Global macro update
The major piece of economic news out of the US over the prior week was quarterly GDP, which came in at 6.4%, annualised quarter on quarter. That’s big, although, slightly less large than we’d thought (which was at or above 7%). Still, large.
The constellation of asset prices, shown below, remains unsurprisingly consistent with a very strong recovery, with accommodative monetary and fiscal policy supporting risky assets, with tighter credit spreads, and higher breakeven inflation with associatively higher nominal yields.
Key implications for our diversified investment portfolios: we are 2% UW international equities, and 2% UW domestic (Australian) equities. Economic momentum is very strong, and should continue for at least the next 6 months. However valuations are very stretched, indeed euphoric, in some instances, and hence our underweight. We will continue to trim exposures to both as the market runs.
Commodities are in an extreme state of backwardation (meaning higher prices for immediate delivery, lower prices for future dated delivery) which is telling of the presently intense supply-side issues.
US GDP
Swapping growth rates (the 6.4% SAAR) for trends in the level of nominal GDP, we can note that the economic recovery is closing in on complete (i.e. getting back to pre-pandemic trend levels).
Recovery comparisons
Note also how unnecessarily long and drawn out the GFC related recovery was.
That is what things would have looked like, today, without the Fed’s new average inflation targeting framework, and without the full throated support of fiscal policy. Instead, we’ve had a much faster recovery from a much deeper drawdown.
Composition
Below we examine the residential construction lift in the below mix of GDP components. At first glance it appears to be fresh all-time highs.
But a more meaningful measure is as a share of NGP, where it remains merely mid-cycle.
Ergo the US housing boom could easily run harder, although whether anyone builder makes money (b/c of input costs) over coming halves is a tougher subject.
That’s of relevance to US builders like JHX (Hardies) and also to the local crop of builders (everyone from MGR (Mirvac) to CSR (CSR) to Adbri (ABC)).
If you are a homebuilder (or really any kind of company that sits immediately downstream of a raw-input producer) how on earth can you manage your margins and cashflows at present with commodity prices rising so quickly? (Shown below are a diverse group of commodity prices.)
Which bring us to one of our core narratives.
There is no reason that the stockmarket (which is the NPV of corporate profits) should be a net beneficiary of a very strong economy if it is captured by a narrow set of companies (upstream) with margin squeeze for everyone else) – same with labour-shortage-related-wage-gains.
The resource companies themselves are over-earning, but in the meantime, we think a good percentage of the market is at risk of near term earnings disappointment given the margin squeeze outlined above.
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