Market Environment Update, Summer 2022

Sean Gross, CFP®, AIF® | Co-Founder & CEO 

Summer is finally here, or is it? While summer doesn’t officially arrive until Tuesday, June 22, I’m using “Summer” in the name of this letter for two reasons: 1) by the time you read this, the summer solstice will have likely already occurred; 2) I’m looking beyond our seemingly endless spring (or, is it winter?!) with optimism and hopefulness that warm weather will finally arrive on the longest day of year! Regarding the summer solstice, I am always a little discouraged when I realize, just as warm weather arrives and my plans for summer fun begin, the days get progressively shorter. I still have a very hard time accepting this! 

In our Winter 2022 letter, I wrote the following…

Following the market lows of March 2009, the S&P 500 has generated an average gain of 18.6% per year, which is well above the long-term average annual gain of 9.7% since 1927. This statistic alone suggests that the U.S. stock market cannot continue at the pace of the last 12+ years. There will be a reversion to the long-term average gain, and a reversion to the long-term average means there will be years in which the market produces returns which are significantly less than the long-term average, including negative returns.

Our Market Environment Indicator (MEI) turned negative last week, resulting in a reduction of market exposure and an increase of cash allocations in our tactical strategies. It is too early to tell if this is a false signal, if the market has entered a short-term correction, or if it is the beginning of a long-term bear market.

We now know the MEI reversal to negative in January was definitely not a false signal: Since the beginning of 2022, the broad U.S. stock market, as represented by the S&P 500, has lost over 23%. What we do not yet know is if this is merely a cyclical (short or intermediate term) correction, or the beginning something much worse and longer term. Like every other so called “expert” in this business, I don’t know! While I wish I could offer more encouraging news, I would be speculating and to paraphrase Mark Twain: June is one of the peculiarly dangerous months to speculate in stocks. The others are July, January, September, April, November, May, March, June, December, August and February.

If you spend more than 13 minutes analyzing economic and market forecasts, you've wasted 10 minutes.^[i]

Heeding the sage advice of Peter Lynch, I'll spend less than 3 minutes of your time telling you I believe the market is likely to get worse before it gets better. While there will certainly be short-term periods of positive performance, the overall trend of the market remains negative, i.e., the MEI has not yet signaled that it’s safe to increase market exposure. Until it does, we remain very cautious, with high cash balances and low market exposure in our tactical account investment strategies.  

Inflation is always and everywhere a monetary phenomenon.^[ii]

Moving on from the stock market to the economy, I feel compelled to write on the subject of “inflation.” I intentionally put inflation in quotes, as I believe the phenomenon of what is commonly called inflation is tragically misunderstood. I began this section with a quote from Nobel Prize winning economist Milton Friedman. I’d like to expand on Friedman’s claim by quoting my favorite economist, Ludwig von Mises, who may be the most hated and most understudied economist of all time, at least among today’s MMT-centric[iii] economists, whose radical theory may have irreversibly transformed U.S. government economic policies, with devastating financial consequences for American households…

Inflation, as this term was always used everywhere and especially in this country, means increasing the quantity of money and bank notes in circulation and the quantity of bank deposits subject to check. But people today use the term `inflation' to refer to the phenomenon that is an inevitable consequence of inflation, that is the tendency of all prices and wage rates to rise. The result of this deplorable confusion is that there is no term left to signify the cause of this rise in prices and wages. There is no longer any word available to signify the phenomenon that has been, up to now, called inflation…As you cannot talk about something that has no name, you cannot fight it. Those who pretend to fight inflation are in fact only fighting what is the inevitable consequence of inflation, rising prices. Their ventures are doomed to failure because they do not attack the root of the evil. They try to keep prices low while firmly committed to a policy of increasing the quantity of money that must necessarily make them soar. As long as this terminological confusion is not entirely wiped out, there cannot be any question of stopping inflation.[iv]

