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“Shortages” Aren’t Causing Inflation. Money Creation Is.

For central bankers and mainstream analysts the recent inflation outburst is only a transitory phenomenon which has nothing or very little to do with the massive monetary and fiscal stimuli unleashed during the pandemic. Although the Fed has recently…

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For central bankers and mainstream analysts the recent inflation outburst is only a transitory phenomenon which has nothing or very little to do with the massive monetary and fiscal stimuli unleashed during the pandemic. Although the Fed has recently conceded that price pressures are persisting longer than expected, the surge of inflation is allegedly due to supply bottlenecks caused by the pandemic. This superficial diagnosis serves as a convenient excuse for politicians to keep in place damaging growth stimuli and draconian public health measures.

Inflation Is Not Driven by a Shortage of Supply

Mainstream economists define inflation as an increase in consumer prices which occurs when the growth of money supply outpaces economic growth.1 In other words, too much money is chasing too few goods. If the recent surge in inflation were driven by a shortage of goods rather than an increase in the money supply, then aggregate output would be shrinking. But this is not the case, because global economic output is projected by the Organisation for Economic Co-operation and Development to grow by 5.7 percent in 2021 after having dropped by 3.4 percent in 2020. This year, the output lost during the pandemic is expected to be recovered in both advanced and emerging economies, including in the US (graph 1). As a matter of fact, inflation was accelerating this year at the same time that industrial production was recovering to prepandemic levels in both the US and the EU (graph 2). The alleged shortage of supply at an aggregate level appears to be a myth.

Graph 1: Real GDP growth

Source: IMF World Economic Outlook.

Graph 2: Inflation and industrial production

Inflation and Industrial Production
Source: FRED and Eurostat.

The invoked shortage of supply is primarily based on anecdotal evidence about unmet demand and rising prices in specific economic sectors, such as semiconductors, cars, furniture, and energy. But those who claim that supply is insufficient do not bother to analyze whether the squeeze of supply chains is due to chronic shortage of production or to excess demand. Moreover, even if supply were short for certain goods due to production lockdowns, changes in consumer schedules, or environmental greening policies, a surge in the aggregate price level would not take place if the money supply and aggregate demand remained broadly unchanged. The squeeze on some individual supply chains would be compensated for by lower demand for other goods and services, and only relative prices would change in the economy.

Let us have a closer look at specific cases of widely perceived supply bottlenecks. The shortage of shipping containers and logistic problems at several ports in the US and Asian countries seems central to many other supply chain bottlenecks. Shipping costs have soared indeed, but shipped volumes have increased as well (graph 3).2 This does not indicate a lack of supply, but rather buoyant demand for international transport. Experts from leading shipping groups report that major US ports, container groups, and logistics companies can barely handle the surge in international trade. This is not surprising given that both US imports and its trade deficit surged by more than 20 percent year on year in the first seven months of 2021, as consumers rushed to spend their stimulus checks. United Nations Conference on Trade and Development experts claim that the global demand for manufactured consumer goods increased throughout the pandemic, boosting the demand for container shipping and raising transportation costs. The surge in global demand has not only rearranged international trade flows to the advantage of China and other Asian economies, but has also pushed international trade volumes to new highs (graph 4).

Graph 3: Global TEU shipping volume and price index

Global TEU Shipping Volume
Source: Container Trades Statistics.

Graph 4: Global volume of trade

Global Volume of Trade
Source: World Trade Organization.

The shortage of semiconductors, which affects car production, is also blamed on the inability of chip manufacturers to deal with an order backlog swollen by covid-19 and shipping disruptions. But the global semiconductor market expanded by 7 percent in 2020 and is projected to grow by another 20 percent this year (graph 5) and almost double in size by 2028. So, again, the shortage is being caused by a relatively rigid supply which cannot accommodate buoyant demand. The latter has increased not only from the automotive sector, in particular as electric vehicles use more chips, but also from manufacturers of computers and other consumer electronics, the consumption of which has surged during the pandemic.

Graph 5: Global market for semiconductors

Global Market for Semiconductors
Source: Statista 2021.

The recent rally in energy prices, with coal and European gas hitting record highs and crude oil pushing above $80 a barrel, is also attributed to a constrained supply and perceived as a threat to the economic recovery. But the global supply has not shrunk; on the contrary, the world production of energy has been on a steady upward trend (graph 6). After growing by about 2.4 percent per year for the past three years, energy production fell by 3.5 percent in 2020 due to the lockdowns, but is expected to rebound by 4.1 percent in 2021.

