We remain baffled by many participants generally sanguine view of economic growth. We think investors are allowing some of the employment-related data to lead them astray. For instance, numerous economists look at the jobless claims data, which is at historically low levels, without realizing that there has been a gigantic drop in the number of workers who are even eligible to file unemployment claims in recent years. So it’s no wonder the weekly data is near 40-year lows.
Another common mistake is assuming that the new jobs of today are of the same quality as jobs that were lost in the recession. They are not. They pay less and are more likely to be part-time. Besides, all of those new waiter and bartender gigs that have been reported the last few years may be coming to a screeching halt as it looks like the restaurant industry has entered a very rough stretch that even the media cannot ignore now.
A lot of guesswork goes into monthly employment reports. Another cause of confusion is that employment models contain assumptions that new businesses are being formed at historical rates. They are not. That leads to bad inputs about new job creation from small businesses and puts a big upward bias on payroll growth. All of these issues and more help explain why worker productivity data is at such low levels and why growth and wages are so badly lagging the expectations of the central bankers.
One of numerous major issues may be the catalyst for increased risk aversion. The big picture problem is that the world has entirely too much debt. The substitution of debt growth for the terrible growth of real incomes being perpetrated by the deciders has rapidly run into a brick wall. We refer you to past letters in which we discuss more specific problems including European bank capital shortfalls, rising credit defaults in China, or Japanese policy failures to name a few. Any or all may lead to a crisis of confidence.
History suggests that waiting for such a crisis to appear is a poor substitute for an investment approach based on valuations. The first serious worries about the U.S. housing market surfaced in 2006-07 with many proclaiming that the issue was fully discounted when it obviously had not been based on the 2008-09 market catastrophe. We wish we had a nickel from everyone who told us “housing prices never go down,” “subprime was just a small part of the mortgage market,” or the “Fed has your back” in an effort to justify paying the sky high valuations of the last cycle. Believe it or not, the median valuation was lower then. Our only point is that the common wisdom or ubiquitous adages are not insurance against owning completely overvalued securities.
The PhD’s have gone too far with no clear benefits for the masses and they are losing political support as a result. They seem desperate and in extreme denial about policy failures. We also see more strategists at the major brokerage houses warning about the high valuations of equities. That seems a bit strange, but so does watching bottom-up equity analysts casually put “buy” ratings on cyclical stocks at 17-20 times peak earnings even when company managements sound downbeat.
The views expressed on this blog are the opinions of the authors. This information is not intended as investment advice or to recommend the purchase or sale of securities. More information on Strategic Balance, LLC may be obtained by contacting investor relations.