mattee2264

How much of a factor is Biden draining the SPR? Being cynical it was a way to try to offset energy price inflation which feeds into the headline CPI figures. And without those additions to the markets prices would have probably averaged a lot higher over the last year or two.

Where do people see energy stocks heading in 2024? Record US oil production and OPEC struggling to keep compliance and possibility of a global slowdown seem like negatives. On the other hand valuations are still pretty reasonable compared to rest of the market, companies are using cash flows to pay down debt and reward shareholders, and longer term outlook is still good as energy transition is going to take a long time and no one is really making long term investments anymore so supply will likely be constrained in the future.

Tech there do seem to be two ways to lose: 1) No landing/take off: investors gain confidence and rotate into cyclical and other more economically sensitive stocks and there is upward pressure on rates 2) Hard landing: tech giants don't exist in a vacuum and are probably more cyclical than investors realise especially when you consider their underlying businesses e.g. Google/Facebook = advertising e.g. Amazon = consumer spending e.g. Tesla = autos. e.g. Nvidia = semiconductors. Soft landing suits tech because in a low growth low inflation low interest rate world the scarcity of growth makes their secular growth prospects especially valuable and reinforces their status as one-decision stocks.

I think that is backwards. Market was predicting lower rates way before Fed threw in the towel.

Fed is political and I do not think it has any real intention of bringing inflation down to 2%. Its projections (for what little they are worth) do not see inflation returning to 2% until 2026 which they are seemingly OK with given they project rate cuts next year. That would be five years that they would have missed their target. By that point inflation expectations will be anchored at a higher level and I cannot see them being willing to go through the pain necessary to go the final mile and restore credibility in their inflation target.

I don't think Mag7 are so bad. Microsoft, Apple, Meta, Alphabet are all around 30-35x trailing earnings. That is only about a 50% premium to the average stock which doesn't seem unreasonable for quality growth stocks. Amazon PE ratio has always been misleading because they invest so much for growth. Tesla and Nvidia have nosebleed valuations for sure. But it is dangerous to bet against stocks that seem at the forefront of the most popular market themes i.e., green revolution and AI.

The yield curve has been inverted for ages as well. But are these usually good indicators still relevant in an economy where: -The US government is running multi-trillion dollar deficits every year which can offset any weakness in manufacturing (which is a far less important sector than it used to be historically) -Interest rates are incredibly manipulated as a result of money printing and forward guidance and market speculation The US economy reminds me of a gym bro juiced up on steroids. On the surface it looks strong and healthy. And will probably remain so as long as it continues to be juiced by stimulus. But eventually it will either get a heart attack or there will be some policy constraints that prevent the ongoing stimulus that it is so reliant upon. It seemed for a while as if inflation would put an end to accommodative monetary policy and the market didn't like that at all. But monetary policy hasn't really been that restrictive. There is still way more money floating around than there was pre-COVID and with the regional banking crisis the Fed has actually been expanding its balance sheet and QT has been proceeding at a fairly sluggish pace. And markets have now (probably correctly) determined that "tight" policy is transitory and pricing in much lower rates which along with stock markets approaching record highs has substantially loosened financial conditions. And any contractionary effect from monetary policy has been blown out of the water by unprecedented fiscal stimulus that is still at war time/emergency levels even though COVID is a distant memory and we are supposedly at full employment. Maybe policymakers will be able to stave off recession and eventually the economy will be able to stand on its own two feet and the excessive stimulus can be withdrawn. But more likely there will be an eventual bust even if we do have a few more boom years to go.

What I do find very suspect is that 2 weeks ago Powell said it was premature to speculate about rate cuts and yesterday rate cuts are now on the table for discussion. Powell is supposedly data dependent. Well over the last 2 weeks ISM Services report was a clear beat, November payrolls report was a clear beat with unemployment coming in lower than expected and average hourly earnings hotter than expected. U Michigan Consumer Sentiment report smashed expectations, CPI Inflation came in hotter than expected, and today retail sales beat expectations as well. Financial conditions have loosened massively making a mockery of Fed comments that the steepening of the yield curve meant the market could do some of the tightening for them. So data is hotter. Inflation is still double target. No evidence of recession either in the unemployment data or the retail sales data. All that has really changed for the worse is Biden's approval rating.

