Minyan Mailbag - The Fate of the U.S. Economy
Note: Our goal in Minyanville is to remove intimidation from the financial markets and encourage an interactive dialogue among the Minyanship. We share this next discussion with that very intent.
Some random thoughts on the fate of our economy and the market. While I share your big picture concerns in many respects, I often feel that you and the Professors may be missing some things that will shield us from some of the ill effects of our current state:
- If, as you and the other profs have discussed many times, there is a major risk of inflation going forward, while the risk of deflation is also acute, isn't there by definition a middle ground?
- Back in the '30's and even in the '70's, venture capital was not a developed industry. Isn't it possible that now that we have such efficient early stage funding of our best ideas (by folks such as Benchmark, etc.) that our next "big thing" in biotech, nanotech, polymers, etc. may be around the corner? The ability of our economy to create an industry out of nothing/a great research idea is at a point never before seen. Many say that now China is producing more engineers than the U.S. and many of the future big ideas/wealth creating industries will come from overseas. Do you really believe this? With the information age, I would guess that a U.S. VC would be funding the commercialization of that next big idea in Silicon Valley or Boston with a savvy management team within a year of it being discovered in China or elsewhere. Intellectual piracy goes both ways. Any development on this front could help close the "income gap" discussed frequently and could happen despite overcapacity in other industries.
- Could the "global economy" actually not be such a bad thing? Might we now have a situation where companies are more efficient than they have been, unions are dead and barriers to entry are high enough to justify current profit margins? If so, valuations are not out of hand at 18-19x earnings (note this is my biggest concern - as a Graham and Dodder, profit margins appear at risk; while I don't believe this point will work, I do believe it is possible; however as Grantham has noted, margins are absolutely mean reverting. If he is right the market is quite overvalued; this I believe is one of the most important issues for the market going forward).
- Is a new technology upgrade cycle in the making? The last major upgrade was in the late '90's, corporations are awash with cash and new technologies are available as tech companies and software vendors have been investing significant dollars in R&D.
- Quoting Benjamin Graham, "stocks are one of the best stores of value in an inflationary environment". Intuitively this makes sense as companies have pricing power, although the '70's proved the statement wrong.
- Couldn't an orderly decline of the dollar have a positive impact on our manufacturing base? We still manufacture almost 70% of our own goods. A continued resilient Chinese economy combined with a lower dollar and revaluation of the yuan could mean boom times for many small and mid-size manufacturers. In fact, a very smart macro investor, Jeffrey Gendell of Tontine Capital has taken this thesis to the extreme, putting the majority of his portfolio in Rust Belt manufacturing businesses and Midwest banks, betting on a recovery in these markets. I will tell you that as a Midwest-based investor, we are seeing some of our old favorites really humming. As unions have left the building, profits for manufacturers may be very strong and allow for increased capex and hiring throughout these depressed areas, resulting in rising incomes, again to close the "income gap" discussed frequently.
- Companies are awash in cash. Balance sheets look very strong. As a bottom up investor this is very attractive. Combined with the corporate bond market dynamics, Prof. Reynolds' points regarding increased stock buybacks and M&A rings very true. Also, more LBO funds exist than ever before. Able to borrow 4-4.5x cash flow, expect the KKR's of the world to also be quite active this year.
- Capital gains and dividend taxes are extremely low, particularly relative to history. Could this justify a 18-19x P/E versus the approx. 15x history? Could be.
Just as an aside, much has been made by the bears of the "irrational" U.S. consumer. However, if, as has been postulated on the site, the Fed is going to inflate away our debts, who is really the fool, the consumers out there buying at 4-6% interest rates or the financial institutions loaning them the money? Maybe the consuming public is making an incredibly good decision by going on margin to buy that new house/car/commodity stock before prices go into orbit, while the savers and lenders are the ones who will be savaged?
Todd Harrison is the founder and Chief Executive Officer of Minyanville. Prior to his current role, Mr. Harrison was President and head trader at a $400 million dollar New York-based hedge fund. Todd welcomes your comments and/or feedback at firstname.lastname@example.org.
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