Weekly Update: I'm Team USA!

12-09-2016

 

Just weeks before Christmas, and I had to get some big meetings in this week. Starting in Dallas, where at both a client event (disbelief that the unemployment rate is really as low as the government says) and an advisor meeting (one thinks corporate tax cuts won’t work and another believes lots of money is trapped in China which won’t allow repatriation money to be released), I encountered people dubious about this rally. One advisor yelled “No” when I said, “Does trickle-down economics work?” Off next to Boston, where the congenial group didn’t quiz me much on our controlled bullish outlook. I finished the week in Lancaster, speaking before 650 at their Chamber Forecast Breakfast. For this, my largest meeting of the year, I carefully plan my outfit and my shoes (obviously). I was showing them off to my host and he remarked, "Yes, those shoes are pretty good." Pretty good? Excuse me, these are my fabulous red velvet Jimmy Choo’s! I showed them to the audience—they were much more appreciative. My host wondered whether I'm bullish heading into 2017. I said yes, but he is "scared." Why? The debt...."He's not going to touch entitlements!" Bingo! Unless an endogenous or exogenous shock jolts the market—neither this week’s European Central Bank decision to extend quantitative easing at a slower pace nor next week’s likely Fed hike qualify as such—the underlying upward trend should continue, as there’s ample cash on the sidelines that investors can plow into stocks, FBN Securities says. Much of the improving sentiment relates to expected fiscal stimulus—tax cuts, infrastructure, etc.—that’s helping drive a risk-on rotation into value, cyclical and high-beta stocks. Potential bugaboos include 2 secular challenges: an aging population and tepid productivity, the latter of which has the Congressional Budget Office predicting 2% GDP growth for the foreseeable future. Near-term headwinds include a strengthening dollar and rising yields. JPMorgan estimates each 1% increase in the dollar equates to a 0.5% drag on S&P 500 earnings-per-share and each 100 basis-point rise in yields is a 1.5% drag.

After the worst recovery since the Great Depression—it took 8½ years for real personal income to return to December 2007’s peak—the market’s near obsession with the pro-growth Trump/Ryan fiscal/regulatory agenda may be understandable. But Carrier, the Taiwan phone call and other recent events suggest investors may want to give more consideration to a Trump presidency’s trade and foreign policy implications. The same holds for potential disruption among workers whose jobs are evaporating to technological innovation. Amazon this week introduced a checkout-free store where an app automatically deducts a shopper’s purchases when taken from the shelf. McDonald’s unveiled self-service kiosks. And Uber is testing driverless cars. All of this may mark the beginning of a new wave of productivity growth for services, helping to keep a lid on wage and price inflation. But it comes with likely pushback from the legions of workers whose livelihoods are at stake. Thousands of such workers held a “national day of disruption” protest in 340 cities on Nov. 29, part of a “Fight for $15” campaign seeking a national minimum wage of $15 an hour. While the real wages of these low- and unskilled workers have stagnated over the past 30 years, the premium earned by Americans with 4-year college degrees has more than tripled, according to a study by the University of Chicago’s Kevin Murphy and Robert Topel. The challenge, former Senate Banking Chairman Phil Gramm and US Policy Metrics partner Michael Solon wrote recently in the Wall Street Journal, is to help these workers understand their wages are stagnant not because we have too few taxes and international trade restrictions, but because we have too many taxes and restrictions on domestic trade.

There is a problem in post-manufacturing, small-town America, but winding back the clock is not an option, the pair wrote. Indeed, while the 1950s and 1960s are viewed as the Golden Age of American manufacturing, that era was an incredibly anomalous period—the product of a global war that left Europe and Asia in ruins and 50 million dead. Tax and regulatory reform might at least get businesses investing again, giving displaced and low-skilled workers the tools to raise their productivity and potential wages. Gramm and Solon believe this is the best and only help these Americans are likely to get from their government. While the media has many theories regarding the meaning of this global movement from socialist-leaning to conservative-leaning leaders, from an economic perspective it is simple: fiscal policy has been nonexistent or hasn’t worked, leaving a malaise hovering over the U.S. and Europe for the last 8 years. What the next 4 to 8 years will bring is uncertain, but it will be different, as President-elect Trump has made clear. In a major speech last April, Trump said his foreign policy “will always put the interests of the American people, and American security, above all else. That will be the foundation of every decision that I will make. America First will be the major and overriding theme of my administration.” As of Dec. 2, the post-election rally had lifted the value of U.S. stocks to nearly $25.2 trillion, 40.1% of global market capitalization and close to its highest level since 2006. I’m Team USA! The theme of Trump’s administration is in line with what I’ve been saying for years—no POTUS-elect tweets coming my way!