Graph 6: World energy production

World Energy Production
Source: Enerdata.

The global energy supply would have been much higher and better balanced among sources and across regions had it not been for government-mandated green policies and carbon emission targets. In Europe, coal plants have been gradually phased out, as have nuclear power plants in Germany. They have been replaced by wind turbines and other renewable energy sources which underperformed recently due to adverse weather conditions. Together with lower gas deliveries from Russia, this has created a perfect storm in the European energy market. At the same time, China’s strict emissions targets and rising coal prices have also generated a power crunch, disrupting factory activity.

In the same way that green government policies have undermined the production of energy, the lockdowns and stimulus paychecks generously handed out during the pandemic have created an artificial shortage of labor that is likely to exacerbate further inflationary pressures. Due to forced business closures, the US economy lost about 20 million jobs by April of last year. Despite the economic recovery, some 5 million jobs have not yet been filled, as millions of Americans have been paid to stay home or have left the labor force altogether. In Europe, trade unions are already asking for pay increases while surveys show that inflation expectations are rising.

Excessive Demand Stimulus and Money Creation Are the Real Culprit

The growth stimuli applied during the pandemic have been truly unprecedented in size and outreach. Massive government support and budget deficits monetized by central banks have been poured over economies weakened by recurrent lockdowns. Despite the loss of jobs and market incomes, US household wealth has increased by a staggering $32 trillion since the beginning of the pandemic, fueling consumer spending and aggregate demand. Together with an increase in the broad money supply by more than a third over the same period (graph 7), this indicates that the inflation is actually driven by too much money rather than too few goods.

Graph 7: Money supply

Source: FRED.

The rapid rise in inflation is also raising inflation expectations.3 Inflation depends not only on the mechanical outcome of changes in the supplies of money and goods, but also on the demand for money. If the public realizes that its cash holdings are being eaten away by significant price increases, it will move away from cash. In this case, inflation would accelerate beyond the pace of money creation, which is obviously the nightmare of all central bankers.

Conclusions

The current surge in inflation is neither due to a shortage of supply nor transitory, as central banks want us to believe. It is primarily due to soaring consumer demand fueled by excessive growth stimuli and monetary creation. Government-imposed lockdowns and clean energy policies constraining output have exacerbated price increases. We are witnessing a consumption boom and persistent distortions in the structure of production, all bearing a striking resemblance to the boom that preceded the Great Recession.

  • 1. This definition is disputed by Austrian economists because price inflation lumps together monetary and nonmonetary causal factors, which have different consequences for the structure of production, incomes, and individual wealth. Therefore, Austrian economists define inflation as an increase in the supply of money beyond an increase in specie, i.e., commodity money such as gold or silver.
  • 2. According to the Financial Times, it costs more than $20,000 to ship a standard container from China to the East Coast of the US today, up from less than $3,000 two years ago.
  • 3. In the US, Consumer Price Index inflation advanced by 5.3 percent in August, housing prices grew by almost 20 percent year on year as of July, and the S&P 500 Index was up by almost 29 percent year on year at the end of September.

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Spread & Containment

How China combined authoritarianism with capitalism to create a new communism

What does communism 2.0 mean for democracy?

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After the 1989 fall of communism in the Soviet bloc, five self-declared communist states remain today: China, Cuba, Laos, North Korea and Vietnam. Belarus and Venezuela can also be added to the mix as they fulfil the criteria of a communist state – even though they do not officially invoke the ideology. So, at present, the number stands at seven. The question is, now that capitalism is the engine of China’s economy, what is communism today? And if the number of communist states is poised to grow in the near future, as some predict, what does this prospect mean for democracy?

My interest in communism goes beyond my work as a historian – it’s personal. I was born and raised in communist Poland in the 1970s and 1980s. It was a grey country where people seemed to have lost all hope. All essentials, including shoes and coffee, were rationed. But rationing cards did not mean you would get what you wanted, or even needed. Queuing for hours (sometimes even days) to buy anything that had just been delivered to a shop was a regular occurrence.

I have no doubt that my upbringing shaped my life and inspired my career. My research has examined modern central and eastern Europe, nationalism and the politics of language – particularly in the region’s totalitarian and authoritarian regimes during the past two centuries.

