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Evergreen - GaveKal, EVA, Friday, January
18, 2019
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This is the weekly GaveKal report from
Friday, January 18, 2019 and one of a series of such reports focused on the
'Bubble 3.0'. The others in this series are listed below. The GaveKal EVA
reports are available by subscription from Evergreen and are provided in PDF as
well as email format. In my summary I will insert my own comments about the
text but of course I can only mention the highlights and hope you will study
the full reports. This is titled Part II, Part I was published on January 11th
and should be read with this one. My comment is linked below.
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Mr. Hay begins by noting that the surprise
election of the outsider, Donald Trump, "radically changed conditions
overnight". The election and his tax policies rejuvenated the stagnant
market which soon began "discounting a 20% rise in profits", which in
tern led to a "21.8% annual return". But 2018 witnessed a reversal
and market decline as the Fed began raising interest rates. The declines were
not limited to the U.S. But in the U.S. the housing market and auto sales were
declining. There was a recovery in September, but there were more warning
signs. Our author notes that he was not the only one who was "questioning
the wisdom of the budget busting Trump-engineered corporate tax cut." (1)
He numbers Lacy Hunt in that category. Although the official data showed a
federal budget deficit of $800 billion, Mr. Hunt calculates that the real
deficit was near $1.3 trillion. The difference, as usual, was the 'creative
budget methods by which Congress claims that some expenses are 'off budget'.
(This is the method that President Clinton's fans can still claim that there
was a surplus during two of his years in office.)
Mr. Hay continues, "Validating his view the government sold approximately
$1.3 trillion in debt to finance itself. "And he cites Jeff Gundlach, who
commented that the deficit is running at "$1.3 trillion this fiscal year
and might end up at $2 trillion..
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He continues, "the synchronized
expansion aspect quickly faded as one nation after another started reporting
disappointing growth numbers". He notes that housing prices began to
decline. (And now we see also declines in new home sales). Likewise auto sales
were declining. (And now we see closure of auto manufacturing plants.) He
continues with more examples of underlying market weakness throughout 2018. His
assessment: these were "classic warning signs the bull market might not
make it a record breaking 10 straight up years."
(Something he had hoped for in a previous EVA, and the result was that it did
NOT.)
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In the following paragraph he repeats the
view about the "budget busting Trump engineered corporate tax cut"
(1) Indeed, the official deficit for the ending fiscal year of 9/30/18 was
about $800 billion, Lacy Hunt writes $1.3 trillion. (But due to excessive
spending,) Trump actually did attempt to reduce spending.
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I agree with the author's assessment that
there are "shocking aspects to this". The inability of Congress to
stop exchanging real goods and services it finances in government taking by
issuing more and more credit via the banking system.
He rightly notes that this "means an 8% of GDP deficit is providing in
excess of 100% of the overall growth rate of around 5% (in nominal terms
meaning inflation). For emphasis, it's taking 8% deficits to produce 5%
growth!"
Exactly, what I have been arguing for ages, each added $1.00 of credit issue
can only create much less than a dollar of added economic activity generating
additional production. Most of it goes into increasing the nominal price of
financial assets.
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Mr. Hay turns to the failure of the separate
provision in taxation of assets held abroad to generate as much return as
expected and to then expand capital spending. Quite right, but why? Actually,
manufacturing has increased and unemployment has reached historic lows, so the
complex causes may be in, among other things, the great increase in
productivity (more for less investment) due to the various aspects of
automation and IT.
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He refers to David Rosenberg's comment, 'The
fiscal recklessness' ... in not 'ensuring the tax reform would be 'revenue
neutral'.
That is the typical demand of the tax and spend progressives. But what does a
'revenue neutral' federal budget actually mean? The government takes production
from the private sector and consumes it, and in exchange it creates money (of
two types, currency and credit) and gives that to the producers. Then it takes
back that same money, or a portion of it, by calling it a tax (instead of the
past term, tribute). A 'balanced budget - revenue neutral' means government
takes back 100% of what it previously provided. The 'welfare state' cannot
function with a 'balanced budget'.
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Our author next writes that this
"massive policy error" was responsible for the "last hurrah' of
the 'late, great bull market" and that we are already "in now a bear
market".
