“Investors face not one but two major risks: the risk of losing money and the risk of missing opportunities”. – Howard Marks
Scary Time on Wall Street
Halloween brings with it a sense of fear, and this sentiment seems to have seeped into the world of investments as October drew to a close. While it’s unnecessary to enumerate all the worrisome factors contributing to this fear, every investor is well aware of the list. The recent pullback in the equity market, although unsettling, needs to be viewed in context. Historically, the S&P 500 encounters three to four 5% declines annually, with one usually exceeding 10%. Therefore, the recent pullback isn’t out of the ordinary. What is unusual is the swift turn of events that may herald another shift in trend, leaving many market observers perplexed once again.
However, as we’ve emphasized for months on end, it is the long-term outlook that should be alarming for everyone. Whether this turns out to be a singular frightening episode in the near-term narrative or the beginning of a series of unnerving events is yet to be determined. When the equity market surged to 4588 in July and swiftly receded, it raised the possibility of having marked an intermediate peak. As equities continued to struggle and eventually plummeted to current levels, that possibility started solidifying. This leads to the “MACRO” view, which is fraught with alarming developments.
Looking at the global perspective, the idea that PMIs were “bottoming” took a hit with last month’s reports. On a global scale, manufacturing data has been steadily deteriorating for over two years, with October’s reading slipping further into contraction territory at 44.7. Service sector activity hasn’t been as feeble, but momentum is waning, as evidenced by October’s reading falling to 48.3 from 49.8.
Perhaps the most alarming MACRO issue of all, previously covered in late August, is the revelation that despite claims of US budget cuts, the statistics reveal a budget deficit of $1.7 trillion for fiscal 2023. Projections indicate that budget deficits for the next decade will continue to expand, surpassing $2.5 trillion within five years. Consequently, the Treasury is expected to add $20 trillion to the outstanding debt over the next decade. As the amount of outstanding debt grows, the interest expense will similarly increase.
The Ominous Interest Expense
It is this “interest expense” that was earlier highlighted as the foremost issue that could wreak havoc on the economy, potentially spiraling the entire US economic situation out of control. However, only a small minority in D.C. is addressing it. Interest on the public debt has escalated from 1.5% of GDP before 2008 to 2.5% today, with projections from the Congressional Budget Office indicating that it is expected to swell to 3.7% of GDP by 2033, surpassing discretionary spending on defense (2.8%) and nondefense programs (3.2%). Today, “interest” accounts for 15% of all tax revenue. By 2033, it is estimated to rise to 20% of tax revenue, resulting in a notable reduction in spending on other outlays.
When I inspect the pressing issues, I hold a completely divergent view from the current discourse. It deviates from what the mainstream media, commentators, and alarmists are fixated on. There’s a reason why I’ve criticized and ridiculed the alarmists who insist that the US MUST prioritize electric vehicles as the primary mode of transportation. The assertion that the country’s most pressing problem will be transitioning to alternative energy platforms and EVs by the mid-2030s is an astounding dismissal of the REAL problems at hand. The ONE issue that will significantly reshape lifestyles in this country will be the economy. PERIOD.
To cover the mounting interest bill, other spending categories must be curtailed. Ironically, this will stall the “green agenda” and profligate spending in order to stabilize the situation. The only question is: How much damage has already been done? Herein lies the truly shocking and disconcerting part of this narrative. There is only a small minority recognizing and addressing this issue, leaving the majority in DC under the impression that they have slashed deficits and have room for additional spending. The bottom line is that the budget deficit is spiraling out of control, and many leaders in Washington are not making a serious effort to rein in spending. It’s impossible to fix a problem if it isn’t acknowledged.
Here’s another way to comprehend the situation in a manner even Washington, D.C. can grasp. The Bureau of Labor Statistics reports that consumers currently allocate 33% of their income to housing. If consumers were to engage in excessive spending, amass substantial debt, and devote another 33% of their income to interest payments on credit card bills, only one-third of that income would be available to cover essentials such as food, gasoline, medical expenses, insurance, education, and vacations. It’s evident that consumers cannot afford such excessive spending.
Ironically, in the same period where alarmists are forecasting doom and gloom, fretting about everything but the RIGHT thing, a potential economic downward spiral may hit the US economy (assuming it hasn’t already done so). Unlike the benign factor it was since the Great Financial Crisis, interest rates are no longer benign, and once interest payments have been fulfilled, there won’t be enough funds left for other outlays.
The Migration Situation
Exacerbating this situation is the self-inflicted pain that further compounds the problems. The ongoing issue of illegal migration was identified some time ago as another significant problem that will impact the US MACRO landscape in various ways. Billions have already been expended, and now there are requests from mayors of major cities like Chicago, Denver, Houston, Los Angeles, and New York for federal assistance to the tune of $5 billion to manage the influx of migrants. This is just the BEGINNING, not the end, of these appeals that will persist for years. The argument is that such costs are merely a drop in the ocean. However, the drops have transformed into a deluge, and the container has been washed away.
