IntelDigest

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 30, 2018

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

We have begun to take a  Look Ahead  at the Economy-To-Come in recent issues of  IntelDigest … planning for the transition from Bull to Bear.

We expect high volatility in the markets as we go into August and September, so we want to prune the most volatile stocks from portfolios before August … trying to sell into strength by mid-Summer.

And, we fully expect that the Economy will fall into recession by some time next year, and perhaps result in an extended period of stagnation in the equities markets lasting for at least a few years.  Perhaps, stagnation will roll into a return of the Stagflation  of the 1970s … especially if political pressure is applied.

 

Stagflation

Looking back to 1972 … Richard Nixon was President, ramping up his campaign for re-election that year.  Part of his strategy was keeping the Economy running well through Election Day, so he put significant pressure on Federal Reserve Chairman Arthur Burns to keep interest rates low.

Despite the danger of runaway inflation from such a policy, Burns acquiesced to the President’s “request.”

The inflation resulting from this action and other “easy money” policies of the Federal Reserve came to the fore in the mid-‘70s.  Inflation spiked over 12%.  Interest Rates were catapulted to unheard-of levels (do you remember mortgage rates of 15-16%?).  From 1977 through 1981, the U.S. Dollar lost half of its value.

What are the chances that history repeats itself in the next couple of years, as Donald Trump ramps up his own bid for re-election?

Danger signs of just such an occurrence were revealed in a recent  Politico  interview.  Kevin Warsh … a former governor of the Federal Reserve and a candidate for Chairman before Jerome (Jay) Powell was chosen … spoke on the  Politico Money Podcast  about a meeting with Donald Trump last year in the Oval Office.

“If you think it was a subject upon which he delicately danced around, then you’d be mistaken.  It was certainly top of mind to the president,” Warsh said about Trump’s questioning on interest-rate policy.  “The president has a view about asset prices and stock markets.  He has a view based on his long history in his prior life as a developer and real estate mogul of the role of interest rates.”

Warsh added that he did not have the impression that Trump viewed the central bank as an independent organization meant to make decisions in the best long-term interests of the economy rather than at the bidding of the White House or any other political institution.  “In some sense, the broader notion of an independent agency, that’s probably not an obvious feature to the president,” he said.

Asked if the president appeared to understand the historical importance of the Fed’s independence from partisan political pressure, Warsh said:  “This might be a good time for a no comment.”

The interviewer, Ben White of  Politico, summarized the discussion:

“The fear is that Trump pressures [Fed Chairman] Jay Powell to keep rates low even if it means higher inflation … We are now entering a new age of explicit political pressure on the Fed to keep interest rates low.”

There is no urgency regarding Interest Rates at the moment, as the Economy has been going through a period of expansion and Markets have been strong.  The stated policy of The Fed is to increase short-term rates gradually, from the current level of 1.75% to 3.25% by early 2020.

A likely scenario is that the next Recession will be upon us before The Fed reaches that target.  When the Recession hits, stock prices of many companies will slide, and could see their values cut in half.

At that point, political pressure from the White House to cut interest rates will be overwhelming.  The combination of:  (1) tight labor markets,  (2) federal government deficits of A Trillion Dollars per year,  (3) the still-bloated balance sheet of The Federal Reserve, and  (4) Interest Rate Cuts … would likely bring on 1970s-style  Stagflation.

 

The Unraveling

We have written about the coming Unraveling of the Bull Market, and some of the causes.  One viewpoint on the Markets is that we are turning a corner on Valuations.

Up to this point … and for the last two years … we have been writing that we were unconcerned that stock prices were soaring.  Even with stocks at historically nose-bleed levels, we did not see them as overvalued, primarily because Interest Rates were at abnormally-low levels.

However, we are turning the corner … costs are rising, interest rates are increasing (gradually), and economic growth/expansion will not support further acceleration of stock values.  Here are a few areas where corporate profits will be pressured over the next couple of years, which will act to deflate the valuation balloon:

* Commodity Prices Rising … grain and feedstocks, lumber, steel, and many other commodities

* Labor Costs Growing

* Trucking/Transportation Costs Exploding … on all goods

* Strengthening U.S. Dollar … weighs on U.S. trade, especially on the exports of multinational corporations

* Interest Costs Climbing … The Fed raising short-term rates and reducing its balance sheet … The European Central Bank will soon follow as it tapers its own quantitative easing program

* Energy Costs Making New Highs … rising oil prices are a tax on consumption

* Regulatory Threats on Technology/Social Media … Alphabet/Google, Facebook, Twitter, and other companies in this space have to hire thousands of compliance personnel to monitor and supervise the dissemination of personal data, putting a drag on profits

 

Reversion to Mean

Rising costs have been evident in the 1Q earnings reports of most companies, but have been masked by the new federal cuts on corporate tax rates.  Count on future corporate profits and stock valuations being hampered by rising costs.

David Rosenberg, chief economist and strategist at the Gluskin Sheff firm, concludes that valuations have topped out.  He points to admissions by the Federal Reserve Bank of San Francisco that  “Current valuation ratios for households and businesses are high relative to historical benchmarks … We find that the current price-to-earnings ratio predicts approximately zero growth in real equity prices over the next 10 years.”

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 23, 2018

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

We have written, at length, on near-term prospects for  The Economy and Markets  in Spring issues of  IntelDigest.  We remain substantially invested in equities, expecting one final upward lurch in this nine-year-old Bull Market.

Last week, we began to move on to a discussion of  The Look Ahead  by replaying our February 21 discourse on  Inflation, Interest Rates, and Volatility.

It is time to begin planning for the transition from Bull to Bear. As we wrote in an earlier issue:

The next few months will likely be the last opportunity for growth in equities for the next several years.  So, we face a balancing act in the near-term … how to find and secure growth prospects while the “Melt Up” in equities plays out its last few months … and when to get out with our gains before the market begins its slide into recession.

We expect high volatility in the markets as we go into August and September, so we want to prune the most volatile stocks from portfolios before August.  As we expect the markets to stay strong in the next few weeks, we’ll try to sell into strength before mid-Summer.

 

Select Opportunities

One area where we still see short-term new investment opportunity is small-cap stocks.  Gains in small-caps this year have been four times higher than large-cap stocks, in general; and, this trend is expected to continue through the next two quarters.

