As an active asset manager, the most frustrating thing for me is the ever shifting narrative that drives daily trading. China good, China bad, market up, market down, etc. Really there are very few things that have changed in the past six months. To wit:
- The U.S. and China do not have a trade deal.
- The industrial economy in the U.S. has slowed to a crawl and has fallen into recession elsewhere.
- The U.S. consumer continues to spend at an aggressive pace.
- The Chinese consumer has stopped spending.
- Earnings growth has disappeared in the U.S. and the corporate sector is firmly in an earnings recession.
- The Fed is pouring money into the U.S. economy by leveraging its balance sheet.
- That money is being used by U.S-based institutions to inflate the values of the U.S. stock market.
- The U.S. stock markets are overvalued as a whole and incredibly so in certain tech sectors.
So, everyday that the market pops or drops (and to be fair there haven't been many drops of late) it's really just more of the same. There were two major earnings reports in the past 24 hours, one from a consumer company and one from a company that deals mainly with the enterprise. So, Walmart (WMT) beat estimates and raised guidance, and Cisco (CSCO) shares plunged after-hours on lowered guidance. Surprised? You shouldn't be. See bullets 2 and 3, and 1, as well.
In yesterday's market action, the futures indicated a much lower open, which did occur, but the indices gradually rose throughout the day. That's U.S money going into U.S. stocks (bullet 7,) on a day when the overlord of much of that money, Fed Chair Jerome Powell, testified in front of the House. Powell did not even attempt to explain (mostly because no one asked) why the FOMC has cut rates three times this year in the face of the strongest labor economy in 50 years, or why the Fed has grown its balance sheet by nearly $300 billion in the past month. Bullets 6 and 7.
Chinese car sales have been dreadful of late, and figures released this week showed unit sales there posting their 16th decline in the past 17 months in October (bullet 4). Also, the Chinese electric car boom has officially gone bust as sales of NEVs (battery-electrics and plug-in hybrids) fell 45% in October. That subsector has not recovered - and I don't think it will - from the Chinese government's decision to slash EV subsidies in June. Yet, Tesla, which still lacks the required manufacturing license to sell made-in-China cars, is trading at 64x the consensus EPS estimate for 2020. See bullets 7 and 8.
I have stated this many, many times in my RM column, but the way to make profits above systemic returns (asymmetric returns as Bill Ackman would say, or alpha) is to call the inflection points in the market. But to make those macro calls, one must first make the micro calls successfully.
So, what could change on the list above? I would say bullets 3 and 8 are the biggest risks for the bulls right now. The consumer is carrying the U.S. economy - and the stock market - right now, but as corporate profit margins (bullet 5) shrink owing to rising labor costs, I would expect employment numbers to weaken (the BLS reported this morning that unemployment claims hit their highest level in five months) and discretionary spending to slow as we head into 2020.
Is there a point at which portfolio managers will stop paying ridiculous multiples for poor quality earnings (driven mainly by financial engineering, especially stock buybacks) and bullet 8 reverses. Yes, there is. That's when this gravy train will run off the rails. The value erosion in unicorns like Uber (UBER) , Pinterest (PINS) , Beyond Meat (BYND) and even not-yet-public WeWork is hurting returns for the tech-y investors. If losses in those cash-burning "disruptive" names force PMs to take profits on safe havens like Microsoft (MSFT) and Apple (AAPL) , then it will "Katy bar the door" for the markets. It happened last December, and we are certainly due for another pullback by the end of 2019.