasn't recovered yet, mortgage rates are too high and an accommodative policy (I love this phrase) stance can be kept in place so it has enough time to "fix the market".

Leftback said...

Bad data is good data for most of this week, I think. Bad data is always good data until the time for profit taking arises. Once the herd starts to see people heading for the exit then even mediocre data will be bad data. Very bad data.

Expect to hear a lot of guff spouted on Friday about how awesomely great the Black Friday and Black Thursday sales numbers are looking. Happens every year, then the reality is something else. Ritholtz had a funny piece about this, he points this out every year.

Next week it's December and we get to hear some of the data that has been delayed. We will soon know whether Bad Is Good, Day is Night or Black Is Black into the end of the year...

<a href="> Black Is Black </a>

Charles said...

@Anon at 3:58 AM : A fund manager's job is also to avoid that the curve goes from the top left to the bottom right, or it isn't ?

Maybe that is the main difference between Husmann and some of the eminently respectable fund managers posting and commenting here. One is managing an asset representing most of his wealth with no intention to get out (see , the others are getting their 2/20 and leaving to funds allocators (fund of funds, financial advisors, pension trustees,…) the decision to be in or out of their strategies.

Just out of curiosity, who amongst the fund manager cum contributors here have the same fiduciary position that Husmann (I.e. being close to 100% personnaly invested in the fund they manage with no intention to get out whatever the market is doing) ?

Anonymous said...

The lack of answers speaks for itself.

Leftback said...

The lack of answers reflects the fact that the turkey eating festival is upon us and most punters and managers have taken the week off. I reckon quite a few of the commenters here do "eat their own cooking" as regards investing, whether it is via the fund in which they act as a fiduciary or in parallel funds and instruments.

Nobody is saying Hussman is lacking brains, but even he would admit to being as stubborn as a rented mule. We have all been guilty of this at times and we all know what happens to the rented mule.....

Anyway in my experience the excoriation of noted Bears is often a sign that change is in the wind. We have seen Hendry and Rosenberg commit seppu-ku in the last few weeks, so towel chucking is rife among those of the ursine persuasion.

EURJPY knocking on the door of 140 for the first time in 5 years, since the aftermath of Lehman. That remains the primary and most reliable index of risk for now.

Leftback said...

Although there might not seem to be any reasons to be bearish, there are still reasons to suspect that the apparent absence of bears might not last for ever. We have been living in the Year of Abenomics, the Year of QE Infinity and the Year of The Bazooka.

Of all of these, the latter is the least tangible, so if trouble in the form of a liquidity shortage were to arise, it wouldn't be surprising if it first reared its ugly ahead in the eurozone once more, :

Eurozone liquidity is getting tight

Another LTRO ahead for Italian Banks?

Anonymous said...

via Risk Dimensions...

"The ECB rate cut wasn’t expected.

Neither was the price action of the Euro in the week that followed – as it was unchanged.

This is significant for three reasons.
The ECB’s only mandate is price stability – not growth. Therefore dis-inflation must be a massive concern.
The race to zero in global rates, volatility and spread just got a shot of adrenalin.
The unintended consequences of QE will continue to foul arbitrage strategies.

The Euro rebounded after the cut, as market participants realized that competitive devaluation will continue, reducing the distinction among leveraged G-10 currencies.

The ECB waited 12 months to continue its previously accommodative policies as memories of Weimar and GDP disparity among its 17 members temporarily tied their dovish hands. The pause increases the likelihood of a protracted and accommodative monetary policy by the ECB as the echoes of Draghi’s July 2012 “anything it takes” speech have faded, requiring the November 7th action.
The ECB is about to ramp up its buying again and revisit their $4 billion peak in December 2012, which was whittled down to today’s $3.3 billion. This expected central bank ramp up in buying is not good news for those trafficking in rate, credit and volatility arbitrage.

We expect the correlation to increase across risk markets as spreads tighten, rates drop and volatility declines.

2013s risk-on move will continue through 2014, favoring long-only strategies and limiting opportunity in arbitrage strategies. This does not mean downside risk is zero.
Rather, the unintended consequences of Zero Rate Policy, (ZRP) will continue – requiring alternatives managers to adopt new practices to monetize market risks and generate alpha for an investor base tiring of their underperformance."

Anonymous said...


very kind of you to step up and defend those voicing strong opinions. I would have expected that these guys still follow the discussion while chewing their birds. This is what I do at least, with or without a turkey on the table or being on holiday.

