Is It "Morning Again" in America?
Let’s spend a moment on the “macro picture” now that we have election results.
Can America fix its debt problems with economic growth? Can you have economic growth without inflation? We are going to find out.
With debt to GDP at an all-time high, asking the US to grow at 4%+, it is like asking a company with debt/EBITDA of 8x to grow at 12% for the next 5 years. That would difficult, certainly unlikely, but not impossible.
Let’s make the following forecast:
60% chance of continued government dysfunction - with no improvement in debt/GDP
10% chance of tariff and trade wars bringing us back to the days of Smoot-Hawley
30% chance that lower taxes and deregulation creates economic growth substantial enough to improve debt/GDP
“Morning Again in America” is an old Reagan campaign slogan from 1984. Let’s look at the issues.
On the positive side:
We think Trump believes in pro-growth economics, but the tariff stuff is a little concerning. Let’s watch the appointment process. The chief of staff choice is already a small negative. I would have much preferred Brook Rollins. Where will Larry Kudlow land in the administration? Can we avoid another Gary Cohn?
What role will Elon Musk actually play. Can he really cut spending? This is a real wildcard. At best he could be super-Ross Perot. At worst he could be a nut wearing an “Occupy Mars” tee shirt. Bannon failed badly in the cost-cutting role. I was never a Musk fan. I have my doubts. However, in the last few days before the election, Musk did ask Dr. Ron Paul for help, so all is forgiven. George Bush failed for 8 years, an Trump failed in his first 4 years. The momentum of government spending seems impossible to stop. Expectations to slow spending are low.
Can the regulatory state be stopped. The end of “Chevron Deference” could be the variable that nobody is considering. Who will rush to the courthouse to end regulatory tyranny? Let’s watch Bristol-Myers and the FERC.
My imaginary girlfriend Ms. Kahn is certainly at risk. There is some thought that JD Vance is a fan, and might let crush Google before she is shown the door. Let’s watch. Lina has been slowing lots of stupid acquisitions.
Trump is in the unique position of not having to worry about re-election. Maybe that will make it easier to get things done.
The negatives:
The consumer is over-leveraged
China has banking problems
There are still a commercial real estate problems to be dealt with
There is a potential labor shortage, if growth gets going
The House is still up for grabs, and I do not trust the results in the contested California races
Gold is sending us a signal that there is a problem somewhere
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I am slightly more willing to own consumer cyclicals, industrials, materials, energy, and maybe even financials.
I am slightly less willing to own consumer durables, health care, and utilities.
I remain confused by technology, and concerned about China.
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I still want to spend my time looking for interesting/misunderstood companies that other other investors are overlooking. I am glad this political crap is over, but you cannot just ignore it.
Right now I am thinking about replacing either Revvity or Treehouse with RXO, but let’s wait for all the quarters to come in.
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Stocks are still expensive.
I can’t value the Magnificent 7 so I ignore S&P 500 earnings, but bellwethers like Colgate and Emerson Electric still trade at 16x to 19x EV/EBITDA. That remains crazy. However, the First Eagle Small Cap Opportunity Fund (my proxy for small cap value) only sells for a median 1.5x book. That is much more reasonable.
Passive flows have made big cap stocks significantly over-valued, but small/mid caps are closer to fair value. I still prefer a 4-5% T-Bond to both.
The Trump election makes me at least consider that it might be “Morning Again in America”, and that my choice of T-Bonds might be too conservative.
In order to grow the US economy at 4%+ without inflation you need increased business investment and better conditions for small business. Stock buybacks will not get the job done. Can this happen? It is not impossible.