This guest commentary was written on 12/22/20 by Chief Market Strategist Mike O'Rourke of JonesTrading.
This was an historical year on so many levels, and definitely one for the record books.
The list is long: record stock market highs, record equity issuances, record debt issuances, record amounts of fiscal stimulus, record amounts of central bank asset purchases, record Fed balance sheet, record M2 growth, record job losses, record job gains (not really), record GDP contraction, record GDP rebound, record deficits, record debt to GDP, and record GDP to Market Capitalization.
The list could go on and on, but the one thing that should not be skipped is the human toll. The pandemic has taken lives and ruined businesses in the U.S. and around the world. Many of the small U.S. businesses that managed to survive more than two decades of globalization and government policies that fostered monopolistic behavior were finally done in by the pandemic (combined with inept leadership). The “K” shaped recovery is an accurate descriptor.
We could go on for hours about how the Federal Reserve’s past failures set the stage for this year's crisis response to blow a bigger asset bubble than that of 1999-2000. Today we watched as QuantamScape, a company with zero revenues that plans to be an Electric Vehicle battery maker, hit a $50 Billion market capitalization - that eclipses Fiat Chrysler’s $28 Billion and Ford’s $35 Billion market caps.
If QuantamScape has another day like today, it will eclipse General Motors' $59 Billion market cap. Used car internet seller Carvana is 3x the market capitalization of CarMax, the largest used car dealer in the country whose revenues are 4x that of Carvana. CarMax shares dropped 8% today on surprisingly weak used car comp sales, but Carvana rallied 5%. That is typical for 2020. We could continue to recite the absurd inconsistencies and bubble behavior from just today alone, forget about 2020 as a whole.
We can’t recount the year in its entirety (who would want to anyway). In a daily note, there are numerous observations one makes throughout the course of a year and 2020 had a penchant for making many of them foolish. Regardless, there are a couple of observations we made at critical times that we believe merit reflection. On March 22nd, we wrote that
“The Federal Reserve is being given carte blanche to pursue Draghi like “whatever it takes” measures. The Fed has moved beyond the point of no return and will continue to do so. be the latest market in which the central bank will start distorting prices. … Regardless, we expect the Fed will need to announce another round of asset purchases in the coming week as it continues to frivolously expend ammunition. …. Furthermore, the situation for equities should improve as the week progresses, and we head into quarter end rebalancing early next week. Equities are down35% and Treasuries are trading at central bank supported bubble prices - that is the rebalancing opportunity of a lifetime for a pension fund manager.”
On the next night, we followed up with “While it remains dangerous out there, from a liquidity perspective, it is getting dangerous to be negative on equities at these levels. The three key catalysts driving the equity market in the near term are policy drivers: political, fiscal and monetary.”
On April 30th, as Remedesivir was becoming the first treatment for Covid-19, we made the following observation “We are adjusting our thinking on that upside cap because of Chairman Powell’s admitted willingness to fuel asset bubbles. Under certain circumstances, we can envision this market registering new all time highs as a result of the mismanaged Fed policy. Our core levels remain intact, but with less downside risk and considerably more upside potential.”
We hate to see what has become of asset prices because we fear the impending aftermath. There will be a price to pay for this absurd monetary policy and the American people will bear the brunt of the pain. In this business, when people start saying "this time it's different", it is generally near the end of the move. There is something we will agree is different this time.
The 1999-2000 equity bubble of the housing and credit bubbles of the mid-2000s were driven by market forces - American people and financial institutions making poor decisions. The current asset bubbles have been fueled by more than a decade of central bank asset purchases led most egregiously by the Federal Reserve. The regulators themselves are the primary speculators using Trillions of Dollars to inflate assets with no end (2% inflation) anywhere in sight. The table below is a summary of the year over year change of many components of the markets and the economy.
The only positive in the table is the asset price appreciation that was driven by unhealthy multiple expansion. While the Fed will continue to print money (because that is all they know), M2 should not continue to grow 25% year over year and this bubble should start to deflate. When the air comes out, since assets are at such lofty premiums to value, there will be a significant vacuum lower before levels are found at which buyers will step in.
Lastly, we cannot help but reiterate the important warning that it is very dangerous to project an atypical environment like 2020 onto future years. Many of the most popular trends that appear “different this time” will reverse as the environment starts to normalize in 2021.
EDITOR'S NOTE
This is a Hedgeye Guest Contributor piece written by Mike O'Rourke, Chief Market Strategist of JonesTrading, where he advises institutional investors on market developments. He publishes "The Closing Print" on a daily basis in which his primary focus is identifying short term catalysts that drive daily trading activity while addressing how they fit into the “big picture.” This piece does not necessarily reflect the opinion of Hedgeye.