Wouldn't be so sure. Usually there is a term premium of around 100bps. So with the Fed funds rate still at 5% and the 10 year bond dipping below 4% even if the market is correct and there will be six rate cuts in 2024 that isn't going to produce much of a yield curve. And the US government has a lot of debt that needs to be refinanced as well as the likelihood of another multitrillion dollar deficit.

Interesting that the Bank of England have gone in a different direction and admitted that inflation isn't under control and they will have to keep rates higher for longer even as the economy plunges into recession. I suspect a lot of other central banks that are less politically motivated will take the same approach. Ironically monetary and fiscal easing is going to weaken the dollar and add to inflationary pressures in the US economy.

I think the risk for markets is that the S&P 500 is already trading at 20x forward earnings. The long bond is already below 4%. The S&P 500 is already at levels last achieved when the Fed Funds rate was close to zero, the Fed was printing money like crazy, the US government was doling out handouts to all and sundry, and the US economy was enjoying one of the strongest economic recoveries in the post WW2 period. And to the extent interest rates go lower it will be because growth is slowing down considerably and most Wall Street forecasts are pencilling in 10%+ EPS growth for the S&P 500 in 2024 and a lot faster growth for Mag7 and the like. Also the Fed seem to make it up as they go along. While I wouldn't discount a political motivation for promising rate cuts in an election year especially with a lot of government debt requiring refinancing, they will look very stupid if inflation increases in 2024 and they try to go ahead with rate cuts.

Funny that the Fed Put has morphed into the Fed Call. Markets close to ATHs and Powell comes out and congratulates himself on beating inflation and says rate cuts are now on the table and don't worry guys inflation will be back on target in 2026.

Fed has just confirmed with their dot plot that they expect three rate cuts in 2024. And Powell also said that a recession is not necessary to start cutting rates. Market got it exactly right that Powell was just posturing to try and restore what little credibility the Fed has. Now it is election year he will give markets and the US government what they want.

Something fishy about the Fed signalling rate cuts during an election year when core PCE is still twice the target rate. Wasn't it just two weeks ago that Powell told the market not to speculate about rate cuts. Then lo and behold the Fed confirm that rate cuts are now on the table. Irony is that by promising rate cuts within the next year that is going to discourage consumer and investment spending because why borrow now when you can borrow a year later at much cheaper rates?

I think it depends on how much resolve the Fed has to get inflation back to 2%. They are using the lag factor as an excuse to pause. And jaw boning about how their stance is restrictive. But if they were less political they would admit that the massive fiscal deficits are completely dominating the impact of rate increases and most of the decreases in inflation to date have very little to do with them and more to do with supply chain issues easing, commodity prices falling, and companies reaching the limits of their ability to price gouge consumers. They are also ignoring the massive loosening of financial conditions as a result of the market recovering most of its 2022 losses and long term bond yields sliding. It would also not surprise me at all if the economic data that the Fed is "dependent" on is very manipulated. It is a typical trick. Report strong headline data. Then in later quarters quietly revise it downwards. Some evidence of that already in the jobs data. And there is a massive divergence between GDP and GDI. So with all this smoke and mirrors it is difficult to tell how strong and resilient the economy really is. And that seems to be the basis for the soft landing optimism. The economy has been strong and resilient avoiding recession in spite of an aggressive tightening cycle. Inflation has pretty much fallen in a straight line and is heading back to target. And non-inflationary growth will allow the Fed to cut rates. So you end up with a Goldilocks scenario in which 2024 EPS will be higher and 2024 interest rates will be lower. And AI optimism is an added kicker. So little wonder you are getting SPY 5000 and even SPY 6000 market calls.

Shiller PE is being distorted by Mag7 because if you apply a 10 year earnings average to high growth stocks it is always going to result in a very high number. The same kind of thing happened in the late 90s when the Shiller PE topped out above 40. And all the Shiller PE is supposed to do is predict 10 year returns. If history is a guide then with the Shiller PE around 30 you can expect 10 year returns of around 5-6% per annum. That is still better than you can get on a long bond. The table below is quite instructive. But it is also a bit deceptive. Because it shows returns from your starting point. It doesn't show the dilution in returns from selling at some earlier point and sitting out of the market for several years waiting for the predicted return to increase.