Why are small-caps outperforming now?  Smaller companies are likely doing most of their business in the U.S., so they benefit from the strong domestic economy.  And, with mostly domestic operations, they are less vulnerable to a rising U.S. Dollar.  A stronger Dollar makes U.S. goods more expensive for foreign buyers, which is a disadvantage for large multi-nationals doing business overseas.

All American corporations have been given a gift in the form of new Federal corporate income tax cuts.  But, smaller companies tend to be more nimble than large corporations, so they can adjust faster to take advantage of new growth opportunities.

All that being said, investors should be selective about finding companies with good fundamentals and in an Up-Trend.  And, expect to be in and out of such a trade in six months or less.

 

Transitioning to an Era of High Risk

We fully expect that the Economy will fall into recession by some time next year, and perhaps result in an extended period of stagnation in the equities markets lasting for at least a few years.

So, we are constantly reviewing portfolios, and paring back risk.  We expect to have portfolios reduced to the most secure, dividend-producing, “boring” companies by the time that leaves are turning orange and gold.

And, most importantly, we are sticking to our Stop Losses on all investments.   (Stop Losses are set prices or percentages which you use to know exactly when to sell).

This is the most prudent Exit Strategy for 2018.

 

The Unraveling

Among the causes of the Unraveling of the Bull Market will be the actions of the Federal Reserve (Fed).  Even if the Fed were to make NO more raises in short-term interest rates this year, it is on course to remove Hundreds of Billions of Dollars of liquidity from the financial markets.

The Fed followed a policy of Quantitative Easing for several years, where they created liquidity in the battered marketplace after the 2008 Financial Crisis.  Quantitative Easing is an unconventional monetary stratagem in which a central bank purchases government securities, or other securities in the marketplace, in order to lower interest rates and increase the money supply.

Starting late last year, the Fed decided that it was time to reverse the process.  And, its “tightening” of the money supply is now occurring at the same time that the federal government is running ever-greater federal deficits.

The Fed’s unwinding of its massive bond portfolio began on October 1, when it began to allow its balance sheet to “run off” by $10 Billion per month.  This means that, as bonds in its portfolio mature, The Fed will not “roll” the assets into new securities.  The assets are removed from the portfolio, and The Fed Balance Sheet shrinks.

This has continued at a rate of $10 Billion per month in U.S. Treasury securities and $3 Billion per month in mortgage securities.

The immediate effect on the Economy is that prices of short-term U.S. bonds have dropped dramatically, and their yield (interest rate) has climbed dramatically.

The thinning of the Fed Balance Sheet is expected to accelerate throughout 2018.  By the end of the year, close to Half a Trillion Dollars will have disappeared.  That represents a sizeable reduction in demand for both mortgages and U.S. Treasury securities.

In the ordinary course of business, banks and finance companies borrow money at the short-term rate and lend it out at the higher, long-term (usually 10-year) rate.  As long as short-term capital costs less than long-term, the system works and capital markets are liquid.

However, in extraordinary times … such as when a central bank is selling Billions of Dollars of mortgages and Treasury Debt into the market … the system begins to break down.  Short-term rates can rise to match, or even exceed, long-term rates.  As the spread between short-term and long-term rates narrows, it becomes progressively more difficult for banks and mortgage companies to access capital, reducing market liquidity.  The banks cannot profit from lending money

 

Inversions

There is a high likelihood … because of the Fed actions … that we will see a rare “inversion” between short- and long-term rates in 2018 or early 2019.  This is referred to as an “inverted yield curve,” which is a well-known precursor to recession.

In its wake, there would be a dramatic drop in earnings among banks.  We will certainly see an increase in nonperforming loans … a subject which we will address in June in a special issue on Debt.

The next Bear Market and Recession are just over the horizon. No matter how much higher the markets go during the current “Melt Up,” the inevitable downturn will be there in its wake.

 

Over the next few weeks, we’ll discuss Credit Cycles and Stagflation, and re-visit the role of Debt in the Unraveling to come.

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 9, 2018

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

We close out the recent thread on near-term prospects for  The Economy and Markets  in this issue of  IntelDigest.

As we have written in recent weeks, we fully expect that the Economy will fall into recession by some time next year, and perhaps result in an extended period of stagnation in the equities markets lasting for at least a few years.

But, we believe that the next recession is inevitable, not imminent.

Last week, we listed a number of factors which Investment Analyst Louis Navallier has set out to support the proposition that stocks will continue to “Melt Up” for the next few months.

Today, we will discuss valuations and yields, and begin to lay the groundwork for “transitioning” our portfolios to an era of high risk.

 

Valuations

Stock prices have, generally, been on an upward path for nine years.  This has been an unusually long bull market.  And, stock valuations have become unusually pricey … at least, based on historical measures of value.

However, as we have posited in prior issues of  IntelDigest, stocks have NOT been overvalued or overly expensive when Interest Rates are taken into account.  This nine-year time period has been characterized by an ultra-low Interest Rate environment which is totally unprecedented.

Therefore, we are not deterred by the perceived-high valuations as stock prices “Melt Up” in the coming months.

 

Earnings Yield

Yield  is an important component in measuring the valuation of an asset.  Calculating the  Earnings Yield  on a variety of investments allows us to easily compare them.

As an example … if your bank were paying you a yield of 5% on your cash on deposit, you would keep your money in the bank unless riskier assets … such as stocks and bonds … could top that rate of return.  We calculate the Earnings Yield on equities investments by comparing Earnings-per-Share to the Price of a share of the stock.

Looking at the markets at the turn of this century, one could earn a yield of 6-7% on a U.S. Treasury bond.  Meanwhile, the Earnings Yield in the stock market was around 4%.  As a result, many investors in the year 2000 were happy to earn 6% safely in bonds, which was better than a 4% return in riskier stocks

What is the best choice here in 2018, as we near the end of a nine-year bull market?  The Earnings Yield on stocks (around 6%) is double that of Treasury bonds (just under 3%).  Stocks have been a “no-brainer” for several years.

By the beginning of next year, most investors will be jumping to the safety of Treasuries.

 

Near-Term Markets

First Quarter earnings of the largest corporations have been better than expected;  indeed, companies have had an historic 1Q, based on earnings.  However, the response in the markets has been tepid, as the prospect of a recession over the horizon constrains investors.

A few trends can be gleaned from the numbers.  First, the markets are favoring those companies which have posted strong sales and earnings, with strong positive guidance.  Strong earnings aren’t enough.  The forward guidance has had to signal strength in 2Q or 3Q.

