Economic & Market Report: Outlook from Jackson HoleJuly 18, 2023
On Wednesday, I had the opportunity to attend the GIC Teton Economic Outlook conference in Wyoming. The event brought together some of the best and most thoughtful economic and financial minds in the industry today for an interactive discussion about the broader macroeconomic and investment outlook as well as more focused discussions on labor markets and cryptocurrencies. What made this event even more exceptional was the chance to spend quality time engaging in a variety of friendly and enjoyable one-on-one conversations with some of the smartest and most innovative people in the business. If you ever have the opportunity to attend a GIC event, I highly recommend it, as you will find it worthwhile in so many ways. Here are some of the key takeaways from the so many great topics discussed and explored.
Jackson Hole. Jackson, Wyoming was a tremendous venue for the GIC event. Although I’ve heard about it for years, it was my first time in Jackson Hole, and it did not disappoint. The scenery was beautiful, and the atmosphere was friendly and welcoming. And as a long-time distance runner, Jackson was a great location to log a few miles at a higher altitude while taking in the sights. If you have not been and get the opportunity to visit, jump at the chance.
What also struck me during my time in Jackson Hole was the vibrancy of the local economy. For those that may not know, Teton County where Jackson is located is by far the wealthiest county in the United States. To highlight the wealth concentration found in Jackson Hole, Teton County has the highest per capita income in the nation by far and has a median home value in the seven-digit dollar range. Of course, Jackson Hole is also a popular tourist destination.
As a result, visiting Jackson Hole provided a few key anecdotal takeaways.
First, while overall visitor traffic and sales tax receipts are apparently down incrementally versus last year according to the Jackson Chamber of Commerce, the volume of visitors still descending on the area and the spending activities they were engaged in during their stay were still robust and gave little indication of a broader vacationing economy across the country that is measurably weakening anytime soon.
Also, the widespread new construction activity and the number of cranes dotting the relatively small Jackson skyline gave a strong anecdotal signal that marginal spending at the high end of the economic spectrum in this country is charging forward full speed ahead despite the increasingly higher interest rates over the past 18 months. And like so many regional economies across the U.S., the relatively limited available housing supply is continuing to place upward pressure on housing prices despite higher mortgage lending rates.
Lastly, the fact that Jackson currently has 1.5 jobs for every resident in Teton County provided yet another data point supporting the continually tight labor markets that exist all across the country.
Overall, witnessing first-hand Jackson Hole’s economic backdrop as we got settled into town helped foreshadow the topics discussed at the GIC forum.
Economic outlook. We find ourselves with an interesting paradox for the U.S. economy as we start the second half of the year. We continue to have a variety of economic and market signals suggesting a recession is looming directly on the forecast horizon. This includes the still steeply inverted yield curve, persistently high core inflation that may require a more hawkish monetary policy response, and the increasing economic impact from the lag effects associated with the Fed’s most aggressive monetary tightening campaign in nearly half a century.
As a result, several conference participants emphasized the fact that while current growth remains solid, we should still be prepared for an economic downturn in the month ahead. As for when such a slowdown would take place, while some participants indicated that the current quarter was still a possibility, the more likely timing would be around the turn of the year in 2023 Q4 and 2024 Q1.
With that said a number of other attendees persuasively argued that the economy is sufficiently resilient at this stage that we may pass through the coming quarters without a recession at all and that growth conditions are set to not only stabilize but start to gradually improve as we enter 2024. Steadily diminishing inflationary pressures, a persistently strong housing market, and an improving corporate profit outlook were just a few of the reasons cited in support of this view.
While not completely unanimous, the resounding consensus among conference participants was that even if we do enter into recession in the months ahead, it is likely to be relatively mild and potentially short lived.
If anything, the threat of a reacceleration in inflation through the second half of the year loomed as a more prominent downside risk than recession among many conference participants, although a few even dismissed this possibility. As one attendee in this camp put it well, if you are a business worried about the looming threat of a recession and whether your customers are going to buy your product in the second half of the year, the last thing you are likely to do is start raising your prices.
One economic factor in particular has the potential to be a source of pricing pressures in the coming months, which leads us one of the focused topics at the conference on labor markets.
Labor market. A key theme that resonated from the discussion on labor market was the chronic shortage of workers across so many sectors of the U.S. economy. Whether you are running a large business with operations all across the country or a small business focused in a local market, the ability to first identify, eventually higher, then maintain qualified workers remains frustratingly elusive for so many industries.
A variety of factors are driving today’s labor market shortage. These include the still slow return to work for many in the aftermath of the COVID-19 crisis. Another factor is the aging workforce and the notable increase in the retirement ratio since COVID as well. This includes the labor force participation rate among workers aged 55 and older falling off a cliff by more than two percentage points in recent years. These are just a few of the forces that are driving persistently high wage inflation and resulting in job openings that remain difficult to fill for many employers.
