Global Trend

The economy is in the midst of what we’re calling the Mother of All Recoveries (or MOFAR). It represents a bounce-back from the manmade economic shock associated with the COVID19 lockdowns. Just as with World War II, this transformational crisis has resulted in high consumer savings, lots of pent-up demand and widespread adoption of new technologies in order to deal with the crisis.

Like the “war effort,” the pandemic response has set the stage for commercializing technologies developed during the transition phase of the ongoing techno-economic revolution. And because of the interplay between these technologies and others, this recovery will not simply expire after a few more quarters. In fact, the Trends editors believe the pandemic has lit the fuse on a once-in-a-lifetime productivity surge that will soon morph into a sustainable economic boom which is not yet priced into assets.

Where does the MOFAR stand as of May-June 2021? And how is it evolving? Consider the facts.

As we all know, many industries are currently struggling to grow at extraordinary rates. However, supply chain issues appear to be waning earlier than most economists expected; therefore, many economists and industry analysts are beginning to raise their forecasts for economic growth and earnings for the remainder of 2021 and 2022.

Liquidity trends will remain unusually favorable at least through mid-2022 supporting stocks, bonds, and hard assets. The yield curve will steepen as economic activity picks up steam. But fortunately, that will not happen very quickly because financial institutions, corporations, and individuals are awash with excess liquidity searching for yield and rates remain negative in Europe and Japan.

The Trends editors are confident that inflation will remain manageable as shortages end, supply chain issues are alleviated, additional capacity comes on stream, global competition increases, higher productivity kicks in, and disruptors continue to pop up in more and more industries.

While the economic drag of lockdowns persists in parts of the United States and elsewhere, this limiting factor is diminishing rapidly. News related to the coronavirus gets better each week as the number of cases and deaths continue to decline globally; vaccinations worldwide are increasing significantly with over 1.8 billion shots having been given to date; 291 million doses have been given in the U.S. which should lead to “herd immunity” before the end of the summer; restrictions are rapidly being eliminated in the U.S. and the Eurozone; and finally, billions of doses will be available next year for anyone around the world who wants it. For those reasons, we remain confident that the coronavirus will be in the rearview mirror as we enter 2022, giving us confidence in the kind of synchronous global economic expansion we have not seen in years.

As of this writing, negotiations over a "trillion-dollar infrastructure bill" have picked up steam as the President revised his initial plan down to $1.7 trillion while the Republicans lifted their proposal to $928 billion. A few moderate Democrats hold the key to the final deal, which the Trends editors expect to be around $1.2 trillion spent over eight years. This will be financed over 15 years by user fees, project financing, increased collection efforts and the use of money already allocated for stimulus.  We don’t foresee the need for any tax increases.

In May, the Senate passed a $195 billion bill to bolster competitiveness with China. The legislation supports research in many areas, including manufacturing, semiconductors, and re-shoring supply chains for products essential to America’s national security. Finally, Biden's administration proposed a $6 trillion 2022 budget which would take spending to record levels while running deficits above $1.3 trillion through the next decade.

Beyond the simple dollars and cents, it appears that the Democrats are running a massive risk in regard to next year's election by supporting a far-left social agenda without real fiscal discipline.  And that means that politicians outside of the bluest states will be working to derail programs that don’t resonate broadly. But, despite a struggle to “put on the brakes,” the U.S. economy will benefit from highly stimulative budgetary policies for years to come which will bolster secular economic growth on top of the cyclical recovery that is inevitable as we put the coronavirus in the rearview mirror.

As of this writing, the Federal Reserve was entering a routine “quiet period” that begins two weeks before each Fed meeting. However, the message from all Fed governors remains consistent with Chairman Powell's view that the recovery is running ahead of expectations;

- inflation will "run hot" over the next few months due to shortages, supply chain issues, and year-over-year comparisons,

- but it will subside down the road for reasons discussed before.

- And policy change will be data-driven and will be communicated well before any policy change occurs.