Second, companies which have not provided strong forward guidance have seen their stock prices slide for a few days.  But, typically, strong companies saw their stock prices rebound thereafter.

The market actions/reactions illustrate that so much of trading these days is computer-centric, and highly reactive.  As many human market-makers have been replaced by computer algorithms, stock price moves in reaction to news and earnings reports are immediate.  Computers don’t think, they react.

So, investors would be wise to stay calm in the face of frantic market moves, and allow a few days for prices to revert to mean.  If some of your stocks are becoming too volatile, it is worth staying calm, and waiting for opportunities to sell into strength.

 

Where To Go Next

We are making plans for the transition from bull market to bear market.  As we wrote last week:

The next few months will likely be the last opportunity for growth in equities for the next several years.  So, we face a balancing act in the near-term … how to find and secure growth prospects while the “Melt Up” in equities plays out its last few months … and when to get out with our gains before the market begins its slide into recession.

One indicator which we are studying is  The Wedge Pattern. Trading ranges in the equities markets have been getting tighter … as the prices of stocks go up and down over time, the highs are getting progressively lower, and the lows are higher.

On a stock chart, this creates a wedge-shaped pattern.  When the point of the wedge becomes evident, there can be a steep run up in stocks, or a steep dive.  Because economic conditions are currently at the best level in years, and there are still many Billions of Dollars on the sidelines (held by U.S. and foreign investors), we interpret the wedge as pointing to a final blow-out higher in the equities markets this year.

We expect high volatility in the markets as we go into August and September, so we want to prune the most volatile stocks from portfolios before August.  As we expect the markets to stay strong in the next few weeks, we’ll try to sell into strength before mid-Summer.

This doesn’t mean that we are leaving equities entirely.  We expect that strong, “boring,” income-yielding companies can form the basis of one’s portfolio in the coming bear market.

 

Exit Strategy

However, it is important to devise an Exit Strategy for each and every asset in your portfolio.  We recommend establishing a Stop Loss level for each asset;  the Stop Loss is the exit price where you will sell your position if the price drops that low. The Stop Loss can be a specific dollar price, or a percentage loss from the highest price which a stock has attained.

By setting Stop Losses and executing them without emotion, one can methodically cut losses, while allowing winners to ride.

Later in the Spring, we will devote an issue of  IntelDigest  to the subject of  Income Investing  in the coming bear market.

 

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MAY 2, 2018

 

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

 

IntelDigest  returns, with discussion of The Economy and Markets.  As in our most recent issue, we continue today to discuss the near-term … what to expect over the next few months.  In later issues, we will go into prospects for 2019 and 2020.

We fully expect that the Economy will fall into recession by some time next year, and perhaps result in an extended period of stagnation in the equities markets.  Such stagnation could last from 2019 through 2022.

It is important to distinguish between the near-term period, which should last through most of 2018, and the recessionary period beginning in 2019.  The next few months will likely be the last opportunity for growth in equities for the next several years.  So, we face a balancing act in the near-term … how to find and secure growth prospects while the “Melt Up” in equities plays out its last few months … and when to get out with our gains before the market begins its slide into recession.

 

 

Noise in the Markets

As we have stated on several occasions, our premise for the remainder of 2018 is that the equities markets will continue to rise, even if increased volatility makes the ride somewhat like a roller coaster.  Speaking of volatility, market opinions are roiling as much as stock prices … ranging from expositions on the continued “Melt Up” of the markets, which we support, to the bearish viewpoint that the markets are in danger of imminent collapse because of Debt and overstretched valuations.

To which we say … the recession is inevitable, not imminent.

We will have much to write in the next few months about Government Debt and Deficits, and Corporate Debt, and Credit Card Debt, and Student Loan Debt, and Auto Loan Debt … and the “unsustainability” of it all.

But, not today.

 

 

Earnings Growth

In our last issue, we wrote about the prospects for First Quarter earnings of the largest corporations;  we quoted estimates from  FactSet  of 17.1% earnings growth for the S&P 500, which would mark the highest growth rate in seven years.

We are approximately half-way through the 1Q earnings announcements, and results have been better than expected.  If the remaining companies reporting in the next week or two beat expectations, this will be a historic quarter.

Under ordinary circumstances, such reports of blockbuster profits and healthy cash flows would result in stock prices exploding upward.  However, the prospect of the Recession Monster over the horizon constrains investors.  So, results have been uneven.

Consider the case of McDonald’s (MCD), which had a blowout First Quarter.  The company reported better-than-expected earnings, better-than-expected revenue, and strong same-store sales growth … 2.9% in the U.S. and 5.5% globally.

As a result, the stock jumped up 6% for the day.  That is a normal market reaction.

However, compare the case of Caterpillar (CAT), which manufactures construction equipment.  CAT beat earnings expectations by 33%!  But, management commented that earnings growth may be “as good as it gets.”

The market took this as a warning and the stock price fell 6%.

 

 

The Best Game in Town

Investment analyst Louis Navallier still calls the current uneven equities markets the “best game in town.”  He offers several reasons to support continued growth in the markets and the economy at-large:

1. Although some big-name, big-cap stocks are under pressure right now, and lots of money is being reshuffled on Wall Street, it is a healthy sign that money is NOT leaving the stock market, but is merely being redistributed to other equities, especially dividend growth stocks.

2. Housing is still in an uptrend.  The National Association of Realtors announced that existing home sales rose 1.1% in March to an annual rate of 5.6 million … there is only an ultra-tight 3.6-month supply of existing homes for sale.

Existing home sales will likely continue to be held down by a lack of inventory.  Median home prices have risen 5.8% in the past 12 months to $250,400.  Higher home prices tend to boost consumer confidence.

3. The Conference Board announced that its consumer confidence index rose to 128.7 in April, up from a revised 127 in March and down slightly from a 17-year high of 130 back in February … improving consumer confidence bodes well for strong retail sales, which naturally tend to pick up as the weather improves.  So, the second-quarter GDP growth is off to a good start.

4. The Commerce Department reported that the trade deficit in March declined by 10.3% to $68 Billion – the first decline in seven months and substantially below economists’ consensus estimate of $73.4 Billion.