Adding to the challenge has been the notable drop off in labor productivity, as both labor and retail productivity have seen their sharpest declines in the past year since the Great Financial Crisis. The persistent unwillingness of so many employees to return to the office from a remote or hybrid working situation adopted during the COVID-19 crisis is adding to the challenge.
Another complication for employers is trying to successfully accommodate various employee demands around their specific work arrangements. For example, you may not need some employees to come into the office, and others may have specific circumstances justifying their need to stay remote – in these instances, how does an employer navigate saying yes to some and no to others about maintaining a remote or hybrid work arrangement, particularly when they can’t afford to lose these employees.
While we are seeing increasing signs that excess consumer savings accumulated during the COVID-19 crisis is being burned off and that more workers are returning to the office (some willingly, arguably more at the request of their employers), these shifts are taking place incrementally and at an insufficient pace to provide any measurable relief to current labor market tightness.
It was argued in some circles that a resolution to this persistent labor market tightness would be a more pronounced economic recession. After all, nothing would likely motivate a worker more than the prospects of getting fired from a job and not being able to find another one right away. But this would likely require far more aggressive monetary tightening versus what we have seen to this point, but this comes with its own risks (what else gets unintentionally broken in the process?). Higher taxes on the fiscal policy side would also likely be needed, but find me the politician in Washington that is willing to even suggest the idea of raising taxes and I’ll show you the pictures of the unicorn we saw walking the streets of Jackson during our stay (we did see Harrison Ford at the restaurant we ate at on Tuesday night – great guy – but that’s a discussion for another blog post!).
As a result, employers are likely left waiting for labor market slack to gradually improve. And the fact that the job market remains so persistently tight is likely to keep consumers feeling good about their current circumstances and help encourage them to continue spending at the stores and booking vacations to popular destinations like Jackson Hole.
Market outlook. So, what does all of this mean for financial markets? The economic resilience we have seen thus far in 2023 in the face of continued tightening by the U.S. Federal Reserve certainly put a tailwind behind capital markets in the first half of the year. And given how far markets have come since the October 2022 lows, a more measured outlook was encouraged by many conference participants for the second half. More specifically, stocks may continue higher in the months ahead, but gains may be a bit more uneven with sustained pullbacks along the way.
Two primary concerns were cited as downside risks for stocks in the months ahead.
One was the extreme market concentration that has largely driven stocks higher in recent months. In the latest hot stock moniker, “The Magnificent Seven” is the new phrase to describe the seven stocks in Apple, Microsoft, Google, Amazon, NVIDIA, Tesla, and Meta Platforms – technology or tech adjacent all – that explain the vast majority of the positive return on the S&P 500 Index year to date. More specifically, for an S&P 500 that is higher by +18% year to date, these seven stocks that now make up a jaw dropping 28% of the headline benchmark and have risen anywhere between +40% to +220% so far in 2023. Take away these seven super-sized power performers, and the returns on the S&P 500 were lower for the year as recently as a few weeks ago and are only marginally positive today.
Why does this big-name market concentration matter? Because it may be obscuring greater challenges for the market lurking right below the surface. In addition, if investors suddenly decide that they no longer want to buy the likes of NVIDIA for 40 times sales – not earnings, mind you, but sales – then the market may lose a key leadership group in these seven stocks with the remaining 493 stocks in the S&P 500 not having sufficient size or strength to make up the difference.
The other was the notably high valuations associated with owning U.S. stocks today. The S&P 500 is trading at a heady 21x operating earnings and 24x GAAP earnings today, and between 20x to 21x forward earnings for the year ahead. These are rich valuations in any market environment, much less one where investors are actively mulling the possibility of an economic recession. And when considering that short-term interest rates have recently risen above 5% and are still climbing, TINA (“there is no alternative”) has given way to TARA (“there is a reasonable alternative”), particularly with an earnings yield and equity risk premium on the broader U.S. stock market that is now negative.
While these risks are not necessarily considered significant enough to turn the market back lower during the second half of the year, they may be the source for extended periods of consolidation and pullbacks toward the bottom end of a still upward sloping trend through the remainder of the year.
Cryptocurrency. I had the honor of serving on a panel at the conference with Jim Bianco of Bianco Research and Lisa Shaw of Cygnus Asset Management, both of which I hold in very high esteem and have great respect for their expertise and perspectives. Our hour-long conversation was focused on cryptocurrencies and their role both as a prospective investment asset class today as well as their likely long-term evolution and purpose in the coming decades. The following were some of the key conclusions coming out of our discussion.
