Thursday, June 5, 2014

Today's rally, but not this bull market, was all about central banks...

After a roughly 5% decline in January, then meandering through the next few months, the major U.S. stock indices have finally moved into the black (just a bit) on a year to date basis.

Mario Draghi and the ECB get the credit for today's rally. Without boring you with the minutia, suffice it to say that their move to reduce already frighteningly (in what they say about the European economy) low interest rates---minus .10% on excess reserves (i.e., banks pay the central bank to hold their reserves [as I suggested might happen])---and to ultimately helicopter the Euro onto every corner of the planet was welcome news to the bulls. And of course this bolsters the case of those who believe that stocks have been the place to be thanks to the efforts of central bankers.

Of course I beg to differ. Not to deny that today's action was inspired by the ECB, but unless you're in and out of the market a day at a time, today was a non-event. The question for the market going forward is not about a global currency race to the bottom (I'm referring to the monetary debasing policies of the U.S., Japan, the EU, and, you watch, China), it's about something far more fundamental to the market, earnings growth.

Sure, central banks are pulling out the stops to try and stimulate their economies and, thus, inspire consumption and business investment, create jobs and, ultimately, grow profits. But, you know, the U.S. Central Bank has gone to unprecedented (by a long shot) lengths and here we sit atop the slowest recovery on record.

Ah, but I do see light at the end of this long tunnel. This week's release of the ISM Manufacturing and Non-Manufacturing surveys (the heavyweights of economic indicators) both---on balance---signal an acceleration (not robust mind you) of economic growth as we move further into 2014. I see it coming in fits and starts, but accelerating nonetheless. Tomorrow's jobs number---if Thursday's disappointing ADP payroll report is any indication---could come in below expectations. Looking further out, however---considering capex (businesses investing in capital equipment) expectations, and stated hiring plans---I'm guessing we'll begin to see a real acceleration in jobs growth as well.

So at least the U.S. Central Bank, in my view, can step away and, in the relatively near future, start taking credit for all of their hard work. I say that, by the way, with all the facetiousness I can muster. The problem as I see it is one of the unseen, yet unavoidable, distortions in resource allocation resulting from all of the Fed's artificial stimulus. As the Fed backs away, and resources are allocated to their most productive use, as determined by the market, well, suffice it say that artificial stimulus sends artificial signals to the wielders of resources. And, generally speaking, there's pain to be felt as resources exit the areas where they would not have otherwise landed and move to where the market demands. Which explains the real estate/credit market bubble/burst of the mid 2000s.

Of course some say today's Fed-caused distortion is in the stock market. But that can only be if  we can legitimately credit the Fed with producing record corporate profits. Clearly, not having produced a strong economic recovery, it's hard to conclude that corporate profits---that have come on the backs of cost cuts and productivity gains---are a byproduct of Fed intervention. Bonds, on the other hand, is clearly the market the Fed has cornered.

Stay tuned...



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