5. Gross Domestic Product (GDP) improved in the First Quarter, with the Commerce Department estimate coming in at annual growth of 2.3%, above economists’ consensus estimate of 2%. Consumer spending expanded by only 1.1% in the first quarter, but business spending expanded at a robust pace as spending on equipment rose 6.1% and structures soared 12.3%.

6. The Commerce Department also reported that the Fed’s favorite inflation indicator, the Personal Consumption Expenditure (PCE) index, rose 1.8% in the past 12 months. Therefore, the Federal Reserve is now more likely to raise short-term interest rates at the June FOMC meeting, and perhaps twice later in the year, if inflation persists.

7. Finally, the U.S. Dollar has regained strength after a rocky few months.  A stronger U.S. Dollar should help to keep commodity prices down for a few more months, as most commodities are priced in Dollars.  Additionally, foreign investors are now more likely to buy Treasury securities in a stronger U.S. Dollar environment.

 

 

Strategy for Careful Investing in 2018

This could become the Year of Investing Dangerously.  So, we should all be preparing exit strategies for our portfolios, and treading very carefully with respect to new investment over the remainder of this year.

The best approach to investing in these last months of the “Melt Up” starts with a few simple questions.  Before going into any new stock investment this year, be sure that the company has qualities which will help it to thrive in Up markets, and withstand the pressures of a coming recessionary environment:

1. Is this company strong enough to survive a recession?

2. Are its products/services popular across segments of society?

3. Does it have obvious advantages over competitors?

4. Do people queue up for its products/services, either online or at brick-and-mortar locations?

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

APRIL 18, 2018

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

Maintaining the theme of  The Economy and Markets  in the Spring issues of  IntelDigest, we continue today to discuss the near-term … what to expect over the next few months. In later issues, we will go into prospects for 2019 and 2020.

 

Fundamentally Sound Markets

As we have stated on several occasions, our premise for the remainder of 2018 is that the equities markets will continue to rise, even if increased volatility makes the ride somewhat like a roller coaster.  We still believe that the equities markets are fundamentally sound … here in the U.S. and in major economies around the world … and the “Melt Up” in the markets still has several months to run.

 

Dividend Yields

Volatility in the markets this year has sent all the stock averages dipping on three occasions, from as little as 5% to as much as 11%, starting in early February.  The S&P 500 has re-tested the initial lows (on February 8) several times, and has bounced up each time.

This action has had an interesting effect on Dividend Yields. Dividends are generally rising.  With stock prices falling during this period, the annual Dividend Yield on the companies in the S&P 500 has risen above 2%.  Comparing a 2% dividend yield on equities, which is taxed at a top Federal Income Tax rate of 23.8%, to the yield on the 10-year U.S. Treasury bond, which is taxed at a maximum rate of 40.8% … the situation definitely favors investment in equities.  As a result, investors are encouraged to see pullbacks in the stock markets as good buying opportunities.

Remember that Dividends will likely increase going forward, as a result of lowered Federal Income Tax on corporations.

 

Earnings Growth and Dividends

The initial results of corporate tax reform are being seen already as earnings reports for the First Quarter of this year are released over the next week or two.  According to FactSet’s Earnings Insights for April 6, “The estimated earnings growth rate for the S&P 500 is 17.1%,” which would mark the highest growth rate in seven years.

April is usually a strong month for dividend payments.  Most American companies pay quarterly, but many overseas companies pay only semiannually, which usually includes April.  In an article dated March 29 (titled “Stocks are About to Get a $400 Billion Dividend Boost”), Bloomberg quotes a note from strategists at Morgan Stanley, who state that as much as $400 Billion of dividends may be paid to investors between March and May.  This would be all global stock market dividends.

This is an argument for strong equities markets going forward. Another argument is Repatriation of cash from overseas.

We will discuss Repatriation of cash by American corporations in more detail in the coming weeks.  But, just for the sake of discussing near-term markets, know that many U.S. companies will be awash in cash after repatriating assets this year.  So, we expect to see lots of cash devoted to dividends and share buy-backs for the shareholders, bonuses for employees, and strategic mergers or expansion.

The bottom line for 2018 may well be corporate buy-backs and dividends totaling over $1 Trillion.

 

The Trump Trade War – Update

The Trump Administration rhetoric on trade has softened in the last two weeks.  And, there are more signs that negotiations with our trade partners, including China, are ongoing. Hopefully, negotiated settlements will forestall the imposition of the threatened new Tariffs, on ALL sides.

Recall that we have written that “… an honest-to-goodness Trade War could be just the thing which would derail our economic engine.”  Imposition of the Tariffs would be the equivalent of levying new “taxes” on both American consumers and American companies seeking to do business overseas.

We will continue to monitor this situation carefully.

In the meantime, the strong global economy continues to roll along, which typically results in a continued rise in the U.S. trade deficit.  The Commerce Department recently announced that the U.S. trade deficit rose 1.6% to $57.6 billion in February, the highest level in 9½ years.  Exports rose by 2.3% in February to $137.2 billion, while imports rose by 1.6% to $214.2 billion.

It is interesting to note that, although total trade grew 1.9% from $344.9 billion in January to $351.4 billion in February, imports from China declined 14.7% in the same period. Typically, the stronger the U.S. economy, the faster the trade deficit tends to rise;  therefore, robust GDP growth seems to be the primary reason for a larger trade deficit (not China).

 

Sometime in May, we will devote an issue or two to the subject of China … its economy, its trade practices, and the future of investment in China.

Until next week …

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

APRIL 11, 2018

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

As we apprised you last week in  IntelDigest, The Economy and Markets will be the primary topic of discussion throughout April.  This issue, however, will be shorter than usual, as we attend to tax commitments on behalf of our clients.

So, we will concentrate on the near-term … what to expect over the next few months.  In later issues, we’ll discuss prospects into 2019 and 2020.

The Age of Volatility

This long Bull Market, which began in 2009, has been longer than most.  And, 2017 was a most unusual year, featuring abnormally-low volatility.  Markets moved steadily Up, with nary a pause to rest.  Everything seemed to be coming up roses!

But, everything changed in January, and volatility came roaring back.  We have entered an  Age of Volatility, where market corrections of 5-10% are expected to be a regular and normal occurrence going forward.  As we stated last week:

The  Age of Volatility  will certainly last through the end of 2018, until the beginning of the next major recession.  The “Melt Up” in equities is in the “Ninth Inning” … just a few more months of possible gains in select stocks.  For the bulk of the investment markets, we are moving into a new era.  There will be significantly fewer “trending” stocks and more “reversion to the mean.”

