TrimTabs’ Charles Biderman and Jim Bianco of Bianco research discuss whether or not the Federal Reserve’s tapering has ended a five-year bull market. Below is a full transcript of the conversation.
Charles Biderman: “With me today is Jim Bianco, head of Bianco research, one of the leading independent bond research houses. This is probably our fifth interview over the past year and I find our conversations fascinating and I hope you, our viewers, do also. Jim, thanks for being with us today. First topic I’d like to talk about is tapering. The Fed started tapering in January and they’re going reduce the amount of money creation by another $10 billion next month. It’s going from $85 billion in new money with which to buy financial assets in December to $75 billion this January and $65 billion in February. What’s fascinating to me is ever since tapering started, the stock market has stopped going up. Is there a relationship between the two?”
Jim Bianco: “I definitely think there is a relationship between them. The Fed’s got a theory about how tapering is supposed to work. And I think they’ve got it right. It’s called the Portfolio Balance Theory. The Fed buy bonds, artificially suppresses interest rates, forcing everybody out on the risk curve and buy things like stocks. Well, as they buy less bonds there’s going to be a greater need for people to divert money from riskier assets, like stocks, to buy bonds. Or rates are going to continue to head higher until it attracts money. So, yes the stock market should run into trouble, should run into turbulence as the Fed continues its tapering and as the market believes a lot more tapering is coming. I am not surprised at all by this.”
Charles: “In the fourth quarter last year, we saw huge amounts of money going into U.S. equities both via mutual funds and ETFs, something that hasn’t happened in quite some time. And the bullishness was so rampant, that there was a massive move up in stock prices. Underlying all that was obviously the Fed is omnipotent and the Fed – like a religious truth – says that the U.S. economy is recovering and will be self-sustaining without the Fed’s help very shortly. Therefore, the Fed tapering, it’s all good. I have a real problem with the notion that the economy is recovering. What do you think about the economy?”
Jim: “A couple of things there. You’re right that I think some people believe that the Fed is omnipotent. I don’t understand why. How many more forecasts do they have to blow before we finally realize that they don’t have a good handle on what’s happening with the economy? And have never had a good handle on what’s happening with the economy. And to your direct question, when you start looking at the economy, I use the metaphor that it’s a “C-.” And I’ve used that metaphor for a couple of years. If your kid comes home with a C-, nobody’s happy, you have a conversation at the dinner table about if you could have done better. But you didn’t fail. You get to go to the next grade. That’s kind of what the economy is. It’s not a recession yet, but it’s certainly not good. And it continues to go to the next grade and we continue to sit around the kitchen table going ‘How can we continue to make this better?’ So I don’t think the economy is doing nearly as well as everybody does. I think the reason the Fed is tapering is because it decided it doesn’t work or there’s a constituency in the Fed led by Richard Fisher of Dallas, Jeremy Stein a Fed Governor, Charles Plosser of Philadelphia, Esther George of Kansas City, has successfully made the argument to their colleagues ‘This doesn’t work. We’ve got to stop doing this before it gets out of hand.’ I think that’s why they’re tapering. Not because the economy’s getting better.”
Charles: “Do you think Mohamed El-Erian will become will be part of the new Fed this year?”
Jim: “I thought he running for the President of Egypt (laughs). No, I don’t think he necessarily will join the Fed. If any alumni from Pimco is going to join the Fed it’s going to be Paul McCully, the former chief economist who retired a few years ago. But even he’s a long shot right now.”
Charles: “As you know, we track withheld income and employment taxes derived from all wages and salaries. Wages and salaries were boosted about three percent at the start of the year by all the carry-forward of bonus income from 2012 to avoid higher 2013 tax rates. So wages and salaries grew 5 percent. Minus the 3% boost actual wage growth was 2%. So right now, we have a -3 % year over year headwind. That is why we’re seeing negative year-over-year growth of -1.9 percent. And so if you add 3% to -1.9% that equals all of 1.1%. In other words incomes are barely growing. We have a lousy economy that’s barely growing and to me, that’s why many of this quarter’s earnings reports are lousy. What’s more, Mark Hanson said that California home sales in December plunged – that year-over–year home sales in California were actually down in 2013 after being up the first half of the year. So yeah, home prices are still higher, but activity is plunging. I don’t think people are taking into account that the real estate market this year is going to be a head wind not a tail wind. In addition the rest of the word is growing a lot slower than people are fantasizing about. What do you think?”