Cryptocurrencies and the supporting block chain technology promise to provide a key fundamental purpose for the global economy in the coming decades, which is the decentralization of transactions and decision-making in support of commerce activity. And while the cryptocurrency space has garnered understandable enthusiasm for transformative potential, the evolution and adoption is likely to take place much more gradually and in a much different form relative to how the financial marketplace has responded thus far.
So what then should we make of the cryptocurrency craze that continues to infatuate the retail investor and draw in the institutional crowd today? It has been and will likely continue to be a game for speculators. As we all know, cryptocurrencies come in all different forms, some of which striving hard for credibility and legitimacy, and others teetering on the brink of silliness and even contempt. But it remains well outside of the realm of being a credible asset class for broad portfolio diversification purposes and instead are largely pure speculator instruments relying on the red chip, black chip game of chance that some greater fool will want to pay more than the purchase price for an asset that in most cases has no underlying intrinsic value. Unfortunately, this has distracted and undermined the longer-term legitimacy and viability that is still likely to come to the space over time. It is important for today’s cryptocurrency speculators to remember, however, is that like the dot.com bubble, only a small single-digit handful (maybe even as few as two or one) of the more than 10,000 to 100,000 cryptocurrencies in existence today are bound to still be in existence when this future time finally arrives.
Where should we be watching in the coming years for the sustainable development of cryptocurrency in establishing its viable place in global commerce? Not from the top down in major developed economies like the United States with relatively stable currencies and well-established rules of law. And also not imposed from the top in an emerging economy like El Salvador experimenting with declaring Bitcoin legal tender on a wide scale. Instead, it is far more likely to come from the bottom up in local and regional communities within emerging and frontier markets that wish to overcome the detrimental effects of currency instability and/or chronically high inflation along with a limited confidence in the prevailing rule of law. In these instances, communities are likely to adopt cryptocurrencies to take greater control from their currency issuing nation to create more consistent and sustainable conditions for local and regional commerce to survive and thrive. It is here at the bottom-up level where adoption is likely to increasingly take hold, and it will allow for the overall cryptocurrency space to mature and effectively work out the glitches in becoming true stores of value, units of account, and mediums of exchange. And this is an evolution that is more gradual and will take time over the coming decades.
This raised a key point about cryptocurrency regulation going forward that was critical to the discussion. While U.S. financial market overseers like the U.S. Treasury, the Federal Reserve, and the SEC may be inclined to look the other way and disregard getting actively involved in regulating the cryptocurrency space today under the notion that it simply does not matter and serves no purpose, they will do so at their own peril. This is because cryptocurrencies and the decentralization of transactions and commerce is likely to still be coming on an increasing scale over the coming decades as indicated above. And while cryptocurrencies and how they are regulated may not matter today, it may matter a very great deal at some point in the future. If we in the U.S. forfeit our seat at the head of the table in leading how this area of the market is regulated, other major global sovereigns with a vested interest in dominating global finance and commerce through the remainder of the 21st century and into the 22nd century like China may seize the mantle. And if we defer today, by the time the U.S. realizes they need a seat at the table, it may be too late with the ability to control having been lost.
So how can investors utilize cryptocurrencies in the meantime even if they are not buying and selling them? First, know that cryptocurrencies today trade with a very high directional correlation to the NASDAQ 100 (NDX). The key difference is that cryptocurrencies like Bitcoin have a beta anywhere between six to thirty relative to the NDX. This is high octane stuff to be sure. But what is particularly useful is that cryptocurrencies like Bitcoin have moved with a slight lead relative to the NDX and the broader S&P 500. For example, the price of Bitcoin peaked at the very end of 2017, nearly a month in advance of the global stock market correction that got started at the end of January 2018. The same was true when Bitcoin peaked in early November 2021, as the S&P 500 peaked not long after at the very beginning of 2022. Thus, cryptocurrencies in general and Bitcoin in particular have proven on several occasions to be a reliable leading indicator to signal whether liquidity is pouring into or out of capital markets to drive asset prices higher or lower, respectively.
Bottom line. The above only scratches the surface of the interesting and in-depth analysis and perspectives that were discussed and debated at the GIC Teton Economic Outlook conference. And the fact that a majority but certainly not unanimous view formed around the notions of a shallow economic recession if at all, a persistently tight labor market for the foreseeable future, and a stock market that may move higher with fits and starts through the second half of the year are notable summary takeaways that do not do justice to all of the focused discussion and analysis along with agreement and disagreement among the various participants in exploring and challenging these views and others throughout the conference.
This post originally published by Great Valley Advisor Group. Click here to view the original post.