Thursday, March 26, 2015

Redistributing Income to Reduce Inequality (excerpt)

Income equality is easy to achieve by making nearly everyone poor. That has been and continues to be the modus operandi of totalitarian regimes. Capitalist systems are often infested with corrupt cronies, but true capitalists tend to prosper when their customers have more income to spend.

Meanwhile, the income inequality debate continues to rage on today. Progressives claim that it has worsened in recent years. They typically show a chart of real median household income, which has declined 9% from a record high of $56,900 during 1999 to $51,900 during 2013. In addition, they show that the share of income going to the top 1% is at a record high.

I’ve previously noted that the degree of income inequality may be exaggerated by demographic changes. For example, the percentage of singles in the adult population (i.e., aged 16 years and older) increased to 50% during February, up from 47% and 44% 10 and 20 years ago. Households composed of a single person tend to have lower incomes than those of a married couple. Young singles tend to be just starting their careers. Older singles tend to be retired and living on their savings, dividends, interest income, and government support. As the Baby Boomers age and their longevity increases, they could significantly distort the extent of income inequality.

Which raises an interesting question about the income inequality debate: What are we arguing about? The median household income data so frequently used to show that standards of living are stagnating for most Americans do not include government support payments. Could it be that the Progressives are right about worsening income inequality, but are ignoring the fact that the problem continues to be fixed by the very government programs that they implemented during their New Deal and Great Society heydays?

Exhibit A is the fact that government benefits now account for 17% of personal income, up from 14% 10 years ago and 12% in 2000. Labor compensation (i.e., wages, salaries, and supplements) was down to 60.7% of National Income during Q4-2014 from its recent high of 66.2% during Q4-2008 and its record-high 67.9% during Q2-1980. However, total personal income continues to hover between 95% and 100% of National Income, as it has since the start of the 1980s. That’s all because of government support payments, which increasingly have been deficit financed.

The conclusion is that Progressives who claim that income inequality has worsened have to prove that this is so after government support payments have been made, not before. If they are still right, then they will undoubtedly continue to press for even more income redistribution. However, before they do so, they should prove that the existing redistribution programs are not the cause of worsening income inequality. Conservatives argue that government benefits erode the work ethic and thereby exacerbate income inequality. I agree with that view. The debate will continue.

Today's Morning Briefing: Running of the Bond Bulls. (1) Granada & Barcelona. (2) Alcazar & Alhambra. (3) Ruling class always lives well. (4) Income inequality now and then. (5) Income inequality before and after government support. (6) Progressives need to prove that redistributing income isn’t worsening income inequality. (7) Bond bulls worrying about Pamplona scenario. (8) Yellen and Draghi want to be reasonably confident of inflation’s rebound. (9) Focus on market-weight-rated S&P 500 Industrials. (More for subscribers.)

Wednesday, March 25, 2015

More Signs of Life in Eurozone (excerpt)

The Eurozone’s economic indicators have perked up in recent months. The region’s flash Composite Output PMI rose to 54.1 during March, the best reading since May 2011. That’s mostly attributable to the success of ECB President Mario Draghi in dragging the euro down, which may be starting to boost Eurozone exports. He continues to do whatever it takes to hold the Eurozone together and talk the euro down.

On Monday, Draghi strongly reiterated that the ECB’s mandate is to boost inflation. In testimony before the European Parliament, he said that the central bank’s QE bond-buying program, which started earlier this month, is likely to continue for at least another 18 months until inflation stabilizes convincingly around 2%. Let’s review some of the recent Eurozone economic indicators:

(1) Orders. Manufacturing orders fell 3.2% during January in Spain, and have remained fairly flat and depressed since mid-2012. Eurozone orders show more of a recovery over this period, led by Germany.

(2) Production. The upturn in Eurozone orders has yet to be convincingly reflected in the region’s industrial production, which is up just 2.4% from the most recent low during November 2012 through January 2015. Here’s the performance derby for the major economies over this period: Germany (5.0%), Spain (2.9), France (0.9), and Italy (-1.6).

(3) Real GDP. Real GDP in the Eurozone rose 1.3% saar during Q4-2014. Here’s the performance derby for the major economies of the region from highest to lowest: Germany (2.8%), Spain (2.7), France (0.3), and Italy (-0.1).

Today's Morning Briefing: History Repeats Itself. (1) Madrid & Seville. (2) Anti-austerity protestors. (3) Hispania’s religious wars. (4) Ferdinand & Isabella and Columbus. (5) Are the Crusades making a comeback? (6) ISIS following a bloody millenarian script. (7) ISIS jihadists vs. Iran’s mullahs: Dueling apocalyptic visions. (8) Andalusian vote. (9) Rajoy’s challenge. (10) Draghi’s latest whatever-it-takes pledge. (11) Looking up in the Eurozone. (More for subscribers.)

Tuesday, March 24, 2015

Old Age Doesn’t Kill Bull Markets (excerpt)

A long expansion is a persuasive argument for buying stocks even though forward P/Es are historically high. Investors are likely to be willing to pay more for stocks if they perceive that the economic expansion could last, let’s say, another four years rather than another two years. The more time we have before the next recession, the more time that earnings can grow to justify currently high valuations.

If a recession is imminent, stocks should obviously be sold immediately, especially if they have historically high P/Es based on the erroneous assumption that the expansion’s longevity will be well above average. Bull markets don’t die of old age. They are killed by recessions.

Previously, I examined the Index of Coincident Indicators (CEI) for some historical guidance on the longevity of economic expansions. Let’s update the analysis:

(1) It has taken 68 months--from January 2008 through October 2013--for the CEI to fully recover from its severe decline during 2008 and early 2009. The previous five recovery periods averaged 26 months within a range of 19-33 months.

