Blog | CB Investment Management

Narratives, Distortions, and Reality

In reality, the credit cycle has just begun to turn down just as real estate is going negative, year over year, both in terms of rent and price per square foot.

The World has moved demonstrably closer to a tipping point after which money printing, prices, and the growth of debt are in an upward spiral that the monetary authorities realize cannot be broken except at a cost of deep recession and credit collapse.”
Paul Singer

“...that could be a very painful experience for shareholders who haven’t already followed executives’ lead in unloading billions of dollars in shares into the stock price strength created by the buyback binge in the first place.
Jesse Felder

We are still humbled every day by our mistakes and all that we continue to learn.
Jocko Willink

With so much intervention distorting markets, and a constant rush of market narratives, a data driven reality check with an effective investment process is essential. Narratives can form at lightening speed and create a new concensus and then change just as quickly. Most narratives are just not grounded. Mine the data accurately to front run the next durable narrative.

After the Fed’s liquidity injections and the stock market rally of recent weeks the emerging narrative is that the banking crisis is not the concern it was. Then again, what if the credit cycle has only just started to turn down, while the Fed has begun to reduce liquidity again and intends to raise rates further? What signal is the weakest stock market breadth on record sending us?

Banks are now facing just the beginning of the credit cycle downturn.

Liquidity ticked higher, but the forward indicator suggests it was just a blip, and this would be make sense given the Fed’s recent statements.

Real Estate Is Another Cyclical Problem

Now we are beginning to see negative year over year rent and price per square foot. What will that do to the wealth effect and bank collateral?

Redfin weekly trends on Median $ Per Sqft is just going negative over the last month. Historically home price declines really matter on both home related personal consumption expenditure & the wealth effect for total discretionary spending.

Let’s Get Some More Data And Perspective

Liquidity is back at the same level as in May of ’22 as is, lo and behold, the S&P 500. That despite GAAP earnings having dropped from $200 to $172, the Fed funds rate having moved from 0.83% to 4.83% & the 1 year yield having moved from 2% to 5%. Nothing matters but liquidity.
Sven Henrich

The broader market is not supporting the big cap equity rally. Look at this signal’s great track record.

This big cap outperformance to a great extent comes from buybacks. In theory there is nothing wrong with the option of buybacks, but do they still make sense at the expense of Capex, or if they are financed by borrowing, or if they overleverage the balance sheet?

Whatever the rights or wrongs of buybacks there has been an astonishing shift by companies away from capex and long term investment, towards buybacks and a higher stock price for a lower number of shares for the same amount of earnings.

The incentive to overuse buybacks to reward equity compensated employees has tilted the scales in favor of many big cap stocks with easy access to financing. This has created an impact on valuation and long term investment that needs to be well understood. However, the explosion of buybacks since 2009 has not had to endure a durable earnings recession. The consequences for earnings, over a full cycle, are well described here and here.

Apple is a case in point, and highlights this effect with the biggest market cap, at $2.7 Trillion, versus the S&P 500 ever.

If the credit down cycle is just beginning, what will happen to earnings? It looks like earnings are at record levels at around 30% above the historical trend.

What would that do to stock prices? How elevated is the S&P 500 compared to basic economic indicators? Truck tonnage has an R-squared of 0.84, and it indicates around 40% downside. Not a forecast. Just a basic comparison.

The president of JB Hunt says we are already in a freight recession.

In the IT sector, CDW was indicating a flat year for 2023 just a few months ago. Now they are downgrading their outlook.

“The first quarter was marked by a period of intensifying economic uncertainty that led our customers to spend more cautiously. Given first-quarter market performance, we currently expect the US IT market to decline at a high single-digit rate in 2023.

US Stock Bulls Ignore 100 Years of Recessions at Their Peril

S&P 500 Index Never Bottoms Before a Recession.

Even a mild recession would warrant retesting the previous lows,” according to JPMorgan Chase & Co. strategist Marko Kolanovic. That means a drop of at least 15%, he wrote in a note dated April 17.  

In year/year % change terms, LEI from The Conference Board fell 7.8% in March … now firmly in recession territory and in fact, during recessions in early 1970s and early 1980s, annual decline never got this negative.

Furthermore, this indicator has a perfect record as a recession indicator since 1960.

For a more detailed and comprehensive analysis of the credit cycle, and the probability of a coming recession, check out the youtube below.

The Budget Deficit is out of control with a sizeable expansion over the last year, and no progress on the debt ceiling negotiations. Time is getting short for some kind of resolution. The current emergency cash plan runs out perhaps by June.

The latest data from the Monthly Treasury Statement show that federal government is still outspending what it takes in by 7 percentage points of GDP. This means that expenditures would need to be cut by 27% just to balance the income. March outlays alone were up 36% v. March `22.

The chart below shows that the deficit is continuing to widen, and if we go into a recession, it would widen much further.

US government credit is being downgraded. It is quite alarming when the US$ follows the movements in the US Credit Default Swap Rate!

The USD is losing its market share as a reserve currency at a much faster rate than is commonly believed. After steady declines in its global market share for the past two decades, in 2022 the dollar lost market share more rapidly.

Foreign official purchases of US Treasuries have declined significantly, and this coincides with an acceleration of central bank gold purchases.

How easy is it going to be to finance the flood of Treasury issuance once the debt ceiling gets resolved? What will the yield be with diminished foreign interest?

It is important to recognize that we are in a period of instability. Make sure you have a robust and flexible process to manage your investments in these uncertain times.

“Best Investor” Standards Safeguard Optimal Investing

In order to optimize opportunities safely, investors need to be set up with the most productive framework possible. Why not adopt the methodology of the most successful investors of all time? They all ended up embracing their own version of “Capital Preservation and Compounding”. You can find out why here.

The great additional advantage of “Capital Preservation and Compounding” is it’s clear definition. Just 5 metrics which can be illustrated in the Risk/Return Performance grid tell you in seconds how well you are doing.

Raise your accountability, transparency, understanding and control of your investing in real time by having access to this information.

Transform Your Investment Experience

The room for policy manoeuvre, and the stability of the current system should not be taken for granted. Volatility has increased and is likely to continue to stay high. The outlook has rarely been this uncertain. Investment management needs Best Investor metrics and techniques as never before.

Market and economic events are moving fast at this stage. If you need a quick review of the issues that you may need to know about for your own circumstances, schedule a FREE consultation today.

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Chris Belchamber is an IRMAA Certified Planner

Medicare’s IRMAA impacts every retirement plan. Learning how to mitigate it is available via IRMAA Certified Planners designation.

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