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.
What to make of sentiment today? After some areas of froth appeared to signal the return of investor ebullience mere weeks ago, the Omicron variant’s emergence has wiped away much of that renewed enthusiasm. This flipping-and-flopping could bewilder those following closely. But to us, sentiment’s recent seesawing highlights the importance of not overthinking near-term swings—moods can change quickly and don’t dictate where stocks head next. We think it is better to take a step back and view longer-term trends.
Before Omicron entered financial headlines, some pockets of euphoria from early this year returned to the spotlight. Interest in electric vehicle (EV) companies skyrocketed as investors hunted for the next Tesla—likely explaining why EV startup Lucid’s market cap topped Ford’s and GM’s despite just starting vehicle production in September.[i] In mid-November, another EV startup, Rivian, hit a market cap of around $153 billion—exceeding Volkswagen—making it the largest US company with zero revenue.[ii] Enthusiasm for cryptocurrencies resurged, too. After a summertime slump, bitcoin rebounded in the fall, with prices nearing $70,000 in November.[iii] That autumn climb had some crypto “experts” predicting bitcoin will reach $100,000 by yearend (for reference, its price is $57,229 as of December 1).[iv] That zeal has spread to anything seemingly attached to cryptocurrencies, with venture capitalists globally pouring more money into crypto and blockchain start-ups this year than the previous 10 years combined.[v] These developments had some investors starting to see froth—much like the pockets of excess that existed early this year in special-purpose acquisition companies (SPACs).
But then came the Omicron variant. US stocks suffered their worst Black Friday on record last week, and after Monday’s rebound, global markets slid again on Tuesday and Wednesday. Fear dots the financial pages, and a well-known chorus of worries returned to headlines. Will harsh COVID restrictions—or even lockdowns—come back? Are existing vaccines effective against the latest variant? Are central bankers removing their monetary “support” prematurely—especially after Fed chair Jerome Powell just suggested the Fed may wrap up its quantitative easing (QE) bond purchases more quickly than first thought?
Fed head Jerome Powell took a sharp break with Fed history this week, saying something that would have been unthinkable to his predecessors: “I think it’s probably a good time … to explain more clearly what we mean.” This was his stated reasoning for retiring the word “transitory” when describing inflation, a move we think the world is misinterpreting. Despite how many commentators couch it, nothing in Powell’s remarks suggested the Fed now thinks inflation is entrenched and set to last for years on end. Rather, Powell made it clear this particular 10-dollar word’s meaning is not self-evident to many observers, and it is time for policymakers to just come out and say what they mean without jargon and euphemisms. That, in our view, is the real news here.
Most commentary on Powell’s Senate testimony has taken his remarks on “transitory” out of context. Elsewhere in his appearance, he said the Fed will consider “tapering” its quantitative easing (QE) bond purchases faster than initially planned, citing a strong economy and higher inflation. He also acknowledged that prices have remained elevated for a skosh longer than the Fed initially forecast, due primarily to supply chain issues. So when he said of “transitory” that it was “time to retire that word,” pundits married that snippet to his other observations, implying “transitory” must be retired because it is no longer accurate.
Look at the full context of Powell’s linguistic musings, though, and we think it becomes obvious his message was different. They occurred during an exchange with Senator Pat Toomey, who asked whether inflation might outrun the Fed’s expectations. After tap dancing around the question with some observations about today’s inflation rate bringing average inflation over some undefined period in line with the Fed’s target, Powell said this: “It [average inflation at 2%] was not the case going into this episode—it had been many years since we had inflation at 2%. So, I think the word ‘transitory’ has different meanings to different people. To many, it carries a sense of ‘short-lived.’ We tend to use it to mean that it won’t leave a permanent mark in the form of higher inflation. I think it’s probably a good time to retire that word and try to explain more clearly what we mean.”[i]
Editors’ Note: MarketMinder doesn’t make individual security recommendations. Any reference to an individual firm herein is solely to help illustrate a broader point. Additionally, MarketMinder favors no politician nor any political party, assessing developments solely for their economic and market impact, or lack thereof.