During my youth in the 1980s, bartering became more common, while scarce goods could only be bought with US dollars. You could exchange a summer dress two sizes too large for a T-bone steak (kotlet), or a record player that you did not need for a large can of baby formula. Only vinegar seemed to be in constant supply on the near-empty shop shelves – perhaps accounting for the sour faces and almost permanent lack of smiles. Western scholars came up with an apt term to describe this existence. They called it the “economy of scarcity” – the impact of central planning on production and the population.

And it wasn’t just a lack of food. Freedom was scarce, too. Poland, like all Soviet bloc countries, was kept under a “double lock” – meaning it was even difficult to travel to another socialist country, be it neighbouring Czechoslovakia or East Germany. You needed to apply for a particular kind of passport to travel to the “people’s democracies” (that is, Soviet bloc countries) in Europe. And after coming back home from your travels, this precious document had to be returned to a local militia headquarters (the police was then known by this militarised sobriquet).

If you wanted to visit a European capitalist country, like West Germany, you needed a another kind of passport. But only a single member of any family would be allowed to go to the “rotten capitalist west” (as it was often referred to). So the rest of your family remained as the state’s hostages to ensure you wouldn’t dare to defect. I never once saw the passport that permitted travel to all the countries of the world, which allowed the lucky few to travel to the US or Australia.


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The Insights team generates long-form journalism and is working with academics from different backgrounds who have been engaged in projects to tackle societal and scientific challenges.


To me, and many others, my home country felt like one big prison. Stringent censorship of publications, films and television aimed to convince us that life in Poland and the Soviet bloc was much better than in New York or Paris. But few believed the propaganda. People clandestinely listened to Radio Free Europe and Voice of America (despite the state attempting to jam them). And during the 1980s, it became easier to buy banned books in the form of samizdat (uncensored, underground publications).

Among the youth, the dream was to escape this prison and enjoy a “normal life” in a “normal country”. In a place with no rationing cards and well-stocked supermarkets, where working a single job you would be able to afford a decent standard of living, an apartment and summer holidays in the Canaries. The slang Polish name for this Spanish archipelago, “Kanary”, became colloquial shorthand for the unattainable.

Pie in the sky, our parents warned us. Their advice was to be quiet, to do what we were told by teachers or overseers – and to never say what we thought. After all, refusing to toe the Communist Party’s line, not praising Poland’s socialism – let alone opposing the system – might cost you a coveted place at a university, the loss of an apartment, or land you in prison. In the 1950s, at the height of Stalinism, people were even executed for such ideological misdemeanours.

For people who did succeed to escape the regime, the journey was fraught with complications.

But, unexpectedly, the cold war between the western democracies and the communist Soviet bloc came to an end in 1989, followed, two years later, by the collapse of the Soviet Union itself. This communist superpower simply and peacefully (at least in Europe) vanished into thin air, causing communism as a political and economic system to disappear from much of the world.

We were free. The last General Secretary of the Soviet Union Mikhail Gorbachev was the good fairy, who made our heartfelt dream come true. The Soviet leader decided that starving his own people in order to keep up with the west in the arms race was no way forward. The subsequent systemic transition, in the span of a decade and a half, enabled former Soviet bloc states, from Poland and Hungary to Romania and Bulgaria, to accede to NATO and the European Union.

With my newfound freedom, I continued my education in South Africa and the Czech Republic. I researched in Italy, the US and Japan, before finding university positions in Ireland and Scotland.

But in the case of the 15 countries that emerged from the defunct Soviet Union, only the Baltic republics of Estonia, Latvia and Lithuania became truly western and democratic. Most, Russia included, became autocracies – even if they stuck to the pretence of parliamentary elections.

Georgia, Moldova and especially Ukraine are tantalisingly close to becoming genuine democracies with the prospect of EU and NATO membership. Yet, Turkmenistan is almost as oppressive as North Korea, while Azerbaijan and Uzbekistan are seen as textbook examples of repressive and kleptokratic dictatorships.

But at present, not a single post-communist or post-Soviet state declares itself to be communist.

China leads the autocracies

With the economic and political demise of Soviet-style communism, most of the communist regimes supported by the Soviet Union across the world, like Ethiopia, Afghanistan and South Yemen also collapsed. Communist Cuba is a lone exception to this trend. The Caribbean island has been a permanent thorn in the side of the US since 1961.

Present-day communism, then, is led by China – the world’s second largest economy. Beijing has been proudly communist since 1949 and is now taking on the US, which still leads – though falteringly – the globe’s shrinking camp of democracies. Since 2010, an increasing number of states have parted with democracy.

