Gordian Perspectives for June 2020

Each month members of Gordian Group team pick articles, posts or current news events that we found interesting and worth sharing with Gordian clients and our growing network . We provide some commentary and context and where applicable how Gordian Group can help.

Trying to Understand the Stock Market vs Economy Disconnect

Things don’t look very good at ground level today.  Most people remain in COVID cloister, and are somewhat trepidatious about public transit, large gatherings and heretofore normal things.  The public protests and political fissures speak for themselves.  Despite the May employment report, it is hard to find a lot of solid evidence for an enduring economic turnaround.

The stock market and a lot of economists would beg to differ with the foregoing observations.  The Fed and the Treasury provided liquidity and stimulus.  Just stir, and there is a miraculous recovery.

I don’t think I am alone when I wonder how both lines of argument can be correct.

Following is a link to an article by James K. Galbraith [subscription required] on this very topic.  The piece, written from an economist’s perspective, provides some out-of-the-box thinking.  In essence, he says that if a trend can’t go on forever, it won’t.  And the decades-long run we were on was based on desires (not essential needs) of global consumers.  With consumers’ economic futures in limbo, and with high levels of debt, Galbraith concludes that the party may be ending.  If so, that will come as a great shock to the capital markets.

If consumers indeed start to hoard money, we could be in for a very challenging period ahead – not unlike the 1930s.

Contact me if you’d like to discuss this further.

Commentary by Gordian Group CEO Henry Owsley

Apocalypse Soon?  Part II

It is difficult to overstate the critical interrelationships between the bond market and global economies and financial asset valuations.  In the 1970s, we saw stagflation overtake the bond market, driving rates skyward until they eventually subsided after Paul Volcker’s tough anti-inflation medicine.  During the Clinton Administration, Treasury Secretary Bob Rubin’s laser focus on how government actions would affect fixed income securities prompted Democratic strategist James Carville to aspire to “come back as the bond market” in his next life.

RELATED: Apocalypse Soon? Part 1

Ever since the 2008 financial crisis, the Fed and other global central banks have been manipulating the bond market with Quantitative Easing and other techniques.  Much of the central banks’ actions involve significant liquidity infusions into the markets.  The additional liquidity drives investors to dig deep for returns by going further out on the risk spectrum and driving up security prices.  This affects the distressed finance world by perpetuating zombie companies’ ability to kick the can down the road.  

The underlying assumption has been that the central banks could “manage” inflation so that such manipulation could continue indefinitely.  And so far, the monetary authorities have been mostly successful, with inflation largely appearing in asset valuations.  However, various commentators have recently observed that this central bank manipulation has created a fundamental disconnect between equity and debt security prices on the one hand, and the underlying economic realities on the other.

RELATED: Modern Monetary Theorists. The Ghosts of Inflation Past?

How long can this suppression of financial returns continue?

The following piece in the Financial Times  [subscription required to read it] sums it up pretty clearly. Since the dawn of recorded economic history, it seems that more money chasing the same amount of goods, services, investments – or anything else – ultimately results in inflation.

And when inflation truly takes off, this party ends.

Contact me if you’d like to discuss this further.

Commentary by Gordian Group CEO Henry Owsley