By Mark Cudmore, former Lehman trader and current Bloomberg macro strategist and commentator
One Thing Central Banks Can’t Protect Traders From
Equities are on a tear higher for valid fundamental reasons. Let’s address why some widespread concerns are misguided and then highlight one reason to genuinely worry.
A combination of FOMO (fear of missing out) and wishful thinking encourage underinvested punters to constantly suggest stock markets are about to crash in cataclysmic style.
The facts are that growth, earnings and liquidity — the three great pillars of the global equities bull market — remain solid and supportive of higher prices. This doesn’t preclude greater volatility and pullbacks, but it does argue against becoming structurally bearish.
Financial cycles end with bubbles popping, but there’s no systemically important bubble today. Cryptocurrencies show all the signs of being a bubble, but they’re not systemically relevant… yet.
In 2000, we had the dotcom bubble and in 2007 we had collateralized debt. Many asset markets may now be “expensive” but that’s very different from qualifying as a bubble that can set off a chain-reaction of deleveraging.
In fact, the bitcoin bubble is a perfect riposte to a common misperception that central bank liquidity is now being withdrawn from the system. It’s most definitely not.
The Fed is reducing its balance sheet at the margin but that’s irrelevant. It’s only the fourth-largest central bank in the world and its total assets topped out more than three years ago. The facts show that central bank liquidity is increasing as rapidly as ever:
Bitcoin went parabolic, despite no yield and little use, because people have too much cash and don’t know what to do with it.
And excess central bank liquidity addresses another regular concern — that rates are set to rocket higher. The impact and purpose of quantitative easing over the past decade has been very clear: to keep rates low. Rates won’t rise significantly until the era of QE and pumping cash is clearly over. And the chart above shows no sign of that yet.
And that leads nicely into the final concern I will address: that inflation is set to accelerate massively, at least in the U.S., due to a combination of the new tax plan and what’s being characterized as a super- tight labor market.
However, the labor market has a massive amount of structural slack still: a much smaller percentage of the adult workforce is employed now than it was a decade ago. The participation rate collapsed after the crisis and still hasn’t picked up. A narrow-minded focus on the unemployment rate is misleading.
And, as Goldman highlighted Friday, recent tax reform may result in lower prices as corporates use new cash piles for price wars. That may counteract the positive inflation effects from any tax-related wage increases.
After all that, why should you worry?
In a discussion with traders last night, one of the only risks we all agreed on was a global trade war prompted by Trump enacting protectionist measures. Just a few hours after that, Trump announced new tariffs targeted at Asia.
Any escalation on that front is a real immediate concern — the others discussed above are not.