Daily Commentary

Providing succinct, entertaining and savvy thinking on global capital markets. Our goal is to provide discerning investors the most essential information and commentary to stay in tune with what's happening in the markets, while providing unique perspectives on essential financial issues. And just as important, Fisher Investments MarketMinder aims to help investors discern between useful information and potentially misleading hype.

Where’s the Beef?

Are non-beef burgers the next big thing? If you followed financial pundits lately, you might think so, with many hyping investing in pure-play non-beef burger makers. The “alternative meat” space in general has been looking tasty to investors hungry for the potential gains from non-meat “meat” producers. In our view, investors should take caution when headlines salivate over the latest investing fad—ordering up alternative meat stocks due to hype strikes us as heat-chasing, a common investing mistake.

Non-meat “meat” products have been generating interest in recent years, with proponents citing several advantages. Some point to the environmental benefits, arguing deforestation for livestock (not to mention the animals’, um, methane emissions) is contributing to climate change. Cutting down on animal consumption can purportedly help. Others cite the health risks of eating red meat, with plant-based proteins offering an allegedly healthier alternative. For most consumers, though, the biggest hurdle has been taste. Historically, a “fake meat” burger hasn’t matched the tastiness of a good ol’ traditional beef burger.[i] But some companies have made strides with non-meat burger patties and other products that mimic the taste and texture of real meat—even “bleed!” With non-meat options gaining traction nationally, investors have been sniffing around for opportunities in this space—especially after one plant-based protein producer’s sizzling Wall Street debut.

Before biting into this investment space, consider what you are buying. From a high level, a food product company traditionally falls under the Consumer Staples category. Consumer Staples’ “Food Products” subsector—which includes giant multinational companies with an array of businesses, including meat production—comprises just 2% of the MSCI World Index’s market cap.[ii] Typically, such firms perform best in weak markets, though whether that holds for a newfangled niche non-meat firm is anyone’s guess. Anyway, if it does, we think it is unlikely to mesh with the continued bull market we expect. From a portfolio construction perspective, loading up on stocks that represent an infinitesimal slice of one segment of one subsector of a broad market group seems unnecessarily risky to us.

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When Sentiment Prices in Reality: Japan and UK Edition

Pop quiz: When is bad news not really bad news for stocks? Generally speaking, when it is long-running, well-known bad news that investors and the world at large seem to have a rational grasp of. We think Japan and the UK provide real-time examples presently.

To understand how these nations’ economic data interact with markets, we think there are two bedrock investing principles to consider. First: Stocks look forward, pricing in all widely known information about factors affecting companies’ earnings outlooks, be they economic or political. In our view, stocks look around 3 to 30 months out, focusing mostly on the next 12 to 18. As the market digests probable outcomes, it sets baseline expectations within this horizon—but they aren’t infallible. Legendary investor Benjamin Graham once noted that stocks are like a “voting machine” in the short term, which can be driven by sentiment, but in the long run they act more as “weighing machines,” assessing fundamentals.

Second: Stocks move most on the gap between reality and expectations. Positive economic data alone aren’t enough to be bullish, and vice versa. If expectations priced into stocks match reality on a forward-looking basis, unsurprising results are unlikely to sway markets materially. What matters for investors isn’t the reality—good or bad—per se, but whether broad sentiment appreciates it properly, overestimating (bearish) or underestimating (bullish) its prospects. In other words, the surprise (or lack thereof) factor. This is why stocks can climb the proverbial “wall of worry” and tend to “die on euphoria.”

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An Investor's Mental Preparatory Guide for the Democratic Debates

Editors’ Note: As always, our political commentary is non-partisan by design. We favor no party, elected official or politician and assess political developments solely for their potential economic or market impact.