I’ll conclude this portion of the discussion with a somber fact: the government has already embarked on a spending spree, and the downward spiral could be on the horizon.
The “Green” Spending Spree and the Impact on the Global Scene
The impact of misguided policy decisions on the MACRO scene will reverberate on a global scale. The headlines are rife with warnings, yet policymakers are turning a blind eye. The transition to “green” has started to unravel. Skepticism around renewable and EV stocks, emblematic of the “transition,” is now coming to the fore.
There’s chaos in solar stocks, and rightly so. Many of these companies continue to enjoy substantial subsidies but are unable to deliver results. For instance, Enphase (ENPH) reported a shortfall in unit shipments of micro-inverters and Q3 revenues, 3% below forecasts. Q4 revenues were projected to plummet by 39% to 48% below consensus.
Similarly, SolarEdge (SEDG) also announced a substantial earnings miss last week and slashed guidance by 50%. The fundamentals have deteriorated, and the technical outlook is grim. The entire “green” bubble that went unnoticed has now burst. If anyone believes this portrayal is selective to make a point, consider the Solar ETF (TAN), which has lost a substantial 50% during that period.
The alarming underperformance of solar company fundamentals is just one indication of the collapse witnessed across the entire clean energy spectrum. The initial surge after the COVID Crash was a boon for these companies, with the notion that it was either clean energy or nothing. However, the First Trust Global Wind ETF (FAN) has witnessed a 45% decline from its early ’21 peak, relinquishing all gains since 2020.
Companies are realizing that despite substantial tax incentives and subsidies, most projects are not financially viable. Danish wind power developer Orsted recently abandoned two wind projects off the US East Coast, willing to write off over 5 billion and forgo $1 billion in tax incentives rather than persist with an unprofitable venture.
Unfortunately, the debacle doesn’t end there
An ongoing EV crisis is unfolding in the US that will impact EVERYONE. Warnings about this costly failed experiment, previously heralded since the latter half of 2021, are now coming to fruition. Market forces need to dictate policy decisions. The EV industry has incurred significant costs with little to show for it. Corporations and consumers will bear the brunt of these policy decisions in the form of elevated costs across the board for EVERYONE.
Furthermore, a lack of planning in any transition will have casualties, with smaller companies being among the first. For instance, electric vehicle component maker Proterra has filed for bankruptcy, along with EV manufacturer Lordstown Motors. Hertz Global has indicated that it will slow the addition of battery electric vehicles to its fleet owing to several reasons, including Tesla’s price cuts affecting the resale value of its EVs and unexpectedly high repair costs for EVs.
Ford, too, has announced that it will defer and potentially cancel $12 billion in EV expenditures while EV maker Lucid Motors revealed a substantial loss of $338,000 per car. These losses have a profound impact, affecting not just the corporations involved but also the wider economy. The transition to EVs has not proven to be cost-effective, with the burden unfairly borne by taxpayers least able to afford it. Such profligate spending negatively impacts economies, and change is imperative for this detrimental impact to abate.
The Week in Review
The S&P 500 registered a remarkable 5.82% gain the prior week, the best week of the year and the finest since November 11th from the previous year. One could be forgiven for considering it an opportune moment to cash in and wait for the dust to settle while some of the uncertainty dissipates.
However, at the start of the week, both the S&P and NASDAQ posted marginal gains. The winning streaks continued, with the S&P notching seven consecutive days of gains and the NASDAQ extending its run to eight, its longest in nearly a year. This resilience continued on Wednesday, as both the S&P and NASDAQ posted modest gains, with the former achieving its longest winning streak in two years. Thursday, however, marked the end of all winning streaks, as the S&P’s 6.4% gain during the rally was eroded. Nonetheless, all indices, barring the Russell 2000 (IWM), concluded the week with gains on the back of a strong rally in technology on Friday.
The Economic Landscape
Michigan Consumer sentiment continues to lag well behind pre-pandemic levels, standing at 60.4, down from the previous month’s 63.8. Given the prevailing economic challenges in the US, this comes as no surprise.
There is nothing uplifting about any of the data points on consumer sentiment, despite the attempts to paint an optimistic picture.
The Federal Reserve’s View
In a speech at the International Monetary Fund, Federal Reserve Chair Jerome Powell remarked, “U.S. inflation has receded over the past year but remains well above our 2 percent target. My colleagues and I are encouraged by this progress, but expect the journey to achieving sustainable inflation at 2 percent to be a long one. The labor market remains strained, although improvements in workforce participation and a gradual reduction in demand continue to bring it into better equilibrium. GDP growth in the third quarter was robust, but, like most forecasts suggest, we anticipate a slowdown in the coming quarters. However, this remains to be seen, and we remain vigilant about the risk of stronger growth undermining the progress in rebalancing the labor market and abating inflation, which could necessitate a monetary policy response.”
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