The path forward will feature choppy trading, extreme swings up and down, and headaches for “bulls” and “bears” alike.

Fundamentally Sound Markets

We still believe that the equity markets are fundamentally sound … here in the U.S. and in major economies around the world … and the “Melt Up” in the markets still has several months to run.

As recently as February 14 … after the first correction of 2018 … we wrote that “… certain factors support the continued “Melt Up” of equities, both domestically and internationally, for another few months.”  Among those factors:

* low Interest rates continue to undergird the health of the equities markets

* world economies are stable

* strong earnings in the largest U.S. corporations

* positive technical indicators signifying continued strength … the Advance/Decline Line and market breadth moving up

Add to this the effects of the massive Christmas present which Congress handed to American companies in the Tax Cuts and Jobs Act of 2017 (TCJA).   Financial results for the first quarter under the new tax regimen will be reported this month.  The news is expected to be very good for U.S. equities.

Are U.S. Stocks Expensive?

* We have made this point on several occasions over the last few years:

Although stock prices have been at historical highs, they have NOT been overvalued, when ultra-low interest rates are factored in.

Now, we add two more factors which support the “value” of current stock prices:

* The aforementioned Tax Cuts, which will improve earnings for most American companies … by some estimates, the earnings of companies in the S&P 500 Index are expected to rise by 27% over the next 12 months

* The recent Corrections in the markets, which have brought many stock prices back to earth

As a result, one of the most prevalent measures of “value” used by investors … the Price/Earnings (P/E) Ratio … has fallen back in line with its 25-year average, based on estimated earnings in the coming year.

The P/E ratio measures the value of company stock by comparing the stock price (in the numerator) to the company earnings (in the denominator).  The P/E ratio of U.S. stocks had climbed pretty high over the course of 2017, which caused concern among many analysts and investors.

However, 2018 has brought a significant change in this measure.  Recent corrections in market prices have brought prices (the numerator) down, while the Tax Cuts are expected to bring earnings (the denominator) up.

So, the abnormally-high P/E ratios of 2017 are giving way to P/E ratios much closer to the long-term norm in 2018.  Stocks which seemed “expensive” a few months ago now trade in a “reasonable” range.

U.S. stocks, as a group, now trade at the same forward P/E ratio as two years ago, in March/April of 2016.  This measure of the “value” of these stocks remains the same.  However, over the same period of time, the “price” of many of these stocks has moved much higher, bringing large gains for investors.

More next week ….

 

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

APRIL 4, 2018

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues. Material may not be reproduced, forwarded or shared without express permission.

 

Is the stock market making you queasy? Well, get used to it! The Age of Volatility has begun!

We will discuss Markets and The Economy over the next few weeks in  IntelDigest.  We begin, today, with the immediate causes of Volatility and taking the first step into a new era in the Markets.

 

The Trump Tax

We have written that “… an honest-to-goodness Trade War could be just the thing which would derail our economic engine.”

Trump is overriding the positive aspects of the 2017 tax legislation by imposing new “taxes” on Americans, across the board.  These “taxes” are in the form of Tariffs.  Both U.S. Tariffs which Trump plans to impose on foreign goods, which will raise prices on products purchased by all Americans.  And, retaliatory Tariffs proposed by our trading partners/adversaries, such as China, which amount to a “tax” on American businesses striving to sell American products overseas.

In our last issue, we showed you that:

In a survey conducted this week by CNBC.com, the threat of a Trade War is rapidly becoming the top economic fear on Wall Street.  Nearly two-thirds of the survey respondents see Trump’s trade policies as negative for overall economic growth and likely to cause job losses in the U.S.

Protectionism tops the list of worries on Wall Street, far outpacing concerns over inflation, terrorism and even Federal Reserve actions.

 

Certainly, historically-high stock valuations and concerns over rising interest rates contribute to increased Volatility in the Markets.  However, the roller-coaster-effect which will define this year is directly attributable to the Trump Trade Policies.

The Age of Volatility will certainly last through the end of 2018, until the beginning of the next major recession.  The “Melt Up” in equities is in the “Ninth Inning” … just a few more months of possible gains in select stocks.  For the bulk of the investment markets, we are moving into a new era.  There will be significantly fewer “trending” stocks and more “reversion to the mean.”

The path forward will feature choppy trading, extreme swings up and down, and headaches for “bulls” and “bears” alike.

 

Finding Value

We are moving away from growth stocks and an era of skyrocketing tech toward a “Value” model.  Here are a few different approaches to finding Value in the markets.

 

Individual Stock-Picking

April is traditionally a very strong month.  A study by Bespoke Investment Group shows that April has been the strongest month of the year over the last 50 years, with an average 2.04% gain.  Over the last 20 years, April gains have been even better, averaging +2.39%.

This April will also feature the first corporate quarterly sales and earnings reports under the new tax law.  Most U.S. companies should benefit greatly from the Tax Cuts and Jobs Act of 2017 (TCJA);  many are paying lower federal income tax rates, starting in this quarter, and most large multi-national companies will repatriate Billions of Dollars of earnings from overseas accounts (at low tax rates) this year.

So, many individual companies … especially traditional “Value” stocks … are expected to report blockbuster results in the next few weeks, which will reward their investors.

 

Exchange-Traded Funds (ETFs)

There should also be room in your portfolio for more “passive” funds, such as ETFs.  Broad sector trends can be easier to spot than finding the best individual companies in an industry.  For example, our clients have been able to maintain positions in the Mobile and Electronic Payments sector and the Cybersecurity sector by investing in IPAY, the Prime Mobile Payments ETF, and HACK, the Prime Cyber Security ETF, respectively.

ETFs also provide diversification, protecting the investor from negative events which may affect one company …. bad earnings report, cyber attack, lawsuit, retirement of a key leader, or dozens of other unpredictable events.  Holding a basket of dozens of stocks reduces the overall volatility in the portfolio.

ETFs are easy to trade … their high trading volume makes for a very liquid market.

ETFs also allow the investor to easily own a piece of very expensive stocks, which may be valued at Hundreds of Dollars for each share.  For example, an investor can buy XLK, the Technology Select Sector SPDR Fund, for $65 per share.  This fund holds shares in dozens of stocks including Apple, Alphabet (Google) and Microsoft.  A single share in these companies would cost $117, $1,020, and $90 per share, respectively.

