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Weekly Points – April 26th, 2024 – 5 Things to Know in Investing This Week – The Stagflation Issue

We saw a weak and overstated GDP print combined with a higher inflation metric. The conclusion is that absent government spending, we’re heading for stagflation. One problem:  government spending is destroying value. Mish Shedlock warns that we can’t vote our way out of the problem. On the commercial real estate front, landlords are coming up with ways to delay dealing with problems. They’ll have bigger problems tomorrow. The FTC bans noncompete agreements, but what about the ones already in place?

This week, we’ll address the following topics:

  • GDP comes in weak. DKI adjusted GDP is even weaker.
  • PCE comes in hot. The Fed is about to face a dilemma.
  • DKI Board Member, Michael (Mish) Shedlock explains we can’t vote our way out of our financial problems.
  • Commercial real estate insanity: Mall operators buying failing tenants. What could go wrong?
  • FTC bans noncompete agreements. This one is going to get tricky.

Ready for a new week of higher inflation and slower growth? Let’s dive in:

1) GDP Comes in Weak:

1Q reported GDP was up 1.6% which was far below expectations for 2.2%. Some economists were expecting even higher numbers. Adjusting for the change in private inventories because it reflects inventory stocking or dec-stocking as opposed to actual economic activity get us to about 2% growth. The market was concerned about the price adjustment of 3.1% because it’s much higher than last quarter’s report. I’m concerned about the price adjustment because I think it’s understated. If it’s off by only 1%, which I consider to be a conservative estimate, that would take actual adjusted GDP down to 1%. That’s not the worst of it.

Real GDP Growth (Bar) - April 26th, 2024

Reported numbers declining. DKI adjusted GDP heading towards zero.

Debt vs GDP Growth

Government spending is destroying value.

DKI Takeaway: I think actual GDP growth is somewhere around zero (or 1% at best). In the second graph, we can see how badly government growth is distorting the economy. Growth in GDP from last quarter was $328B. Growth in Federal debt was about $500B. That indicates some combination of government spending destroying value and weakness in the private sector. Neither is a sign of a healthy economy and we’ll all pay for more wasteful government spending through future inflation.

2) PCE Comes in Hot:

The March Personal Consumptions Expenditures Report (PCE) came in at 2.7% which was above the 2.6% estimate and an increase from last month. The Core PCE, which excludes food and energy, was up 2.8% which was also above expectations of 2.7%. Personal income was up and spending was up more than both income and inflation. People are buying more, paying more, and using more credit.

PCE Graph - April 26th, 2024

Disinflation is dead for now and the Fed can’t get the Core number down.

DKI Takeaway: We’ve been saying for two years that rate cuts will come later than most market participants expect. DKI came into this year insisting we wouldn’t see 6 cuts (for a total of 1.5%) this year. Expectations are now down to 3 cuts starting in September. Given sticky and increasing inflation plus continued multi-trillion-dollar fiscal stimulus out of Washington DC, DKI thinks “higher for longer” applies to both interest rates and inflation.

3) Too Much Government Spending and Voting Won’t Fix It:

DKI Board member and economist, Michael (Mish) Shedlock, contributed an important guest post this week. He explains the Fed will struggle to contain inflation. As DKI has pointed out in many versions of the 5 Things, the government is running a massive deficit ($1.1T so far in 2024). CBO projections (which DKI has criticized in the past) show expectations that spending will exceed government tax collections for the next three decades. Mish notes that even those negative projections are too optimistic because they don’t factor in a recession between now and 2054. Do you believe that will be the case?

Deficit Tracker 2024-04-25

No matter who is in the White House or Congress, it’s multi-trillion dollar deficits.

DKI Takeaway: Mish continues: The debt is now over $34T. Interest on the national debt is over $1T and rising fast. Money that would go for investment now goes to bondholders while the government destroys value with excessive consumption (see the GDP vs Debt graph in Thing 1. Neither party will fix deficit spending. The Fed can’t fix it. Unrestrained fiscal stimulus created the mess we’re in, and nothing suggests a policy change no matter who wins the election. Please check out more of Mish’s writing at MishTalk.

4) Mall Owners Buying Failing Tenants:

Hat tip to Wolf Richter of Wolf Street for reporting on the new insanity in commercial real estate. He notes that Express Inc, which owns Express, UpWest, and Bonobos filed for bankruptcy. After planned closures, there will be 435 stores. A group of buyers have a potential deal to buy the remaining stores and retail operations. That part is normal. The part that’s unexpected is the buyer group includes Simon Property Group and Brookfield, two mall operators and large creditors of Express Inc.

Ecommerce Sales - April 26th, 2024

Not what you want to see if you own a shopping mall.

DKI Takeaway: The US has had an excess of retail shopping space for decades. That worked when malls were popular places for shopping and entertainment. Now, online shopping is approaching $300B and malls are struggling because their tenants are struggling. For Simon and Brookfield, buying Express Inc. out of bankruptcy “solves” the current problem because they’ll be able to collect rent from the remaining 435 stores. However, if a retail operator can’t run those stores profitably, then the only thing the mall operators can do for them is reduce the rent which doesn’t improve landlord finances. To us, this looks like doubling down on a losing position and pretending you don’t have a serious business problem. (Again, HT to Wolf Richter for covering this well.)

5) FTC Bans Noncompete Agreements:

This week, the Federal Trade Commission (FTC) announced its decision to prohibit non-compete clauses, with the ban becoming effective 120 days after publication. This decision will eliminate existing non-compete agreements and prohibit the formation of new ones. The FTC contends that one in five Americans is subject to non-compete agreements and believes that this action will encourage the establishment of new businesses, foster innovation, and raise salaries. DKI expects legal challenges, as numerous business groups have already filed lawsuits contesting the FTC’s ruling.

Untitled design - 1

Photo credit: Canva.

DKI Takeaway: This presents a challenging situation for the government. From a business perspective, there’s concern regarding the protection of internal confidential information. Allowing employees to sign employment contracts and then depart with sensitive information poses a considerable risk. This ruling has implications for potential fraud, particularly in sectors such as aerospace, defense, and technology. On the employee side, the main argument presented by the FTC is that it will stimulate business growth. While innovation and business expansion are generally positive, is it necessary for the government to dictate what private companies can and can’t do? This issue should have been left to the states to decide rather than taken up by the federal government. (This “Thing” was written by DKI Intern, Andrew Brown. I’d add that the ruling also involves invalidating contracts previously agreed to by employers and employees. Forcing contractual changes after confidential information was shared adds additional complication.)

 

Here’s your 5 Things to Know video version: https://www.youtube.com/watch?v=zp2TEHFnxJM

 

Information contained in this report, and in each of its reports, is believed by Deep Knowledge Investing (“DKI”) to be accurate and/or derived from sources which it believes to be reliable; however, such information is presented without warranty of any kind, whether express or implied.  DKI makes no representation as to the completeness, timeliness, accuracy or soundness of the information and opinions contained therein or regarding any results that may be obtained from their use. The information and opinions contained in this report and in each of our reports and all other DKI Services shall not obligate DKI to provide updated or similar information in the future, except to the extent it is required by law to do so. 

 The information we provide in this and in each of our reports, is publicly available. This report and each of our reports are neither an offer nor a solicitation to buy or sell securities. All expressions of opinion in this and in each of our reports are precisely that. Our opinions are subject to change, which DKI may not convey. DKI, affiliates of DKI or its principal or others associated with DKI may have, taken or sold, or may in the future take or sell positions in securities of companies about which we write, without disclosing any such transactions.

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