Monthly Archives: June 2017
calling for higher inflation
Last week a group of prominent economists wrote an open letter to the Federal Reserve arguing that the current Fed target of 2% annual inflation is too low.
Their basic view is:
–circumstances have changed a lot in the US since 2% became the economists’ consensus for the right level of inflation a quarter-century ago, so it isn’t necessarily the right number anymore, and
–the lack of oomph in the US economy is a result of maintaining an inflation target that’s too low. So let’s try 3% instead.
Having a 3% inflation target instead of 2% isn’t a new idea. I heard it for the first time about 20 years ago, from an economist at the then Swiss Bank Corp. Her argument was that getting from 3% to 2% inflation would require an enormous amount of effort without any obvious payoff. The whole idea of inflation targeting is to eliminate the possibility of the kind of runaway inflation–and associated crazy economic choices–of the kind the US had begun to experience in the late 1970s. Whether actual inflation is 3% or 2% matters little, just as long as the current level is not the launching pad for a progression of 4%, 6% 9%…
Another way of looking at this would be to say that the nominal figures matter much more than academic economists realize, and that 4% nominal GDP growth (2% trend economic growth + 2% inflation) feels too much like stagnation. Therefore, it undermines the entrepreneurial tendencies of ordinary people.
How to create 3% inflation? …slower interest rate increases and/or increased government stimulus (meaning tax cuts and infrastructure spending).
The letter certainly won’t affect the Fed’s thinking about a rate rise in June. But it seems to me that the debate on this issue can only intensify.
By the way, I think 3% inflation would be good for stocks, neutral/bad for fixed income.
Uber and corporate control
Uber…
The continuing troubles at Uber have placed renewed focus on the dominant form of corporate organization among internet companies in Silicon Valley: voting control concentrated in the hands of a small number of founding principals, with the vast majority of shareholders having little or no say in corporate affairs.
The companies in question have more than one class of stock. The shares the public holds have either no say at all or, at best, a small fraction of the voting power each of the founders’ shares have.
Tech entrepreneurs didn’t invent the idea of multiple share classes. Companies like Hershey, the NY Times or News Corp. have had this structure for decades. And, yes, it does create problems. Insiders are free to ignore the concerns of outsiders, who have little recourse other than to sell their holdings. Of course, in the case of Uber, that’s easier to say than to do.
…vs. GE
I think it’s striking, however, that the other prominent corporate name in the news today is GE, a company with a long history and a wide-open corporate register. GE’s CEO, Jeff Immelt, is being forced to retire after 17 years at the helm–during which time GE has been a chronic underperformer.
I have some sympathy for Mr. Immelt, who, as far as I can see, inherited the terrible mess that his predecessor, Jack Welch, had created at GE by the turn of the century. Even if we say Immelt’s first half decade was spent cleaning things up, though, it took a subsequent lost decade before the board decided to make a change. And that is arguably only because an activist began to stir the pot.
…vs. J C Penney (JCP)
Then there’s the cautionary tale of JCP, where an investor group led by Pershing Square took control of the board a number of years ago. The newcomers carried out a number of disastrous changes in JCP’s strategy that caused the firm’s profits–and its stock price–to crater. They then convinced the board of directors to repurchase their stock at what I judge to have been an extremely favorable (for them) price–and disappeared.
In this case, having only one class of stock, and no dominant insider, worked to ordinary shareholders’ disadvantage.
my point?
To be clear, I’m not an advocate of having several share classes. But I don’t think that’s the Uber problem.
As I see it, early investors backing Uber made a bad mistake in their assessment of the quality of the company’s management. And by not providing enough mentoring they allowed a toxic corporate environment to proliferate. The fact of multiple share classes makes it harder to rein in a renegade culture. But take the multiple classes away and Uber would still have become what it is, I think.
last Friday’s US stock movement
Last Friday the S&P 500 opened at 2436, rose to 2446, fell to 2416 and rallied at the end of the day to close little changed at 2432. Volume was maybe 10% higher than normal. Sounds ho-hum.
Look at Financials, Energy or Technology and the story isn’t one of a sleepy summer-like Friday. It’s violent sector rotation instead.