 

True Diversification

Be sure to identify exactly what companies are represented in the funds which you are considering.  You are not truly “diversified” if you own two or three different funds which invest in the same companies!

We advocate for “market intelligence” and “true” diversification among sectors.  Market Intelligence refers to studying and learning the differences among companies and sectors.  For example, two companies may look alike and operate in the same industry, and seem to be twins to the outside observer.  But, a prudent investor looks for the factors which differentiate the growing company from the stagnant company.

Similarly, exchange-traded funds should be examined for their management, investments, and weighting.

For example, the S&P constructs its index fund based on the market cap, as indicated by the float.  The float is the number of shares outstanding, less shares held by insiders.  As a result, the index over weights shares with low insider ownership, such as Western Union;  it under weights shares with high insider ownership, such as Berkshire Hathaway.

The prudent and intelligent investor would do the opposite!

We like to seek opportunities among companies overlooked by the indexes.  And, as the aforementioned “Melt Up” plays out over the course of this year, we will be changing gears and looking for Value moving forward.

As indicated, we will be discussing The Economy in  IntelDigest throughout April.

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MARCH 21, 2018

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

 

We were planning to move on from Trade and Tariffs in this issue of  IntelDigest, but the Trump Administration insists on keeping the subject front and center in the news.  We wrote last week about the Trade Wars which would be the likely result of Donald Trump’s actions.  He is about to take another giant step forward in waging economic warfare with China, which was our largest trade partner in goods (not services) last year.

 

The China Problem – Redux

We discussed Trump’s focus on China last week.  Now, media outlets are reporting that Trump is about to announce new Tariffs, amounting to at least $60 Billion, on Chinese products. This will likely precipitate a Trade War between two of the largest economies on Earth.  The package could be applied to more than 100 products, which Trump believes were developed by using trade secrets which China stole from U.S. companies or forced them to hand over in exchange for access to its massive market.

We suggested a Measured Approach in our last issue, which would involve negotiations with the Chinese rather than setting up American consumers and companies for harm incurred in a Trade War.  But, Trump made criticism of China a significant part of his presidential campaign, so he is determined to use blunt force in pursuit of his goals.

As reported in  The Washington Post,

“This looks much more like a president who is excessively eager to apply tariffs than a well-calculated move to defend American interests,” said Phil Levy, who was a trade adviser to President George W. Bush.  “There are real concerns about Chinese behavior on intellectual property, for example, but there are much more effective ways to address them.”

John Frisbie, president of the nonpartisan U.S.-China Business Council, was quoted:

“The U.S.-China Business Council believes that tariffs will do more harm than good in bringing about an improvement in intellectual property protection for American companies in China … Business wants to see solutions to the issues, not just sanctions.”

Economists specializing in China have said that it would be difficult for the Trump Administration to target Chinese companies because many products imported from China are made by multinational companies with supply chains that stretch around the world.  Chinese manufacturers might assemble these products or put on the finishing touches, but the country does not export as many products to the United States that are entirely made in China.

According to Nicholas R. Lardy, a senior fellow at the Peterson Institute for International Economics, “So much of what we import from China is produced by multinational companies … Thirty percent are consumer electronics.  I’m sure the president doesn’t want to raise the prices of those and send Apple’s stock into the toilet.”

Lardy maintains that it will be easier for China to retaliate. China can zero in on U.S. exports such as soybeans, which are entirely made in the United States.  Soybeans are one of the top two goods the United States exports to China, along with aircraft and aircraft parts, according to government data.

Further, American producers would gain little from these actions.

“In the best case, they might reduce imports from China by $30 Billion, but it will have virtually no effect on the U.S. global trade deficit,” Lardy continued.  “We’ll just start buying things from the next lowest-cost supplier, such as Bangladesh or Vietnam.  It’s not that the $30 Billion will magically be produced in the United States the day after they announce these tariffs.”

According to the U.S.-China Business Council, many U.S. states export goods and services to China, including some swing states in the 2016 election.  For example, over the decade ending 2016, Pennsylvania exports of goods to China increased 83%, twice the rate as its exports to the rest of the world.  And, Pennsylvania exports of services jumped more than four-fold, which was more than five times the pace of the exports to the rest of the world.

In a survey conducted this week by CNBC.com, the threat of a Trade War is rapidly becoming the top economic fear on Wall Street.  Nearly two-thirds of the survey respondents see Trump’s trade policies as negative for overall economic growth and likely to cause job losses in the U.S.

Protectionism tops the list of worries on Wall Street, far outpacing concerns over inflation, terrorism and even Federal Reserve actions.

Again, from CNBC.com:

“The market has shifted from a fear of a monetary policy misstep, tightening too aggressively, to a trade policy mistake, escalating into a trade war with China,” Art Hogan, chief market strategist at B. Riley FBR, wrote in his response to the survey.  “The balance of risk for equities has moved from the Fed to the White House.”

Added David Kotok, chairman and chief investment officer of Cumberland Advisors, “One man’s income is another man’s expenses.  No one wins a trade war.”

 

 

Herbert Hoover – Redux

History seems poised to repeat itself.

History remembers Herbert Hoover as one of the worst American presidents.  Like Donald Trump, Hoover was a rich international businessman and a political outsider.  He had not held public office before his 1929 inauguration.  Like Trump, Hoover faced intense pressure from struggling American workers.

He signed into law the Tariff Act of 1930, commonly referred to as the Smoot-Hawley Tariff, which raised Tariffs on thousands of imported goods to record levels.  Smoot-Hawley was followed by retaliatory Tariffs from our many trading partners.  When the dust settled, American exports were cut in half, which exacerbated the Great Depression.

Nearly a century later, Donald Trump seems determined to walk down the same path.

Trump had threatened China repeatedly while on the campaign trail.  He fired the opening salvo in this Trade War last summer, when the Administration opened an investigation against China using Section 301 of the Trade Act of 1974.  This Act predates formation of the World Trade Organization (WTO) Dispute Settlement Body, where WTO member states (including the U.S. and China) can meet to settle trade disputes.  Section 301 provides authority to the U.S. Trade Representative to take unilateral action against a trading partner.

According to the  Financial Times, under the 301 statute, “which has not been widely used since the 1995 creation of the WTO, the U.S. would in effect act as judge, jury and executioner on any grievance that it identifies.”

