Edge and Odds

The enemy of knowledge is not ignorance, it’s the illusion of knowledge (Stephen Hawking)

It ain’t what you don’t know that gets you into trouble. It’s what you know for sure that just ain’t so (Mark Twain)

Edge and Odds

Invest with smart knowledge and objective odds

CHINA MANUFACTURING PMI DECLINES TO 48.9

Chinese manufacturers saw a further deterioration in operating conditions in April, with total new orders declining at the strongest pace for a year while production levels stagnated. Data suggested that relatively weak domestic demand was the main driver of reduced new business, as new export work picked up in April (albeit marginally). Consequently, employment in the sector continued to decline, while purchasing activity fell at the quickest rate in 13 months. Meanwhile, deflationary pressures intensified in April, with both input and output costs falling at accelerated rates.

Adjusted for seasonal factors, the HSBC Purchasing Managers’ Index™ (PMI™) remained below the neutral 50.0 value at 48.9 in April, down from 49.6 in March. This signalled a deterioration in the health of the sector for the second successive month. Moreover, the pace of deterioration was the strongest seen in a year.

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Total new business placed at Chinese manufacturers declined for the second month in a row in April. Furthermore, the rate of contraction quickened since March to the strongest in a year. A number of panellists commented on relatively subdued market conditions and an associated downturn in client demand. Data suggested that fewer new orders were largely driven by weaker domestic demand, as new export work increased over the month, albeit at a marginal rate.

Weaker demand conditions led companies to become more cautious with regard to their production schedules, with firms leaving their output unchanged in April. This contrasted with increased output in the opening three months of the year.

Purchasing activity meanwhile declined for the first time since January. Though moderate, the rate of reduction was the quickest since March 2014, with a number of respondents attributing the fall to fewer new orders. Consequently, stocks of inputs declined for the second month in a row and at a faster rate than in March. Inventories of finished goods were also depleted in April, though the rate of reduction was similar to that seen in the previous month and only slight.

On the price front, average cost burdens faced by Chinese goods producers fell for the ninth successive month. Moreover, the rate of deflation accelerated to a sharp pace. In line with the trend for input costs, companies cut their selling prices again in April and at a solid rate.

BEARNOBULL’S WEEKENDER

FactSet StreetAccount Summary – US Weekly Recap: Dow (0.31%), S&P (0.44%), Nasdaq (1.70%), Russell 2000 (3.11%)
U.S. Secular Growth: Donkey or Racehorse? (Jeremy Grantham)

A few extracts from a letter well worth your time:

(…) Negligible growth in population and man-hours offered to the workforce is the most important brake to growth, with a net drop of fully 1% from the pre-2000 trend. Less capital investment and growing income inequality do not help. But the most underappreciated important factor, in my opinion, is the drag on growth from the loss of sustained cheap energy as oil has moved from a $16/barrel 100-year trend pre-1972 to today’s approximate $75/barrel trend price. (…)

I am still just about certain about three things: first, our secular growth rate in the U.S. is indeed about 1.5% (at least as stated in traditional GDP accounting, wherein expensive barrels of oil increase GDP; perhaps closer to 1% in real life); second, economists move their estimates slowly and carefully in order to stay near the pack and minimize career risk (despite the recent IMF heroics); and third, that we do not like to give or receive bad news and, when in doubt, we tend to be optimistic. (…)

The key point here is that in our strange, manipulated world, as long as the Fed is on the side of a strong market there is considerable hope for the bulls.(…) Yellen, like both of her predecessors, has bragged about the Fed’s role in pushing up asset prices in order to get a wealth effect. Thus far, she seems to also share their view on feeling no responsibility to interfere with any asset bubble that may form. For me, recognizing the power of the Fed to move assets (although desperately limited power to boost the economy), it seems logical to assume that absent a major international economic accident, the current Fed is bound and determined
to continue stimulating asset prices until we once again have a fully-fledged bubble. And we are not there yet.

To remind you, we at GMO still believe that bubble territory for the S&P 500 is about 2250 on our traditional assumption that a two-sigma event, based on historical price data only, is a good definition of a bubble. (…)

We could easily, of course, have a normal, modest bear market, down 10-20%, given all of the global troubles we have. If we do, then the odds of this super-cycle bull market lasting until the election would go from pretty good to even better. So, “2250, here we come” is still my view of the most likely track, but foreign markets are of course to be preferred if you believe our numbers. Stay tuned.

BTW, Grantham’s 2250 bubble target would be right where the Rule of 20 would also see it as a bubble based on current earnings and inflation parameter:

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Getting to 2250 from 2100 is +7.1%. Retreating to 1800 from 2100 is –14.2%. Here again, Grantham’s correction range would be validated by the Rule of 20.

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In all, the bubble blowout would give +7.1%. The “easy” correction would take –14.2%. Pretty simple to calculate this unfavorable reward/risk ratio!