The calendar says September 26th which tells me that we’re at the beginning of the last week of the third quarter. We’re also, just for the record, at the beginning of the period where Fed-watching is replaced by election fever, which in turn kicks off with the first of the Trump/Clinton TV debates which is scheduled for tomorrow, UK time. With the candidates running neck-and-neck, markets as yet have no idea how to position themselves and have, as far as I can tell, so far gone neither way.
The black-out on Fed members speaking in public is also over and we can again begin to weigh up their words as if they were cast of pure gold, whereas, in reality, they are nothing but words.
Who can forget Alan Greenspan’s famous quip “I know you think you understand what you thought I said but I’m not sure you realize that what you heard is not what I meant”. I feel like screaming when I hear the likes of Robert Kaplan of the Dallas Fed tell us that the Fed can be patient as there is no risk of the economy overheating. What part of “It’s not about overheating, stupid” does he not get? He’s a 22-year veteran of Goldman Sachs – funny that, eh? – who went on to become a professor at Harvard so he ought not find it too difficult to grasp that it’s all about returning the nation’s financial system to a more normal interest rate environment.
Although there is one more FOMC meeting before the elections, it is only four working days ahead of the poll so let’s discount that one as a collective coffee morning and with the December convocation not until mid-month, best we let the Fed bods talk all they like; it is of little to no relevance to the coming quarter’s trading.
Meanwhile, one of Kaplan’s erstwhile colleagues at Harvard and former chief economist to the World Bank, Ken Rogoff, is in the news for having told the BBC in an interview that a recession in China represents the greatest threat to the global economy. No shit Sherlock!
That said, he does make a very valid point that the blind belief by the rest of the world that the Peking government can make anything happen and un-happen, at will, is a prime case of whistling in the dark. Growth, he observes, which is built on debt is not sustainable and a sticky ending will inevitably follow. In his opinion, that sticky ending – a “hard landing” in economist talk– is coming towards us considerably faster than we are prepared for.
And now for the key question: What tools do the central banks have left in the box with which to confront such a potential slow-down? I think we should all be more or less agreed that the answer is “diddly-squat”.
THIS MIGHT PROVE to be a volatile week – not least of all with the first Presidential TV debate in New York – but overall investors have little to fear in terms of quarterly performance. UK investors might be dancing in the aisles given the unexpectedly strong performance of the FTSE indices – the 100, the 250 and the 350 are all up by between 11.5 % and 12.5% since the referendum – but globally stocks have had a cracking quarter. The Dax is up over 11%, the CaC over 9% and the Dow and the S&P by 5% and 6.5% respectively and that is after the sharpish sell-off on Friday. There might be some wobbles and some nervy price action into quarter-end but it’s hard to believe that the stellar performance for Q3 is going to get blown away in the coming five days.
ON FRIDAY NIGHT I hosted dinner at home, one of the guests at which is the research partner at a London-based equity boutique. There was much table talk about the way in which not only the City but the whole of the economy is changing in the internet age. We concluded, I think, that one of the greatest problems is not that there is not enough transparency but that there is too much. We speak of the “knowledge economy” but it seems that the one commodity which is valued least in the “knowledge economy” is knowledge itself. Transparency conveys facts but it does not necessarily convey knowledge and the two can readily be confused which is reflected in the bon mot that markets know the price of everything but the value of nothing.
Thus develop asset price bubbles where, as long as the price keeps on going up, everything appears to be well in the garden. I recently tried to acquire a small two-bedroom cottage – a diversification of my humble retirement funds (divorce and retirement are nigh-on mutually exclusive) – and priced the property based on a 3% yield bogey. The seller, himself a residential estate agent albeit in a different part of the country, laughed at me and declared “If we priced all properties only on rental values we’d never sell a thing”. The price of everything but the value of nothing?
THE PROBLEM WITH price transparency is that in due course it begins to squeeze out any return on the value-added of knowledge. Best price execution, our own market specific incarnation of price transparency, bans the reward for mental input. That being the case, the process of “juniorisation” becomes the logical next step. If banks cannot expect to be rewarded for knowledge, why spend the money in an unwanted attempt to supply it?
The problem extends well beyond trading and affects all sides of commerce. Price, price, price! Squeezing margins reduces profits. Reduced profits results in reduced investment and reduced investment in limited growth potential. Cheaper money is not the key to economic growth but the ability to make risk-taking pay. We may not be able to put the transparency genie back into the bottle but might need to find a new model which more equitably rewards pioneers. The lack of investment in, for example, a new generation of antibiotics is predicated on the simple equation that the cost of research cannot be recouped before generic copies are insisted upon to make the results available to all at knock-down prices. In other words, the relationship between risk and reward is increasingly being undermined.
Banks aren’t lending? Why should they? The GFC broke out not because banks were taking on too much risk but because that risk was incorrectly priced, which in turn led to more ineligible borrowers taking on more underpriced debt. Making debt cheaper does not make debt better. Securing the best price does not guarantee having secured the best deal. Unwittingly Ken Rogoff and my dinner guest are, at arm’s length, looking at two sides of the same coin. Robert Kaplan is on a completely different page.