I also want to humbly acknowledge that the long Treasuries call was wrong. Upon reflection, and especially after the time spent this Summer at the Levy Institute, I’ve realized that I still had some “loanable funds” theory that had to shaken out of me. I assumed that Treasuries traded based on some sort of market-driven supply/demand dynamic. I was thinking in a framework of fixed money supply, so as recession risks rose, I anticipated investors and institutions to pile into Treasuries. That’s not how it works. The Fed sets the short-term funding rate, and the forward curve gets priced based on where the market thinks the Fed will set the price in the future. The government is the monopolist; it sets the price. Predicting where rates will go is pure speculation, because the price is arbitrary. It’s a political decision, not one based on any economic fundamentals. It creates its own economic fundamentals. I believe this is part of the reason why Warren Mosler says we should eliminate Treasury issuance beyond the 3-month t-bill - anything further out on the curve induces unnecessary speculation.
In the fund I manage, I recently closed a small position in the iShares 20-year+ US Treasury ETF (NASDAQ: TLT).
UPDATE: the following was originally written a week earlier, when mega cap tech stocks were rolling over. Following the better-than-expected CPI results this past week, stock markets staged a massive rally.
Moving on…
With that out of the way, time for a small victory lap about the call earlier this year to avoid mega-cap tech such as Alphabet (NADSAQ: GOOG, GOOGL) and Meta Platforms (NASDAQ: META). Both stocks have underperformed the already abysmal performance of the NASDAQ this year. At the time of writing, the NASDAQ has returned -34%, while GOOGL has returned -40% and META a whopping -73% YTD.
With the stimulus gravy train coming to an end, and record tax collections causing a huge fiscal tightening, funding for start-ups dried up, along with their huge budgets for marketing rents paid to Google and Meta. Tim Cook’s decision to limit data-sharing on Apple’s iPhone added fuel to the fire. And Mark Zuckerberg, who was trained by Peter Thiel in tyrannical corporate management, has decided to light his company’s owner’s money on fire with an incredibly stupid new science fair project dubbed “The Metaverse.” What I think people don’t realize Zuck is that at the end of the day, he’s a weird, socially awkward computer nerd who would rather live in a virtual world where he calls the shots. His “value creation” is more akin to “value extraction” - stealing people’s attention for ad dollars. Facebook was successful because the government allowed it to corner the photo-sharing network market when it blessed the Instagram acquisition in 2012. By killing competition, Facebook was able to thrive. Whenever it tried to create something on its own - such as a digital currency, or a dating function - it flopped. Big time. We wrote about this earlier this year, and warned people about the time bomb sitting in their portfolios. Unfortunately, we don’t have the reach so we couldn’t make our case to the masses.
By the way - it’s entirely plausible that META and GOOGL are good buys here, at least in terms of forward economic returns. That doesn’t mean we can’t celebrate getting the call right at the beginning of the year ;).
Finally, a note on rate hike disinformation. This past week, the Fed’s GDPNow indicator showed yet another uptick in growth for the fourth quarter, currently running at 4%:
Why such a huge discrepancy between “Blue Chip consensus” and the Fed’s GDPNow? I believe it is due to misinformation about rate hikes. Rate hikes are widely accepted to represent a form of monetary “tightening.” This is a complete mischaracterization, as we’ve written about before. The government pays interest on debt, INCLUDING interest on the Fed’s reserve liabilities, by crediting bank accounts. This increases reserve balances, and expands the federal deficit. Increasing federal deficits means increasing income for the non-government sector. It is ostensibly expansionary, despite being referred to as “tightening.” Not only that, but due to the effect of compounding interest, each incremental dollar added to reserve balances itself creates more dollars because the government pays interest on reserves. It wouldn’t surprise me to see interest paid on by the government to approach $1 trillion by 2024 at this rate, which would represent about 4-5% of GDP. That is a LOT of free money going to people who already have it. Don’t expect a slowdown in luxury sales anytime soon.
Understandably, people are freaked out by the rapid rise in rates in terms of financing costs for things like auto loans and mortgages. Two things need to happen in order to make houses and cars more affordable in the short-term: prices come down (or at least stop going up), and people get raises. With unemployment at 3.7%, workers should be able to demand big raises at the end of this year. This is particularly true in industries with tight labor markets, such as real industry like mining, quarrying and oil & gas extraction:
Currently sitting at 0.9%! Workers in these industries need cars, and will have substantial bargaining power to increase wages. Higher incomes will be able to support higher cost of financing for vehicles. And domestic auto production is still below pre-COVID levels; as the chips shortage eases, I expect production to ramp to get back to historical averages, enabling dealers to build their inventories back up. The flood of supply should bring used car prices down, further easing the auto inflation experienced over the last couple years. So, higher incomes for workers + production ramp could lead to an auto credit boom in 2023/2024. I’m keeping a close eye on this, and have several names in my portfolio that I believe stand to benefit, including Cleveland Cliffs (NYSE: CLF), Ally Financial (NYSE: ALLY), and Open Lending Corp (NASDAQ: LPRO).
While recent layoffs in the tech sector grabs a lot of headlines, as pointed out in the FT’s Lex column (https://www.ft.com/content/5e839489-1c94-45f8-af61-1140dc4471d0) the people fired from these tech companies are likely to take their software engineering talents to other major corporations who need to beef up their technology departments. A redistribution of talent, if you will.
Getting back to the point though, the Fed raised rates which is making the cost of financing homes and vehicles to go higher. Workers have to demand higher wages in order to be able to afford purchases of those items. So the Fed is fueling the inflation it claims to be fighting! It is raising the term structure of prices, and providing the income to support higher prices.
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