Everything this week led up to the Fed’s presentation at Jackson Hole this morning. From the tremendous market response, I think it’s safe to say investors are happy with what the bankers who pull the economy’s strings had to say.
They didn’t really say anything new. Recovery from the COVID recession has been heroic. If hiring continues at this pace, the Fed will feel free to stop pouring quite so much money into the credit markets before the end of the year.
Again, not news. We knew the days of free money wouldn’t last forever. But the real headline needed saying again, even though we all knew on an intuitive level that it was coming.
And it’s a good thing. Fed Chair Jay Powell reminded us today that they’re going to err on the side of caution. Monetary policy will not tighten until the labor market has fully recovered and several million people who lost their jobs in the pandemic can get back to work.
Only at that point will the Fed even think about getting tough about an economy that’s once again strong enough to bear the weight without caving in again. As Powell admitted, rushing the process would be “a mistake.”
In my decades on Wall Street, I’ve learned a lot of things. One of them is that the Fed never makes the same mistake twice.
They learned from the 2008 crash. It scared them. They are never going to let that happen again. And once in awhile, we need to be reminded of that.
Saying It Out Loud
At heart, investors are still like kids. In the absence of clear confirmation of the facts from time to time, we’ll speculate wildly and often end up scaring ourselves with all the hypotheticals that can sprout around the truth.
That’s why earnings reports only give us three months of doubt between moments of clarity. The companies rarely tell us much that our models didn’t already predict. We’ve got a pretty good sense of where the cash is flowing . . . but we need to be sure there aren’t any surprises lurking behind the numbers.
And that’s what the Fed did today and why the market cheered. They confirmed that haven’t gotten stupid in the last few months. They remain as sharp as ever, dedicated to not making the same mistake twice in a generation.
When the market obsesses over coming up with scary hypotheticals, that blast of firm reality feels great. Of course the dreaded “taper” won’t come until we can handle it. Until we can handle it, the taper won’t come.
It’s really that simple. Furthermore, Powell reminded us that the road to relaxed Fed stimulus is not a death sentence. We aren’t walking the plank to an economic apocalypse here.
Picking up the fragments of a recession is a process of progress. Conditions get better along the way. The future looks better than the past.
That’s why we invest, right? Behind all the chatter and overthinking, people trying to psych themselves up or psych out their rivals . . . we want to see that our companies will be stronger in a year or a decade than they are now.
Otherwise, we’re just shuffling money back and forth and hoping the casino will pay out before we run out of cash. That’s not investing. Investing requires conviction and patience.
Patience, in turn, occasionally requires confirmation that our assumptions aren’t going off track. Our assumptions were what I’d call “cautiously optimistic” or maybe even “rationally exuberant.”
Evidently the Fed feels the same way. From what the central bankers can see (and they see it all), things look pretty good. They just need to get a little better in order to achieve what Powell calls “liftoff,” when stimulus can go away and interest rates can get back to normal.
No Immediate Taper Means No Immediate Threat
So that’s where we are. Record Fed stimulus and record corporate earnings translate into record-breaking stock prices and abnormally stretched stock valuations.
But believe it or not, as the pandemic recedes, companies are putting the Fed’s money to work building their businesses. This isn’t a hollow recovery where executives gut their operations in order to force the numbers in the right direction.
In that scenario, profit would artificially increase but margins would suffer. Revenue generally goes down or stagnates when that’s the game plan.
Some sectors are following that pattern. Others aren’t.
We aren’t in oil, for example, because the energy sector as a whole remains a zero-sum circle. It’s going to take those companies until 2023 to recover all the ground they lost last year and get back to where they were in terms of fundamentals.
That’s starting to look like a lost era. It just isn’t worth it, unless you’re willing to commit several years to your positions. (And if you’re that kind of investor, you don’t need help maintaining your conviction . . . the last few years have tested the nerve of many!)
But on a sector basis, last year was surprisingly benign, all things considered. Yes, there were extreme losers like mall retail and the cruise lines, which effectively shut down and remain a little tentative.
These are the companies the Fed remains worried about. However, there were big winners as well. On the whole, consumer discretionary companies are on track to boost their revenue a stunning 35% from 2019 levels by the time 2022 winds to a close.
That’s huge. Admittedly, you need to pick your spots (Amazon) but if you’re worried about the consumer, all you need to do is digest that number.
Then there’s conventional technology. Revenue is up 30% over the same period. Huge.
Parts of the economy are growing extremely fast. Others are stalled. Does that remind you of anything?
Before the pandemic, parts of the economy were growing extremely fast. Tech was everything and online retail was taking over the world. Traditional retail was struggling.
That basic proposition created trillion-dollar giants. And the dynamics will continue after the pandemic is only a memory. You just have to make sure you’re in the right stocks.
That’s what we do.