Say what you want about Bill Gross. He’s arrogant. He’s petty. He didn’t give his colleague El-Arian enough credit. He destroyed PIMCO Total Return (PTTDX) and now he is dragging down the bond funds at Janus. What kind of bond king is that?
From my vantage point, however, the rush to discredit Gross has its roots in schadenfreude – pleasure that one gets from witnessing another person’s misfortune. After all, Gross popularized the “new normal” to describe an era of feeble economic growth. Could he have been more accurate in the forecast? The expansion has averaged little more than 2% per year since 2009. In fact, the country’s inability to leave zero percent rate policy behind after seven years is a testament to the incisiveness of the “new normal.”
And there’s more. In May of 2014, before Gross left PIMCO, his company promoted the “new neutral.” The concept represented an evolution from the sluggish domestic growth of the new normal to negligible global growth.
Indeed, the global economic slowdown played out precisely as Gross had anticipated. World trade has dropped to one-half the average rate of 5% over the past two decades. Meanwhile, the J.P. Morgan Global Manufacturing PMI, a measure of economic well-being worldwide, posted its lowest reading since July 2013 (50.6).
Since the promotion of the “new neutral” roughly 18 months ago, countries around the world have fought off their recessionary pressures with the same types of monetary stimulus tricks as employed by the U.S. Federal Reserve. Electronic money creation, asset purchases, rate cutting, currency devaluation. Yet quantitative easing (QE) and rate slashing around the world have not benefited the global economy the way that many had hoped. The lack of progress came to a head at the Fed’s September meeting when chairwoman Yellen identified world economic woes as the primary reason for holding off on a change to the Fed’s overnight lending rate.
Perhaps ironically, the Fed walked back global economic concerns in its recent October meeting. Why? China, Sweden and the Europe Union via the European Central Bank (ECB) are all in the process of adding more juice to the punch bowl. Japan’s likely to “ease” as well. More QE. More rate cuts. Heck, if every central bank in the world can pursue a course of conventional and unconventional easing, that may just make up for the token gesture of a modest one-eighth or one-quarter point hike by the central bank of the United States.
On the flip side, it might not be that simple. If and when the Fed tightens, albeit modestly, it risks over-sized gains in the U.S. dollar. Super-sized strength in the greenback makes U.S. goods far more expensive and it causes pain for middle-class Americans via job cuts at overseas-dependent corporations. PowerShares DB Dollar Bullish (UUP) could easily revisit and/or eclipse 2015 highs.
The stronger dollar has already been a significant thorn in the side of U.S. multi-nationals vis-a-vis sales declines and a deterioration in profits. Not only are these companies trading at lofty valuations (P/S of 1.84), but valuations will become more extreme with the ongoing contraction in S&P 500 earnings per share. Earnings growth for Q2 and Q3 is negative, and that is hardly a tailwind for further price appreciation in stocks.
At present, financial markets are factoring in a 50-50 chance that chairwoman Yellen will lead her committee toward a face-saving action in December. Will they genuinely move forward with a directional shift toward tightening when U.S. gross domestic product (GDP) increased at a dismal 1.5 percent annual rate in the third quarter? With pending home sales faltering? With job growth slowing, job cuts rising and 19.2% of 25-54 year old civilians not participating in the labor force?
If one considers economic deceleration, factors in expensive valuations and mixes in the Fed’s intention to hike overnight lending rates, one would be hard-pressed in making a case for further price appreciation in stocks. That said, bad news seems to ensure that there will be more stimulus than tightening in the aggregate. In the near-term, then, money may keep finding its way into U.S. stock assets and dollar-hedged developed world assets.
I am sticking with the “originals” – S&P 500 SPDR Trust (SPY) and PowerShares NASDAQ 100 (QQQ) – for the bulk of equity exposure. I also maintain low volatility via iShares USA Low Volatility (USMV) and “quality” via iShares MSCI USA Quality Factor (QUAL). Small caps, high yield, emerging markets, unhedged foreign markets? The purveyors of false hope – the leaders of central banks around the world – have successfully reflated some assets. They’re no longer capable of reflating them all.
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Disclosure Statement: ETF Expert is a web log (“blog”) that makes the world of ETFs easier to understand. Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. Gary Gordon, Pacific Park Financial, Inc., and/or its clients may hold positions in the ETFs, mutual funds, and/or any investment asset mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. At times, issuers of exchange-traded products compensate Pacific Park Financial, Inc. or its subsidiaries for advertising at the ETF Expert website. ETF Expert content is created independently of any advertising relationship.