May 2

MARKETS AND STOCKS

Earnings are very strong.  Aggregate earnings reports have surpassed forecasts by over 20 percent.  Some major Wall Street houses anticipate 2021 earnings of $200 a share or higher for the S&P 500.  They are raising forecasts for 2022.  My end of summer forecast for the S&P 500 remains 4400, up about 5% from current levels.  Moreover, I am optimistic that the S&P will hit 4800 sometime in 2022.  The economy is on a roll. See below.  But there are hurdles. Inflation is rising, expectations about inflation are also increasing, Treasury yields will slowly increase and the tether of the yield on German sovereign debt will loosen as a robust economic recovery in Germany pushes German yields higher.  As the months pass, the market will also begin to fret about the twin deficits: the net fiscal deficit and the trade deficit.  And of course, from time to time the market will worry about politics.  Biden will get some tax increases, we just don’t know how much.

The US economy is very strong. Chicago’s manufacturing index for April hit the highest level since 1983.  Other regional surveys show very robust manufacturing growth. The housing sector is sold out, consumer spending is surging, and business is investing. 

Spending on cars and trucks is 15 percent higher than it would have been on the pre-pandemic trajectory.  Spending on household durables is 17 percent higher, and spending on residential goods is 26 percent higher.  Durable goods spending is running $349 billion higher, almost 2 percent of GDP, than it would have been had there been no pandemic. 

Residential investment is 14 percent above the pre-pandemic trend, and the residential sector is supply constrained.  There is a shortage of houses to sell, and lumber and other materials are in very short supply.  The surge in the price of lumber is adding $26,000 to the cost of an average new home. 

Business is doing its part. Business investment is up 10 percent, spending on information processing equipment is 23 percent higher than the pre-Covid trend, and investment in software is 7 percent higher. 

But there are shortfalls.  Spending on transportation services is 23 percent below pre-pandemic trends.  Recreation services are down 31 percent, and spending at hotels and restaurants is down 19 percent.  There is opportunity to make money in the reopening trade. Disney has treaded water for the last month or so.  Disneyland, California, opened on Friday.  Mickey Mouse is ready to roar.  Disney will report its quarterly earnings on May 13. 

On Friday the government released data on personal income, personal consumption, and the personal consumption price index.  Household income rose by a record 21 percent in March. That was the largest monthly increase since the government began to track income in 1959.  Spending increased 4.2 percent.  Economists expect spending to accelerate.  The personal savings rate is at an extraordinary level of 27.6 percent.  A typical savings rate would be about 8 percent.  The consumer has $2.5 trillion in spending power.  That is 12 percent of GDP.  But This is not as good as it gets.  That continues to be the bet.  Earnings growth will remain robust for several more quarters.  I am not going to play the market rotation game.  I am not going to sell winners when they report great numbers.  A winning investment strategy for US equities is to buy the winners and to sell the losers.  Buy companies with great fundamentals, good earnings, and charts that shows a rising trend.  Blow out your losers, dogs keep barking.

On the matter of inflation, core inflation as measured by the personal consumption expenditure price index is up 1.8 percent on an annual basis.

I own big technology.  As I receive cash, I am going to increase my exposure to Google, Apple and Microsoft.  Even though I am frustrated by the management style at Facebook, I am going to buy some Facebook.  And I will buy a little bit of Amazon even though its valuation makes me nervous.   

Digital advertising is surging.  First quarter reports will have included the surge in business seen in the US, the rest of the world will catch up in the quarters to come.  For example advertising revenue grew 49 percent at YouTube, the video arm of Alphabet. YouTube became the nation’s entertainment hub last year.  Its ad sales hit $6 billion in the quarter, only 16 percent less than Netflix generated in the March quarter.  As for Facebook, it touches at least 3.5 billion people each month.  Facebook is everywhere.  Microsoft will be the beneficiary of the hybrid economy of the post covid world.  People will buy Microsoft’s stay at home products, companies will buy business software, cloud computing services and a whole range of other digital tools.  Microsoft’s workplace collaboration tool, Teams, now has 145 million daily active users, many of them school children.  On Apple, I don’t think we are in the middle inning of the 5G cycle.  I think we are in the early innings.  5G is rolling out slowly in the US.  As 5G investment by US carriers increases, demand for Apple’s 5G phone will accelerate.  5G phones cost about 6 percent more than 4G phones.  The average retail price for a premium iPhone is $847.  As for Amazon the company now has 950,000 US employees.  One year ago, it had 500,000 employees.  Amazon pays its employees well.  The minimum wage at Amazon is $15 an hour and the company just announced wage increases of 50 cents to $3 an hour.  Mom and pop businesses can’t compete with Amazon.  Creative destruction is good for America.  Social utility says, ‘focus on what is best for the most.’

