Rod Skyles: The Unconventional Economist
Stocks and Bonds (and Economy)
Friday has begun with stocks soaring after big earnings news from tech giants Microsoft and Alphabet (Google). Alphabet also announced board approval for a $70 billion stock buyback, which added fuel to the positive fire of the earnings surprise. Stock buybacks reduce the number of shares in the “float” (available to the public to buy and sell) and increases the stock held in the treasury of the company. Reduced supply especially when there is strong demand will almost always increase prices, in this case, the value of the stock. When companies such as Alphabet have large amounts of excess cash on hand, more than they can reasonably expand their enterprise with, there are two reasonable ways to reward investors with that cash, either through a dividend, stock buybacks, or both. I had a long-time reader ask the question if stock buybacks are always good, and the simple answer is that they are if they are paid for by excess cash the company holds. We have seen over the last several years companies borrow money to buy back stock, temporarily increasing the stock price, but ultimately bankrupting the company, offering examples of when stock buy backs are not a good thing.
Stocks were rocked on Thursday after a nice 2-day recovery from last week’s drop. The news that tanked the markets on Thursday was the US GDP growth number, which came in below the 2.4% estimate to settle at just 1.6% growth for the quarter. The disturbing thing about this and should be far more disturbing for investors than it has been, is the economy grew by roughly $109 billion over the quarter while the deficit spending of the US government was approximately $531 billion. So, GDP actually shrank by over $400 billion or about 5.7%, a more realistic view of the economy. At the same time, inflation using the altered current government formula was 3.5% in March, and if one used the official US government 1980 formula, it jumped back well above 10%. So, we have 10% inflation, and the real economy is shrinking by over 5%, in the old days that was called Stagflation.
Yet, I would not call for an all-out stock selloff, at least there is no good signal for that at this time. It is good to be cautious, and depending on your time horizon and risk tolerance, there are any number of ways to navigate the current situation. During times like this, commodity-based stocks tend to outperform as the underlying commodity prices tend to rise in dollar terms (gold and silver miners along with oil related companies come to mind) but tend to really correct once the tipping point of the economy is reached. It is good to look at the late 70’s and very early 1980’s for some direction here, as this was the last period of prolonged stagflation. Consumer staples have been struggling a bit but tend to hold their value better in tough times than most other stocks. And, of course with exceptions, the stocks that have gained the most are likely at the most risk, stocks such as all the big tech names, just look at the performance of the tech-heavy NASDAQ versus the S&P 500 during the bear market of 2000-03 for some guidance there.
As I continue to mention, in the long run, stocks tend to be the one asset class that outperforms inflation, but with stocks trading at historical highs, the risk of a correction remains significant. Commercial real estate, which has been in freefall for a few years now, maybe nearing a bottom or at least appears as if it is once again becoming affordable on a case-by-case basis. Continuing high rates may mean that the pain is not yet over however, so one would be wise to really do their homework (always advisable, but maybe more so right now) before putting money to work there (or anywhere for that matter). Here is an okay article with a good chart on the subject: https://www.imf.org/en/Blogs/Articles/2024/01/17/us-commercial-real-estate-remains-a-risk-despite-investor-hopes-for-soft-landing.
Stagflation is the worst of all worlds for an already battered bond market, as it means lower growth and higher inflation, pushing rates higher and prices lower. A slowing economy could help if the government wasn’t spending more than it was taking in. However, in good economic times they have been overspending, the spending won’t slow anytime soon, and the slower economy will bring in less money, making deficits soar even more, devaluing the dollar even more (inflation), adding fuel to the bond market fire we are already in. History may very well tell us the last 24 years of bad economic judgment by Congress and different Administrations destroyed the greatest economy the world has ever known. In the meantime, the environment for bonds appears dire, with no end in sight, even if we see some short bear-market rallies.
