Meinzahn
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Don’t Give Up, Folks!
The America of Hollywood always dusts itself off when it takes a beating. Down in the dust? Get up! Exhausted? Get a second wind! Feeling defeated? Get out there and go again!
Now, Hollywood isn’t real, as we all know, but the America that actually exists was founded on self sufficiency, the work ethic, and a desire to flee the anciennes regimes of servitude. And, emergence of a recent and inexplicable enthusiasm for the British Royal Family notwithstanding, that remains the DNA at the heart of the American project. And it’s the DNA we expect to power the market upwards through 2023.
Let’s take a look at the nonfarm payrolls number printed this morning. Seeking Alpha has all the details here but in essence:
- Unemployment rate 3.5% vs 3.7% in August and an expectation of 3.7%
- September nonfarm payrolls +263k vs. +250k expected
- Labor force participation rate of 62.3% vs. 62.4% in August.
Under the current market narrative where more jobs = more money in the economy = more spending = more inflation = more rate rises from the Fed, stocks promptly took a nosedive.
We remain, however, in the gutter and looking up. Because we can all construct a miserable narrative which boils down to the Fed on a one-committee mission to destroy 401k accounts in the quest for price stability. The S&P to 3000 and all that. Now, this could happen but in our view isn’t likely.
Let’s first deal with the inflation-out-of-control problem. At the highest level of abstraction, this has three causes in our view.
- Helicopter pandemic money leading to excess unit demand.
- Inflated supply costs resulting from shortages and raised prices in the light of the Russian invasion of Ukraine.
- Structurally increased supply costs arising from the deglobalization of the world – a move back towards tariff and non-tariff barriers and away from the trade liberalization that has characterized recent decades.
We view the first two causes as temporary. At some point the helicopter money will all be spent, and at some point the Russian invasion of Ukraine will be resolved, and likely not in the way that most expected back in February.
That just leaves the structural changes. The “globalization” narrative was a deflationary force in the West, as manufacturing and other labor-intensive activities were exported to lower cost locations. This kept wages in check locally which together with a low interest rate regime that favored capital over labor, has led to a low-inflation environment to the benefit primarily of the rich. With the major trading blocs around the world now stepping back into a more tariff-bound system (US / China, US / Europe, Europe / UK etc) we don’t believe that the inflation levels achieved in the 2000s and 2010s are possible going forward. At some point we expect inflation to settle at a higher level. We don’t think the Fed’s 2% target is viable; we believe the world has changed since that was a sensible target. And so we anticipate that rate hikes will have a natural end as it becomes clear that rate hikes will likely be ineffective in driving inflation down towards that illusory 2%. What the new normal will be? We know not. 3%? 3.5%? Something of that order. And we believe that rates will settle at a structurally higher rate to match that higher inflation rate too. And thus we anticipate some form of equilibrium to be reached once more, just at a higher level of both rates and inflation.
This equilibrium will, in our view, form the bedrock upon which the next market move up can be built. We think the fear period is drawing to an end; we think large institutional investors know that; across our coverage universe and indeed in the indices themselves we see basing behavior, accumulation behavior; and we think the move up when it comes is going to take most everyone by surprise. Except for Big Money. And except for Hollywood, which will be busy making bad movies about Big Money all over again very soon!
Cestrian Capital Research, Inc – 7 October 2022.
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