Ignore this Investment Fantasy Land

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Welcome to the first edition of Profit Watch!

I can’t wait to bring you all the best ideas and analysis I can – every day.

Sometimes it will come from reports, stock moves and price charts.

And other times – a five year old’s birthday party.

That’s where I happened to be yesterday with my little girl.

We go to a these regularly, and I tend to run into the same dads.

One of them, an Argentinian, pulled me aside yesterday.

I remember last time we talked, you told me oil was likely to go up. Something about good quality and bad quality. Petrol is getting expensive. When’s the rise going to stop?

I said I wasn’t sure, but I didn’t expect things to get much cheaper any time soon. I also confessed I didn’t remember his name, but, somewhat strangely, that he worked at one of the big banks.

Yes,’ he said. ‘It’s very chaotic at the moment. We’re moving everything to the cloud.’

Mariano – yes, I remember now – and I chatted a bit more.

Oil is heating up inflationary expectations. That’s part of why US interest rates are shifting higher.

And you know what that means…

Bull markets climb a wall of worry

Cue an army of doomsayers and trolls to come out and say higher interest rates are going to kill off the US stock market. Naturally, by extension, Australia is doomed, too.

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Well – not so fast.

A bit of longer term perspective is worthwhile here. For years, many people thundered at former US Fed Chairman Ben Bernanke for keeping rates so low. tellroadchef

The arguments kept coming: this policy mispriced risk, inflated assets, crushed savers plus retirees and brewed bubbles all over the place.

Each of those points may have merit. That’s not our beef for today, except to say a lot of people worried about low interest rates.

Now it’s the complete opposite. People are worrying about rising rates.

The arguments will keep coming: mortgages get more expensive, stocks could get repriced, more bad debts might appear…

Each of those points may have merit.

We can take one thing for granted. There’ll always be worries no matter what the level of interest rates.

That’s why we have the expression: bull markets climb a wall of worry.

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However, in general, rising interest rates, right now, are a good thing.

Here’s why: they show that the US economy is growing!

The mainstream myth of low interest rates

You see, you have to see through the central bank mirage to appreciate this.

They say the low interest rates ‘stimulate’ the economy, and high interest rates ‘slow’ it down.

That’s based on neoclassical economic theory.

In that particular fantasy land, it probably makes academic sense.

In the real world, if anyone bothered to think about it, you can see the complete opposite happening in the USA and Australia.

The US Fed is raising rates in response to the strength of the US economy.

This is to say interest rates are following GDP growth – and not the other way around.

Rising rates are an effect, and not the cause, of growth.

Australia’s economy is not growing as fast, so therefore the official cash rate is not moving.

Interest rates, for all the endless commentary, are overrated in terms of economic forecasting.

What matters more than the price of money is the quantity of credit going out into the economy.

Japan is the perfect example of this. It had zero bound interest rates for years before 2008 and stay mired in stagnation the whole time.

Why am I mentioning this now?

In the second quarter of 2018, the US economy grew at an annualised rate of 4%.

That’s high.

But plenty of people came out and said that was the lingering effects of Trump’s tax cuts and growth would likely slow down again.

That’s not happening…

The danger level for the market might be here

Last Friday, the US Labour Department said the American unemployment rate is now 3.7%. That figure was last seen in 1969.

The US economy is hot – regardless of tariffs or trade wars.

This doesn’t mean US stocks will immediately soar up tonight. The market might take some time to adjust to the latest signals from the bond market.

But there’s no reason to suggest the major US bull market is close to topping out anytime soon.

I’ve written before that US stocks – based on historical data – don’t run into trouble until rates go over 5%.

We’re a long way off that – for now.

Now we watch the US yield curve.

Another fear you see bandied about is that the Fed is running down its balance sheet.

This has been dubbed as ‘QT’ – quantitative tightening.

The US economy has got along just fine will its been happening so far regardless.

But it does take a buyer away from the long-term bond market. This helps yields go up and potentially ‘steepening’ the yield curve.

Overall, this is a better environment for the private banks. They have a bigger influence on the US money supply than the Fed.

Therefore, the more incentive they have to lend, the better. As above, the key to economic growth is not the price of money, but the quantity.

Investment implication? The US bull market can continue.

Regards,

Callum Newman Signature

Callum Newman,
Editor, Profit Watch

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