Well, I have been claiming that 'we' have been in a secular bear market since
circa 2000 with several cyclical bull markets generated by wild credit
expansion and that this latest cyclical change from bull to bear is due to the
slow down of sufficient credit expansion noted above, and another effort by
government banks to reduce over all liquidity. The author's identification of
the repeated "bubbles" are indeed the result or symptom of cyclical
credit expansion and curtailment. Since circa 2000 the central banks - at the
behest of welfare state governments - have been desperately fighting the
deflationary epoch so well predicted by Professor Fischer in - "The Great
Wave'.
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He very loquaciously uses such terms as
'incredible fiscal profligacy" "monetary incontinence"
"fiscal recklessness", "government stimulus run amok".
Excellent.
He correctly points out "I would be remiss if I didn't point out how the
concerted efforts of central banks to inflate the value of almost everything to
dangerous dimensions has fed the worldwide populist backlash." The 'value'
of almost everything is increased by the reduced 'value' of the metric by which
it is measured, namely money. But in a fundamentally deflationary epoch the
notional 'monetary measured' 'value of every thing historically (that is prior
to the creation of central banks) did decline. The populist backlash has been
generated because the population is smarter than the establishment elite
believes.
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He mentions the media phenomena known as AOC.
She is another example of the typical 'elite' being more ignorant than the
'common people' and of the fawning effort of a major establishment media outlet
to support establishment hegemony.
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Next we read, "To his point, 80% of
Americans live paycheck to paycheck and only 39% are able to cover a $1,000
unexpected expense out of savings."
First, how many Americans are instead living government supplied credit gift to
credit gift since they do not receive a paycheck, as a result of having
produced anything ?
Second, these above mentioned Americans are spending each week as if they were
receiving larger paychecks. Why are they not saving? Because government policy
and action, designed to increase dependency, discourages saving - both
preventing it by taxation and discouraging it by assuring government support.
Government wants and promotes consumption, not saving. (See Lord Keynes, for
instance).
Third, as Frank Trentmann so vividly demonstrates in his book, Empire of
Things: How we Became a World of Consumers, from the 15th Century to the
21st, Even the poorest citizens of the wealthy countries have become
immensely wealthy in comparison with their ancestry and they hold their wealth
in physical assets. (This is true to some extent also of the citizens of the
poorest countries). The 'wealty' 10% that AOC and others denounce hold much of
their 'assets' in the inflated financial paper that the central banks provide
them.
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Mr. Hay turns to the impact of the
"pseudo-prosperity produced by gargantuan fiscal and monetary
stimulus" on the housing market and the discouragement , if not
prevention, of personal mobility, that is the ability to pack up and move, due
to changes in housing prices.
So true, but the data he provides is misleading.
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First he writes: "Homeowners with very
low mortgage rates are understandably reluctant to pull up stakes and move if
their monthly payment is going to rise by 40% (measured from the trough in
mortgage rates to the recent peak)" Then, "'where the housing wealth
is highly concentrated in the hands of the older generations while the young
are largely priced out". ... And "the insanely low interest rates
created by hyperactive central banks played a massive role in this triumph of
inequity."
Lets' look at this. The 'low mortgage rates' of families 'reluctant' to move
were those 'insanely low interest rates' the central banks created. So
apparently these beneficiaries of the 'insanely low interest rates' are now
being thwarted by a very small return toward historically higher rates. And
those 'wealthy' older generation home owners DID pay very significantly Higher
mortgage rates than either what the younger generation received from the
'insane' banks or what they might pay now if buying another home. I don't feel
much sympathy. Plus, actually to a great extent the enormously high housing
prices in the leading places such as San Francisco and Silicon Valley are
related to the incredibly high incomes the younger generation computer whizzes
are receiving in those locations.
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Yes, as he notes, the monetary experiment has
encouraged companies to join the leverage game to take advantage of the low
interest rates they have been paying on selling debt - that is exchanging
credit for cash - which they then use to buy back corporate shares and pay
hidden option share price to executives. Someone will eventually pay the price
for this game.
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The author then rightly turns to the coming
disaster in corporate and govenment pension plans (and union plans as well). He
writes that, "It's my conviction that in the fullness of time we will
learn how much wealth was destroyed by these retirement plans as they
desperately seek to make up for the eradication of return on the crucial bond
side of their portfolios."
That 'fullness' is rapidly approaching. Conditions are indeed
"fragile". As I the author and I also note above the asset bubbles
have indeed been 'serial".
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Yes, many people, especially the young, are
"losing faith in capitalism".