Above is a very valid point. You can improve near term results by cutting costs, capex, research spend etc. But the risk is that by doing so you will fall behind and in a winner takes all dynamic that is a risk you cannot afford to take so it makes business sense to err on the side of overinvestment and overstaffing and make sure staff are paid enough that they aren't tempted to jump ship and join a competitor.

Lying requires the ability to distinguish truths from falsehoods and deliberately choose the falsehood. AI is not capable of that. What it is capable of which makes it unreliable and dangerous is making incorrect statements with a lot of conviction. And as anyone with a basic grounding of human psychology will understand that when someone sounds very confident when giving a response they are often believed. In fact politicians make a career out of that ability. AI also has a massive halo effect so people will probably find out the hard way that it is not always reliable and has major limitations.

It is tough really. Most value investing theory is based on reversion to the mean. As Graham loved to quote ""Many shall be restored that are now fallen, and many shall fall that are now in honour". There are also a lot of outdated academic studies showing that buying glamour stocks is a losing proposition so there is a natural reaction to shun popular stocks that everyone seems to own. But with more and more of consumer and business wallet share going towards e-commerce/digital advertising/cloud/AI those are tailwinds that are very favourable for Big Tech and very unfavourable for everyone else. And therefore anyone without at least a market weight in Big Tech risks getting left behind. Especially if AI lives up to the hype and extends their growth runway another decade. Valuation risk is clearly higher than previous years. You are paying about double the market multiple. On the other hand mega caps traded at much higher multiples at the heydays of the Nifty Fifty and dot com bubbles. Competitive risk is possibly lower than previous episodes because most of them have incredibly strong moats and each technological advance seems to reinforce them with AI likely to be no different at least in terms of its current limited possible applications. Tesla and Nvidia have technological leads which historically are difficult to maintain but in the meantime they can build their mind share so even when viable alternatives arrive people may still go with Tesla and Nvidia. Probably the greatest competitive risk is that as their markets overlap more and more competition between themselves intensifies driving down margins and returns. But historically with new technologies especially those that can capture the imagination the way AI can then there is a risk of new competition from upstarts who have little trouble attracting money from venture capitalists and the speculative public. And long dominance and technological leadership didn't save IBM, Intel or Polaroid from being disrupted by emergent technologies. Execution risk is there especially with AI requiring huge investments with uncertain returns. But in general their core businesses are well managed. Cyclical risk is probably underestimated. They haven't been tested by a proper recession. The COVID episode was brief and it soon became clear they were major beneficiaries. But historically advertising, semiconductors, consumer goods, cars, even IT have not been immune to the economic cycle. And until AI hype took over investors were most unkind to the contrast between 2021 and 2022 results the latter weighed down by inflation and a slowing economy. But so long as the US government continues to spend trillions and companies are reluctant to fire staff the US can probably avoid a severe recession. And bizarrely if economic growth did strengthen and was accompanied by higher interest rates it might encourage a rotation out of tech and into more cyclical/value names. So to some extent Big Tech do rely on a goldilocks not too hot not too cold economy. They did badly in the fire stage and might do equally badly in the ice stage. Regulatory risk is hard to call. Regulation has been pretty soft and done little to prevent acquisitions that have enhanced tech dominance. But it is not unforeseeable that regulators would want to put roadblocks in the way of AI advancements. Geopolitical risks might also exist if they make it difficult for global domination to persist and makes it more difficult for them to operate in certain markets. And probably some other risks that haven't occurred to me.

https://futurism.com/economist-ai-doomed-bubble Article above pours a bit of cold water on some of the hype. Basic criticism is that LLMs learned to write before they learned how to think and while they can string words together in convincing ways they have no idea what the words mean and are unable to use common sense, wisdom or logical reasoning to distinguish truth from falsehood. And as a result they are unreliable. And dangerously so because they are programmed to sound so confident and convincing. In another essay Smith and Funk recall the "Eliza effect" a 1960s computer program that caricatured a psychiatrist and convinced many users that the program had human-like intelligence and emotions. And we are vulnerable to this illusion because of our inclination to anthropomorphize. So in many ways Chat GPT and the like are just another example of pseudo intelligence. It reminds me a little of well of the way that parents have a tendency to extrapolate thinking just because their kid does something semi-intelligent he will grow up to be a genius. In the same way the argument seems to be "Well it is 2023 and already these AI models can write college-grade essays and do high school math. So by the end of the decade AI will be capable of doing most jobs better than humans with unimaginable productivity benefits" But the history of AI shows that what tends to happen is that a brick wall is reached and then there is an AI winter that can span decades. And the scary thing is that because of FOMO Big Tech companies not to mention all the VC funds and so on are going to invest billions and billions with very uncertain returns. Perhaps they will make money out of it at least in the early days because if enough consumers and companies believe in AI they will want to buy the AI products even if they aren't really that game-changing and prove to be unreliable. And the illusion is very strong. But the problem with fads is that while you might buy a fad product once, you aren't likely to be a repeat buyer, and to justify the massive investment it needs to become a recurring revenue stream.