Over the past decade, democracy has been quickly reversed in post-genocide Rwanda. The same also happened in Ethiopia after the civil war in Tigray (2020-present day), while the Arab Spring’s democratic gains have been squashed across the Middle East. As in Putin’s Russia, electoral autocracies were installed in Bulgaria (2009), Hungary (2010), Serbia (2014), Turkey (2015), Poland (2016) and Slovenia (2020).

On July 1, 2019, China’s Communist Party celebrated its 100th birthday. From www.alamy.com

China’s population of 1.4 billion means that a fifth of all humankind lives under its communist regime. The other three self-declared communist states – Laos, North Korea and Vietnam – all border China. A new communist – and Sinic (Chinese influenced) – bloc, indeed.

So, after the two decades of decline in the wake of the 1989 collapse of the Soviet bloc, is the turbocharged Chinese-style communism 2.0 – which embraces capitalism – going to take over?

The rise and fall of democracy

The looser post-cold war definition of communism marries capitalism with socialism, as understood in the former Soviet Union. The overarching principle of socialism (seen as communism in the west) says: “From each according to his ability, to each according to his contribution.” In practice, this unorthodox mix of Soviet-style socialism and capitalism means an authoritarian, or even totalitarian, regime under a single party’s full and (these days) AI-enhanced control. This control extends over the now capitalist-style economy, too. Through this mono-party, the invariably male leader single-handedly rules.

Often a cult of personality is developed for him and the deal is sweetened with a modicum of a welfare state. In most cases these states advertise themselves as being communist. Others, like Belarus and Venezuela may not actually call it “communism” and a different name may be given to this ideology.

For example Bolivarianism in Venezuela, national unity in Belarus or Juche in North Korea. The mono-party political system makes the Communist Party into the state and its leader into the de-facto dictator. Unchecked collectivism, or the ruling dictator’s self-serving and populist rhetoric of prioritising masses (referred to as “nation or people”) over individuals, “justifies” his rule and the system. In places like Belarus and China, this has led to dissenters being repressed and concentration camps being built to remove them from “healthy society”.

Like the pre-1989 communist states, all these countries’ ruling regimes are anti-western in their official rhetoric, and often in their actions too. This anti-western aggression was another important defining feature of the communist states of the 20th century.

But will this number rise or fall in the 21st century? During the two decades following the fall of communism in Europe, democracy as the doctrine of human and political rights steadily spread across the world. Dictators felt pressured to keep up at least the appearance of working electoral democracy in their countries. Amnesty International and Freedom House successfully shamed autocrats into mending their notorious ways and freeing political prisoners.

But after 2010, this trend was incrementally reversed. Symbolically, in this year the Chinese writer and pro-democracy dissident Liu Xiaobo was awarded the Nobel Peace Prize. Beijing felt offended by the west and took steps to suppress Liu, his family and friends. The authorities denied Liu cancer treatment and he died prematurely seven years later.

Liu’s ashes were scattered in the sea to prevent the establishment of a grave for a person many saw as a democratic hero and martyr. That would have been a focal point for China’s democrats, who might have gone on pilgrimages to pay respect to Liu’s unwavering loyalty to liberty and democracy.

Then, in 2020, the pandemic created an ideal opportunity for Beijing to dismantle democracy in Hong Kong, and a place that was once a beacon of political and economic freedom fell. Autocrats of all stripes took note.

‘To get rich is glorious’

But isn’t the whole idea of capitalism and profit anathema to the central tenets of communism? And if so, how did these two opposites attract? In the wake of then Chinese leader Deng Xiaoping’s 1978 reforms, a great discovery of applied politics was made in China: that you can have capitalism without democracy. Spotting a gap in the market of ideas, Deng decreed that “to get rich is glorious”, meaning that capitalism was ideologically neutral and could serve the needs of a communist regime.

The current marriage of capitalism and communism is a lesson for democrats not to trust in their wishful thinking. Instead, the often touted hypothesis about capitalism’s democratising effects must be put to the test. It is clear that capitalism does not make authoritarian or totalitarian Belarus, China, Laos or Vietnam any less authoritarian or more pro-democratic or pro-western. Cuba, North Korea and Venezuela ditched capitalism once before, when they became communist, in 1948 and 1959 and 1999 respectively, and they are reluctant to re-embrace it. But China’s enthusiasm for undemocratic capitalism since 2004 – known as the Beijing consensus in the west – may compel them to follow suit soon.