But this is not so much due to the actual economic reality - even with the real
problems cited here - but due to their being taught that capitalism, and
actually the entire hegemonic, masculine dominated, white rule on which it is
based is immoral and must be overthrown. Yes, it is a "perverted
form" - accurately termed 'finance capitalism'. The current radical
progressive story about capitalism is just as erroneous and propagandistic as
was Marx's story in the 19th century.
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Mr. Hay notes his "high hopes that the
current Fed chairman, Jay Powell" would act to correct the situation. And
he has been disappointed.
Personally, I had no such hopes for two reasons. One, Powell's whole career and
millions of net worth, are due to his insider position in banking and even
hedge fund manipulation. He hardly wants to upset that gravy train. Second, the
professional cadre of Keynesian economists in the Fed. will do everything to
promote the establishment by monetary policy, just as the professional
government department cadre will do everything they can to prevent President
Trump from change in fiscal and executive branch regulation policy.
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He comments on and cites the always cogent
remarks of Danielle DeMartino Booth (required reading is her FEDUP and
my review of same) in which she exposed the real Jay Powell. No one knows more
about the real Fed, than she does.
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He provides some relevant graphs at this
point, which show the fallacy of Mr. Powell's assertions. And I should note
that there are enlightening graphs supplied throughout this and the other
EVA's.
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Interestingly, at this point Mr. Hay notes
that Evergreen has found some 'underpriced stocks' since the December
'decline'. But that there remain many that are still greatly over-priced. This
was written prior to January 18, so, since the market appreciation since then,
one must wonder if this is still so. Next, he notes that a "biggest
bubbles is in profit margins" which will impact "earnings per
share" which are also inflated.
Naturally, this is because all of these are calculated in the same false metric
- the 'value' of money itself.
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He informs the readers that Evergreen
considers the metric - Price to Sales ratio - more useful (reliable) than the
Price to Earnings ratio commonly cited by typical market analysts. That bit of
information, by itself, is worth reading all the EVA's to find actionable
recommendations.
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He next cites the January 12th Barron's Round
table, and its new member, Rupal Bhansali. I also was struck by her comments
and recommendations in both of the articles. One of her valuable points is that
just as there is 'fake news' today there also is 'fake earnings' reports. And,
she advises, 'the US has the worst corporate governance' of the 50 countries
she studies, when it comes to earnings reports.
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I have read books in which the authors,
professional accountants, claim that the entire structure of the US accounting
standards which corporate accountants must follow are antiquated and
drastically out dated because they do not include the real assets and
liabilities of companies now in the knowledge based and fundamentally
'disruptive' economy in which we live.
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Our perspicacious author concludes with an
enlighteing (in a perverse way) quotation from Pocahontas Warren, who actually
has the audacity to believe she should be President. She is fighting to avoid
being outflanked on the left by AOC and Beto. She is promoting her Accountable
Capitalism Act. An impossible to achieve pure example of public relations
gameswomanship.
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(1)
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I disagree with the common
notion, repeated here, that the reduction of the corporate tax Rate, was or is
'budget busting' actually total tax income has increased, as expected by
dynamic accounting, and as it did with the initial Reagan tax rate reductions.
Moreover, corporations do NOT pay taxes, all they do is collect the tax from
their employees, owners, and customers. The corporate tax should be Zero. The
budget deficit, as always, comes from excessive issue of credit in exchange for
government confiscation of private sector production. -
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The other GaveKal - EVA reports in this
series: Note that the dates indicate they were published from time to time, in
between Evergreen published its weekly reports on other subjects. They are all
available at the Evergreen on line archive
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Biggest Bubble ever - Feb. 9, 2018
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Bubble 3.0 How Central Banks Created the Next
Financial Crisis - April 27, 2018
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Bubble 3.0 How Did we Get Here Part I - June
1, 2018
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Bubble 3.0 How did we get Here Part II - June
8, 2018
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Bubble 3.0 A Fast and Furious Challenge -
July 6, 2018
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Bubble 3.0 Up from the Ashes - August 24,
2018
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Bubble 3.0 The Biggest Bubble Inside the
Biggest Bubble Ever - Sept 21, 1018
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Bubble 3.0 What Could Go Right _Oct 12, 2018
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Bubble 3.0 The Upside of Downside - Nov, 30,
2018
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Special Edition EVA, The Stealth Bear Market
- Dec 14, 2018
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What Price Prosperity? Part I, January 11,
2019
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What Price Prosperity? Part II, January 18,
2019
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