According to Google Finance, the Energy sector was up by +1.4% for the day and Financials by +0.8%. Technology fell by -2.7%.
But that understates what happened beneath the calm surface.
Oil exploration and production stocks, which have been in free fall recently, rallied by 4% or more. Large internet-related names fell by an equal amount. Market darling Invidia (NVDA) rose by 4% in early Friday trading, then reversed course to fall by 15%, and rallied late in the day to close “only” down by 7%+. That came on 5x recent daily volume.
What’s going on?
Well, to state the obvious, Friday’s stock market action in the US runs counter to recent trends. To my mind, the aggressive buying and selling are both based on relative valuation rather than any sudden change in the fundamental prospects for any of the companies whose stocks are gyrating around. It’s an assertion by the market that no matter how grim the outlook for oil, the stocks are too cheap–and no matter how rosy the future for tech, the stocks are too expensive.
This is part and parcel of equity investing. There’s always someone, usually with a long investment horizon, who is willing to bet against the current trend, on grounds that current price movements are being driven by too much emotion and not enough by dollars and cents.
what’s unusual
What’s unusual about last Friday, to my mind, is how sharp the division between winning and losing sub-sectors has been and how aggressively stocks have been both sold and bought.
For what it’s worth, I also think it’s odd that this should happen on a Friday. Human buyers/sellers of this size tend, in my experience, to worry about whether they can execute their plans in one day, preferring not to let the competition mull the situation over on the weekend. But that’s a minor point. (One could equally argue that if the buyers/sells were looking for maximum surprise, Friday would be the ideal day to act.)
If this is indeed a counter-trend rally, meaning that after a period of valuation adjustment the prior trend will reassert itself (which is what I think), the most important investment question is how long–and how severe–the pro-energy, anti-tech rotation will be.
My experience is that it’s never just one day and that a counter-trend movement can run for a month. On the other hand, this doesn’t look like the typical work of traditional human portfolio managers. It looks to me more like trading done by computers. If that’s correct, I’d imagine the buying/selling will cut deep and be over relatively quickly. But that’s just a guess. And I know my tendency in situations like this is to act too soon.
For myself, I’ve been thinking for some time that US oil exploration companies have been battered down too much. As for tech, I still think it will be the most important sector for this year. So I’m happy to use this weakness to rearrange my overall holdings, nibbling at the fallen tech names and offloading a couple of REITS I own that I think are fully valued.
the fiduciary rule; the UK election
advisers as fiduciaries
The fiduciary rule for retirement assets issued by the Labor Department goes into effect today, despite intense lobbying against it by the brokerage industry.
The rule requires financial advisers involved with retirement assets–with the notable exception of the 403b pension assets of government workers–to put their clients’ interest ahead of their own in dispensing investment advice.
In essence, this means that the financial adviser will no longer be permitted to recommend high-cost products with poor performance records to clients simply because they pay a high commission or that the broker gets an “educational” weekend for two at a beach resort for doing so.
The conceptual defense (such as it is) for such practices, which are still allowed for non-retirement assets, by the way, is that while the client is still not well off, he’s better off than if he had no advice at all.
No wonder Millennials are willing to take a chance on robo advice.
the British election
The British prime minister, Theresa May, called the election held yesterday with the intention of increasing her party’s four-seat majority in Parliament in advance of the first Brexit talks with the rest of the EU.
With one seat not yet decided, the Conservatives have lost 12 seats instead, according to the Financial Times.
As exit polls came out overnight predicting this unfavorable result, both Asian stocks with interests in the UK and sterling weakened.
Interestingly, as I’m writing this an hour before the US open, both sterling and the FTSE 100 are up slightly. S&P 500 futures, which had also dipped slightly in Asian trading as the UK news broke, are trading two points higher this morning.
To me as an outsider, it looks like UK citizens are having serious second thoughts about Brexit (politicians in Scotland advocating it’s breaking with the rest of the UK lost, as well). My point, though, is that except in extreme circumstances–like when Republican opposition torpedoed a proposed economic rescue plan in early 2009 and the S&P dropped 7%–politics make little day-to-day difference to stocks.