How do you know when governments are concerned about their popularity and staying power? They start trying to “fix” things. We saw that last week, when the governments of the US, UK, Japan, South Korea, India and China announced a coordinated release of strategic petroleum reserves in the name of taming oil and gas prices. Now, in the UK, energy regulator Ofgem is trying to “fix” the problem of power companies folding like dominoes by regulating them like banks, with capital requirements and tougher stress tests—never mind that these companies are failing because retail electricity prices are capped while wholesale prices aren’t, forcing them to operate at a loss. Last but not least, the Biden administration is peeved at Congress not because the clock is ticking on a potential government shutdown and a debt ceiling can-kick, but because the House has yet to pass a bill aimed at boosting semiconductor production and helping the US compete economically with China. We don’t think this bill has much market impact for good or ill, but we do think it is worth a look, as its fecklessness speaks volumes about how strong the semiconductor industry is.
The bill in question is the US Innovation and Competition Act (USICA), which contains a formerly standalone bill known as the Creating Helpful Incentives to Produce Semiconductors for America Act—CHIPS for short.[i] The Senate passed them over the summer, but the House hasn’t taken them up, and the administration’s calls to do so are growing louder. The larger USICA is classic industrial policy of European proportions, built on the presumption that the mighty US private sector can’t compete with state-directed investment and five-year plans in China. I can’t help but laugh my head off at this, as I am old enough to remember when everyone said the same thing about Japan beating the US in the late 1980s. You might remember that thesis fizzled when the Nikkei bubble popped, the result of years of misdirected top-down investments that didn’t pan out. Not that China is on the verge of a similar bust, but it is a fallacy to presume that a heavy government hand in technological development is a sign of strength. Free markets and private-sector innovation and investment are the Goose That Laid the Golden Egg, in my view, and protecting them is the key.
Record-high inflation. Biggest-ever jump. Those are two common phrases commentators used to describe the eurozone’s November inflation rate, never mind the fact that the eurozone itself is scarcely old enough to drink. Records come easy in young datasets, and this latest one doesn’t mean a 1970s repeat is at hand. Rather, a quick look at the limited data available in the “flash” release for the eurozone and member-states shows that—as in the US—prices are up on the collision of three temporary factors: supply shortages, base effects and energy prices. That people think otherwise suggests there is a lot of room for stocks to climb the inflation wall of worry.
It is of course true that eurozone inflation, which hit 4.9% y/y, is relatively high and up sharply from October’s 4.1%.[i] But a lot of that comes from energy prices, up an astronomical 27.4% y/y and 2.9% m/m.[ii] Excluding energy, food, alcohol and tobacco (i.e., the eurozone’s version of “core” inflation), prices rose 2.6% y/y and just 0.1% m/m.[iii] Non-energy industrial goods rose 0.4% m/m, bringing their year-over-year increase to 2.4% as supply shortages continued, but services prices continued easing with a -0.2% m/m drop—a sign that reopening from lockdowns has largely run its course as an inflation driver.[iv]
But the base effect hasn’t petered out yet. As Exhibit 1 shows, the eurozone was still in deflation a year ago, lowering the denominator in late-2021’s year-over-year calculations. The impact is even clearer when you look at the two biggest member-states: Germany and France. German inflation jumped to 6.0% y/y in November, the fastest since reunification.[v] But French inflation barely inched higher, from 3.2% y/y in October to 3.4%.[vi] Not because France has stolen Germany’s traditional price stability, but because Germany experienced sharp deflation in 2020’s second half after the government temporarily slashed its value-added tax (VAT) in the name of COVID relief. France, which didn’t cut VAT, didn’t have deflation last year. That means its year-over-year calculation base is higher than Germany’s, subjecting today’s inflation rate to less artificial upward skew.
Is the long-running 4% retirement rule about to go the way of the dodo bird? Some industry experts think so, pointing to stocks’ high valuations today as cause for lower market returns tomorrow, thus requiring retirees to update their spending plans. But we think this makes an awful lot out of one academic exercise—and falls prey to classic fallacies. We think planning retirement cash flows requires more nuance than simply using rules, but the general premise is well worth exploring.
The 4% rule holds that a diversified portfolio can support withdrawals of 4% of the starting value annually, adjusted for inflation, without premature depletion. Yet a recent Morningstar analysis purportedly called this into question. When running Monte Carlo simulations (which combine thousands of results across stocks and bonds to calculate the probability that a given asset allocation will support a given cash flow rate), they found that in a quarter of simulations, a half-stock, half-bond portfolio depleted within 30 years if withdrawals stayed at 4%. Most coverage attached some alarm bells to this, but we see a few caveats.
