Stay Rational My Friends

It’s hard to know what to www.instapax.com believe these days.  Did Trump campaign members conspire with Russia to help win the election?  Did Susan Rice and others in the Obama administration abuse their power to unmask the names of Trump supporters uncovered during sweeps of foreign intelligence data?  Will there ever be any changes to current healthcare laws?  Is Trump’s tax plan dead in the water?  Will the Senate adopt the ridiculously named “nuclear option” to confirm Judge Gorsuch?

Though these are all important issues, they pale in comparison to what I consider to be the most pressing and confusing issue today: exactly WHO is The Most Interesting Man in the World?  Is it the man on the right, who “can speak Russian . . . in French,” whose “signature won a Pulitzer,” and whose beard has inspired “no less than 25 Mexican folk songs?”  Or is it the clown on the left, who kicks a coconut-football between two giraffe uprights like, well, like the Frenchman that he is in real life?  (And do coconuts even grow where giraffes live?)

If anyone can answer these important questions, please email me at don.harrison@raymondjames.com And while I’m at it, is there a secret cabal that has been working for decades in major corporations to destroy TV ads that people actually enjoy watching?  Maybe it’s the work of the DVR manufacturers, since one of the main uses for their product is to avoid ads.  But come to think of it, this goes back to the last days of “when EF Hutton talks, people listen,” which predates the digital era, so I guess that’s not the answer.   (If you want the inside scoop on how the greatest slogan in the history of financial services met its end, let me know.)

With all this uncertainty in the air, it’s more important than ever to remain as rational as possible regarding the investment markets.  First and foremost, stay focused on the long-term.  Our Chief Investment Strategist, Jeff Saut, believes that we are in a secular bull market that started in March of 2009.  As you can see from the chart, the last four bull runs of this type (blue lines) have lasted anywhere from 9 to 29 years, and the total gain has been between 266% and 466%.  This one is currently in year 7 with an increase of 177%.

One of the reasons I believe the current advance has longer to run is because this has been an unusual, slow-growth recovery, as you can see from U.S. Real GDP chart.  GDP would be $3 trillion higher today if the economy had advanced at its 3.1% average annual historical rate during the past seven years.  The recovery has been stretched out, without the typical surge in the first few snapback years, so I think there is a good chance that this could prolong the stock market advance.

I like to focus on leading indicators that have had a fairly consistent record foreshadowing recessions and bear markets.  The one below is my favorite, and is usually called the “Fed Indicator.”    “Real Fed Funds” is the difference between inflation and

the Fed Funds rate, and the “1-10 Slope” is the difference between the 1 year Treasury note yield and the 10 year Treasury bond.  Before each of the last 6 recessions, money was “tight,” with a negative 1-10 slope and Real Fed Funds above 2%.  Neither indicator is close to those levels today.

Each of the last 4 recessions has been preceded by a decline in small business optimism.  As you can see, since the election small business optimism has taken off like a rocket. Since 1975, the only time similar trajectories have occurred has been immediately after recessions and not at this stage of the cycle, which probably says a great deal about how the typical small business owner has viewed the “recovery” of the last 8 years.

So please stay rational, my friends.  Focus on what’s meaningful, and do your best to ignore the media fear mongers.  They will never cease ginning up doom and gloom to sell their advertising.

 

Don Harrison

The information contained in this report does not purport to be a complete description of the markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Don Harrison, and are not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice.

Investing for the long-term does not ensure a profitable outcome. Investing involves risk and you may incur a profit or loss regardless of strategy selected. The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor’s results will vary. Past performance does not guarantee future results.

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Brexit

       Freedom’s just another word for nothin’ left to lose    “Me and Bobby McGee”, Kris Kristofferson

Rejecting  Kristofferson’s cynicism, the majority of Great Britain’s electorate choose freedom over the prospect of continuing to live under the dictates of unelected European Union bureaucrats in Brussels.   We see this as a vote not just for freedom, but for prosperity.  As the Heritage Foundation has documented for many years (Index of Economic Freedom, http://www.heritage.org/index/ ), freedom and prosperity go hand in hand.  Though there will be short-term dislocations, in the long run we feel the effects of increased freedom in the U.K. should be positive.   The news media is currently buzzing with nothing but the purported disastrous consequences of Brexit; for a more upbeat perspective, see the five commentaries below.  Especially enlightening — and even inspiring — is the speech by Daniel Hannan, Member of the European Parliament.