I want to reiterate that big technology does not need to worry about antitrust activity by the Biden Administration.  The Biden Administration cannot make law, it can only execute law.  And Congress will not reach consensus on new antitrust legislation.  The two political parties are too far apart.  Consumers benefit from big technology and that is what matters.  I like big tech.  I am not going to play the rotation game.  I am going to keep buying.  The fundamentals are outstanding, the growth prospects are bright and very visible, the valuations are not excessive.  30 times forward earnings is reasonable even if the yield on the ten year Treasury were to rise to 3 percent or slightly higher.  At the moment the yield on the ten year Treasury is under 1.7 percent. 

The big banks acted well last week.  Treasury yields are slowly rising and they will continue to rise.  As noted, the tether of negative rates in Germany is loosening. Loan demand will increase, the yield curve will steepen, trading activity will remain robust, and capital returns – share buybacks and dividends from the largest banks will resume in July. 

I like the big banks, I rank order the names: Goldman Sachs, Wells Fargo, Citibank, and Bank of America. 

The US economy is reopening.  Mickey Mouse is set to roar.  Pluto is saying bow-wow.  The CDC says cruise lines can resume sailing in July.  And around the globe, 90 new airline companies are going to begin to fly.  I know two things about airlines,  you need a pilot and you need a plane.  Only two companies make commercial airplanes. Boeing has a backlog of over 4,000 planes.  And I know that when air traffic is back to normal, GE will be supplying a lot of engines to both Boeing and Airbus.   

As an aside and on a slightly sombre tone, Doctor Scott Gottlieb believes that the Covid surge in India will soon begin to burn itself out, the prevalence of covid antibodies is approaching 50 percent of the population.  

I continue to like the cyclicals.  I was surprised that Caterpillar sold off on its fantastic earnings report.  Caterpillar is a winner, I am sticking with the name.  Biden won't get everything he wants, but he will get money for roads and bridges.  Moreover, Caterpillar will have the wind at its back from the global economic recovery. 

I like Deere.  Agricultural prices are at 8 year highs. They will go higher as the global economic recovery gathers pace.  And I like Emerson and Eaton, as plays on the electrification of the US economy. 

In the energy space I prefer the services companies to the production companies.  I am watching both the frac spread and also the rig count carefully.  Be that as it may, Diamondback reports Monday, I am excited. It will be interesting to see how the share price reacts to good news.

POLITICS

The Economist magazine says the most dangerous place on earth is the waters between China and Taiwan.  The Economist stays China’s growing military confidence puts Taiwan at risk.  Tom Friedman of the New York Times also is sounding the alarm on Taiwan.  My son Thomas has written an outstanding article that everyone should read. 

https://www.washingtonexaminer.com/opinion/how-to-fight-china-in-the-south-china-sea

The US military, with woefully inadequate resources, is trying to figure out how it can deter China.  Unfortunately, President Biden is focusing on more welfare and not on the security of the nation.   I do give Biden credit however, for canceling the wall along the southern border which was being built with diverted defense funds.  Former President Trump was wrong to divert money away from providing the US military with weapons in order to build his damn wall.  The solution to the border problem is located in the triangle countries, not on the Rio Grande.  Give Samantha Power the money and she will fix the problem. 

We have a crisis on the border but it is not an existential crisis.  The crisis in the littoral waters of China poses a clear and present danger to the integrity of the United States of America. 

SOCIOLOGY

The United States does not have a race problem.  The United States has a culture problem.  Democrats and progressives refuse to acknowledge truth.  The problem is the culture of poverty especially the Black culture of poverty.  In 1965 the out-of-wedlock birth rate was 25 percent among Blacks.  In 1991 it was 68 percent.  In 2011 it was 83 percent.  In New York City over 80 percent of births among Blacks and Hispanics are to unmarried mothers.  In 1965 Daniel Patrick Moynihan wrote the Moynihan report.  He said the destruction of the Black nuclear family structure caused by the War on Poverty would hinder future progress toward economic and political equality.  He was right.  The facts speak for themselves.  Why do Democrats and progressives deny facts?

A few days ago the New York Times got its knickers in a twist over admission rates for Black students to New York City’s elite public high schools.  Nowhere in the article did the NYT acknowledge that the out-of-wedlock birth rate for Asian Americans is around 5 percent and the out-of-wedlock birth rate for Blacks is over 80 percent.  The best predictor of a child’s future educational and economic success is the structure of the family unit.