The investigation was the start of a major pushback against China.  In the last two months, the Trump Administration has announced new Tariffs on solar panels, washing machines, and now steel and aluminum.  Although China was not specifically identified as a culprit, China is obviously Trump’s main target.

Mr. Trump is likely embarrassed that, after all of his tough talk against China over the last two years, the Commerce Department recently announced that the U.S. had realized its largest ever trade deficit with China during Trump’s first year in office.

Trump seems to see the trade deficit as some sort of economic “scorecard” between the U.S. and China.  And, he is using our record-high deficit as a convenient excuse to escalate the Trade War.

 

Trade Wars

The response of China will likely start with tit-for-tat Tariffs against American agriculture.  China is also capable of employing asymmetric forms of financial warfare, including:

* China is one of the biggest producers of consumer goods for the American market, so prices for consumers would be driven higher

* China is the largest holder of U.S. Treasury Debt, currently holding approximately $1.17 Trillion

* Our Federal deficit is expected to soar over the next few years, so the U.S. Treasury will be issuing lots of new bonds … large foreign buyers of our debt, such as China, will be needed to keep interest rates from soaring

* China could retaliate with their own Tariffs on American manufacturing, agriculture, and high-tech goods, and block U.S. companies from the Chinese market

* China could also threaten to diversify its reserves away from U.S. Treasuries;  China has been stockpiling Gold for years, and working toward replacing the U.S. Dollar as the  reserve currency  for the world

* China could devalue the yuan … when it did so in August and December of 2015, U.S. stocks fell more than 10% on both occasions

 

We will return to Investing and The Economy next week in IntelDigest.  There are several favorable conditions which continue to support the “Melt Up” in the Markets.  However, an honest-to-goodness Trade War could be just the thing which would derail our economic engine.

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MARCH 14, 2018

 

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

 

We continue our discussion of Trade and Tariffs this week in IntelDigest, emphasizing the ramifications of the Trade Wars which would be the likely result of Donald Trump’s actions.

Last week, the Director of the National Economic Council, Gary Cohn, resigned in protest of the Trump Administration Tariffs on the importation of steel and aluminum.  We reported that Cohn is viewed as a “globalist” by many in the Trump Administration, putting him at odds with those, including Trump himself, who see themselves as “economic nationalists.”

His replacement is Larry Kudlow, a conservative pundit and raconteur of long standing.  Kudlow’s decades of experience in finance have included stints at the Office of Management and Budget in the Reagan Administration, chief economist at Bear Stearns, and many years as a contributor at CNBC

Interestingly, you may recall that we reported this last week:

In an op-ed entitled, “Tariffs are Taxes,” three Trump-supporters and well-known free market advocates … Larry Kudlow, Arthur Laffer, and Stephen Moore … wrote:

“… even if tariffs save every one of the 140,000 or so steel jobs in America, it puts at risk 5 million manufacturing jobs and related jobs in industries that use steel. These producers now have to compete in hyper-competitive international markets using steel that is 20 percent above the world price and aluminum that is 7 to 10 percent above the price paid by our foreign rivals.”

So, Mr. Kudlow assumes his new post having already expressed his opposition to the Trump Tariffs and Trump Trade Wars.

 

 

Trade Wars

Trump’s top trade adviser is Robert Lighthizer, a veteran of the Reagan Administration.  Back in the 1980s, Tariffs imposed by Reagan and Lighthizer on vehicles made in Japan forced Japanese auto manufacturers to build plants in the United States.  This created thousands of good manufacturing jobs for Americans

It would seem that Lighthizer plans to run the same playbook today, this time against the Chinese.

Lighthizer is part of a hawkish “Trade Troika,” which includes Wilbur Ross, Jr., the Secretary of Commerce, and White House trade adviser Peter Navarro.  They have urged Trump to impose the Tariffs on steel, aluminum, solar panels, and washing machines, which we discussed last week.

Their ultimate goal is to reduce the trade imbalance on a wide range of products … especially with China.  More importantly, they want to stop the ongoing theft of intellectual property from American companies … especially by the Chinese. However, the “shotgun” approach of all the Tariffs announced this year is concerning to our friends, allies and trade partners around the world.

We discussed last week the retaliatory actions proposed by the European Union (EU).  Trump reacted to those threats by threatening (via Twitter) new Tariffs on European auto imports.

Trump has famously stated that he thinks that Trade Wars would “.. hurt them, no us.”  However, most people view a global Trade War with trepidation … fear of the economic slowdown, stock market slide, and rising inflation which would result.  Additional taxes … in the form of Tariffs … on imported consumer goods would hit consumers’ pocketbooks, and cause prices in general to rise.  That could cause a slowdown in consumer spending, which would hurt corporate profits.

Tariffs intensify uncertainty and volatility in markets.  Add that to Federal Reserve policy, where the Fed has already committed to raising short-term interest rates over the next 24 months and unwinding its balance sheet.  Add that to general concern that stock valuations are very high by historical measures.

A full-scale trade war will hurt growth around the world. Given the Trillions in Dollar-denominated Debt in emerging markets, a full-scale foreign sovereign-debt-crisis could result if those emerging markets countries cannot earn Dollars from exports to pay their debts.

For these and many other reasons, Trump’s Tariffs spinning into global Trade Wars is a daunting prospect.

Perhaps that explains Mr. Trump’s walking-back some of his bluster in recent days.  He has extended the “olive branch” to allies and neighbors, such as Canada, Mexico, and Australia. He has hinted at exemptions from some Tariffs before they go into effect later this month.  Perhaps Mr. Kudlow can help him to identify better ways to address trade imbalances.

 

 

The China Problem

The reality is that the focus of Trump’s ire is China.  His intention was to impose these Tariffs in the first months of his presidency … it had been a major talking point during the Campaign.  But, he held off, hoping for Chinese help with the North Korea situation.  Now, he has seen that China has done little to reign-in Kim Jong Un, and there is evidence that China is helping North Korea to cheat on existing sanctions.

Once China’s lack of cooperation on North Korea became clear, Trump saw no harm in confronting China on trade. However, this course is fraught with peril!  There are a number of ways that China could retaliate against the U.S.

