The Days Ahead: More earnings, some Fed speak and a short week
One-Minute Summary There were lots of tradable events last week: claims, inflation, producer inflation, Fed minutes, the ECB meeting, job openings. But bonds moved only 5bp up and the yield curve didn’t send out any more recession signals. All quiet. Stocks had a good week. Up around 0.5% and now, wait for it, up 16% this year. Riskier assets like small cap, tech and growth are up even more. It seems strange that stocks would rip when the economy is slowing but it’s all to do with dovish language from the main central banks. The Fed confirmed its “patient for longer” decision with the publication of the March minutes. No real dissent and expectations that the Fed balance sheet will soon be a source of demand for Treasuries.
Earnings season is just getting started but JP Morgan (JPM) posted some good numbers on Friday, which helped. JPM is the biggest bank in the financial sector part of the S&P 500. It’s all been a good run on stocks. Disney announced a new subscription service which sent the stock up 13%. So good news from 2 of the 20 largest companies in the S&P 500. Stuff that did badly last year is coming back and we have a different type of leadership than the tech giants. Volatility is very low. We're not saying that things will roll over but some caution is due.
1. Where’s the inflation? Not in the headlines that's for sure. The Fed has a model that says low unemployment means wage pressures means higher prices. Nothing wrong with that, it’s an easy-to-understand sequence. Unemployment is way down and last week’s claims numbers reached the lowest level since 1969 when the population was around 35% smaller. But inflation? Not there. Here’s the latest:
There’s the headline in blue columns at 1.8%. Gas prices rose in the last few months, so that pushes the core CPI up to 2%.This all makes it unlikely inflation will reach the Fed’s 2% target, which in turn makes it unlikely they’ll hike rates. The Fed also tracks real rates so we now have a curious position where real rates as measured by Fed Funds are at their highest point in 10 years and against the 10-Year Treasury, their highest since mid-2016. That’s a de facto tightening which was not in the script. Whoops.
There are those who feel that earnings must start to increase but we haven’t seen it yet. Real earnings are up just 1.3% over the year which, sure, is better than a year ago but still pretty modest given how wonderful the tax cuts were going to be for wages.
One concern is rents.
This shows rental vacancy rates at 30-year lows and, in the bottom chart, the relentless growth in rents. Since 1988, they've grown 50% faster than standard inflation. They account for 33% of the CPI and 42% of the Core CPI. So put together higher living costs, low unemployment, low wages and you either get a break in one of those series or just low 2% growth. Which is what we have now and what we see happening.
2. Uber? Sure, why not? Here’s the prospectus. It’s 395 pages long and the “risk factors” start on page 25 and go on…and on….for 48 pages. There’s the usual stuff about competitors, expenses and acquisitions but then it goes into a weird world of deaths, criminal activities and incarcerations. And that tricky one where courts say their employees are employees and not contractors. And that they may never make money. We'd say on that last point, they're world class because on $11bn of revenue they lose $3bn and they say 25 times that they may “never achieve profitability”. It must have been a blast as an investment banker coming up with all that risk stuff.
So no complaining if your investment goes to zero because the lawyers will point to the document and say, “see, we told you it was dodgy”.
Uber has a bit of a reputational challenge but no worries, the Chairman is a serious bloke who ran Northrop Grumman, is Canadian and says “world class governance will be our north star”, which is a bit tricky if you live in the Southern Hemisphere but full marks for trying. The price tag for all this great technology which allows you to, er, call a cab and have it take you where you want to go is…well, to be determined, but most think it’s around $100bn which would make it #54 in the S&P 500 and #499 in profitability. GE holds the wooden spoon for that because it’s busy writing down bad insurance policies from 20 years ago.
The bigger point, well made by Matt Levine over at Bloomberg, is that Uber is one of the unicorns emerging from the enchanted forest where profits don't matter and first-to-scale wins. There are more to come like Slack, Palantir, Airbnb and Pinterest. Some could be the next Facebook or the next Snap (-45%), Blue Apron (-88%), GoPro (-92%) or Dropbox (-34%). If they go well, put it down to top of the market exuberance (a bad thing). If they go badly, put it down to healthy investor caution (a good thing).
Anyway, "Uber is the defining tech start-up of its generation" which may be true if you're measuring it in dog generations (h/t FT) and they have a picture of a bloke to reassure us that they're nice guys.
And a killer slogan.
So, yeah, no profits, no growth, regulatory difficulties and increasingly intense competition. Awesome. Sign me up.
Bottom Line: We're reminded that last time the market was this high was in August and the 10-Year Treasury was 3.25% not 2.5%. We've swapped high rates and high stocks for low rates and, well, still high stocks. Markets tend to overreach themselves in each direction so we’re still sticking with our call to have some Treasuries around in case it all comes undone.
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--Christian Thwaites, Brouwer & Janachowski, LLC
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