This is what my old friend Peter Bennett used to call, sardonically, “A Triple-Oymygaad!”
Inflation is through the roof.
There’s an oil crisis. A looming food crisis. You name it.
War is raging in Europe.
Russia’s president is starting to sound unhinged. And headlines are now linking him with chemical weapons and nuclear weapons.
Ohmyhgaad- Ohmyhgaad- Ohmyhgaad!
Things are so bad that stories which would normally be front page news—like the waves of Covid cases and deaths, China locking down cities, and North Korea firing off long range missiles—barely rate a mention.
No wonder stocks have been tanking this year.
U.S. consumer confidence numbers are at lows only seen during the global financial crisis and crises of the 1970s. Indicators like the American Association of Individual Investors’ weekly sentiment survey, and the CNN Fear & Greed Index, show investors are at extreme levels of misery.
If you’re tempted to cash out the stock funds in your IRAs and 401(k)s and hide under your desk, you are not alone.
But before you do…listen to Jim Paulsen.
He’s the chief investment strategist at Midwestern money management firm Leuthold Group. And he recently gave a presentation to clients that could have been called—with apologies to the late Ian Dury—“reasons to be cheerful.”
In a nutshell, Paulsen argues: Things are not as bad as you think they are. He thinks the economy is in much better shape than the headlines would tell you. The stock market’s going to be headed back up, sooner rather than later. Oh, yes, and that there are good profit opportunities available to any individual investor.
Take it or leave it, but Leuthold is not your usual Wall Street bookie. The Midwestern firm is a pretty skeptical, feet-on-the-ground place. It even runs a “Grizzly Short Fund,” which bets on stock prices falling. They’re not usually mindless cheerleaders.
What’s Paulsen’s case? Here are his 3 key reasons to look on the bright side.
Everything is reopening
The big news of the moment, largely forgotten in the current panic from Eastern Europe news, is that the pandemic is over. Policy makers, and even the media, have finally come to accept that Covid isn’t going away but will have to be managed: It will be “endemic,” instead of a pandemic. Net result: The world is reopening. Businesses are starting up again. People are going to travel. They are going to shop. They are going to go out to restaurants.
Oh, and critically—the stores are going to have to restock their empty shelves, after two years of supply chain crisis. Inventories are at historic lows compared with gross domestic product, he points out. Business order backlogs are near 30-year highs. Furthermore, he adds, consumers are sitting on about $1.5 trillion in extra savings because they have spent less money over the past two years.
While the Atlanta Federal Reserve’s real-time GDP tracker shows first quarter growth tumbling, Paulsen points out the Citi U.S. Economic Surprise Index is surging upward. And it has a record of leading where GDP follows. Meanwhile, corporate earnings are looking extremely healthy and estimates have been revised upwards since the start of the year.
As for the humanitarian disaster unfolding in Ukraine due to the Russian invasion, the actual effects on the U.S. economy are likely to be smaller than the headlines would suggest, and temporary, Paulsen argues. And that’s true whether the war ends soon (let us hope), or it turns into a protracted stalemate.
Jobs! Jobs! Jobs!
The U.S. economy created 1.2 million new jobs just in the first two months of this year—a stunning achievement, and one achieved despite the lingering drag of the Omicron Covid outbreak. There is a lot of room still to grow. We’re still more than 2 million jobs below the pre-Covid peak, and Paulsen notes that after every recession since World War II the jobs market has risen to fresh highs—often much above the previous peak.
U.S. Labor Department numbers suggest the economy could generate another 7 million jobs just to get back in line with the growth trend seen just before the pandemic. Paulsen points out that the unemployment rate has plummeted in the 44 states with the smallest economies, but not yet in the “Big Six” that actually contain most of the jobs—namely California, New York, Texas, Illinois, Florida, and Pennsylvania.
Meanwhile, wages are booming. The Atlanta Federal Reserve’s proprietary “wage tracker” shows annual wage inflation skyrocketing to 5.8% — higher than at any time since at least the 1990s. But as Paulsen points out, most of this wage growth is among the lower-skilled and lower-paid, who are finally getting (slightly) better wages. So we’re hiring millions more workers and they have a lot more money to spend—especially those most likely to spend.
This brings us to the 800-pound cliché in the room, namely inflation. This is the current source of panic, and much talk about 1970s style “stagflation.” The official inflation rate hit a horrendous 7.9% in February, the highest in decades. Federal Reserve Chairman Jerome Powell is officially alarmed, and has stopped saying it is “transitory.” Paulsen says it’s probably the biggest risk right now. If the Fed doesn’t bring down inflation, he says, the recovery will be over pretty quickly.
But…well, as Paulsen puts it, “inflation hysteria is everywhere—except in the financial markets.” Despite all the panicky headlines, the bond market isn’t worried about inflation. Nor is the stock market, or the foreign exchange markets.
In the 1970s, for example, when inflation hit 6% the bond market responded by demanding an 8% yield on 10-year U.S. Treasurys, to reflect the risks. Today that yield is not even 2.5%. In the 1970s, surging inflation crashed stocks. This time around, there’s been a correction but so far it is reasonably modest. Oh, and in the 1970s surging inflation tanked the U.S. dollar on foreign exchange markets. This time the dollar is rising.
The Atlanta Fed says current inflation is mostly in things with highly flexible prices, like cars, fuel, clothes and food. Those prices can go down as fast as they go up. The inflation rate among “sticky” items like rent or medical care, where prices tend to stick once they go up, is barely 4% it says. Meanwhile, the San Francisco Fed calculates that most current inflation is due to reopening and supply chain issues following the two-year crisis.
The key inflation measure to watch is the so-called five-year “break-even rate” in U.S. bonds, a technical measure that is effectively the bond market’s own five-year inflation forecast. And it’s up—it’s been rising for over a year—but it is still 3.57%, or less than half the current inflation rate. In other words, the bond market is still predicting inflation is going to halve from these levels, and reasonably quickly. If you know something the bond market doesn’t, go out and make yourself rich.
Reasons to be bullish? Maybe, maybe not. But as sentiment is already near maximum gloom, logic suggests the next move is more likely to be up than down.