"One who cannot change their mind, cannot change anything." -- Winston Churchill.
Investing is about doing your homework and having the will to see your convictions play out, but also listening to the market. Crucially, it is mainly about risk management -- running your winners and cutting your losses. This is an exceptionally hard lesson to teach anyone, perhaps one of the most important ones if one is to survive and be in this game for the longer run as the emotions of investing take over logic and rational thinking. One must be cerebral and detach themselves emotionally from their investments.
Something has changed in the market since October. The range-bound market we witnessed from July through September that whipsawed on U.S.-China trade war headlines seems not to be phased anymore by the eventual outcome of the trade deal itself, as evidenced on Monday when China seemed to pull back on the agricultural numbers thrown out by President Trump. China is happy to wait until after impeachment hearings and will certainly not change its domestic policy.
A few months ago, headlines such as this from Beijing would have caused at least a 2% pullback. Everyone who knows anything about how China works knows that the trade wars instigated by Trump have been a smokescreen, as they have done nothing other than cause a global slowdown to be exaggerated.
One thing is certain: Trade deal or no, global supply chains and respect is lost, forever. China has already embarked on Plan B, diversifying away from U.S. dependence on some key raw materials. The whole saga seems more as a ploy to rattle some nationalistic votes, make sensationalist claims, and coerce the Federal Reserve to keep rates lower for longer to boost asset prices. If Trump didn't go AWOL on China, the market would never have fallen so quickly or economic data fallen off a cliff, leading us to the brink of recession.
But if it is not the trade war, what is it that the market cares about? The answer: Central bank liquidity!
Interest rate moves by central banks across 37 developing economies showed a net 11 cuts in September after 14 rate cuts in August. There is and was a dollar shortage this past year as the dollar rose relentlessly, hurting the debt and interest payments of all the economies dependent on the currency. These central banks have been trying to stimulate growth by easing interest rates. When Fed Chairman Jerome Powell announced open-ended repo operations and buying of Treasury bills in September, that's when the market got the hint that the U.S. has joined forces. Whispers of 2015/2016 echoed the trading floors as talks of a global synchronized recovery were mentioned. What are they trying to do?
The market is like a broken old car -- central banks keep filling it with fuel (liquidity or quantitative easing in this case), it runs only so far until it gets used up (albeit in a declining manner), only to fill it with more fuel, hoping to jump-start the car once again to sustain the expansion even longer.
That is where we are right now. In 2018, the global economy was doing well and the Fed was in a rate-tightening mode to rid the excess reserves in the economy. Perhaps it went too far, although that is debatable given a $4 trillion-plus balance sheet could not even take a small reduction. A system that is built on debt needs more debt to survive.
We know third-quarter earnings have shown year-over-year declines and the fourth-quarter outlook is also dire. But that is in the past. We all know that once it is printed, it is so last season (literally). The market does not trade in what has happened, but what is about to happen. And that is where we are. Given the car that has been jump-started by central banks by filling it with more fuel, the data over the next few months is expected to show an improvement. Any signs of a bottom in place will further fuel this rally. The market is buying first and asking questions later. Traders are perhaps enacting Tom Cruise on trading floors shouting "show me the growth."
Emerging Market PMI (Purchasing Manager Index) has turned up in the last month, showing signs of an industrial rebound. The Developed Markets PMI is still at lows, stabilizing but not yet picked up yet. Is Global Manufacturing PMI about to turn even higher and follow the lead taken by Emerging Markets? That remains to be seen.
Preliminary November PMI's will come out this Friday. If global data is indeed turning upward, we shall soon start to see it presenting itself in the numbers. According to Deutsche Bank's recent note, Euro area Composite PMI is expected to rise to 50.8, from 50.6 in October, with Germany expected to show 49.2 from a reading of 48.9. Still a contraction, but it is the rate of change that is of more importance. The People's Bank of China (PBOC) has cut the interest rate on its seven-day reverse repurchase agreement from 2.55% to 2.2% for the first time since October 2015. It has also added about 550 billion yuan into the financial system over the past three days.
As the old adage goes, "Don't fight the Fed," and the market is clearly starting to break away from its global slowdown mode, pricing in a small cyclical recovery. That recovery better show up in the data or else market is at risk of being disappointed. One just needs to be patient. With the Fed now extending its repo operations until Dec. 19 and T-bill buying until the first quarter of 2020, it seems we have its support behind us to do so.