Just in time for next week’s first round of Democratic presidential primary debates, candidates are releasing campaign pledges in droves. We have multiple climate change plans, criminal justice reform packages, infrastructure proposals and a host of others. There are so many words and blog posts that we are sort of surprised the Internet hasn’t collapsed under the weight. One candidate wants to basically declare currency war on trading partners. Another wants to do 100 “big” things in 100 days.[i] Several want to more-or-less pack the Supreme Court and/or abolish the Electoral College. Universal health coverage proposals are, well, universal, though details vary among candidates. It is a lot to digest. Thankfully, investors don’t have to sift through 24[ii] candidates’ Medium archives or campaign websites in order to make wise portfolio decisions. In our view, doing so would be at best pointless, as very, very few of these proposals are likely to take effect as outlined today. At worst, obsessing over policy pitches now could be harmful, given politics’ tendency to drive emotional decision-making.

You don’t need us to point out that campaigns heighten people’s feelings. That is what they are designed to do, as emotion tends to have much greater mass appeal than logic. But when assessing politics from an investment standpoint, it is vital to shut emotion off. All the feelings campaigns inspire can easily boil down to fear or greed. Those two emotions are at the root of just about every investment error in the books. In the political realm, fears often stem from partisan bias, whether conscious or not. Only by being conscious of bias, turning it off, and greeting every candidate in every party with equal skepticism do we think investors can arrive at sensible decisions. Let that be your trigger warning. 

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Scaling and the Treasury's Tariff Take

The Treasury’s monthly statement for May hit the wires Thursday, driving about a bazillion headlines about the surging budget deficit, which jumped 39% in fiscal 2019’s first eight months versus the same period in fiscal 2018 (the Treasury’s fiscal year runs October 1 – September 30). Most coverage was sure to note that customs duties collected also soared, up 80.9% year to date from fiscal 2018’s first eight months. Sounds huge! Yet this factoid doesn’t give one a real sense of how big a bite tariffs are taking out of economic activity. As always, to assess this, we must scale.

The numbers here aren’t astronomical. Exhibit 1 shows cumulative monthly year-to-date customs duties for the past five years. May’s year-to-date take is $44.9 billion, versus $24.8 billion in October 2017 – May 2018. But US GDP clocked in at $20.5 trillion in 2018. Trillion, with a T. Even if you pencil in another $20 billion of tariff revenues over the rest of this fiscal year, which is straight-line back-of-the-envelope math with no scientific basis other than being a rough average of the past four months, the tariff take amounts to 0.3% of GDP.

Exhibit 1: A Brief History of Tariff Revenues

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Risk, Due Diligence and Higher-Yield Alternatives

With 10-year Treasurys yielding just 2.13%—near their lowest level since September 2017—and CDs and savings accounts mostly offering ultra-low rates, interest in higher-yielding bond alternatives is rising.[i] Financial news and advertisements frequently feature such options, likely tempting many investors eager to spruce up their fixed income holdings with securities that aren’t struggling to outpace inflation. We sympathize—but also urge caution. As with any investment, it pays to know what you are buying—how it functions and what risks it carries—and resist the “low-risk, high-returning” siren song. As investors in the three examples we explore here show, the alternative could be painful.

First up: Municipal (or “muni”) bonds, which are debt issued by state, county or local governments. These have enjoyed a recent run of popularity: In 2019 through May, investors added $37 billion to muni bond funds—$8 billion of which went to high-yielding muni debt, dwarfing last January – May’s $1.5 billion.[ii] In our view, munis are overall a-ok as fixed income investments, especially in taxable accounts. They typically offer attractive yields relative to Treasurys and get preferential tax treatment. Moreover, muni defaults are rare. Per Moody’s, the average annual default rate between 1970 and 2016 on five-year muni bonds was just 0.07%.[iii] Even in the event of default, bondholders typically get some money back. The same Moody’s report noted the average recovery rate on defaulted munis is 66%.[iv]

