Notes on the Week Ahead Dr. David Kelly
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- Business
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Listen to the latest insights from Dr. David Kelly, Chief Global Strategist at J.P. Morgan Asset Management to help prepare you for the week ahead.
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Wage War
When I was nine, my father was elected to the Irish parliament and joined the new government. Not long after that, my history teacher, a man of the opposite political persuasion, was expounding on the Norman conquest of Ireland and the attempts of the local Irish clans to wage war against them….”not like the “wage war” we have with the current government” he said, finding humor in a rather dull subject. I, being an overly sensitive child, took this as a terrible insult to my father and promptly burst into tears, whereupon he sent me out into the hall for disturbing the peace.
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Dot-Plot Danger and QT Limits
This week, investors will be focused on the Fed’s second Federal Open Market Committee (FOMC) meeting of the year. They are widely expected to make no change in interest rates. However, Fed communications will provide guidance on two important subjects: First, they will update their summary of economic projections and their “dot-plot” forecast for the federal funds rate. Second, and particularly in Chairman Powell’s press conference, they will likely provide some further hints on when and how they could begin to phase out quantitative tightening. While their messaging will likely continue to point towards monetary easing in the months ahead, the implied timing and extent of that easing could have major impact on markets.
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From Business Cycle to Stretched-Out Expansion
Financial reporters and market strategists often argue about whether we are “early-cycle”, “mid-cycle” or “late-cycle”. However, these perspectives are based on an outdated model of how the U.S. economy behaves. In a pure “business-cycle” paradigm, the U.S. economy would, today, be in the late innings of an economic expansion that must naturally end rather soon. However, a more realistic model of today’s economy suggests that this expansion could continue for some time more and that, when it ends, it will be because of some financial, environmental or geopolitical shock rather than the inevitable result of the age and stage of the expansion. This doesn’t negate the need for diversification. However, it does suggest that a portfolio should be stress-tested mostly against how it would react to a downturn triggered by non-economic shocks.
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Japanese Lessons
On Friday, December 29th, 1989, the Nikkei 225 stock index hit an all-time high of 38,957. It then began to fall and it took until February 22nd of this year, more than a third of a century later, to reach this level again. Today, for the first time, it closed above 40,000.
This ultra-long bear market in Japanese stocks was accompanied by the collapse of a colossal property bubble and was followed by decades of economic stagnation, rising government debt and periodic deflation. While Japan still faces many challenges today, there are signs that it is turning a corner from both an economic and financial perspective. However, decades of Japanese economic and financial malaise provide some powerful lessons for Japan itself and for governments, monetary authorities and investors around the world. -
The Investment Implications of the Migration Surge
In last week’s article and podcast, I looked at the potential path for the U.S. economy over the next two years, noting that the outlook suggested a very tight labor market throughout. This would be a generally healthy outcome for the country, boosting economic growth and productivity and supporting solid wage growth. To the extent that it maintained pressure on profit margins and limited monetary easing, it would be less favorable for investors. However, a number of readers asked the very reasonable question of whether my analysis took account of the recent migration surge at our southern border.
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The Pressures of a Full Employment Economy
I spent most of last week fighting with a model.
Before anyone starts googling “Nerdy Economist in Fashion Week Brawl”, I should clarify. I was fighting with a macroeconomic model that insisted on telling me something I didn’t believe. To be precise, it was projecting that, given the recent and projected pace of U.S. economic growth, the unemployment rate would slide to 3.0% by the end of 2025.
This I don’t believe for reasons I’ll explain. But the changes in assumptions necessary to produce a more reasonable answer can tell us a lot about the likely path of economic growth, inflation, interest rates, corporate profits and the dollar over the next two years with significant implications for financial markets and investing.