http://scottgrannis.blogspot.com/2016/06/brexit-is-not-end-of-world-as-we-know-it.html

http://www.ftportfolios.com/blogs/EconBlog/2016/6/6/brexit-is-freedom

http://www.cnbc.com/2016/06/25/brexit-the-uks-magna-carta-20-good-for-freedom-good-for-growth.html

http://www.marketwatch.com/story/7-reasons-not-to-panic-about-markets-reaction-to-brexit-2016-06-24

It’s no wonder “Remain” lost; the best argument its most ardent supporters could seem to muster went something like “yes, the EU has been a disaster, but not as much of a disaster as the U.K. leaving it.”  That’s not a very persuasive sales pitch.

Don Harrison

The information contained in this report does not purport to be a complete description of the markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Don Harrison, and are not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice.

Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website’s users and/or members.

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The Great Depression of 2016

 I confess.  I’m not expecting a depression this year. The above title is a “hook”, and I borrowed it from a book written by Dr. Ravi Batra in 1985 (The Great Depression of 1990 – Why it’s got to happen – How to protect yourself) in order to make a point. I hear the same sentiments in the financial media today that prevailed from the late 70’s to the late 80’s, captured in such immortal works as Crisis Investing – Opportunities and Profits in the Coming Great Depression (1978), The Coming Real Estate Crash (1979), and What’s Next? How to Prepare Yourself for the Crash of ’89 and PROFIT in the 1990’s (1987).

Today it’s The Real Crash of 2016 (2008 Wasn’t the Crash, It Was Only the Tremor Before the Earthquake). Almost all of today’s predictions of an imminent collapse are based on the premise that the economic growth that we’ve had since 2009 – as slow and halting as it’s been – is all the result of the Federal Reserve opening the money floodgates. Once inflation heats up, and they are forced to turn this torrent off, the economy will crash, the U.S. will go bankrupt and gold will soar to $10,000/oz.   And that’s before the government suspends all benefits and seizes personal assets. The chart below seems to show that the Fed – through the various QE programs – has indeed inflated the money supply to an unprecedented degree.Excess Bank Reserves

But this chart shows the growth of bank reserves, not the money supply.  The best measure of the money supply – M2 – does not show this parabolic growth at all.M2 Money Supply

Since 2009, M2 has grown at the same roughly 6% annual rate that it did for the previous 15 years. Why this tremendous disconnect between the growth of M2 and the enormous amount of reserves banks now hold? Why haven’t these reserves worked their way into the economy in the form of loans to businesses and consumers, causing higher growth and extraordinary inflation?

According to Mike Bazdarich of Western Asset Management, this growth in reserves is the result of a series of regulatory requirements that have been implemented since 2008, (e.g., reserves required to collateralize deposits, the risk-weighted capital requirements imposed by the Basel Accords, plus the soon-to-come Fed-imposed requirement that banks hold highly liquid assets (mainly bank reserves) equal to 100% of the amount that Fed stress tests indicate they would need to survive another liquidity crisis). Banks’ demand for reserves has skyrocketed because it’s possible that half or more of the current excess reserves held by banks today is effectively dictated by various requirements and requirements to come, some of which are still difficult to estimate.

In other words, banks have accumulated a mountain of excess reserves not because they don’t want to lend against those reserves but because they had to accumulate them in order to survive. Banks may therefore not be as flush with excess reserves as the numbers suggest. They have responded to changing regulatory burdens by becoming more conservative and hoarding cash. (For a more detailed explanation see Calafia Beach Pundit at http://scottgrannis.blogspot.com/2016_02_01_archive.html

Most of our economic problems today are a result of tax, regulatory, social and educational issues.  They do not stem from a Fed-engineered money deluge.  To see what that looks like, see Scott Grannis at http://scottgrannis.blogspot.com/2016_03_01_archive.html

Don Harrison

The information contained in this report does not purport to be a complete description of the markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Don Harrison and Scott Grannis and are not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice.

