Begin With The End In Mind

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by: Bill Ehrman

In Seven Habits of Highly Effective People, author Stephen Covey, globally renowned leadership coach and business leader, explains that in order to be a successful, you need to develop and maintain key habits.

The second habit is to start with the end in mind. What this means for investors, for example, is to get clear about our vision, what we want to create. We need to hold that desired outcome in mind as we create a long term strategy to get there knowing we will be tempted to divert or be thrown off course in the midst of volatility, uncertainty, complexity and ambiguity ("VUCA") along the way.

Successful investors take notice of these changes and adapt accordingly, but always stay focused on their ultimate objective. Think about Bezos, Dimon, and Buffett, who follow this thesis. They respond to timely events but always with an eye on the end game.

Doesn’t that sound like Trump with his campaign to “Make America Great Again”? His agenda began with changing the tax system to make us globally competitive, with an incentive to invest, while giving consumers more money in their pockets; then reduce overly burdensome regulations that prevented or delayed businesses from investing in their futures; and finally to alter trade policies that were outdated and did not protect our IP. Simply stated, his vision was that we would live in a world without tariffs or with reciprocal tariffs and no subsidies protecting IP. What’s wrong with that?

The problem is that the counterparty countries enjoy the free lunch and do not want to change. So what do you do to stay the course while focusing on the end game?

Trump has a distinct advantage in dealing with our trade partners, whether he planned it that way or not. The U.S economy is super strong, while growth overseas has sputtered.

  1. U.S corporations are earning record profits generating huge free cash flows despite hiking capital spending, dividends and buybacks.
  2. Consumer spending is strong supported by the creation of over 2.5 million new jobs since Trump has been in office. The unemployment rate has declined to under 4% while hourly wages are accelerating. Inflation is staying under control as productivity is finally accelerating too.
  3. The dollar has been strong which means that our economy is doing better than our foreign counterparts. Dollar-denominated debt is choking many foreign countries and companies.
  4. The Fed has begun a path toward normalization, while the ECB, BOJ and Bank of China need to maintain monetary easing policies.
  5. Inflation is staying around 2% despite sharply higher real growth as real wages are under control.
  6. Our stock market is hitting record highs while foreign markets are in major corrections.

While the pundits, businessmen and politicians on both sides of the fence feel that Trump doesn’t know what he is doing when dealing with trade policies, the truth is that he has a clear vision of his desired outcome. The inequities are clear: Europe charges 25% tariffs against our autos when we charge 2.5%. China charges higher tariffs on our goods than we charge for their goods while insisting on joint ownership and taking our IP. And there is the issue of government subsidies.

Let’s state for the record that every administration has failed using statesmanship and negotiations to change unfair trade policies. And we all know that the WTO is totally ineffective taking years for making any decisions.

Trump is no saint for sure and we hate his tactics and tweets. However, he has made his points and clearly, the US has an advantage as our economy can withstand accelerating trade conflicts more than our counterparts. It is time for him to ease up, sit down and negotiate fair deals with Canada, Europe, Japan and China with respect and honor across the table.

We remain optimistic trade deals will benefit both sides leading to acceleration in economic activity as each deal is finalized. After all that, the carrot follows the stick. Self interest and preservation will lead to deals being finalized over the next 3 to 9 months with Canada, Europe, Japan and even China. And if not, each of these economies will suffer more than us in 2019 and the dollar will continue to advance further penalizing those with dollar denominated debt.

Let’s take a look at some of last week’s economic and financial reports that support our contention that the U.S economy remains strong while growth overseas continues to weaken:

  1. U.S. third quarter real growth now appears to easily exceed 3.0% supported by strong consumer and business spending. Job openings in July were near a record 7 million; the Beige Book supported moderate growth with trade fears rising; consumer sentiment increased to 100.8 in September; retail sales rose only 0.1% but the prior month was hiked to 0.7% from 0.5% previously; industrial production increased 0.4% in August and is up 4.9% from a year ago; and consumer prices rose only 0.1% in August and 2.2% from a year ago ex-food and energy.

    All in all the economic data point to a strong fourth quarter too beginning with a 3 too.
  2. The ECB lowered its economic forecasts for 2018 and 2019 as expected to 2.0% and 1.8% respectively with inflation hanging near 1.7%. We believe that these numbers are high unless a trade deal with the U.S is finalized. The ECB’s monetary policy is on hold no matter what Draghi may say. U.S and Eurozone negotiators are scheduled to meet next within two weeks.
  3. Growth in China will continue to decelerate going forward despite government efforts to open the money spigot and force localities to increase infrastructure spending. Auto sales continue to weaken and fell 3.8% last month to 2.1 million units. It was interesting to note that China is moving closer to Russia and also went on a charm offensive last week with U.S multinationals reassuring them that the government would not retaliate against them if the U.S increases their tariffs. Let’s see.

We continue to believe that multinationals are moving as fast as humanly possible to shift their supply chains out of China to other areas. Clearly China has taken notice, which reinforces our belief that they are hot to finalize a trade deal with the U.S.

Trade remains the key issue on our radar screen. As deals are signed with the U.S, economic growth will accelerate and, if not, those regions will stay stuck in the mud as domestic consumption growth will not fully offset export weakness. Nonetheless, we believe that self-interest will prevail over ego leading to capitulation such that trade deals will be signed, including China, with the U.S protecting our IP.

We will be monitoring the November elections closely too. We currently anticipate that the Republicans will lose control over the House but maintain a majority in the Senate. If so, don’t expect much out of D.C., which is not all too bad. We do expect Judge Kavanaugh to be appointed to the Supreme Court, which means a more conservative court going forward.

The bottom line is that the stock market remains prisoners to newsy sound bites over trade as illustrated by the action Friday when it was rumored that Trump will initiate tariffs on an additional $200 billion in Chinese goods. We were pleasantly surprised to hear that the tariff may only be 10% rather than more. Again, we view this as Trump’s bargaining move with the end in mind.

Paix et Prospérité continues to emphasize the largest U.S domiciled global banks; capital goods and industrials; technology at a fair price to growth where the government is not in your face; low cost industrial commodity companies generating huge free cash flow; healthcare and consumer non-durables with strong unit growth and margin expansion; and special situations where internal moves will unlock hidden values. We remain flat the dollar and short bonds expecting the yield curve to steepen.

Review all the facts; pause, reflect and consider mindset shifts; look at your asset mix along with risk controls; do independent research, and invest accordingly.