Part of me thinks every time I write a letter, the world outside seems more on edge. The status of a trade deal with China. Dire conditions in Puerto Rico and Venezuela. Impeachment politics. And so many more events. Positive and negative. Part of me thinks this is just the new normal, or, that we’re just aware of more news because technology makes the delivery mechanism more efficient. While I try to focus on the macroeconomy and filter out other stories that aren’t investment related, sometimes you can’t help but hear what you don’t want to hear.
So, as raw as it may seem on the front page of your favorite news site or paper, the good news in the investment world is that stocks and bonds are having a strong year. The S&P 500 is up a little over 20%, and bonds are up a little over 8%. I don’t really have any bad news.
In my last letter, I mentioned stocks might be due for a pullback but that things would be okay. And, that the Fed was going to cut rates, and that that would make the yield curve less flat. Both of those played out. As a result of lower short term rates, the banks are doing a little better, because they can borrow at cheaper short term rates and lend at somewhat higher long term rates and earn a little more money. Profitable banks are a good thing - they’ll lend more money out and help grow the economy.
Speaking of indebtedness - our government is doing an excellent job of spending our money. So much so, that the fiscal 2019 deficit was $1T. Total public federal debt is now up to $22T. So in one year, we added a little less than 5% to the debt, the same debt that Hamilton started when he persuaded the states in 1791 to merge their debts into one federal debt of $80 million. In that same year (Sep. 30 2018 - Sep. 30 2019) our GDP grew 2%, according to bea.gov. (Our annual GDP by the way is $19T. It used to be a thing that our
debt wasn’t as large as our economy. Not anymore.) The 2019 federal budget was about $4.4T. Tax revenues were about $3.41T. So by my math, that trillion dollars that we love when it benefits us and at the same time extol how it’s a bad thing, if we balanced the budget overnight, would take our 2% GDP growth and turn it into about -3% GDP. But that’s not going to happen, because “the system” isn’t going to drastically raise taxes or cut spending. But some day, the size of the debt will matter. Treasury bond holders will question our government’s ability to honor repayment, they’ll sell their bonds, raising rates, or the government will print money in order to pay off the bonds, raising price levels (which should result in higher rates).
Right now, I’m hearing good things from companies. They’re confident about intermediate term earnings. The stock market is at new highs. It doesn’t smell trouble any time soon. Big industrial companies are doing well - the ones that are capital intensive and have long term
budget plans. Banks are doing well. Homes sales are solid. Consumer confidence is high and steady. Purchasing managers continue to see growth. I do see cracks in sub-prime lending, like loans on autos and student loans that are 90+ days past due. Those are rising, and can be good early indicators of credit (read: systemic) issues. So there isn’t an all clear. As usual, I have to put out there that all good business cycles come to an end, and we’re in overtime. But that doesn’t mean we can’t keep playing for a while.
Chip