What von Mises was trying to explain is that inflation (an increase in the money supply) is the cause of rising prices vs. the phenomenon of rising prices. What people commonly call “inflation” today (i.e., rising prices) is actually the result of inflation (i.e., an increase in the money supply). This is a very important distinction, especially as America wonders, how did we get here? It seems quite evident that it did not start with supply chain issues or a war in Ukraine. To illustrate this, in the following chart note the exponential increase in gas prices corresponding with the unprecedented increase in federal spending (i.e., actual inflation, per Friedman and von Mises) beginning with the U.S. economic shutdown at the beginning of the Covid-19 pandemic…

Out of crisis comes opportunity. You make most of your money in a bear market; you just don't know it at the time.[v]

What might we expect to see, going forward? Remember, I don't know! However, ignoring the previously cited wisdom against speculation, it would seem that negative U.S. stock market performance is reflecting economic weakness which is now present and likely to get worse. In fact, some of those who keep close track of such things believe the U.S. has already entered an economic recession (two consecutive quarters of economic decline, as measured by GDP). If correct, stock market performance is likely to get worse before it gets better.  

However, if the stock market follows the historical pattern, at some point in the future--likely in the midst of even worse economic news and, most importantly, when we least expect it--disciplined investors will look beyond the then present economic conditions and put money back into risk assets, expecting better returns in the future as the economy improves. This is the pattern I’ve witnessed countless times in over 32 years in the money management business. If this pattern repeats, I suspect it will not be immediately observable, let alone believable, and the majority of investors will be reluctant to commit investment capital. In the scenario I’m describing, I expect that demand for risk assets will slowly, quietly resume while the financial prognosticators are still talking about the end of the world! When this occurs, our Market Environment Indicator (MEI) will guide us, as it has so many times in the past. Until then, we remain cautious, hopeful, and entirely confident in the observation of Shelby Cullom Davis: Out of crisis comes opportunity.

Summer has arrived!

---

[i] Legendary investor Peter Lynch, former manager of the Fidelity Magellan Fund, who is widely considered one of the most successful and well-known investors of all time.

[ii] Milton Friedman, “Inflation Causes and Consequences”, Asian Publishing House, 1963

[iii] Modern Monetary Theory (MMT) is a [non mainstream]…economic framework that says monetarily sovereign countries like the U.S., U.K., Japan, and Canada, which spend, tax, and borrow in a fiat currency that they fully control, are not operationally constrained by revenues when it comes to federal government spending. Put simply, such governments do not rely on taxes or borrowing for spending since they can print as much as they need and are the monopoly issuers of the currency. Since their budgets aren’t like a regular household’s, their policies should not be shaped by fears of a rising national debt. (https://www.investopedia.com/modern-monetary-theory-mmt-4588060)

[iv] “Inflation, An Unworkable Fiscal Policy”, Ludwig von Mises

[v] Shelby Cullom Davis, one of the greatest value investors the world has ever known.

Market Environment Update

Sean Gross, CFP®, AIF® | Co-Founder & CEO

The essence of portfolio management is the management of RISKS, not the management of RETURNS. All good portfolio management begins with this premise.[i]

Following the market lows of March 2009, the S&P 500 has generated an average gain of 18.6% per year, which is well above the long-term average annual gain of 9.7% since 1927. This statistic alone suggests that the U.S. stock market cannot continue at the pace of the last 12+ years. There will be a reversion to the long-term average gain, and a reversion to the long-term average means there will be years in which the market produces returns which are significantly less than the long-term average, including negative returns.

People somehow think you must buy at the bottom and sell at the top. That's nonsense. The idea is to buy when the probability is greatest that the market is going to advance.[ii]

Our Market Environment Indicator (MEI) turned negative last week, resulting in a reduction of market exposure and an increase of cash allocations in our tactical strategies. It is too early to tell if this is a false signal, if the market has entered a short-term correction, or if it is the beginning of a long-term bear market. For now, we are managing risk and patiently waiting for the MEI to signal that “the probability is greatest that the market is going to [continue] to advance”[iii].