China’s economic success, if it lasts for several generations, may lead to the fortification of nascent communism 2.0, with capitalism as an integral part of this ideology. Communist-capitalism is not an oxymoron any more, as long as the ruling communist party keeps entrepreneurs subservient to its ideology and governance.

So what are the specific characteristics of the new communist 2.0 state? Perhaps, the self-declaration of being a communist state is the most obvious and that this features in the constitution. Even if some states give it a different name.

Civic and human rights are seriously limited and often denounced as a “western ploy”. For instance, no individual right to vote exists in China, while the state actually owns citizens’ bodies to do with them as it pleases.

A similar level of abuse is observed in North Korea and Vietnam. And growing repression has also been observed in Belarus and Cuba.

Recently, the west woke up to the dangers that its liberal and democratic values may face and the fact that capitalism alone cannot guarantee freedom and human rights. The fear that the age of communist China’s imperialism has already arrived motivated Australia, the UK and the US, for example, to form a new military pact. Imperfectly – and probably to Beijing’s delight – AUKUS agreement excludes the EU.

Technological totalitarianism

In China, the traditional features of totalitarianism have become irretrievably combined with the system’s appetite for hi-tech conditioning and surveillance. For example, the total control of Xinjiang’s Muslims is made possible through the region’s mass database of the population’s DNA and irises.

Technology and AI are communism 2.0’s largely bloodless methods for extending total control over the population, making sure that every individual toes the party’s line. This compliance is also enabled by the emerging military surveillance industrial complex, which is going to be at the core of successful communist-capitalism.

More control means more job openings in this complex, directly translating into economic growth, that in turn will go back into financing that control – totalitarianism’s perfect feedback loop, with no way out. And so repression becomes recognised as the engine of the economy; a guarantee of prosperity for most (though not all).

The seismic shift from Soviet-style communism 1.0, based on heavy industry, to China’s AI-supported communism 2.0 can be observed to different degrees across those seven communist states. North Korea remains an outlier and a squarely communism 1.0 state. To this day, Pyongyang refuses to follow the communism 2.0 path, despite Beijing’s quiet nudges in that direction (although there are signs that could be changing). Cuba and Venezuela, meanwhile, are also closer to communism 1.0, still making non-pragmatic choices informed by idealism and ideology. At the other end of the spectrum, Belarus, Laos and Vietnam are using whatever works economically (as long as the ruling party controls production and profits). They are China’s conscientious pupils, bent on implementing communism 2.0.

Democratic alternatives

Unless the world’s democracies come up with attractive and effective solutions to socioeconomic ills such as unemployment, falling living standards and income, and inaccessible medical care, then I am afraid that communism 2.0 is going to win hands down. In this scenario, the number of communist states is bound to grow and individual and political freedoms will diminish.

China’s Belt and Road Initiative (BRI) is exactly the type of ambitious project that the world’s democracies acutely lack at this moment in time. The plan is to link and build a coordinated network of railway, road and maritime corridors to span all of Africa, Asia and Europe for the seamless export of products from China and the easy import of raw materials to this communist powerhouse.

Not only does the BRI already facilitate China’s exploitation of Eurasia and Africa, but it also functions as the main conveyor belt for spreading communism 2.0 globally.

Adoptions of the Chinese model’s signature mix of welfare state policies with growing authoritarian tendencies and a single party’s aspiration to seize all power have been observed in present-day Europe since 2015, be it in Bulgaria, Hungary, Poland or Serbia. Unsurprisingly, these countries’ pro-authoritarian leaders are enamoured with Chinese economic and political success. They hope to establish privileged links and collaboration with the communist superpower and they may not be the last western states to fall under its spell.

To curry favour with Beijing, Europe’s aspiring autocracies are busy dismantling democracy and putting curbs on political rights and freedoms at home. Since 2015, Poland has repeatedly been risking tens of billions of Euros in developmental aid from the EU by rejecting the basic principle of EU legal primacy. Facing growing censure, in 2017, incredulously, the Polish prime minister said that it did not matter, because in such a case China would offer Poland more money than Brussels.

I fear that, after my childhood in communist Poland, I may have to live out my old age under a communist 2.0 regime of renewed oppression. However colourful and hi-tech its façade may be, the enforcement of the ruling party’s line in this possible future will be swifter and more totalitarian than in the Soviet bloc’s pre-cyberspace past.

Vast databases of citizens’ DNA and irises will make personal identifications impossible to fake, while ubiquitous online, mobile and CCTV monitoring will liquidate privacy and any possibility of organised dissent.