Amazing really especially when you compare to the sums spent during the GFC. Fiscal policy also operates with some lags so I think the cumulative spend since the pandemic has played a massive role in keeping the US economy from falling back into recession and has clearly dominated the impact of monetary policy tightening except for very interest rate sensitive sectors. Obviously becoming less productive as even without a decrease in spending more of the spending will go on interest payments rather than handouts. Long term also pretty scary especially as if AI fulfils its promise there is going to be a massive amount of structural unemployment and global corporations are a lot harder to tax than individuals.

Trust is probably going to be a big deal. Especially for businesses who are going to place a lot of reliance on the output of AI applications. And Big Tech are going to want to include in their ecosystem and integrate with their other service offerings to increase the likelihood you'd pick their product. Where markets could have got it very wrong is overestimating the short term revenue opportunity. Especially when you consider how massive revenues of Mag7 companies already are. And that to some extent that AI market is going to be shared between them and possibly some start ups as well as if AI becomes very bubbly everyone and anyone will be able to secure funding.

I'm inclined to stay in short term bonds. While inflation will probably continue to come down I would expect the yield curve to steepen especially as concerns over US government debt begin to build.

Companies only cut prices if they think that failing to do so is going to mean unsold inventory. So while good for inflation, bad for corporate profits and employment.

Mag7 does seem like the no-brainer way to play the AI revolution. Deep pockets, cashflows from core businesses to invest in research and hiring the best human capital, existing capabilities in things like machine learning, automation, coding and so on. And with antitrust laws so weak they can buy out any emergent competitors. It reminds me a little of cloud. With the benefit of foresight an investor would have realised that cloud was a fantastic money maker that companies like Amazon, Google and Microsoft were well placed to exploit. And at the time these companies were under-priced because the potential of cloud was not reflected in their price. As a counter example though historically incumbent firms such as IBM at the dawn of the PC age and Microsoft in the Internet Age had deep pockets but new firms emerged and captured a lot of the value creation. And to some degree new technologies involved some creative destruction cannibalising to some extent the old technologies. And clearly AI prospects are to some extent priced in with Nvidia an extreme example and probably to justify Tesla's crazy valuation you are also betting they make a lot of money through AI rather than selling cars. But then again in the Dot Com Bubble mega-caps got up to 60-70-80x earnings or more. And so if the AI bubble really takes off then Mag7 could easily quintuple over the next 5-10 years. So Mag 7 doubling YTD coming off a severe tech bear market is nothing and if AI can fulfil its early promise and Mag7 are the winners then still a lot of money to be made. The issues I see are that: a) AI is going to require a lot of investment. Returns could be quite far in the future. And there might be an incentive to prioritise short term commercial applications that are more incremental than transformative in nature. And while that would reduce the investment required it would also reduce the value creation. And because core businesses are so profitable and capital light if the economics are inferior that is going to show up in the numbers and disappoint investors. b) Establishing a moat in a new technology takes time so there is vulnerability to creative destruction and while deep pockets give an advantage it does not guarantee success. After all most of the Mag 7 emerged from nowhere and most of the mega-cap techs of the dot com boom are either gone or are insignificant players. Even within the Mag7 there will be winners and losers as they are competing with each other. c) AI is going to be something that governments are going to want to regulate. It is a threat to jobs which can disrupt the social order and put pressure on government budgets. It can also lead to the spread of disinformation. Currently attempts to regulate Big Tech have been pretty pathetic. But AI is going to increase incentives to do so.