Springing Into Summers

“There are three kinds of lies; lies, damned lies and statistics.”
Mark Twain; North American Review; 1907

S&P Dow Jones Indices, in its commentary for March 2024, headlined “Despite uncertainty surrounding potential Fed
rate cuts, economic strength and diminishing recession fears led to the best Q1 U.S. market performance since 2019,
with the S&P 500 up 11%.” The S&P 500 returned 3.2% for the month but the equity markets revealed some
evidence of a rising tide lifting all ships. The Value share of that index returned 4.6%, twice that of Growth’s 2.1%.
Energy stocks powered higher 10.6% versus Info Tech’s 2%. Foreign Developed Markets and Mid Cap stocks
outperformed the S&P 500 rising 3.8% and 5.6% respectively.

Lawrence H. “Larry” Summers has a resume to impress even the least impressionable. Secretary of the Treasury
from 1999 to 2001 under President Clinton, Former President of Harvard from 2001 to 2006 and Director of the
National Economic Council under President Obama from 2009 to 2010. In other words, a fellow citizen viewed as
accomplished, very wise, and with opinions worth respecting. So, on March 23rd when the former Treasury Secretary
sent out the following tweet, it became a subject of much discussion.

“I don’t know why the Federal Reserve is in such a hurry to be talking about moving towards the accelerator (cutting
interest rates). We’ve got unemployment, if anything, below what they think is full capacity. We’ve got inflation, even
in their forecast, for the next two years above target. We’ve got GDP growth rising if anything faster than potential.
We have financial conditions, the holistic measure of monetary policy, at a very loose level.”

With all due respect to the former secretary, I would like to suggest that he could scarcely be more wrong and why
the Fed should start aggressively lowering interest rates very soon if they don’t want to push the US economy into an
economic problem largely of its own creation.

First, unemployment. The report that commentators tend to focus upon is the Bureau of Labor Statistics (BLS’s)
household employment survey. It has indeed been reporting robust increases in employment. Prior to the pandemic
ADP, the nation’s largest payroll predecessor(s), household employment survey, Challenger & Gray’s number of
businesses reporting job cuts, and the ISM manufacturing and non-manufacturing employment indices all tended to
align with one another. Post pandemic that is no longer the case. Of the five cited here four indicate an economy now
growing slowly with ADP’s household survey showing employment growth in the past year of 642,000 in contrast to
the BLS’s 2.93 million. The ISM’s and Challenger & Gray align with the ADP data. It is the BLS data that is the outlier.
This is seemingly confirmed by financial markets no longer responding meaningfully to BLS’s monthly reports.

Second, inflation. The most hotly debated of all current economic topics, let’s see if we can bring a measure of clarity
to this noisy subject. Goods represent 40% of what we consume. Year over year goods inflation is 1.1% so the issue
resides on the 60% services side which employs 70% of US workers so wage rates are the crux of the inflation bears
arguments. On a quarter over quarter basis, as measured by the Bureau of Labor Statistics (BLS) Employment Cost
Index for Private Wages & Salaries, that index peaked at 6% at the end of Q3 2021. It was just over 5% at the end of
2022 and is now at 3 ½%. At its current rate of descent, it may well be at 2% by year’s end. It correlates with a lag of
approximately three months, the Fed’s preferred inflation measure, Core PCE Services ex Rent. That would lead that
measure, currently at 2 ½%, to fall below 2% later this year.

Three. The economy is growing above its potential. Another statistical anomaly. As measured by production (GDP)
the US economy is indeed growing but as measured by growth of income (GDI) there isn’t any. US retail sales growth
has mostly disappeared, growing 2.4% from June of September 2023 but 0.2% From October 2023 through February
2024. Mortgage rates are near 7%, existing home sales are down 33% from their best levels of the past five years
and with interest rate on auto loan rates reaching 10% vehicle sales are off 14% from their best levels in five years.

Four. Financial conditions are at a very loose level. He must be talking about the stock market. The interest rate on
small business loans is at 10%. Small companies need bank credit to grow, and the supply of that credit is 1% below
its level of a year ago. For our economy to grow the supply of money must be rising and it isn’t. As measured by M2,
that level has fallen by 4.3% in the past two years. Increasingly it’s looking like deflation that should be concerning us.

60/40 portfolio investors can celebrate 7.8% returns for the quarter with 8.2% returns on the 60% equity side and
7.2% on the 40% fixed income. For the month portfolio returns were 3% with equal contributions from equity and fixed
income. The fixed income side was aided notably by the 6%+ rise this quarter in commercial backed security values.