In the state’s gaze, each person will stand naked with no choice but to do the autocrat’s bidding or be vanished and die, forgotten by all, out of sight in a “black jail” or in an officially non-existent concentration camp.

Even the memory of such an ideological miscreant will be erased from people’s minds, thanks to the rise of the state-controlled “sovereign internet”. As George Orwell predicted in 1984: “Who controls the past, controls the future.”


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Tomasz Kamusella does not work for, consult, own shares in or receive funding from any company or organisation that would benefit from this article, and has disclosed no relevant affiliations beyond their academic appointment.

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Government

Tesla And Hertz – Whatever Next…

Tesla And Hertz – Whatever Next…

Authored by Bill Blain via MorningPorridge.com,

“Democracy is absolutely the worst form of government, except for anything else…”

Tesla’s rise into the $1 trillion club is extraordinary – proving…

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Tesla And Hertz – Whatever Next...

Authored by Bill Blain via MorningPorridge.com,

“Democracy is absolutely the worst form of government, except for anything else…”

Tesla’s rise into the $1 trillion club is extraordinary – proving that listening to what the momentum crowd is buying, while suspending disbelief and fundamental analysis is one road to success. Hertz is a lesson in seizing the moment – its stock gains and free publicity from its new EV fleet will likely exceed the cost of the cars!

As I write this morning’s Porridge I am going to try and not sound like a bitter and twisted old man….

I suppose today’s lesson today might be: “Don’t over think it.” Every morning I wake up and try to make sense of the market noise to discern the big forces acting on markets, the underlying rationales, what the numbers really mean, the potential arbitrages, and the direction of trade flow. But I wonder if I’m doing it wrong.

It’s not what I think that matters. The only thing that’s important is what the market thinks.

The market is simply a voting machine where suffrage is simply the price of a stock. If the market believes Donald Trump’s sight-unseen social media empire is worth billions, so be it. If the market believes Meme Stocks are worth trillions, so be it. Whatever the market believes.. so be it.

As so many clever economists and traders have spotted before me.. it’s the madness of crowds that matters. Over the last few years understanding Behaviours has proved far more useful than forensic accounting skills when it comes to stock picking.

I make the mistake of calling out the inconsistencies of the “drivers” like Adam Neumann, Cathie Wood, Elon Musk and the Eminence Noirs driving SPACs and funds – rather than understanding what makes them look so attractive, clever, clearsighted and intuitive to so many market participants. Promise most people you are going to make them unfeasibly rich – and they will listen.

I make the schoolboy error of asking.. how?

Life is full of regrets. If we let them define us – we truly would be miserable.

Do I regret dumping Tesla in the wake of the cave-diving comments scandal? I reckoned it was massively overpriced around $70. Ever since I have pontificated why it’s not worth a fraction of even that valuation. I don’t regret selling, but I acknowledge I’ve been wrong about the price. But not because I got the fundamentals wrong – I misread the crowd. Failing to understand the momentum was my failure. I am less wealthy than I could have been.

Tesla is worth a Trillion dollars plus. Elon Musk is the richest guy on the planet. These are facts.

Tesla, remarkably, has become a great auto-company. It makes good cars. It understands the logistics of super-charging networks. It has front-run the switch from ICE to EVs, making them mainstream, leading a massive industrial shift, and forced the rest of the sector to play catch up. It changed the perception of EVs from milk-carts to desirable luxury status symbols. It will successfully open new plants and sell more cars. It’s the number one selling car in Europe this quarter – possibly because no one else can get hold of chips!

Perversely, Tesla’s success demonstrates momentum can take a company to fundamental strength. For much of Tesla’s life, sceptics like myself predicted it would stumble and fall, brought down most-likely by apparently insurmountable production problems, its debt load, or regulation. It didn’t happen. Instead it survived, thrived and has been able to reap the momentum and build a strong balance sheet on the back of its extraordinary stock price gains. It could potentially acquire whole swathes of its rivals and supply chain.

It’s been an extraordinary climb from likely disaster to undeniable success – and the one constant has been the support of dedicated Tesla fans. Frankly, it flabbergasts me just how Elon got away with it… but he did.

At this point you are expecting a But…

But…. What would be the point?

In the mind of the crowd facts like how 10-year old Telsa only just started making profits on selling cars don’t matter. Its consistently made profits for the last 2.25 years – largely from selling regulatory credits. Prior to that… Tesla racked up losses. It has consistently failed to deliver so many promises on deliveries, automation and new models. None of these facts matter.