* China is one of the biggest producers of consumer goods for the American market, so prices for consumers would be driven higher

* China is one of the largest holders of U.S. Treasury Debt

* Our Federal deficit is expected to soar over the next few years, so the U.S. Treasury will be issuing lots of new bonds … large foreign buyers of our debt, such as China, will be needed to keep interest rates from soaring

* China could retaliate with their own Tariffs on American manufacturing, agriculture, and high-tech goods, and block U.S. companies from the Chinese market

* China could also threaten to diversify its reserves away from U.S. Treasuries

* China could devalue the yuan … when it did so in August and December of 2015, U.S. stocks fell more than 10% on both occasions

 

 

A Measured Approach

The irony is that Donald Trump has eschewed multi-lateral trade treaties because he preferred bilateral deals … one country at a time.  However, his Tariff scheme is a shotgun approach, imposing Tariffs across the board.

If he truly wants to improve the U.S. trade position, he should begin to engage in bilateral discussions, and he should start with China.

The single most important issue with China is the theft of U.S. and European intellectual property.  Imposing Tariffs does nothing to solve that problem.  A measured negotiation on that topic is a better way to engage the Chinese.

And, the Trump Administration has shown that blocking foreign acquisitions of U.S. companies … as happened this week when Singapore-based Broadcom was blocked from acquiring Qualcomm on national security grounds … can be an effective negotiating tool when dealing with our competitors and adversaries.

 

 

 

InnOvation Capital & Management, LLC

IntelDigest

LAW – POLICY – FINANCE – MARKETS
INFORMATION FOR THE ENTERPRISE AND INVESTOR

MARCH 7, 2018

 

Contact Richard Power with comments or questions. IntelDigest  is intended for the use of our clients and colleagues.  Material may not be reproduced, forwarded or shared without express permission.

 

We will return to a discussion of the Economy in the March 21 issue of  IntelDigest.  However, Donald Trump has diverted the conversation to Trade and Tariffs, so we’ll delve into that subject over the next two weeks.

As background, you can read our November 16, 2016 issue … see the  IntelDigest Archive … on the history of Protectionism and the development of Free Trade.

 

Trump Tariffs

In Trump’s mind, “protecting our workers” requires imposition of substantial U.S. Tariffs on steel and aluminum imports.  This comes six weeks after he announced Tariffs on imported washing machines and solar panels.

Many members of Trump’s own party view Tariffs as just another form of taxation on the American people. Conservatives generally tend to be anti-protectionist with respect to trade policy, but even noted conservative influencers  from organizations such as The Heritage Foundation are complaining that they are frozen out of White House discussions on this matter.

Now, one of the leaders of the White House faction which opposes imposition of Tariffs has announced his resignation as the Director of the National Economic Council.  Gary Cohn … formerly an investment banker and president of Goldman Sachs … has been a known advocate for Free Trade.

His tenure at the White House was marked by the major pro-business overhaul of the tax code and significant reductions of rules and regulations on financial corporations.  However, he is viewed as a “globalist” by many in the Trump Administration, putting him at odds with those, including Trump himself, who see themselves as “economic nationalists.”

 

Steel and Aluminum

Trump’s plan is to impose tariffs on steel and aluminum imports … 25% on steel and 10% on aluminum … to be applied “broadly” and “without quotas” to all U.S. trading partners.  We can only hope that this threat is merely a negotiating tactic designed to elicit more favorable terms from our trading partners

However, if the Administration goes through with the plan, there are a few major problems:

First, imposition of additional taxes which favor one industry at the expense of many others is precisely the kind of special-interest-politics which Candidate Trump had decried when he promised to “drain the swamp” in Washington.

Second, the perceived benefit to a relatively small number of U.S. workers in these industries would result in significant costs to millions of other Americans.

Higher steel and aluminum prices would increase profits in U.S. steel and aluminum producers, but hundreds of other American companies, employing millions of other American workers, would have to bear higher costs for these materials.

The other companies could take the decrease in earnings, then dismiss lots of their workers.  Or, they could pass the higher costs on to consumers.  All of us would face higher costs on a variety of products, from cars and trucks to beer and other canned goods.

The point is that, while the steel and aluminum industries may capture a short-term, government-induced win, users and consumers of these materials will suffer the loss. Republican Senator Orrin Hatch characterized the Tariffs as little more than “a tax hike the American people don’t need and can’t afford.”

Third, this plan is not likely to meet its objectives … it will not result in a significant number of new American jobs in these sectors.

The steel and aluminum industries reached their peak in the U.S. in the mid-1950s, and have been contracting steadily over more than 60 years.  For example, steel industry jobs are down by 80% over that period of time.  Data from the American Iron and Steel Institute and the Aluminum Association indicate that these industries employ 300,000 Americans today, which is less than 0.1% of the U.S. population.

With or without Tariffs, that is unlikely to change any time soon.  Companies which have outsourced jobs would have little incentive to bring those jobs back.  And, it would take decades to try to rebuild the capacity lost over 60 years.

Note that U.S. steel production is down by less than 50% over that 60-year period.  While many jobs were lost through outsourcing and the growth of these industries in other countries, much of the reduction in American jobs is attributable to higher productivity here in the U.S.A.

In an op-ed entitled, “Tariffs are Taxes,” three Trump-supporters and well-known free market advocates … Larry Kudlow, Arthur Laffer, and Stephen Moore … wrote:

“… even if tariffs save every one of the 140,000 or so steel jobs in America, it puts at risk 5 million manufacturing jobs and related jobs in industries that use steel.  These producers now have to compete in hyper-competitive international markets using steel that is 20 percent above the world price and aluminum that is 7 to 10 percent above the price paid by our foreign rivals.”

 

Steel Countermeasures

The greatest danger in imposing Tariffs is the risk that our trading partners would retaliate against American industry.

The European Union (EU) is preparing to impose its own tariffs on several U.S. products if the Trump Administration follows through on its steel Tariffs.  Bloomberg reports that the EU plan would target 2.8 Billion Euros ($3.5 Billion) of American goods, applying a 25% “tit-for-tat” levy on a range of consumer, agricultural, and steel products imported from the U.S.

The list of U.S. products includes:

shirts, jeans, cosmetics, other consumer goods, motorbikes, and pleasure boats worth approximately 1 Billion Euros

orange juice, bourbon whiskey, corn and other agricultural products totaling 951 Million Euros

steel and other industrial products valued at 854 Million Euros

The EU has discussed expanding the list of targeted American goods should Trump also follow through on his pledge to impose a 10% duty on foreign aluminum.

 

We will continue this discussion of  Trade Wars  next week in IntelDigest.