---

[i] Benjamin Graham, The Intelligent Investor

[ii] Martin Zweig, fund manager and author

[iii] Ibid

On the Eve of the Election

Sean Gross, CFP®, AIF® | Co-Founder & CEO

A quick note to, hopefully, ease your minds on the evening before what is being described as the most consequential election of our lifetime...

• We remain cautiously optimistic: In spite of the recent sell-off, our Market Environment Indicator (MEI) remains positive.
• Economic data continues to show surprising growth.
• The market is not pricing in, so does not appear to be expecting, a disastrous outcome tomorrow.
• Now is NOT the time to sell.
• Economic outcomes appear to have a low correlation to election outcomes: https://www.jamesinvestment.com/docs/Fools-Gold.pdf
• VOTE! Bad officials are elected by good citizens who don’t vote. — George Jean Nathan
• Stay Calm—human beings are terrible at predicting the future: https://qz.com/1752106/why-are-humans-so-bad-at-predicting-the-future/
• When all the experts and forecasts agree, something else is going to happen — Rule #9 from legendary market strategist Bob Farrell's "Ten Rules of Investing".
• Choose FAITH over doubt and COURAGE over fear!

The End of the Beginning or the Beginning of the End?

Sean Gross, CFP®, AIF® | Co-Founder & CEO

Only recently, we were all making summer vacation plans, shaking hands, giving hugs, and even exchanging an affectionate peck on the cheek with those we’re closest to. How quickly and dramatically things change! The coronavirus epidemic has induced panic selling in the markets, untold job layoffs, and will likely lead to a recession as economic activity comes to a grinding halt across our great country. 

We are not only concerned about the impact the coronavirus is having your investment portfolios and the economy; we are equally concerned about the practical impact it may be having on you and your families. If you need anything—toilet paper, food, etc.—please let us know! While we may not be able to meet every need, there are certainly others in our network of relationships who we know would be delighted to help.  

It's waiting that helps you as an investor, and a lot of people just can't stand to wait. – Charles Munger, Vice Chairman of Berkshire Hathaway and Warren Buffett’s investment partner.

All this chaos has led to intelligent conversations with a few of our clients, who have extra cash to invest, and have asked if this is the time to buy. While panic selling is often a contrary indicator signaling that it’s time to buy, we think this situation is likely to get worse before it gets better. Since our Market Environment Indicator (MEI) turned negative a couple weeks ago, our tactical strategies remain positioned with low allocations to stock instruments and high allocations to cash and ultrashort-term bond instruments, and we will remain so until the MEI reverses to positive. Until then, this is the most important thing to remember: “It’s waiting that helps you as an investor…”

Bull markets are born on pessimism, mature on optimism, and die on euphoria.  The time of maximum pessimism is the best time to buy, and the time of maximum optimism is the best time to sell. – Sir John Templeton, considered by many as the greatest global stock investor of the 20^th century.

An evaluation of past infectious outbreaks/epidemics (SARS, MERS, Avian Flu, Ebola, etc.) may give us a clue of what to watch for. In these past outbreaks/epidemics the market did not bottom until sometime after the daily rate of new recoveries of those who were previously infected exceeded the daily rate of new infections. We’re not there yet with this outbreak, so we believe caution is the best approach until the relationship in these trends improves (more here: https://www.worldometers.info/coronavirus/coronavirus-cases/). However, it’s important to note that even when we reach this point, because so many will have already been infected with the coronavirus, the outlook, fear, economic consequences, and dire forecasts are likely to only get worse. It is in this very environment of “maximum pessimism” that next bull market will begin.

When the time comes to buy, you won’t want to – Walter Deemer, legendary technical analyst, author, and 57-year investment industry veteran.

The good news is that we are now moving into a period where smart investors are beginning to evaluate bargains, looking at investments that are likely to do well in a recessionary environment, and even grow exponentially when the economy eventually recovers…which it will. For now, we do not think this downturn has fully run its course and are waiting for the MEI to signal when it’s time to increase risk again. If our past experience is any indication of the future, the MEI reversal will come at time when the news is still very bleak and few believe the market will ever stop going down, let alone ever go up again. Remember these words: “When the time comes to buy, you won’t want to.”         