It’s what the market believes that matters.

So, there is no point looking at Tesla this morning and trying to explain how it’s worth a trillion – a multiple of the much larger and more profitable Toyota. Let’s not wonder  why many analysts reckon its going higher. There is no point trying to fathom why a $4.2bn order from newly out-of-bankruptcy Hertz caused the stock price to ratchet up $110 bln yesterday.

This morning analysts are predicting Tesla stock will go higher, building from the “breakthrough psychological level of $900, right through the key $1200 milestone level, and then the next level is $1500.” There was nary a mention of its PE, fundamentals, margins or such irrelevancies… just that its going higher.

Meanwhile…

The Hertz trade is fascinating – Hertz has generated tremendous publicity for its re-launch, and enough stock upside to pay for the cars! It steals a march on any other hire firm wanting to build a fleet of EVs. Hertz went bust early in the pandemic and sold its whole fleet. But, as signs of economic recovery first appeared it became the perfect recovery play. After a bidding war, it was bought out from bankruptcy and restarted with a clean sheet. It now has its very own army of meme stock proponents. Its stock price has more than doubled to $12 on the OTC market.

The fact car hire firms are vulnerable businesses in a highly competitive market, or there are now literally hundreds of new EV makers, in addition to the incumbent ICE auto-manufacturers – all now competing in the EV space for Tesla’s lunch – doesn’t matter.

For now.

Always bear in mind Blain’s Market Mantra no 1: The Market has but one objective: to inflict the maximum amount of pain on the maximum number of participants.

Tyler Durden Tue, 10/26/2021 - 08:00

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Economics

Technically Speaking: The Bull & Bear Market Case – Part 2

Last week’s "Technically Speaking" covered the first part of the bull and bear market case as we head into the end of the year. As we noted, investors face a conundrum between year-end seasonality and the Fed starting to taper its bond-buying program….

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Last week’s “Technically Speakingcovered the first part of the bull and bear market case as we head into the end of the year. As we noted, investors face a conundrum between year-end seasonality and the Fed starting to taper its bond-buying program.

I received lots of comments about the article from individuals pointing out their perspectives on the market. In addition, there were enough excellent comments to derive a follow-up to last week’s post.

The dichotomy of views is broad. Numerous articles recently discussed how the bull rally would emulate that of the 1920s. Others discuss the biggest crash ever is coming. The problem is wading through the noise to discern the underlying risk at any given point.

It’s challenging to do. Such is why so many advisors charge clients a fee for “buy and hold” strategies. Since there is a lack of knowledge or experience to manage risk, they tell clients they can’t do any better than deal with the eventual losses.

That isn’t investing. That is a capitulation to laziness, a lack of research, and a lack of defined investment discipline and strategy. While such approaches seem to work while markets are rising, financial goals get permanently destroyed when markets eventually decline.

If such was not the case, then why, after two of the largest bull markets in history, are 80% of Americans woefully unprepared for retirement?

While the promise of a continued bull market is very enticing, it is essential to remember that all markets ultimately complete a “full cycle.” Therefore, if your portfolio, and eventually your retirement, depends on the thesis of an indefinite bull market, you should at least consider the following charts.

The Bullish Case

1) Sentiment

Despite the recent correction in the market, bullish sentiment has quickly returned to the market. As a result, the CNN Fear & Greed Index is back to “greed” levels after the latest rally. However, the index gets heavily influenced by the movement of the market.

Our “Fear/Greed” index gets based on how investors allocate to the market without any influence from market price changes. While our index declined with the recent correction, investors have quickly piled into equity risk over the last week.

What is clear, judging by the surge in SPACs like Digital Media (DWAC) last week, investors have been quick to jump back into some of the most speculative assets recently without regard to the underlying risk. But, of course, such is also a sign of a high degree of “complacency.”

2) Complacency

At the moment, there are plenty of concerns, but investor psychology remains hugely bullish. Most concerns are well known, and, as such, the market discounts them concerning forward expectations, valuations, and earnings projections. However, what causes a sudden “mean reverting event” is an exogenous, unexpected event that surprises investors. In 2020, that was the pandemic-related “shutdown” of the economy.

Currently, as shown by the collapse in the volatility index over the last couple of weeks, investors are highly confident that a “correction” will not occur.

