The COVID-19 vaccine is widely expected to fuel a V-shaped economic recovery as newly inoculated Americans — cooped up for more than a year — flock to stores and restaurants to spend.
At least, that’s the theory. And while many experts think it’s likely, famed contrarian David Rosenberg — as you might expect — believes otherwise.
We spoke with the founder, chief economist and strategist at Rosenberg Research & Associates, about his outlook for 2021. Fair warning: He’s plenty bearish, but says there is still value to be found.
Here are edited excerpts from that interview.
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You’ve pointed out we’re in stock market bubble territory. But you recently told CNBC that it likely won’t burst anytime soon, barring interest rate increases or a sharp decline in economic activity. What would cause these things to happen?
The more spending that we get post-pandemic, the greater economic activity we’re going to have. What we don’t know is how people’s behavior has changed in light of this trauma. After a year of isolation and social distancing, I think one can reasonably draw the conclusion that behavior is going to change fundamentally.
The stock market has made its conclusion as to what it expects to see, and I have my doubts.
Spending behavior is going to change fundamentally because we went into this crisis with over half of households not having sufficient savings, cash and liquidity to even get through a three-month period of idle economic activity. I think having their livelihoods and sustenance depend so heavily on the generosity of Uncle Sam created a psychological scar that, going forward, saving for the next rainy day is going to be a critical theme.
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We ran the models and found the savings rate is going to be on average 3 percentage points or higher in the future. If the old savings rate was 7% — which it was — the new norm is going to be a 10% savings rate. People are not going into the next crisis with insufficient savings.
The challenge is that the more you save, the less you’re spending. It’s not a good thing or a bad thing, but saving more does come at a cost of lower economic growth. The 3 percentage point savings rate change I anticipate is going to amount to almost 1 percentage point per year decline on gross domestic product growth from where it would otherwise have been.
Then we have to consider the taxation implications: Taxes are going to be going up. These massive fiscal deficits and debts are not sustainable. Relying on low interest rates indefinitely as a reason to keep borrowing at a pace far above the economy’s growth rate is a very poor strategy for the future. These virtually unprecedented fiscal imbalances will ultimately have to get addressed through higher taxes since cutting spending is a non-starter. But the question is: Who will those higher taxes apply to? If you believe your taxes are going to go up in the future, you’re going to save more today to fund that future liability.
How much economic growth would we need to no longer be in bubble territory? And how much stimulus would this require?
The markets are already primed for 20% earnings growth for this year, and the price-earnings multiples are 20% above historic norms. Even adjusted for super-low interest rates, the stock market is highly overvalued — and the message from the interest rate market is one of very low growth ahead.
The markets are priced for 3% real GDP growth for the next several years. We haven’t had five years of 3% or better economic growth since the 1980s and the 1990s. The markets are pricing more than just a rosy scenario. They’re pricing in a new era of economic growth that we haven’t seen in well over two decades.
If any more growth closes the output gap more quickly than is expected, the resulting run-up in interest rates will burst this bubble in rather dramatic fashion.
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What indicators can advisors and investors watch that suggest the bubble is about to burst?
The indicator to watch — on the fundamental side — is any downward shift in analyst earnings expectations.
On the financial side, I would suggest keeping a close eye on the U.S. dollar since its weakness since March has breathed incredible liquidity into the global risk-on trade.
As for technicals, keep a firm watch on classic market breadth measures.
Where are you seeing value in the stock market today?
I am seeing value in energy, financials and anything that has utility-like characteristics, which includes areas of Big Tech, brand-name consumer staples and health care. I also see growth opportunities and superior valuation metrics in Asia, including China, Taiwan, South Korea and Singapore.
Whether you look at fiscal policy, financial markets or the real economy, China has emerged from this global mess stronger than everybody else. Their economy is growing 8% per year, and every inch of their growth is productivity. China, unlike America and most of the developed world, is allowing for defaults and doing so in a stable manner, and it is reducing the presence of insolvent “zombie” companies in its economy. China is one of a few countries with meaningfully positive interest rates, and during this crisis, did not resort to quantitative easing or huge fiscal deficits.
We in the West are growing more suspicious of China and its ambitions, but we also have become more reliant on it. China just forged a trade deal with 14 other Asian countries, which means its power is going to get even greater as a manufacturing hub in the region, and it will have greater access to external supply chains. China also signed a tentative investment agreement with Europe.
At the same time, Chinese President Xi Jinping has been building transportation networks into Africa, a continent home to vast natural resources. Most of the world’s production of cobalt — used in batteries, then to be used in electric vehicles — takes place in Congo. And as China becomes more economically dominant, its major trading partners stand to benefit most, which is why many of these countries have bounced off the bottom — because of the reemergence of double-digit export growth. If you’re an investor looking for parts of the world where there is value, where price-earnings multiples match economic growth rates, go East.
What guidance do you have for financial advisors and investors heading into 2021?
Investing is a marathon, not a sprint. Do not get lulled into complacency, and be aware that the V-shaped recovery is now fully discounted. There is no more pent-up demand.
Normally, you come out of a recession with tremendous pent-up demand in durable goods: You defer your decision to buy a car for a year. But spending on cyclically sensitive and tangible goods — furniture, appliances, home renovations, automobiles, recreational goods — is up more than 10% in the past year.
People talk about pent-up demand for services. But what does that mean? You couldn’t get a haircut these past 12 months — so after the pandemic, you’re going to get a haircut 24 times? Are you going out to eat twice a day when the pandemic ends to make up for all those lost visits to your favorite restaurant? That spending is lost forever, I’m afraid.
There are a lot of structural changes coming out of the pandemic, and part of it is a new awareness that what we used to pay other people to do for us, we can simply do ourselves. So coming out of the pandemic is what I label the “do-it-yourself economy.”
Be more thematic in your investments than usual this coming year. The era of passive investing is going to give way to active investing. Stock-picking will come back into vogue. Fundamentals will come back into vogue, while the current era of speculation and momentum-based investing will fade into the background.
The thematic strategy is to buy what you need, not what you want. Invest in sectors and companies that have utility-like characteristics. Look at your life and think about what it is you actually use every single day and invest in those companies. And be diversified: That hasn’t gone out of style and never should because diversification, at its root, is a vital risk-management tool.
What predictions for the market do you have for 2021?
I see another year of uncertainty and volatility. Keep some cash on hand to put into the market at better valuation levels. There is a risk that the recovery is a 2022 — and not a 2021 — story. Do not abandon the “stay-at-home” theme just yet.
And the most prudent ways to play a growth rebound are in energy and financials. Health care is another area worth mentioning with obvious utility-like features and a part of the economy that we now can see was hugely underinvested in before the pandemic. Expand your horizons by expanding your geographic exposures and start to invest in Asia, where the risk-reward attributes are most appealing at the current time, and likely for some time yet.
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Q&A: David Rosenberg on Economic Recovery and a Stock Market Bubble originally appeared on usnews.com