Jim: “I agree totally. The economy has been struggling. That’s that C-, the 1.1 percent. It’s not a recession, but it’s certainly not growing fast. As far as housing goes, we’ve talked about this previously. There are two sets of housing numbers. One set is put out by the government. That’s home starts, home sales. They’re put out by the census department. Those numbers have been showing the housing market to have had very good first half of 2013 and hanging on there in the second half of last year. Then there’s a second set of numbers. These are the real-time numbers put out by the online brokers like the Zillows and the Trulias of the world. And they show that once rates started rising in the summer, the housing market has really taken it badly. I think eventually these government statistics are going to start to show that. But the real-time, actual numbers you get from the Trulias and the Zillows have been telling us for a while that there are problems in housing. And that’s what Hanson is trying to show us. Hey look, the second half wasn’t nearly as good as everybody makes it out to be. But the economic community is so tied into ‘We have to go look at the government new home sales and existing home sales numbers.’ Nevermind the fact that there’s a lot of problems with the government’s methodology. Investors keep looking at the government numbers. But when you look at the real time alternatives, from the online brokers, rising interest rates In May has really hurt the housing market. And a further rise in interest rates is going to hurt housing some more.”
Charles: “I was reading, I forget where, that today because of the new rules it’s almost impossible to get an adjustable-rate mortgage; at least much more difficult. One of the reasons why demand and sales activity is down is with all the rule changes it is now much harder to get a mortgage. Is that true?”
Jim: I think it is true. Between that and the appraisal system and everything else. Look, if you want to get an adjustable rate mortgage and you are not in the higher income category, you are a regular person, you got to go to credit counseling. You got to pay a few hundred dollars to have someone explain to you the cost and the benefits of having an adjustable rate mortgage or what is an “exotic product” or anything that isn’t a 30-year fixed, relative to having a 30-year fixed. They’ve made it very difficult to get a mortgage. So much so that the marketplace is upside down. If you look at the bank quote numbers, jumbo-rate mortgages for the first time ever have lower interest rates than conventional mortgages. Jumbo-rate mortgages are easier to get because usually people that can afford a mortgage of more than $417,000 – or where you are in California, $650,000 – they usually have high credit ratings. They can make it through or hire somebody to get them through the process. On the other hand, if somebody wants to take out a $200,000 mortgage, it’s much more difficult and that’s why we’ve got this upside-down market. Forever, it always used to be conventional, conforming mortgages that you’d sell to Fannie and Freddie had lower interest rates. Now it’s the other way around just to show you how dysfunctional the housing market remains.”
Charles: “To conclude, we have still have near record-high stock market, yet less new money is going in and nobody seems to care.”
Jim: “Well they won’t care until they do care. But you’re absolutely right. One of the other things we touched upon in our early January conversation was that earnings season is just getting underway. Roughly 20 percent of the companies have reported by now. If you wanted a characterization of it, how about ‘not good?’ That’s really what it’s been shaping up to on top of everything else. I think there’s a belief out there, this gets to tapering, that the Fed still has the market’s back. The Fed is tapering, maybe going from $75 billion to $65 as we talked about before. But that’s only because the stock market is 1 or 2 percent off its high. If the stock market was to drop 5-7 percent off its high on its way to 10 percent decline, I think a lot of people believe that the Fed would stop tapering and would start re-buying securities to try and support the stock market. So most investors still believe the Fed’s got their back even though they’re tapering. We’ll see, if the market tumbles, if that’s indeed what the Fed does. I have my doubts, but it hasn’t really tumbled yet and we don’t have to have that question. So that’s why I think everybody still likes stocks for right now.
Charles: “We’ll talk about that when it happens. In our next segment, let’s talk about one of your favorite new subjects: China.”
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