The Joy of Growth
“Read narrowly, the results show that some survey data suggesting weak post-Thanksgiving Black Friday sales was misleading at best.” -- New York Times
No, this isn't going to be a victory lap about the National Retail Federation and its always-wrong forecasts about holiday retail sales (that annual chest-pounding comes in January). Rather, this is about the recent U.S. economic acceleration and what it might mean for the stock market, the Federal Reserve and bonds.
The combination of falling oil prices, increasing job availability and rising wages bodes well for retail sales. Perhaps more significantly, the economy is now showing unmistakable signs of acceleration. Following several years of subpar job creation, jobs are now being added at a robust pace. As we noted last week, the U.S. is adding an average of 241,000 jobs a month. That’s almost a 25 percent increase from 2013’s monthly average of 194,000.
Some of you will no doubt be compelled to note that any economic recovery is artificial, the result of the Fed’s bond-buying program of quantitative easing and its zero interest-rate policy. To which I say, you are in part right. But I am equally compelled to point out that many of these are the same folks who have been loudly complaining that QE and ZIRP weren't working. Well, which is it? Is QE impotent or does it generate growth, albeit it artificial? Critics of the Fed can't have it both ways.
Regardless, investors may want to consider the ramifications of accelerating economic growth:
No. 1. Economic activity is uncorrelated with the stock market.
Let’s not confuse the economy with the market or vice-versa. My favorite example is the stock-market rebound after the 2008-09 collapse. The lows were reached in March 2009 and the recession officially ended three months later in June. But the end of the recession wasn't officially announced until September 2010 by the National Bureau of Economic Research. Traders who waited until June 2009 missed a 40 percent rise in the Standard & Poor's 500 Index; those who waited for the announcement missed out on a gain of as much as 70 percent. The lay investor rarely understands this lack of correlation. But to the professional, those are the sorts of disasters that can become career-enders.
No. 2. An accelerating economy implies that equity valuations may not be excessive.
One of the biggest threats to this bull market has been the increasing valuations of domestic equities. By many measures, stocks are fully valued; by Robert Shiller’s cyclically adjusted price-earnings yardstick, or CAPE, they are significantly overvalued.
The recent uptick in the economy could just be noise. It might merely be data coming in at the high end of its normal range, perhaps only to revert to a slower mean next month. That would suggest an ongoing, sluggish, subpar recovery.
However, if this recent economic acceleration continues -- if jobs become more plentiful, if wages increase, if sentiment recovers -- we might be in the early stages of a virtuous cycle. That would support the people in the secular bull-market camp, such as Jeff Saut of Raymond James, Market Technicians Association founder Ralph Acampora and Birinyi Associates's Laszlo Birinyi.
That is potentially very supportive for maintaining or even increasing the record levels of corporate profits. It would be particularly helpful to the smaller companies that don't have a lot of international exposure. Since their scorching 2013 gains, small-cap stocks have been expensive and they have lagged behind the broader market this year. Stronger economic growth might help justify their valuations.
No. 3. The impact on bonds as the Fed ends QE and ZIRP.
Right now, we have a very interesting and perplexing dichotomy: The Fed has made it clear it is ending QE, but the world’s bond markets keep pushing rates lower.
However, that doesn't mean that rates won't be raised during the next few years. This might occur in a staggered fashion, with the U.S. leading. Japan is at least two or three years away from raising rates, while Europe probably won't raise rates before 2016.
The central bankers of the world are out of synch with each other. If the U.S. economy continues to accelerate, this disparity may become even more pronounced. How that plays out could be the big question facing central bankers in 2015.
The markets are digesting an array of developments, ranging from slowing growth in China to the unraveling of OPEC. To my mind, the most significant question heading into 2015 is whether this pickup in the economy is real and sustainable. If it is, the dynamics for stocks, bonds and central bankers changes a lot -- and all for the better.
This column does not necessarily reflect the opinion of Bloomberg View's editorial board or Bloomberg LP, its owners and investors.
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