However, some recent court cases highlight a muni risk investors may not have considered. Contrary to the common belief cities are legally obligated to service debt as long as they have the funds to do so—and if they don’t, courts will force partial payment—honoring claims can be a political decision as much as a fiscal one. An excellent Bloomberg article documented Platte County, Missouri’s recent decision to stop setting aside sales tax revenues for interest payments on bonds backing a struggling retail development. The county wasn’t out of money and didn’t declare bankruptcy. They just determined the pros of default outweighed the cons. A district judge ruled on June 3 there was “no promise or requirement” for Platte County to make payments—the bond’s contractual obligations were rather flimsy.[v]

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Deep Thoughts on Rome's Successful 20-Year Bond Auction

Amid another round of political upheaval—not to mention a global freakout over a potential Quitaly—Italy sold a 20-year bond Wednesday. This, in and of itself, should not be news. Countries sell bonds all the time. But demand for this bond was four times the amount on offer, which is huge. Some headlines couched this as a dangerous sign of yield-starved investors voluntarily overlooking risk. Yet we see this as a sign markets, always forward-looking and efficient, are quite good at separating news from noise.

Italy’s Treasury offered €6 billion worth of this new bond, which matures in 2040 and has an annual coupon of 3.1%.[i] When banks shopped it, investors put in bids totaling around €24 billion, for an average yield of 3.15%. This tells us a couple things: One, Italy’s government is more than capable of funding itself, despite the debt sirens’ warnings. Two, investors are able to see through said warnings, assess the likelihood that Italy will be a fully functional eurozone member-state capable of servicing its debt in 2040, and calculate how much compensation they require for the risk of a 20-year loan. In this case, it was only five basis points more annually than the government initially offered.

We guess it is possible this is a case of investors ignoring obvious risks—in the sense that anything is possible. But some recent historical context suggests this is unlikely. As last year showed, investors weren’t shy about demanding more compensation from Italy’s government when they sniffed higher long-term risks. The entire eurozone crisis is a testament to this as well. Even German bond auctions were undersubscribed then. Are we really to believe extreme pessimism has spiraled into unwarranted euphoria today? Particularly when headlines remain mired in doom? Even broad complacency towards eurozone “risks” looks highly unlikely considering surveys routinely show investors are pessimistic toward the region’s stocks. Inflation may be a big bond yield driver globally, but default risk matters country to country. If Italian default risk were legitimate, yields would almost surely show it.

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No, the Fed Doesn't Need to Cut Rates, but ...

Stocks had another nice day Wednesday, with the S&P 500 gaining 0.8% in price terms on the heels of Tuesday’s 2.1% rise.[i] Headlines near universally credited the Fed, citing Chair Jerome Powell’s jawboning about rate cuts and pledging not to sit idle if tariffs start taking a toll. On the whole, this strikes us as an overreaction and another example of investors having far too much faith in the Fed's ability to manipulate US growth rates. If policymakers could control the economy by pushing this button or pulling that lever, the Fed probably wouldn’t be struggling to hit its self-imposed inflation target amid the slowest economic expansion in history. Moreover, as we wrote last week, there is scant (if any) evidence the economy needs Fed intervention. Yet it could be a salve for sentiment, perhaps helping investors move on from 2019’s false fears.

A Wall Street Journal op-ed by economic researcher Donald Luskin highlights why:

Last July, in his first semiannual testimony before Congress, Mr. Powell was asked by Sen. Patrick Toomey (R., Pa.) what he thought of the narrowing yield curve. Mr. Powell answered: “If you raise short-term rates higher than long-term rates, then maybe your policy’s tighter than you think, or it’s tight anyway.”

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Italy's Unspoken Lesson: Tune Out the Political Noise

Editors’ Note: Our political commentary is non-ideological by design. We favor no political party, politician or elected official in any country and assess political developments solely for their potential economic and market impact.