We are overwhelming grateful for your friendship and the privilege of serving your wealth management needs, which we will continue to do with the highest level of devotion, stewardship, and integrity. Please let us know if you have any questions, concerns and/or physical needs we can help with.

---

Why Do Steven Spielberg and Matt Damon Still Exploit Malthusian Fears?

Sean Gross, CFP®, AIF® | Co-Founder & CEO

An introductory note from Sean Gross: Occasionally, we share articles from trusted individuals whom we are acquainted with but work outside of our firm. When doing so, we are careful to choose well-researched articles which we find particularly fascinating, challenging, and often unconventional. The following article is authored by Patrick Cox, Editor of Transformational Technology Alert. More info. on Patrick’s background and experience can be found here: https://www.mauldineconomics.com/about-us/patrick-cox). Please feel free to contact us directly with any questions you may have: Info@TelosWealth.com.

Dear Reader,

You might not be interested in economic theories, but economic theories are interested in you. False economic theories have made life hell for many millions of people, and some of our biggest celebrities seem committed to spreading these falsehoods to future generations.

I’m not talking about the obvious monsters—the fascists and communists who convinced nations that their policies would create utopian levels of prosperity and happiness, ending instead in mass murder. I’m thinking of well-intentioned people like Thomas Malthus, a genteel English clergyman and economics professor born in 1766.

By all accounts, Malthus was a kind and compassionate man who never sought personal political power. In 1798, his book, An Essay on the Principle of Population, set forth his theory that human populations, because they can increase exponentially, will inevitably outstrip resources.

Malthus wrote the book partly to counter the ideas of Nicolas de Condorcet, the French Enlightenment philosopher and mathematician who championed free markets, constitutionalism, and equal rights for women and all races.

Source: https://www.baumanrarebooks.com/BookImages/85250a.jpg

Malthus apparently believed that Condorcet’s ideas, unconstrained by an intellectual class capable of controlling population and resources, would lead to catastrophic famine and conflict. Among those influenced by his views were people who interpreted Darwin’s work to mean that only the fittest cultures would survive the inevitable overpopulation.

The most proactive Malthusians, including Hitler, Stalin, and Mao, decided not to wait for overpopulation to arrive. Bryan Caplan, professor of economics at George Mason University and senior scholar at the Mercatus Center, shows how Hitler’s tome, Mein Kampf, explicitly cites overpopulation as a justification for his genocidal policies:

Malthusianism was Hitler's official argument for his greatest crimes. Germany's problem, in Hitler's own words:

The annual increase of population in Germany amounts to almost 900,000 souls. The difficulties of providing for this army of new citizens must grow from year to year and must finally lead to a catastrophe, unless ways and means are found which will forestall the danger of misery and hunger.

Hard to Kill: The Myth of Overpopulation

Given the historical record, you might think Malthusianism would have been repudiated long ago. Resource production has always outpaced population growth, thanks to scientific innovators and entrepreneurs. There have been famines in modern times, but their root cause has almost always been political conflict or corruption, not a shortage of food production capacity.

In the last few decades, exponential improvements in human conditions have become so obvious, it’s impossible to deny. Freedom-enabled innovation is lifting the world out of poverty into a new era while levels of pollutants are falling across the board. Birthrates are sub-replacement globally, and total world population is due to drop within a generation.

In fact, all net population growth now happens because improved healthcare is keeping people alive much longer. 

Academic demographers have known what’s going on for decades, but their data remains mostly unread. Slowly, however, word is getting out.

Swedish sociologist Hans Rosling was probably the most effective anti-Malthusian champion. Unfortunately, he is gone, but his videos on global progress and the end of overpopulation fears are still available.

Source: https://youtu.be/FACK2knC08E

More recently, Harvard psychologist Steven Pinker, HumanProgress.org, and others have taken up the baton. 