Positives

Global Recession Watch The global composite PMI held at an 11-month high in November and at level consistent with robust 3.8% annual GDP growth. New orders accelerated to their highest level in a year, suggesting continued improvement in coming months. This strength suggests an improving global economic environment in 2017, with an expanding manufacturing component adding credence to a global cyclical uptrend. In the U.S., the post-election surge in optimism continues, with this morning’s read on Michigan consumer sentiment jumping to near its highest level in a dozen years.

‘Trump Bump’ The Duke University/CFO Magazine Business Outlook Survey jumped to the most in nearly 5 years to its highest level since Q1 2007. The report characterized the large increase as a "Trump Bump," reflecting higher optimism for business-friendly policies, including regulatory and corporate tax reforms. Nearly a fifth of respondents said these expectations have led to increased hiring and business spending plans for next year.

Services surge The ISM non-manufacturing index rebounded in November to a one-year high and a level historically consistent with above-trend economic expansion. Combined with the increase in the ISM manufacturing index, the economy appears to have gained momentum and is headed to a strong finish for the year. Markit’s separate gauge slipped a notch off its preliminary November read but was still robust, with new orders accelerating at their fastest pace in a year.

Negatives

Sluggish workforce Revised Q3 nonfarm productivity remained unchanged, up only 0.6% on a year-over-year (y/y) trend basis, near its slowest pace since 1983. Combined with meager labor force growth, which is dominated by demographics, weak productivity threatens to hold back potential GDP growth even as it raises the threat of higher inflation that could come with increased fiscal stimulus under a Trump White House.

Trade’s a drag October’s trade deficit widened the most in 1½ years to a 4-month high, making net exports a likely negative for real Q4 GDP growth. Exports fell the most in 9 months, led by food and consumer goods, but were still up on a y/y basis while imports were down, implying a trend toward a narrower trade gap heading into 2017.

Still waiting on capex Despite October’s big increase in factory orders that lifted the y/y trend into positive territory for the first time in 2 years, y/y core business orders were off 3.8% as demand for capital expenditures (capex) remained weak. As indicated by the CFO survey above, the hope is tax cuts and other reforms under Trump will unleash more investment by companies, boosting a key missing ingredient in the current recovery.

What else

GOP sweep implications The Obamacare legislation Congress passed this year delayed actual repeal but immediately does away with all of its tax increases. The crown jewel is repeal of the 3.8% tax on investment income, which equates to a 16% tax cut on capital gains and dividends. In total, eliminating all of the Affordable Care Act’s tax increases calculates to the equivalent of $65 billion in fiscal stimulus for the economy in 2017.

GOP sweep implications Trump’s the first Republican president since Eisenhower to enter office with a full GOP Congress, and Cohen & Company cannot overstate how much this has changed the Washington dynamic. If personnel is policy, the best indicator of Trump’s governing priorities are his Cabinet picks, all of whom have been fairly standard with a few noted exceptions that clearly have a pro-business bent. As for Capitol Hill, its top 5 priorities are Obamacare repeal/replace, infrastructure, immigration, trade and taxes.

Shoes are nonpartisan After showing my shoes to the audience this week in Boston—somehow comes up a lot in my speeches—an advisor stopped me on the way out to tell me a shoe story. His liberal friend was with her liberal lady friends and they all removed their beautiful yet painful shoes. His friend forgot that she was wearing her Ivanka pair, purchased from the discount rack, and received the wrath of her friends when they noticed the brand! She loves those shoes and won’t be returning them.