Balloons and Common Sense. Lots of improbable things to consider over breakfast.

Blain’s Morning Porridge Feb 6th: Balloons and Common Sense. Lots of improbable things to consider over breakfast.

“So before they come down to break down the door……”

This morning: Rugby, Balloons and Employment Data – so much to consider this morning, but what this market needs a dose of common sense, understanding of central banks, and catharsis. Real interest rates and normalisation will provide solid foundations for real growth and recovery – not market froth!

That was a great weekend.

It would be churlish of me to dwell on Scotland thrashing England playing Rugby at Twickenham on Saturday.. so I simply won’t mention how wonderful it was. I was there. In my kilt. I will say nothing about just how satisfying a game it was…. because that would be cruel and unnecessary punishment for English readers. I simply won’t mention the 23 vs 29 score-line in Scotland’s favour. Or the pages and pages of newspaper space dedicated to explaining why England lost, just that Scotland won because we were better. Let’s not make a big issue of a small nation of thrashing their bigger for the umpteenth time in row, sending our noisier neighbours “home to think again”… Nuff said methinks… (Thanks to Steve Thorpe, a self-described “simple brickie” with an excellent nose for excellent wine, for a fantastic day out!)

This morning I find myself somewhat bemused by Balloon wars. Distraction.

Congratulations America – proving their skill at arms using a $150 mm fighter jet firing a $400k missile to shoot down a weather balloon that would have cost less than the price of lunch.

The thing is… if China really wanted to spy on US missile sites in Montana, by sending sophisticated surveillance spy-gear over another nation, the very, very, very last way they would do so is via balloon. Balloons high up in the atmosphere get blown around by unpredictable winds, sit well above the clouds, and go where they are blown – not where they need to be. That’s why nations have stealthy reconnaissance aircraft and spy-satellites capable of pin-point accuracy rather than unstable balloons! Sticking little motors on very big balloons being blown around on the jet-stream is not going to help – it’s called windage.

But if China really wanted to wind the Shermans up, then sending lots of very cheap meteorological balloons drifting on the prevailing winds would be a wizard wheeze.

The Japanese did it during the last unpleasantness in the Pacific when they dispatched 300 large balloons carrying small incendiary bombs – operation Fu-Go! It was spectacularly pointless – failing to trigger the planned panic and forest fires, although 6 civilians were killed months later when someone kicked a bomb they found in the undergrowth to see if would explode…. The campaign succeeded in one thing – tying up US resources in case more balloons were launched. No one knows how many balloons reached North America. They found one Japanese balloon bomb in Canada as recently as 2019.

Back in the real world of markets..

I am enormously optimistic. The world is going to miss a deep and damaging recession! We’re going to see global growth! Climate change will provide a massive boost in new technologies, opening new opportunities everywhere, and making for a better, cleaner more hopeful world tomorrow, and the day after.. We wish!

But first… we need catharsis.

We need to get rid of the market baggage that’s been distorting asset prices through the QE era 2008-2022, and re-establish the primacy of common sense in the investment world.. It means a resurgence of sensibly, not-frothy, non-speculative investment like: “buy companies that will repay their debt, and make good money to pay good dividends.” Yep, fundamentals are really that simples.

All the noise around the stability of nations, the sustainability of debt loads, stable FX, and whether corporates are resilient enough to withstand a decade of higher real interest rates is absolutely critical stuff. After 14 years of artificially low interest rates – and all the damage that inflicted on global markets – we’re now approaching a new, more “normal” economic age. The speculative mindset that’s thrived during the era of easy money is going to struggle with normalisation.

There does seem to be a fashion for blaming Central Banks for getting absolutely everything wrong these past 20 years, and particularly now. Harsh and unfair. Central Banks had to step in a Save the World in 2008. They did it by breaking every single rule of perceived economic wisdom by printing money and cutting rates. The anticipation was it would trigger inflation. That happened, but not in plain sight. It happened in financial asset prices – a whole generation of traders believe the role of Central Banks is to fuel markets by keeping interest rates low! That is not good for free markets or capitalism.

Central banks get that. Its simples! Don’t Fight The Fed. The US central bank has unclearly iterated (because if central bankers speak and you understand them, then they have misspoke), it will not cut rates any time soon. They see a strong economy, strong job creation, and a strong likelihood of avoiding recession – why would they then cut rates, when to do so could simply overheat the economy, further entrench wage inflation (a real long-term threat), trigger imbalance and drive a massive speculative bubble in financial asset prices?

I really don’t understand how so many smart investors don’t see just how frothy the current market is! It looks like “greater fools” are being drawn into what look’s a bear rally..

After 14 years of distortion, Central Banks’ objective now is to normalise monetary conditions and unravel the froth. They exist to foster stability. Their current goal will be to establish long-term interest rates to support the economy – a massively important distinction from supporting markets! That means positive real interest rates to promote rational investment – meaning that inflation may fall to 2-3%, thus supporting interest rates of 3-4%! There is no “pivot” coming. Instead, we will have new normal rates, with the reality being that normal rates will euthanise a whole series of zombie, over-indebted corporates – which is great for the economy, freeing up space for new firms!

Get used to it – higher rates for longer. Go figure which frothy speculative bubblicious investments that have soared in recent weeks on the prospect of early rate cuts will really survive in a normalised economy!

The best example of froth presented as irrefutable truth of market strength, fuelled by FOMO (fear of missing out), is Cathie Wood’s ARK showing a 41% recovery this year, after a 79% tumble since its high in Feb 2021. Some folk actually believe it’s because Cathie is a great and visionary investor. Maybe, but probably not. It’s froth. For Ark to recover to its previous high price, the stock would needs a 240% rally – which means sustained performance across the whole discredited disruptive tech sector. (At a time when US consumers are cutting back discretionary spending on stuff like home delivery meals due to the cost-of-living crisis!) Doh.

My chum Will Nutting of NutStuff sent me a chart of other famous tech stocks that have rallied this year.

• Pelaton has nearly doubled in value this year – but would need a 1163% rally to regain its high.
• Tesla is the big in-yer-face recovery story this year – up nearly 70%, meaning it only has to rally a further 138% to achieve its market high.
• Beyond Meat may be up 50% this year – but is still 1000% shy of its top!
• Facebook/Meta is up 72% this year – a further 152% gain will see it make a full recovery.

Or how about crypto – Buttcon is up 40 plus percent. Really? And just what changed about Buttcon to make that happen? Nada. Speculative froth.

The bottom line is understand what Central Banks are up to, and watch out for the bears in bear market rallies!

Five Things To Read This Morning

FT                    El Erian: The paradox of financial conditions

BBerg              Dollar Rebound Set to Extend Amid Fed Talk and China Tension

WSJ                 Upbeat Economic Data Keep Investors On Edge About Fed

ToryGraph       Liz Truss Exclusive – Not My Fault!

Guardian         Lipstick sales, packed lunches, strippers tips: the unlikely signs of recession!

Out of time, and back to the day job!

Bill Blain

Strategist – Shard Capital