One week ago, Italian co-Deputy Prime Minister Matteo Salvini was flying high after his party, the far-right The League, trounced its competition (and coalition partner Five Star Movement, or M5S) in European Parliamentary elections. In short order, he claimed a new mandate for wide-ranging tax cuts and taunted Brussels over its deficit limits, while his government passed a motion to explore a parallel currency known as the “mini-BOT,” which is a play on the Italian acronym for short-term Treasury bills. Eurozone leaders responded with a letter threatening sanctions if Italy broke its deficit reduction commitments, rekindling fear that the long-awaited Quitaly was at hand. Yet since then, the pendulum has swung in the opposite direction: The Treasury all but disavowed mini-BOTs last Friday, and on Monday, Prime Minister Giuseppe Conte threatened to walk and force a snap election because he couldn’t abide Salvini and M5S leader Luigi Di Maio’s constant bickering. Let this be a lesson in the danger of reacting to short-term fear: The story can flip fast, leaving investors chasing their tails.

What happens next in Italy, we have no idea. After Conte threw down the gauntlet Monday evening, Salvini and Di Maio at first played nice. The Guardian reports they had a cordial phone call and pledged to support Conte and their coalition. But harmony apparently reverted to discord Tuesday, with Salvini reportedly accusing Di Maio of plotting against him and issuing his own ultimatum. They could very well kiss and make up again, or Italy could be heading to a snap election. A lot will probably depend on what the polls show over the next couple of weeks and what party leaders think is in their interest. A politician’s mind is a terrible place to navigate, so we won’t hazard a guess on how this all shakes out.

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Potential New Retirement Legislation on the Horizon

Last month, the US House passed the Setting Every Community Up for Retirement Enhancement (SECURE) Act in a rare bipartisan 417 – 3 vote. The bill offers Americans more incentives to save and invest through tax-advantaged retirement accounts like 401(k)s and IRAs. With similar bills receiving broad Senate support—the Retirement Enhancement Savings Act (RESA) and the Retirement Security and Savings Act (RSSA)—many expect some version to become law before too long, changing America’s retirement system significantly. Predictably, there are good and some not-so-good provisions, in our view. Here we provide a rundown, focusing on the SECURE Act since it is furthest along in the legislative process but noting where the RESA and RSSA potentially differ.

The Good

Perhaps the biggest benefit from a retiree’s perspective: provisions raising the required minimum distribution (RMD) age to 72 from 70 ½ and allowing traditional IRA contributions after age 70 ½. This would help folks living and working longer by enabling more tax-deferred growth in their traditional IRAs (funded with pre-tax income), which could mean greater assets later in life, when medical care costs loom large. Note: The RESA doesn’t change the current RMD age, but the RSSA would up it to 75.

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More on America's (Small) Yield Curve Inversion

The US’s yield curve inverted again this week, reigniting fears of a looming recession. Our view, discussed at length in March and early April, remains unchanged: Such a shallow inversion (12 basis points between the 3-month and 10-year US Treasury yields, as of market close on Thursday) is largely indistinguishable from a flat or slightly positive curve, and overall, the global yield curve matters most. We live in a world where big banks can borrow in one country, hedge for currency risk if they like, and lend in another—seizing arbitrage opportunities from different countries’ different interest rates. Today’s global yield curve is positively sloped, helped both by negative short-term rates across Europe and Japan as well as relatively high US long rates. So we see plenty of potential for positive surprise, rendering yield curve dread—which sets expectations low and bakes fear into the marketplace—a rather bullish helper for stocks.

Here is another reason we don’t buy into today’s fears: While the yield curve influences banks’ profits, which drive lending, it isn’t a perfect proxy. Banks do indeed borrow at short rates, lend at long rates and profit off the spread. But they do so at market-set rates, not Fed-set overnight rates or long-term government bond rates. Government yields are reference rates only. So to gauge whether bank lending is still profitable, you must look at actual bank rates. As the next several charts show, these remain favorable for lending even as the yield curve flounders.

Presently, the effective fed-funds rate is 2.39%, while 3-month US Treasury yields are 2.37%.[i] But banks are not paying anywhere near that much to borrow money. Exhibit 1 shows a smattering of short-term interest rates, including checking accounts, savings accounts, money market funds and 3-month CDs. All are well below 1%.

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