Links are being provided for information purposes only. Raymond James is not affiliated with and does not endorse, authorize or sponsor any of the listed websites or their respective sponsors. Raymond James is not responsible for the content of any website or the collection or use of information regarding any website’s users and/or members.

 

 

 

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Oil, the Stock Market, and the Folly of Youth

Bearing what all these crazed, hooked nations need, steel plate and long injections of pure oil

                                                                       Gary Snyder,   Oil

Most men, when they reach a certain age, develop a habit of looking back at their youthful stupidity, sometimes regretfully, sometimes fondly. Many of them — myself included — ponder various flirtations they may (or may not) have had. But most men don’t — unlike me — think of their flirtations with bad poetry. I’m not sure what this says about me, but with oil prices much in the news over the past year, this piece of doggerel by “Beat” poet Gary Snyder has popped into my head more than a few times.

I believe I first encountered it as a high school student. At least I have a vague recollection of sitting at my grandmother’s dining room table reading the book of poems that contained Oil. Why would a reasonably normal high school boy spend part of his hard-earned McDonald’s paycheck on a book of poetry instead of, say, a date? Two possible explanations come to mind:

— I had read On the Road by Beat scribbler Jack Kerouac. The novel is essentially a pseudo-intellectual paean to extended adolescence, grown men hitting the road in search of greater truth, but finding mostly easy women and easier inebriation. In this respect, I was normal; what’s not to like for an 18-year old boy? So, anything “Beat” was likely to catch my eye.

— This was, after all, the apocalyptic early ‘70’s. The intellectual luminaries of the day were all Malthusians –disciples of Thomas Malthus, the 18th century political economist who believed that while population increased exponentially, the means of subsistence did so arithmetically, so men were consigned to lives of misery and vice.   Think Paul Ehrlich’s The Population Bomb, or The Club of Rome’s The Limits to Growth. Art Laffer wouldn’t sketch his famous curve on a napkin until 1974 and Jack Kemp wouldn’t write An American Renaissance until 1979, so what else could an impressionable boy do but dance to the tune of one of the pied pipers of scarcity and doom?

Well, it’s 2016, and the oil disaster has finally struck. Our long addiction to what Snyder called a “drug for industrialized society”* has caught up to us, and we’re running out. Gas is $20/gallon at the pump, the 7th Fleet is steaming towards the Black Sea to try to prevent Russia from gobbling up Saudi Arabia, and the Gulf of Mexico is an eco-wasteland, awash in the detritus of hundreds of Deepwater Horizon type disasters as we futilely drill for the last drop.

I’m sorry. All that sturm und drang is just a scenario for a short story I never got around to writing in 1972. We are in the middle of an oil “disaster”, but it’s one brought on by abundance, not scarcity. “Saudi America” is now the largest producer of hydrocarbons in the world, and the worry is that since the production of oil now plays a larger role in our economy, its price decline will have a spillover effect and cause a recession.

Total Petro

As you can see from the chart below, the spread between investment grade debt and lower-rated high-yield energy debt – a measure of distress in the energy sector – has reached levels surpassing those of the 2008 financial crisis, affecting all high yield debt.

Hi-Yield Credit

With many smaller oil companies scrambling to restructure balance sheets and generate cash flow, this makes sense. What does not make sense, I believe, is the worry that these oil patch troubles will lead to a recession. Not too long ago, conventional wisdom said that every recession in history was caused by higher oil prices, and now that wisdom has been stood on its head! Brian Wesbury has opined that this fear is just another example of skittish investors looking for the next “black swan” event that will crash the stock market and the economy. ** One day it’s the PIGS, next it’s China, and now it’s oil.   Oil production is still a small part of the overall U.S. economy, and lower oil prices will have a positive effect in many areas such as chemical manufacturing and consumer spending. Though things “may be different this time,” all the large oil price declines in the past 30 years have been followed by strong stock market returns one year later.

WTI

Source: Hartford Funds

 

* Gary Snyder Interview 6/10/12

** Wesbury 101, Oil and Stocks, 1/26/16

 

The information contained in this report does not purport to be a complete description of the markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Any opinions are those of Don Harrison and are not necessarily those of RJFS or Raymond James. Expressions of opinion are as of this date and are subject to change without notice.

The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market.  Keep in mind that individuals cannot invest directly in any index. 

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