One, if a quarter of simulations ran out of money, that means three-fourths of them didn’t, rendering a roughly 75% probability of not outliving the assets. Two, a modest failure rate isn’t exactly a breaking development. You can see this for yourself in Fisher Investments Founder and Executive Chair Ken Fisher’s 2013 book, Plan Your Prosperity. In it, there are a handful of similar simulations modeling how different asset allocations could support various withdrawal rates over 30 years—at a time when stock valuations were theoretically more favorable than they are now. There was no 4% simulation, but there was one for 5%, and it showed a 78.2% probability of avoiding depletion within 30 years—and, on average, portfolios supported 28.8 years of withdrawals.[i] There are always risks and unknowns in investing, but we aren’t inclined to buy the this time is different argument we have seen since this report broke.
Stocks weren’t in the holiday spirit on Friday, falling sharply on fears of a new COVID variant, chiefly hailing from South Africa, that the World Health Organization dubbed Omicron. The S&P 500 slumped -2.3%, notching its worst Black Friday session on record.[i] In response, the US, UK and EU imposed restrictions on travel from a group of southern African countries. It all adds to worries over a virus uptick this winter, with many fearing the variant will interrupt economic activity and hit stocks hard. Hence, economically sensitive sectors—e.g., Energy, Financials and Industrials—declined the most in reaction to the news.[ii] But stay cool—and think like stocks. Yet another variant can be troubling on a human level—and try one’s willpower. However, from an investment perspective, the past two years have shown the real market risk isn’t the outbreaks themselves, but governments’ reactions to them. On that front, there is little sign much of anything changed on Friday.
Besides being first identified in South Africa, we know next to nothing about the scope of Omicron. Health experts don’t yet know how infectious, contagious, severe or lethal this variant is. However, as legendary investor Benjamin Graham put it, in the short term, markets are voting machines—and the news of a new variant likely spooked investors on a day when US markets close early. Moreover, those shortened sessions can mean thin trading volumes in some markets, likely exacerbating fluctuations. However, we don’t think markets are likely to be flustered for long: They have seen this movie before.
While it may be tough to fathom, we have been living with COVID—the original outbreak and subsequent variants—for almost two years now. That recent history shows outbreaks themselves aren’t negative for stocks. Instead, the actual market risk arises from economic lockdowns. When governments worldwide suddenly implemented lockdowns in early 2020, stocks priced in the severe economic disruption, resulting in a record-fast bear market. But stocks also priced in lockdowns’ impact quickly—and moved on. They began rising in March 2020, long before lockdowns even lifted. They continued rising when caseloads rose that fall. In our view, markets dealt with the clear downside of lockdowns on economic activity—and looked beyond them.
Well, today is Black Friday, and according to one of our favorite recent Internet memes, most of the country probably wasn’t in great shape for lining up for the annual retail frenzy before dawn. You see, everyone’s Christmas presents are supposedly stuck on container ships, leading Internet jokesters to claim lining up meant treading water or swimming for hours.[i] That may seem problematic given some retailers’ reputed reliance on holiday sales to turn a profit. But ports backlog or no, we recommend not getting hung up on Black Friday. Whether or not this weekend’s final tally is big, it won’t give you any insight worth basing portfolio decisions on.
We can understand the temptation to read the Black Friday tea leaves this year. Pundits often see it as a signal of economic health—perhaps doubly so this year, as many couch them as bellwethers of the country’s ability to withstand the supply chain snarl. They are also supposedly an early glimpse at whether expiring COVID relief and vaccine mandate-driven layoffs will weigh on consumption. But in our view, there are just too many moving parts to be able to isolate either issue. Plus, neither is exactly a surprise at this point, as pundits have been warning of these potential headwinds for months. So even if you could glean something negative from the results, it wouldn’t be earthshattering for stocks—it would probably just confirm whatever markets have already priced.
