Morning Note: Politics and Markets -- And -- A Most Instructive Quote

Once again sharing from our internal market log:

3/30/2022

Thinking about political constraints and incentives this evening:

Headline: “Biden Team Weighs a Massive Release of Oil to Combat Inflation.”

I.e., hit the SPR, which was originally intended to tap only in the event of national (security) emergency. Not, that is, to manipulate the price when market forces dictate one higher than is politically expedient.

There’s so much wrong with the above I’m not even sure where to begin. But, suffice to say, the absolute most that can be hoped for is a temporary reprieve.

History is replete with price controls gone awry… Ultimately, in their aftermath, markets adjust to whatever distortions government forces upon them.

The simplest, most intuitive scenario is the disincentive for producers to produce amid what are, particularly in the case of outright price controls (read Nixon), essentially mandated below-market prices. 

I.e., inventories get depleted until controls are lifted, leaving markets to adjust to what is virtually destined to be a serious demand/supply mismatch…

A slice from the Cato Institute:

“On Aug. 15, 1971, in a nationally televised address, Nixon announced, “I am today ordering a freeze on all prices and wages throughout the United States.”

After a 90‐​day freeze, increases would have to be approved by a “Pay Board” and a “Price Commission,” with an eye toward eventually lifting controls — conveniently, after the 1972 election.”

“There was no national emergency in the summer of ’71: unemployment stood at 6 percent, inflation only a point higher than it is now. Yet, after Nixon’s announcement, the markets rallied, the press swooned, and, even though his speech pre‐​empted the popular Western Bonanza, the people loved it, too — 75 percent backed the plan in polls.

As Nobel Prize‐​winning economist Milton Friedman correctly predicted, however, Nixon’s gambit ended “in utter failure and the emergence into the open of the suppressed inflation.” The people would pay the price — but not until after he’d coasted to a landslide re‐​election in 1972 over Democratic Sen. George McGovern.

By the time Nixon reimposed a temporary freeze in June 1973, Daniel Yergin and Joseph Stanislaw explain in The Commanding Heights: The Battle for the World Economy, it was obvious that price controls didn’t work: “Ranchers stopped shipping their cattle to the market, farmers drowned their chickens, and consumers emptied the shelves of supermarkets.”

“...the damage presidents do with economic powers they shouldn’t have can take years to repair. Price hikes from the 1973 Arab oil embargo made it politically difficult to unwind controls on gasoline, which led to the gas lines of the late 1970s.”

Thinking about China: Xi is up for reappointment during the “20th National Congress of the CCP”, which will be held sometime during the second half of this year: Communist system or not, political careers live or die based largely on economics and market dynamics. The incentive to artificially boost Chinese markets is massive right here.

So, what to expect going forward?

With regard to oil, serious volatility; WTI futures are down 5%, as I type, in response to the above headline. (Glad we added to our commodities hedges over the past week!)

With regard to Chinese equities; after a rough start to 2022, odds, SEC pressure on Chinese listings (accounting practices) notwithstanding, favor strong performance as we move toward the second half of the year…

Asian equities struggled overnight, with 9 of the 16 markets we track closing higher.

Europe (save for Russia) is taking a hit this morning, with 18 of the 19 bourses we follow in the red as I type.

US stocks, wrapping up their first losing quarter in 2 years, are mostly lower to start the session: Dow down 170 points (0.48%), SP500 down 0.35%, SP500 Equal Weight down 0.11%, Nasdaq 100 down 0.55%, Nasdaq Comp down 0.51%, Russell 2000 up 0.04%.

The VIX sits at 20.43, up 5.79%.

Oil futures are up 3.59%, gold's up 0.36%, silver's up 0.61%, copper futures are up 0.04% and the ag complex (DBA) is up 0.25%.

The 10-year treasury is up (yield down) and the dollar is up 0.40%.

Among our 37 core positions (excluding cash and short-term bond ETF), 16 -- led by uranium miners, MP (rare earth miner), ALB (lithium miner), Latin American equities and silver -- are in the green so far this morning. The losers are being led lower by AMD, carbon credits, Eurozone equities, AT&T and Disney.

A long, yet instructive, quote this morning (H/T John Hussman):   emphasis mine...

"During the latter stage of the bull market culminating in 1929, the public acquired a completely different attitude towards the investment merits of common stocks… Why did the investing public turn its attention from dividends, from asset values, and from average earnings to transfer it almost exclusively to the earnings trend, i.e. to the changes in earnings expected in the future? The answer was, first, that the records of the past were proving an undependable guide to investment; and, second, that the rewards offered by the future had become irresistibly alluring.

Along with this idea as to what constituted the basis for common-stock selection emerged a companion theory that common stocks represented the most profitable and therefore the most desirable media for long-term investment. This gospel was based on a certain amount of research, showing that diversified lists of common stocks had regularly increased in value over stated intervals of time for many years past.

These statements sound innocent and plausible. Yet they concealed two theoretical weaknesses that could and did result in untold mischief. The first of these defects was that they abolished the fundamental distinctions between investment and speculation. The second was that they ignored the price of a stock in determining whether or not it was a desirable purchase.

The notion that the desirability of a common stock was entirely independent of its price seems incredibly absurd. Yet the new-era theory led directly to this thesis… An alluring corollary of this principle was that making money in the stock market was now the easiest thing in the world. It was only necessary to buy ‘good’ stocks, regardless of price, and then to let nature take her upward course. The results of such a doctrine could not fail to be tragic." 

– Benjamin Graham & David L. Dodd, Security Analysis, 1934

Have a great day!

Marty