Since inception in 2002, JM’s premise has been that market cycles are not relegated to the past, but continue to create security mis-pricings in both short and long cycles; due to a push–pull relationship amongst large groups of market adherents (e.g., growth investors and value investors) resulting in undershoot and overshoot of security prices.
Recognition of this came in the aftermath of the great recession with acknowledgment that 40+ years of carefully rational fiscal policy had not caused business cycles to disappear. In 2010, Paul Krugman gave an historical perspective that it was probably inevitable that a substantial part of the economics profession would simply assume away the realities of the business cycle, because they didn’t fit the models.”[1]
Thus, from JM’s perspective, the government response to the 2007-2008 financial system meltdown was also not unexpected. At the time, JM declared that there would be a return to the fundamentals, because:
• the Fed would act to ensure smooth functioning of financial market, reducing business interruption losses;
• longer term investors would create demand for mispriced securities;
• resolution of the uncertainty would result in more accurate valuations (implying that the discrepancy between longer term fundamental value and short term market value would diminish); and,
• upward price movements would create positive momentum (further spurring the trend toward more accurate valuations based on longer term potential.)
The next immediate years bore this out for JM strategies. What was disappointing, however, is that the full federal response to the crisis (fiscal and monetary) was inadequate. “In 2009 Obama and the Democratic Congress passed a stimulus, but it was hopelessly undersized – half what was required. And 2010 began with the president announcing not that more was necessary, but that it was time for belt-tightening.”[2]
Thus, the election of President Trump in 2016 was spurred by a general belief that government was not working. The trauma of the great recession was the exclamation point on the long underperformance of the U.S. economy (documented as actual economic growth versus potential[3]); growing inequity between social classes (documented in 2016[4]as stagnation, decline, and more stagnation of personal income in the lower social classes from the 1980s through the 2000s); and a failure of liberal-leaning economists (Krugman included early on) to understand the political ramifications of exporting U.S. jobs through liberal globalization policies at the time. “In a column for Slate in 1997 with the Swiftian title ‘In Praise of Cheap Labour’, Krugman denounced the anti-globalisation movement for its failure to understand that ‘bad jobs at bad wages are better than no jobs at all'."[2] Yet Trump’s policies for addressing economic grievances (tariffs / isolationism and corporate tax reduction) did not work as promoted. As Krugman notes, “one way to think about the failure of the Trump tax cut is that it didn’t reverse capital flight because the capital flight never happened in the first place. In effect, the U.S. government gave up hundreds of billions of dollars to fix a nonexistent problem.”[5]
Looking back at the past five to seven years in a low inflation, low interest rate, slow growth environment, valuation based investment strategies did not work relative to market capitalization weighted strategies which benefited from increasing monopolistic power concentrated in mega-cap companies.
The pandemic is changing that. Although, the U.S. is still going through the worst domestic crisis in nearly a century, it appears that Biden’s team has a pretty good understanding of the myriad of issues facing the U.S. and is willing to try new approaches. “The gigantic scale of the $1.9 trillion Biden rescue plan, and now the proposed $2 trillion infrastructure investment programme, are testament to a rearrangement of the relationship between economic expertise and politics in the Democratic Party… with three centrists – Biden, Janet Yellen and Jerome Powell – undertaking an experiment in economic policy of historic proportions.” [2][6]
This leads to JM’s belief that the economy will run hotter than in the prior decade – as policy makers hold down short term rates while allowing longer run rates to rise. If so, then the dynamics of a faster running and recovering economy could be transformative; resulting in more, better jobs and higher wages for the middle and lower classes; especially as fuller employment encourages companies to compete for labor. And finally, if Congress passes Biden's “10% ‘Made in America’ tax cut for companies that manufacture their goods and employ people here in the US instead of abroad” [7], then smaller domestic firms stand to benefit relative to mega cap companies with large foreign operations.
[1]https://krugman.blogs.nytimes.com/2010/11/26/the-instability-of-moderation/
[2]https://www.lrb.co.uk/the-paper/v43/n08/adam-tooze/the-gatekeeper
[3]https://www.jstor.org/stable/1924613?seq=1
[4]https://www.ncbi.nlm.nih.gov/pmc/articles/PMC4827781/
[5]https://www.nytimes.com/2021/04/09/opinion/trump-corporate-tax-reform.html?smid=tw-nytopinion&smtyp=cur
[6]https://www.nytimes.com/2021/04/09/opinion/ezra-klein-podcast-brian-deese.html?showTranscript=1
[7]https://www.lendio.com/blog/bidens-tax-plan-could-mean-small-businesses/