“The Volatility Index (VIX) closed at a new 18-month low as the S&P 500 closed at a new multi-year high on Thursday, 10/21/21. If you were wondering, the 18-month low in the VIX Index represents the first occurrence since November 2017.” – Sentiment Trader

It is worth remembering the market had three 10-20% corrections in 2018 as low volatility begets high volatility.

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

3) Earnings Expectations

Currently, significant support of the bullish advance remains the rather exuberant expectations of earnings heading into the end of the year. With estimates very high, forward valuations are dropping as market prices remain at the same level currently as in August.

As long as expectations get met, the bullish advance can continue. Furthermore, as noted last week, with the buyback window opening November 1st, that support for asset prices will continue into year-end.

So with this very bullish backdrop for equities short-term, what is there to be worried about?

The Bearish Case

1) It’s Been A Long Time

As noted this past weekend, the S&P 500 index has gone 345-days without violating the 200-dma. Such is the sixth-longest streak going back to 1960.

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

While investors are currently starting to believe that a test of the 200-dma won’t happen, there are several points to be mindful of.

  1. Corrections to the 200-dma, or more, happen on a regular basis.
  2. Long-stretches above the 200-dma are not uncommon, but all eventually resolve in a mean-reversion.
  3. Extremely long periods above the 200-dma have often preceded larger drawdowns.

The most crucial point to note is that in ALL CASES, the market eventually tested or violated the 200-dma. Such is just a function of math. For an “average” to exist, the market must trade both above and below that “average price” at some point.

2) Lack Of Liquidity

Since the pandemic-driven shutdown, there has been a flood of liquidity into the financial system. In the short term, that liquidity supports economic growth, the surge in retail sales, and the explosive recovery in corporate earnings. That liquidity is also flowing into record corporate stock buybacks, retail investing, and a surge in private equity. With all that liquidity sloshing around, it is of no surprise we have seen a near-record surge in the annualized rate of change of the S&P 500 index.

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

“However, as stated, there is a dark side to that liquidity. With the Democrats struggling to pass an infrastructure bill, a looming debt ceiling, and the Fed beginning to “taper” their bond purchases, that liquidity will start to reverse later this year. As shown below, if we look at the annual rate of change in the S&P 500 compared to our “measure of liquidity” (which is M2 less GDP), it suggests stocks could be in trouble heading into next year.”

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

While not a perfect correlation, it is high enough to pay attention to at least. With global central banks cutting back on liquidity, the Government providing less, and inflationary pressures taking care of the rest, it is worth considering increasing risk-management practices.

3) Bad Breadth & Volume

In the very short term, despite the bullish market rally, the technical backdrop remains exceptionally weak. However, to expand on a point from last week, breadth remains dismal, with only 60% of stocks above their respective 50-dma even though the index is at all-time highs.

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

Moreover, while our “money flow buy signal” reversed to previous highs, volume dissipated sharply during the advance. Such suggests that “commitment” to the market rally remains lacking, and liquidity is thin.

Stocks Earnings Risk 10-22-21, Stocks Surge As Earnings Roll-In, But Is Risk Gone? 10-22-21

Plenty Of Risk, Limited Reward

While anything is possible in the near term, complacency has returned to the market very quickly. As noted, while investors are very bullish, there are numerous reasons to remain mindful of the risks.

  • Earnings and profit growth estimates are too high
  • Stagflation is becoming more prevalent
  • Inflation indexes are continuing to rise
  • Economic data is surprising to the downside
  • Supply chain issues are more persistent than originally believed.
  • Inventory problems continue unabated
  • Valuations are high by all measures
  • Interest rates are rising

Furthermore, as noted above, there is limited upside as the annual rate of change in the market declines.

So what do you do?

As discussed last week, we believe additional equity exposure gets warranted due to the bullish case. However, the longer-term dynamics are bearish. 

For now, we remain optimistic about the markets due to liquidity, seasonality, and bullish sentiment. However, we remain concerned about the broader macro risks, which keep us cautionary. Therefore, it is crucial to stay unemotional and focus on managing your portfolio.

Such is why focusing on “risk controls” in the short-term, and avoiding subsequent significant draw-downs, will allow the long-term returns to take care of themselves. The following are the “control boundaries” under which we operate.

Everyone approaches money management differently. Our process isn’t perfect, but it works more often than not.

The important message is to have a process that can mitigate the risk of loss in your portfolio.

Does this mean you will never lose money? Of course, not.

The goal is not to lose so much money you can’t recover from it.

The post Technically Speaking: The Bull & Bear Market Case – Part 2 appeared first on RIA.

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