Entertainment, Sports, and Other Things
We haven’t touched on entertainment in a while, so thought it might be fun to add that to my sports section this week. I am going to start out, however, with a bit of a story that would be included in the “other things” category but might gently roll over into the entertainment portion as well. When I go to a nice restaurant where it is likely the only time I will visit, I will make sure to order something they are known for, obviously within what I like to eat (which is almost anything!). But if I am trying a new restaurant that I intend to put on my list of establishments I may wish to visit again, I have a trick I use, it is what I call the “hamburger test”. Depending on the type of eatery, I will order a cheeseburger (or something else simple and lower end on the menu), for if the wait staff and the kitchen attend to this minor order with care and quality, it has in the past always been a good sign that they both care about me as a customer and they pay attention to the little things. This normally equates to taking extra good care of the bigger things. Another example might be going to a tire store for a flat repair; if they fix it for free, and thank you for coming in, it is likely a good sign they will serve you wonderfully when you have a set of tires or rims you wish to buy. Try this little trick and let me know how it works!
On the entertainment front, it has been a while, so I will try to catch up, but will mostly summarize. There have been no real movie standouts lately for me, I would say the second installment of Dune was a big movie and worth seeing, but both watch the first one again before you go and maybe read a synopsis of the first movie as well to prepare you for the new one, which I give 4 out of 5 popcorn bags. I also recently went to Civil War, which was an homage to photojournalists with no real plot, and only some off scenes of war, I give this 1 ½ popcorn bags for no real background story and no discernable plot. On the series side, I have been enamored with the Chosen series, which does a decent job of portraying facts, and a wonderful job, for me at least, of filling in the blanks, if you understand it is a dramatic series and not an exact historical show, I give this 4 ½ popcorn bags. Shogun would also fit this similarly, a historical story from the well-researched book of the same name by author James Clavell, also 4 ½ stars. I LOVE history, as you will be able to tell by what I have been watching, the other two are “We Were the Lucky Ones” about a Jewish family in Poland in WW2, and
“Manhunt” the story of the assassination, investigation, and search for participants in the killing of Abraham Lincoln (mostly from the Edwin Stanton perspective). The first is still putting out episodes, but both have been just okay, maybe 2 ½ popcorn bags, as acting and writing have been not so great, but important stories that both address in a decent manner.
In golf, the ladies played their first major championship last weekend with the Chevron played in Houston for the 2nd consecutive year. Much like the Masters for the men, the undisputed current number one player, Nelly Korda, won the tournament, here 5th win in a row. Those of you who enjoy or understand golf, winning two tournaments in a row is very difficult, but 5 in a row? Just wow! Over the same weekend, men’s number one Scottie Scheffler won his second straight tournament, winning the RBC Heritage at Harbor Town. It was Scheffler’s 4th win in 5 attempts, with the remaining event a playoff loss or he would have joined Ms. Korda with 5 in a row. I don’t remember a time when both the men’s and women’s game had such dominate performers at the same time, but it is wonderful for the game of golf. For the record, Scheffler’s golf swing is unique and for me at least, hard to watch, whereas Nelly’s swing is classical and one of the best in the game, both for women and men. And both players appear to be wonderful people, which makes cheering for them even more fun. It is setting up to be a great major golf season over the next few months, excited to see how things play out.
The NFL draft got underway Thursday night, and the pick that everyone seemed shocked by was the Atlanta Falcon pick of Michael Penix Jr. at number 8, when they had just signed franchise QB Kirk Cousins to a massive contract ($100 million guaranteed). Unless they plan to trade Penix, who I personally believe was the best QB prospect in the draft, this pick makes zero sense. While Cousins had surgery on his Achilles in November, modern techniques have made this surgery far more successful than it used to be and picking an insurance policy QB in the first round, let alone top 10, makes little sense. It did provide cover for Denver, who picked Bo Nix at number 12, a gift to what was more likely a second round QB. Still, I think the Denver pick makes more sense to me than the Atlanta pick, Denver is desperate for a quarterback and Nix has potential, they just likely overpaid by a good amount to get him. This was a year when offense won out in the first round, as 23 of the first 32 picks went to players on that side of the ball, with QB’s dominating the first 12 picks (first 3 picks and 6 of first 12). I am sure the fireworks and second guessing are not done, and the next 6 rounds will provide even more drama for NFL fans.
Quote
“To bring about change, you must not be afraid to take the first step. We will fail when we fail to try.” — Rosa Parks
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Rod Skyles 