As a sidenote, GMO has been writing about low future returns for about the same time as Hussman. They make a similar point: buy an index, say, hold it for 7 years and you will reap crappy returns. Hussman talks about 10 years and the figures vary a bit, but that's about it. Nobody says that the market doesn't have short-term momentum and that you can't make a fortune by clever trading. I would say that the jury is still out.

My 2c.

Anonymous said...

C Says
In case it has escaped your attention the blog has become increasingly inactive regardless of the season or am I living in an alternate universe?

Anonymous said...

Alternative markets:
Crypto-Currency Market Capitalizations...

One of the best courses that I have come across in trying to understand Bitcoin:

Anonymous said...

Monitoring the flow of fiat currencies like the US Dollar and the Chinese Yuan into the digital currency Bitcoin. Data extracted from all major trading exchanges.

Leftback said...

US retail data for the last few days even weaker than we had expected. More econ data tomorrow from the US and Europe. A minor reverse might be in store for Mr Market in the morning. The performance of the XLY has been especially gravity-defying of late, so it wouldn't be surprising to see a little wobble.

Anonymous said...

EZ industrial PMI's a mixed bag today. Germany very strong as expected, Italy surprising to the upside and Spain and France very depressing (again), US super strong and China looking a bit ominous. There seems to be an increasing amount of gossips around dove lobbyist gathering weight to take control of the ECB.

Market breadth not looking very healthy for the opening season of Santa Claus rally today (when was the last time we saw MMM take a strong dump?), although no doubt we'll get it going soon enough. It seems Dectaper is on everyones lips again, for the time being.

Leftback said...

According to Bespoke, Mondays have been the weakest days this year and Tuesdays the strongest. There is also the post-Thanksgiving effect to consider:

Post Thanksgiving Hangover

Anonymous said...

Thanks for the holiday read, LB. This caught my eye, Bespoke 50 up 60% in 2013. Either they are geniuses, which may be, or what?


Leftback said...

They are geniuses who are long beta, and probably good bottom-up stock pickers as well (remember when fundamentals mattered?). If they are real geniuses they will also at some point be flat, or short, beta.

Anonymous said...

NYSE trading volume at 10 year low...

Investors Intelligence Percent Bears...

Anonymous said...

C Says
Thought the US equities yesterday a bit strange. The markets were negative ,but some of the underlying technical would have you buying. Suspect the negative must have been heavily concentrated if the breadth was otherwise.

Leftback said...

Best to hold off here, C. Fear of tapering is meeting some jitters about the weak retail sales. The weak groups have been retail XLY and homebuilders XHB along with more ritual floggings for mREITs, as rate fears combine with year-end tax selling. Many nice opportunities for those with Kevlar body suits, deep pockets and a reasonable degree of patience.

Many shorts in the Treasury market during these weeks with employment reports, and it will likely build as we proceed towards the FOMC meeting. We'll see soon enough whether the bond bears get a Taper or a Taser.

Nico G said...

meanwhile France got trashed - good to see Europe taking the lead again (on the downside)

Europe tightening liquidity vs. Santa

Leftback said...

New Home Sales in US (Oct) were 444k, a lot of excitement about that number, but wait, this is a noisy series. September was 354k, perhaps due to some shutdown-related issues in counting the data. Average those two numbers and you get 399k, which is slightly below the pace of sales in the Spring before rates spiked. Not too much to get excited about.

ADP slightly above 200k is simply the mean of the last few months (170k or so) + a little bit of statistical noise, in what is another noisy series. No evidence of a genuine breakout or real trend in employment at this point. It's flat. US GDP is also flat in real terms. Nominal GDP 2%, CPI 1.7% so real GDP ~0.3%.

However, these data need to be viewed in light of developments on the fiscal front. Recent talks in DC and the prospect of a renegotiated and reduced sequester, might combine with these job numbers to provide the Fed enough cover to begin tapering the size of bond purchases at the December meeting. In our view this is now more or less priced into Treasury markets but not into equity and high yield credit.

Leftback said...

Spanish and Italian 10s spiking in yields, all looking a bit risk off in Europe suddenly. Or as amps would say it's gone a bit yennish out there. US punters still seem asleep or playing TOTO and NFP bingo.

CV said...

Everybody out spending their proceeds from their long Spoos trade?

Anonymous said...

Time to buy Treasuries? Specs are building huge short position...