I could write a small book on so many current topics: COVID-19, the killing of a George Floyd and the riots in two dozen cities, and of course the economy and the primary markets. I’ll stick to the latter as that is what our job is, but all of these topics are associated with the markets and economy.
First, what you see occurring in both the economy and the markets is not capitalism. The government system we live in, threw the Constitution out, a long time ago and the loss of liberty is declining materially on a monthly basis. The U.S. Federal Reserve has used “Central Planning” (a.k.a. socialism) in an attempt to stop most corporate failures and has flooded the markets with newly created fiat money to save the system (and their jobs). Under capitalism, failure is a large part of the system. However, in the current environment, the government - no matter who is in power - bails out the people that contribute the largest amounts; they always get saved in the end. The banks were the beneficiaries in 2008/2009; today it’s the large corporations, while small business is decimated. The airlines bought $50 billion of their stock back in the last several years, supporting prices so insiders could cash out. The government just gave them $50 billion in grants and loans - because “it wasn’t their fault” that the virus came to America, according to President Trump.
In doing this bailout dance, the government creates massive debts. This is especially true for the “solution” to the economic assault used in defense against the pandemic, where governors shut down most businesses (with the blessing of the President), under council of Dr. Fauci and Dr. Birx. What is the economy supposed to look like in the 2nd, 3rd, and 4th quarters? According to the Congressional Budget Office (CBO), the estimate for the quarter ending June will show nominal GDP down -11.5% (or -38.7% annually). The quarter ending September will be up 5.1% (or 22.2% annually), and the quarter ending December will be up 2.6% (or 10.9% annualized).
It is these last two quarters that have the equity markets rallying, way ahead of the discounting process of looking four to seven months out. With a current 21.5 P/E ratio on the S&P 500, huge declines in earnings coming, and astronomical deficits (that have to be serviced) on the way, the market has no room for mistakes.
As to additional risks, China now controls Hong Kong and although President Trump has done nothing concrete so far to implement further sanctions on China, I believe the possibility is 50/50 that he may. Any surprise changes in the January trade deal has the potential to cause a re-evaluation of “risk on.”
Empirical evidence clearly shows that deficits don’t matter to the equity markets, partially because no real price/risk has to be paid, i.e., no inflation. The U.S. Federal Reserve prints more money to buy the debt (as do the banks, which have special rules in place since 2014), so foreign and public buyers are irrelevant. The bond vigilantes are dead, so the bond market has been very stable over the last three months. However, for the record, in case this free lunch ends someday, here are the numbers as I see them (as the CBO has no comment on the deficits to the end of the year): as of February 19th, the gross stated U.S. debt was $23.353 trillion. As of May 28th, it rose to $25.683 trillion. I project that as of September 30th it will be between $27.5 to $28 trillion, depending on taxes collected. The CBO estimates unemployment will be 15.8% on September 30th, trending towards 11.5% after December. Real GDP will be down -5.6% for 2020. My estimate of the debt-to-GDP ratio is 1.4% to 1.5%, or about the same as what Italy will look like.
Lastly, investors love the U.S. Federal Reserve and its printing press causing huge liquidity, as it makes the equity markets move higher at a faster rate than earnings (which are passé). So, we had a 32-day bear market in stocks and after 126 months of a recovery, we’re supposedly going to suffer only a 4-month recession? America is so wonderful thanks to the Fed? Equities are in a topping mode technically, with the S&P 500 up over 36% from the March low. Gold is still in an uptrend. Bonds are on a pause, and the U.S. Dollar is in a downtrend. The falling U.S. Dollar is helping commodities, which made a low on April 21 and have rallied over 24% since then (using the CRB Index as a guide).
The statements in this communication are the opinions of its author, Victor Sperandeo, and are not to be relied upon by anyone as the basis for an investment decision. Any investments made by a party in reliance thereon are made at such party’s sole risk. No guarantee of any kind is implied or possible where opinions as to past or future market conditions/events is provided. Past performance is not necessarily indicative of future results.
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