(2) The good news is that the average increase in the CEI following each of those recovery periods through the next peak was 18.6%, over an average period of 65 months within a range of 30-104 months. If we apply these averages to the current cycle, then the CEI would peak in 48 more months, during March 2019, with a substantial gain from here.

(3) For now, let’s just enjoy the fact that the CEI is at a record high, and 4.1% above its previous cyclical high during January 2008. All four components of the CEI (payroll employment, real personal income less transfer payments, industrial production, and real manufacturing and trade sales) are at record highs.

Today's Morning Briefing: Long Good Buy. (1) Stocks aren’t cheap. (2) Finding good reasons to buy them anyway. (3) Stock dividends trump bond coupons over time. (4) Abnormal monetary normalization. (5) Might this expansion last till March 2019? (6) Yellen ducks a valuation question on biotechs and social media stocks. (7) Valuations go from within historical norms to high side of them according to Yellen. (8) Forward P/Es pushing the outer limits. (9) Fisher’s warning. (More for subscribers.)

Monday, March 23, 2015

US Still Gushing Oil (excerpt)

Some of my best friends live in Texas. However, I’ve misjudged them so far. I didn’t expect that they would continue to pump more and more crude oil despite the plunge in oil prices and the freefall in the US oil rig count. Let’s drill down and see what we find:

(1) US production. US crude oil field production rose to another new high of 9.4mbd during the 3/13 week, with output still rising in both Texas (to 3.9mbd) and North Dakota (to 1.2mbd).

(2) US inventories and trade. US crude oil stocks rose 22% y/y to a record 458.5 million barrels during the week of March 13. There are mounting concerns that the US is running out of storage capacity, which could cause a further collapse in crude oil prices. US refineries are working overtime to convert crude oil--which the government bans from exporting--into refined products, which can be exported. During the 3/13 week, US exports of crude oil and petroleum products rose to a record 4.4mbd (with crude accounting for just 0.5mbd of this total), up 3.2mbd since the start of 2008.

(3) Global supply and demand. Data compiled by Oil Market Intelligence show that over the past 12 months through February, global oil supply is up 2.5% y/y, while demand is up 0.7%. I calculate a demand/supply ratio using these data. It has been highly correlated with the y/y percentage change in the price of a barrel of Brent crude oil since 2005. The ratio has been increasingly bearish since mid-2013, and was down last month to 1.01, the lowest since January 1999.

(4) Geopolitics. The Saudis triggered the latest price drop in early October of last year when they cut their oil prices rather than their production. That’s because North American frackers have flooded the world market with so much oil that the Saudis are aiming to shut them down with lower prices. It’s not working so far. The US and Canada produced 13.2mbd during February, up 4.0mbd since August 2012. That well exceeds the Saudi’s 9.6mbd.

Despite the invasion by ISIS forces, Iraqi oil production remained high at 3.4mbd during February, helping to offset the drop in Iranian output since early 2012, when sanctions were imposed on the country. The big concern is that if Iran agrees to a nuclear deal with the US, then the sanctions will be lifted. If so, there could be another 1.0mbd flooding the flooded global oil market.

Today's Morning Briefing: No Shortage of Gluts. (1) Easy money boosting supply more than demand. (2) Maxed out credit. (3) Disinflation with a whiff of deflation. (4) Flood of liquidity. (5) Yellen, Einstein, and the “insanity trade.” (6) June rate hike less certain. (7) Guidance of endless possibilities. (8) Fed funds forecast to three decimal points. (9) None- or one-and-done remain in play. (10) Texas still gushing oil. (11) Global oil demand/supply ratio still falling. (12) Trigger-happy Saudis have met their match in US frackers. (13) Iran deal would add to oil glut. (14) Natural gas analogy. (15) Lowering S&P 500 Energy to market weight while waiting for production to fall. (More for subscribers.)

Thursday, March 19, 2015

Chinese Stocks Part Ways With Copper Price (excerpt)

Foreign investors were permitted to purchase shares of companies listed on the Shanghai Stock Exchange in mid-November of last year. Previously, only a select group of institutional investors who met certain qualifications had access to Shanghai's $2 trillion market. As the property market has cooled, more individual investors have turned to the stock market. The number of new stock accounts opened last week in China reached the highest level in five years. The result is that the Shanghai A-Share Index (in yuan) is up 44.4% since November 14.

Now imagine what might happen to stock prices if the Chinese authorities decided to devalue their currency. It has soared relative to the euro and the yen, and many other currencies. However, it has been edging down relative to the US dollar since early last year.

For now, China’s economy remains challenged, as growth seems to be slowing faster than expected. But that’s bullish since the monetary and fiscal authorities will respond by providing more stimulus. Interestingly, the price of copper was highly correlated with the China MSCI stock price index (in yuan) from 2009 to 2013. Since early last year, the divergence between the two has widened as the former has decreased and the latter has increased. That’s because bad news is good news for stocks, for now.

Today's Morning Briefing: Pete & Repeat. (1) Age-old riddle. (2) Abbott & Costello. (3) Seeing a pattern. (4) BOJ buying equities on dips. (5) Wage hikes in Japan. (6) Weak yen, strong Nikkei. (7) Weak euro, strong DAX. (8) Bad news in China is good news for stocks. (9) Why isn’t falling copper price depressing EM stock prices? (10) Fed remains implicitly patient. (11) Yellen sees more room for improvement before first rate hike. (12) Fed decision bullish for stocks, bonds, and commodities. Bearish for dollar. (13) Thank you, again, Godmother and Godfathers. (14) Raising odds of the Irrational Exuberance melt-up scenario. (More for subscribers.)