Mark H. Tekamp/April 6, 2024

Disguising the Surprise

That’s the American Dream, Can only be seen behind closed eyes;
Allowed to touch but can’t touch the prize; that’s the hook,
The bait and switch of hand is no surprise – “Sleight of Hand” ; Jeremy Betts

The February stock market couldn’t find its way to the front page of the March 1st edition of The Wall Street Journal
having to settle for a headline on the front of that day’s Business & Finance section “Nasdaq Notches a Record
Close”. Barrons, choosing to deflate talk about lighter than air objects, headlined “The Stock Market Looks Like a
Bubble. What Is It Really?” Perhaps the publication was mocking that week’s Economist’s cover of a bull being lifted
airborne by a bouquet of balloons though livestock’s 12% rise in prices is one of the few assets to outperform the
S&P 500’s two month return of 7.1%, its best start to a year since 2019 with 5.3% of that total coming in February.
Most investors would welcome signs of inflation in their portfolio returns but with 60/40 portfolios still down 5.7% over
three years many investors are not only not airborne but actually underwater.

A year ago, 99% of economic forecasters were predicting a recession in 2023. Of course, in the contrarian nature of
such things, the inflation adjusted rate of growth last year was 3.10%, above its 2.20% average annual rate of growth
in the prior ten years. Properly chastened, 76% of the forecasting fraternity believe the possibility of a recession this
year is 50% or less. Of course, the opinion that matters most, that of the Federal Reserve, is either more nuanced or,
if you prefer, confused. While expecting a 50% reduction in the US economic growth rate this year to 1.5% and with it
expecting inflation to decline further to 2.4% the Fed’s chairman has also stated publicly “…we have a strong
economy. The labor market is strong…with the economy strong like that, we feel that we can approach the question
of when to begin to reduce interest rates carefully.” Careful may be the chairman’s view of his approach to matters
but the previous two times this century the Fed had its Funds Rate at a level more than 2% above the rate of inflation
was 2001 and 2007 and our experience of the economy in the following year was, shall we say, interesting.

Four numbers, -0.38%, -0.64%, +1.93% and 3.1%. The first is M2, the most commonly used measure of money in our
economy. It is declining. The second is the extension of credit by the US commercial banking system. It is also
declining. The third number, the actual value of loans and leases extended by our banking system, is positive but it is
less than the fourth number, 3.1%, which is the most recent year-over-year rise in the consumer price index aka
inflation. Small business depends upon the banking system to extend credit and that supply of credit is declining. As
the source of 50% of the jobs and 43.5% of our economy how can small business be expected to grow in a declining
credit environment and how can the US economy be expected to grow if half of it isn’t?

Could our nation’s central bank profess to doing one thing while preparing to do something else? Certainly, no
certainty here but just supposing. The Fed, responding to the inflation resulting from the federal government’s public
policy response to the pandemic, began raising its Fed Fund’s Rate in March 2022 with its final increase occurring in
July of 2023. The inflation and those higher interest rates resulted in the market value of outstanding US Treasury
debt declining by 31%. (Lower bond prices are the source of negative portfolio returns these past three years.) Now
for a little history. Prior to the Global Financial Crisis commercial banks held very little in reserves at the Federal
Reserves. After it the Fed adopted an “ample reserves” policy and commercial banks now hold $3.5 TRILLION at the
Fed for which they are earning 5.4% and which is costing the Fed close to $200 billion in interest payments per year.
From October 1, 2023, through January 31, 2024, the US Treasury issued $9.6 trillion in new debt, 92% of which was
used to provide the necessary funds to pay off its maturing debt. The public currently holds $27 trillion of US Treasury
debt, 16 ½% in Treasury bonds with an average interest rate of 3.1%, 52 ¼% in Treasury notes with an interest rate
average of 2.3% and almost 22% in Treasury bills with an interest rate of 5.4% and maturity dates of up to one year.

The US Treasury is now paying $870 billion on its debt exceeding the $822 billion defense budget. What if the Fed
were to lower interest rates to say 3%, stop paying interest on commercial bank reserves forcing much of that $3.5
trillion into the US Treasury bill market allowing it to notably lower its interest payments on those securities while
having something left over to buy up some of that treasury debt now trading at 69 cents on the dollar? Perhaps that
equity bull might be looking for something with a bit more of a charge in it than lighter than air balloons!

Over the span of a year, it continues to look like the S&P 500 starring as Snow White with almost everything else
looking like dwarfs. Roughly stated, “the 500” is +30% with mid-cap stocks up half that much, foreign developed
markets looking like mid-caps, small caps up half as much as mid-caps and foreign emerging markets splitting the
difference between small and mid. Dare one say it? Mid-caps outperformed “the 500” in February and it is starting to
“feel” like a party to which more are invited. In February 60/40 portfolios returned 2.9% and are now +4.5% year to
date with equities contributing 4.6% to February’s return and fixed income 1.6%.

March 3, 2024/Mark H Tekamp