From the latest Weekend Notes by One River Asset Management
“I got money managers asking what happens if we wake one day and he’s gone?” bellowed Biggie Too in baritone. “But my DC peeps say only Colonel Sanders can stop a 2nd term for Trump.”
You see, the secret service can’t stop the fried chicken assault, raining down by the bucket load, shock-and-artery-awe. “The world’s 500 greatest companies jump and dive on every contradictory tweet, exasperating anyone with a brain,” barked Biggie, chief global strategist for one of Wall Street’s too big to fail affairs.
“And my CEOs all quietly pray we just trade sideways for 2yrs, dodging stray bullets, compressing multiples,” whispered Too, breaking into a slow groove, smiling. “But nobody gets what they want. Not in this game.”
“Humans are underrated,” said Elon Musk, having overrated capital. “Excessive automation at Tesla was a mistake. To be precise, my mistake,” he admitted, owning it, then sped off in search of more humans. Lots more. Too bad for Elon that unemployment is just 4.1%. “We didn’t do enough to prevent these tools from being used for harm. That goes for fake news, foreign interference in elections and hate speech, as well as developers and data privacy,” admitted Mark Zuckerberg. “It was my mistake, and I’m sorry. I started Facebook, I run it, and I’m responsible for what happens here,” he said, promising to hire another 5,000 humans to review the data river flowing through Facebook servers.
That’ll take Zuckerberg’s bleary-eyed censor squad to 20,000, a first step in that thousand-mile march to higher costs and lower profit margins. Looks like we need humans after all. Is it because we’re legitimately needed? Or that we change regulations to make sure we’re needed? Or maybe humans have this mysterious ability to simultaneously make ourselves obsolete in the old and indispensable in the new? Could be a bit of all three.
But the future always seems to magically find a way to tackle today’s biggest problem. Take mass unemployment, which is often tackled by war. Or excessive debt, which leads to inflation/default. Or political desperation/division, which leads to both war and inflation.
But it’s not all grim, after all, war leads to peace. And debt default leads to economic renaissance. Of course, today’s greatest problem is inequality, which leads to populism. And populism can itself be a real problem, which eventually leads to greater equality, sometimes through war, or taxation.
But the best way to restore greater equality is through a peaceful re-division of the economic pie; lower profits for overrated capital, and higher wages for underrated workers.
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Dead Greeks: “The US economy can’t grow more than 2% a year,” said the CIO. “Yet pensions need to compound at 7.5%.” I nodded. “There’s really only one way to do that.” Leverage. “You see it everywhere.” Share buybacks with borrowed money is leverage, and of course, that’s been the largest source of stock market buying for many years. Private equity funds are also simply leveraged equity portfolios. Tax cuts financed with treasury issuance is leverage. “Archimedes said, give me a lever long enough, and a place to stand, and I can move the world.”
Dead Greeks II: “Of course leverage requires borrowed money,” continued the same CIO. “And this is what makes it so difficult for the Fed to raise rates.” In a leveraged economy, asset prices are by definition elevated relative to where they would otherwise trade; higher interest rates lower their value, unless new buyers are willing to apply even more leverage. “Rate hikes tend to trash equity prices, and when the stock of a leveraged company falls they got problems.” So they shed workers. “That’s why interest rates have hit lower highs and lower lows for decades.”
Dead Greeks III: “But there’s another lever that few people recognize,” he continued. “States must run balanced budgets.” When the economy is good they can spend more, and when it’s bad, they spend less; that’s the definition of procyclical. “But they have deeply underfunded pensions (another form of leverage), and those pensions own equities.” So when the economy slows, States must reduce spending, but they must also commit more to their pensions. “This dynamic creates a huge fiscal tightening, and makes the economy that much more levered to asset prices.”
* * *
What’s Up: “We have this global synchronized recovery, massive tax cuts, rising budgets, hurricane rebuilding projects, and record corporate profits,” he said. “We have $70 oil, record low unemployment in the US, Germany and Japan.” I nodded. “We have the 2nd longest economic expansion and one of history’s greatest bull markets in US stocks.” Indeed, it’s true, if America avoids a recession for another year, it’ll be the longest expansion since before the Civil War. “Inflation is rising, core, headline.” Yup. “So why can’t 10yr bond yields surpass 3%?”
* * *
Anecdote: “Remember that bad oyster?” I asked. He groaned, it was years ago. “You know there’s no pretty way to deal with food poisoning. You got two options, both awful,” I continued. He agreed. We were talking politics, policy, our President.
My brother is a scientist, entrepreneur. The greatest threat his company faces is that the Chinese steal his technology. Because that’s what they do. Sounds ugly, but if there’s an American doing business in China who disagrees, then he’s the exception that proves the rule. And sure, it’s been good for humanity. Their intellectual property theft helped lift a billion hard-working Chinese out of poverty. But they’re now eclipsing us in numerous scientific pursuits. It’s an acute problem that needs to be solved. Even so, my buddy expressed deep angst over the way we’re confronting the Chinese.
“We should address intellectual property theft in a coordinated, dispassionate way alongside the rest of the developed world,” he said, pained, probably a stomach cramp. “And we obviously need deregulation, but his attack on the environment is a crime,” he cried, sweat appearing on his forehead.
“I even admit that Obamacare costs were skyrocketing, but to cut healthcare for 20mm people is disgusting.” He was turning green.
I asked about corporate tax rates? “They had to come down, but borrowing $1.5trln from our children to give the wealthy a tax cut was immoral,” he spewed, drooling slightly, revolted.
I smiled, “There’s no pretty way to deal with food poisoning. You want to die, then just like that you’re basically fine, as are all the oysters you’ll never eat again. After decades of political and economic mismanagement, maybe that’s what we’ve got. Food poisoning. And sure, we’d love to believe we can deal with it in a dignified way, but let’s just be honest, food poisoning robs us all of our dignity.”
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