May 19, 2021

Your Umbrella

Leaving South Carolina is hard.

It’s captivating. We had not a bad meal from Savannah to Pawleys Beach. Perfect weather (the surprising part). But always know where your umbrella is.

And thanks to Steve Hufford at Blackbaud for the tip about the Angel Oak Tree south of Charleston.  It’s hundreds of years old and growing majestically still (see photo).

It’s rather like the stock market. Time marches on.  Look, there will be a day when the cavalier treatment of money punctuating modern finance will have consequences. Money isn’t a tree and doesn’t grow on them.

There is, though, an opportunity for a lesson here.  Is “sell in May and go away” a thing? How could it be, if the largest managers of investments in US markets now are diversified passive funds?

“Sell in May” is a tradition. Stock-pickers would cash out of equities and leave the city for the cape. Maybe to Coastal Carolina. I’m envious. You?

But it’s a figure of speech, a trope, an anachronism.  Passive models don’t cash out of equities. Index funds track the basket. Diversified target-date money follows the plan.

All the time.

We humans often hew to tradition long past its due-by date.  It’s a feature of our nature that has marked historical epochs, sometimes ignominiously.

We’re doing it in investor-relations. Do we really know what drives shareholder value, or do we do the things we traditionally have because it’s what’s always been done?

What if we didn’t hold earnings calls?  Would it make any difference?  Berkshire Hathaway doesn’t. The company reports results on Saturdays by press release. BRK.A has materially outperformed the SPX the past decade.  The SPX has materially outperformed most stock-picking funds the past decade.

It’s why ModernIR argues that IR should be a data analytics and management function. If the money in the main now follows models, why do we still do all the stuff we did when most of it picked stocks?  I’d argue it’s tradition. It’s certainly not data.

Back to our theme, significant moves in markets in May then are likely to be coincidental.  We had them last week, attributed for one day to inflation fears, until the next day and the day after that stocks soared hundreds of points.

What happened to inflation fears?  Pundits were conspicuously silent those two days. And I get it.  If you’ve just declared that inflation has spooked equities, and the spookiness evaporates, you’re not sure what to say next.

Conventional wisdom, another way to say tradition, argues inflation harms equities. That’s wrong.  Equities absorb inflation. Only one thing – higher interest rates – would alter that calculus, and higher rates are a RESPONSE to inflation, not a consequence of it. And people wrongly mistake inflation to mean higher rates.

Rising rates would bankrupt the United States government.  Not likely to happen.  Yet, anyway.

What WILL arrive at some point is the actual consequence of inflation: deflation.  When prices rise in response to excess supplies of money, they will at some point stop rising (when the excess money is absorbed by risk assets like stocks) and fall.

Did you know that from 1791 to 1913, pay for members of Congress didn’t much change?  Thanks to a sound currency and improving output, money went further as purchasing power rose, giving them 50% more money over the course of a century — without a raise.

It’s why I argue that monetary policy should promote purchasing power – not growth, price-stability (an utter disaster), full employment (not the domain of the central bank) or any other thing.  If our money goes farther, we need less of it. That should be the aim.

We’re doing the opposite. So unless and until money stops flowing to stocks, the equity tree will grow. 

The flow is slowing though. Broad Market Sentiment, our ten-point index of waxing and waning demand for equities, has been stuck around 6.0 for a month. It means supply and demand are equalizing.  A normal market moves down to 4.0, and back over 6.0. Over and over. Because more money flows to equities than leaves them.

It’s as simple as the math of tides. What comes in goes out.  And starts over.  Sentiment cannot stay at 6.0 without reverting to 5.0 or lower.

So.

We MAY be approaching the first period where outflows exceed inflows since the Pandemic. We’re not there yet. Data say stocks could be up modestly into expirations to finish the week.  

But there’s a scent in the air, wetness on the breeze, the first feel of rain like you’re walking down Oglethorpe past square on square in Savannah, this one burying Nathaniel Green, that one with the Mercer House on the north end, and you feel it.  A raindrop.

No need for worry. But know where your umbrella is.

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