Even in a normal year, to the extent any year is “normal,” we wouldn’t overrate Black Friday. Yes, holiday sales are nominally important to retailers’ full-year profitability, but they are just one variable affecting two sectors of the stock market (e.g., Consumer Discretionary and Consumer Staples). Even then, Black Friday isn’t the be-all, end-all for holiday sales. Over the years, the traditional Black Friday discounts have spread beyond the day. First it was Black Friday weekend, then Black Friday week, then Black Friday month. This year, we started receiving holiday discount codes for several retailers in October. So we doubt that when the weekend’s sales totals hit the wires on Monday that it will be hugely telling about the month—or December, when an awful lot of holiday spending also occurs.
Tomorrow is Thanksgiving, and on the surface, there is perhaps not a lot to be thankful for. The world is still dealing with the fallout of COVID—and the lockdowns and restrictions designed to slow its spread. Relatedly, supply chain woes linger, fomenting inflation fear. Debates over vaccine mandates, taxes and potential spending legislation add more angst. But finding joy amid trials is the key to getting through this thing called life, so here are some things we think all investors can be grateful for as we gather with family and friends over the year’s greatest feast.
1. The existence of worries like the above. Life is never great. But when bad things—whether real or false—lower investor sentiment, it keeps expectations in check and extends the wall of worry for stocks to climb. If everything looked and felt rosy, it would suggest the bull market’s pinnacle was nearby.
2. Midterm Congressional elections. Regardless of your personal feelings about the current Congress and the administration’s various proposals, stocks like gridlock—and midterms promote that. These contests, now less than a year away, give politicians incentive to avoid rocking the boat, which results in legislation getting watered down or scrapped outright, much as we have seen with the reconciliation budget bill.
After weeks of signaling it was preparing to do so, the Biden administration announced today it will attempt to curb gas prices by releasing 50 million barrels of oil from the Strategic Petroleum Reserve (SPR), part of a coordinated release with China, Japan, South Korea, India and the UK. And in response to this forthcoming supply increase, global oil prices rose. Yes, a move designed to rein in oil prices seemingly had the opposite of its intended effect, illustrating the SPR’s complicated relationship with prices. While moves like these can have a short-term impact—predominantly through sentiment—they do little to change longer-term supply and demand fundamentals.
Oil prices are set globally, on world supply and demand fundamentals. The US’s 50 million barrel contribution to the global release represents less than 0.2% of global production.[i] The full global release will likely be around 65 to 70 million barrels, according to industry researchers’ calculations, which is nowhere enough to move the needle over any meaningful stretch.[ii] This is partly because OPEC also has a great deal of influence on global supply and is reportedly planning a counter move next week. Previously, OPEC was coordinating to increase output by 400,000 barrels per day. If the cartel decides to slow or pause production increases, it would likely neutralize the US’s coordinated supply release. In our view, markets are likely weighing the totality of the global supply landscape.
Even if OPEC sits tight, the SPR release likely has little long-term impact. It might help curb oil and gasoline prices by a bit in the near term, but it won’t alter the longer-term supply and demand landscape. That will depend on private producers boosting output, which is already starting. The US has added 67 oil rigs since the beginning of September, bringing total rig count to 461 as of last week.[iii] Last week’s industrial production report showed oil and gas well drilling rising 9.3% m/m in October, bringing the cumulative increase since July 2020’s low to 93%.[iv] The International Energy Agency (IEA) reported global oil production rose by 1.4 million barrels per day (bpd) last month and penciled in a further 1.5 million bpd increase over the rest of this year.[v] That is just a forecast, but it seems sensible to us based on the rise in drilling activity. As global output rises, it should help supply and demand come back into balance, which should help stabilize prices and ease the pain at the pump.
We have noted before that when markets are allowed to work, high prices are often self-correcting because they invite greater production—raising supply—and limit demand, which stabilizes or tugs prices back down. For example, after lumber prices hit record highs in May, sawmills ripped more boards, while some buyers balked, sending prices down -72.8% through the summer.[i] Though up a bit lately, they remain -53.8% off their May peak.[ii] We see this same dynamic playing out in myriad other areas. Let us take a tour.
Shipping backlogs? The Baltic Dry Index—a measure of bulk goods’ (like coal and steel) transport costs—hit a 13-year high in October, but it has since tumbled -53.2% as global port congestion eases.[iii]
Exhibit 1: Transport Costs Climb Down
Source: FactSet, as of 11/23/2021. Baltic Dry Index, 1/1/2021 – 11/22/2021.