Right now, transformational technologies are emerging that will improve health and increase prosperity even further. El jefe John Mauldin is working on a book that attempts to describe this dawning era of abundance. 

Does that mean we have no problems? Obviously not. In fact, we still have one major Malthusian problem. This is not a problem that Malthus predicted, though. It’s a problem he helped cause.

For whatever reason, a lot of people, including influential artists and filmmakers, are drawn to the Malthusian vision of doom. This is a pity, because the biggest threat to the developed world today is the demographic deficit.

The aged population is larger than it has ever been and still growing. And since many Baby Boomers aren’t financially secure, the burden has fallen on an ever-shrinking population of younger people.

We’ve known this would happen since the 1930s, but Malthusians controlled the media bullhorn, so the average person never learned that the demographic pyramid was flipping. Though US fertility has been below the replacement birthrate since 1971, the establishment elite has never stopped sounding the overpopulation alarm and advocating lower birthrates.

Europe’s birthrates fell ahead of North America’s, so the problem is more obvious there.

Watch Germany to See What’s in Store for the United States

Germany’s Berlin Institute for Population and Development, an independent non-partisan research group and think tank, recently published a remarkable diagnosis of Europe’s future. Titled, “Is economic growth over?”, the report suggests that European policymakers should accept that the many decades of post-war economic growth are over, to be replaced by permanent secular stagnation.

Source: https://www.berlin-institut.org/fileadmin/user_upload/Was_tun_wenn_das_Wachstum_schwindet/PM_en_Saekulare_Stagnation_FINAL.pdf

The following paragraphs are from the press release announcing the study:

“In order to boost economic growth, governments and central banks are resorting to classic economic policy instruments, such as publicly-funded investment programs or low interest rates”, [Dr. Reiner Klingholz, Director of the Berlin Institute for Population and Development] explains. “Tackling structural problems using cyclical economic instruments is futile. Debt will only grow further as a result.”

The problem is that state, business and society rely on steady growth. Klingholz: “In our current organisational form, the state is dependent on economic growth to service its debts or to maintain efficient social systems for an aging society.” The economy likewise depends on growth. Without growth, businesses need to lower their profit expectations and investment needs and anticipate that technological progress will continue to slow down. This threatens jobs. Increasing unemployment, coupled with a weak economy, may undermine people’s trust in the promise that they are going to be better off than preceding generations. What helped democracies emerge and survive in the past is the broad distribution of wealth. A stagnating economy poses hitherto unknown challenges.

What an understatement. We are at a turning point in history. A demographic transformation unlike any seen in history is happening right now, and we need to understand what it means for investors and the public in general.

Low birthrates and a rapidly aging population are suffocating economic growth and creating enormous political schisms. This is obvious in Europe but just dawning on North Americans. The policy and investment models that worked during the post-war growth era are already failing, and the problem will get worse.

How ironic that the West, which created the innovations responsible for raising the world’s standard of living, has embraced Malthusian pessimism. The solution, as I’ve said before, is not more centralized control. It is more innovation, especially in healthcare.

We can solve the financial problems that are killing economic growth by shifting older people out of the dependency column and into the productive column. We can revitalize the West by making the old more youthful and delaying aging for everybody.

We can, and we will. Unfortunately, media and popular culture are not helping.

Two recent big-budget movies, Matt Damon’s Downsizing and Steven Spielberg’s Ready Player One, both depend on the tired, discredited boogeyman of overpopulation to drive their plotlines. A few years ago, Damon starred in a similar dystopian movie named Elysium.

It’s impossible for me to watch any of them. Once I am asked to accept the premise that the world is facing catastrophic overpopulation and wealth inequality, my ability to suspend disbelief fails. Malthus has done enough mischief already, I can’t watch hectoring entertainers continue his work.

To learn more about the unprecedented demographic disaster we’re facing... why life-extension science may be the only way out... and which companies promise the greatest breakthroughs, watch our free video series, “Riding the Gray Tsunami,” here.