Meanwhile, domestic economic data points continue to be off-the-charts as we start to put the coronavirus in the rearview mirror: 

- unemployment claims fell to a new post-pandemic low of 406,000 and the U.S. Unemployment rate fell to 5.8%;

- core capital goods orders rose 2.3%, the most in a year;

- the housing price index increased 1.4% and is up nearly 14% over the last year which will boost the "wealth effect;"

- the Richmond Fed survey hit a new multiyear high;

- the consumer confidence index was a robust 117.2;

- the   assessment   of   current   conditions   increased to 144.4;

- durable goods orders excluding-transportation rose 1.0%, shipments increased 0.6%, and unfilled orders were up 0.2%;

- the Chicago PMI was a robust 75.2 up from 72.1 last month; and

- the PCE inflation index is up 3.1% over the previous year excluding food and energy.

The first-quarter earnings season has ended, and the results were nothing short of sensational!  Over 85% of companies reporting beat prior estimates while increasing their forecasts for 2021.  Many companies also increased their dividends and also initiated new stock buybacks.

Unlike many so-called experts, the Trends editors expect margins to increase in 2021. We continue to forecast an increase in the operating margin above 12% in 2021 and over 12.5% in 2022; that's up over 100 basis points from levels achieved before the pandemic in 2019. The biggest factor will be replacing human capital with technology as companies re-open, expand and innovate. Rapidly dropping technology costs, extraordinarily low interest rates and a shortage of labor make this shift a “no brainer.”

Combining surging revenue with” margin expansion” means higher earnings. S&P500 earnings are likely to hit $200 per share in 2021 and should exceed $215/share in 2022; that’s up from $140/share in 2020 and $163/share in 2019. 

A shortages decrease, we expect earnings forecasts, for the second half of 2021 to be ratcheted up.  For instance, GM is restarting four plants during the first week of June, and MMM recently said that supply chain issues would be ending as they enter the third quarter; which is six months earlier than the company previously forecasted. That’s all-good news for consumers, managers, and investors!

And it’s not just the United States that’s riding the MOFAR bandwagon. Economic data is improving around the world as the coronavirus comes under control and rates stay low. For instance, demand for goods and services in the Eurozone is growing at the highest rate in 15 years, as evidenced by an increase in the May PMI composite to 56.9, with the “new orders index” rising to 58.4. In fact, EU companies are now struggling to keep up with demand at levels not seen in over 20 years.

Just look at the global economic scorecard in the printable issue. What immediately jumps out is the predominance of dark green. This indicates that economic growth has been off-the-charts in countries around the world and it’s accelerating monthly. We’ve moved from double-digit industrial production declines in the first half of 2020 to strong year-over-year growth beginning in the second quarter of 2021.

Already, the MOFAR has morphed from an America-only story into a “developed-market” story. But it will only begin to transform the rest of the world in Q3 and Q4 2021. There are two reasons.

First, emerging markets have been slower to vaccinate their residents than developed markets.

Second, because many emerging markets didn’t receive the same fiscal support as the United States and Europe, consumer spending has been more constrained.

As we’ll discuss in trend #2, inflation has moved up sharply from 2020’s extremely depressed levels and that relative strength is scaring a lot of people now and that will continue into the second half of 2021. But it is unlikely to start exploding into the high-single-digits or beyond. Expect it to be closer to 3% for 2021 and lower in 2022. Why? As explained in the April 2021 issue of Trends, innovation-driven productivity is making the kind of inflation we saw in the 70s nearly impossible. Furthermore, history shows growth and earnings would be maximized if inflation stays in the 2.5% to 3% range for most of the coming decade.

What’s the bottom line for investors, managers and consumers?

The Mother of All Recoveries is upon us. Growth is accelerating and beginning to spread around the world. After a year of lockdowns, consumers have enormous pent-up demand for goods and especially services. Aggressive fiscal policy continues to stimulate demand. Monetary policy remains very loose, and the world’s central banks are committed to keeping it that way for at least another year. Short-term interest rates are extremely low and longer-term rates are also low; this encourages capital investment and consumer spending. Inflation is undergoing a transient surge due to market stickiness, but this won’t last. Meanwhile, unemployment is rapidly falling, especially for service workers. And easily scalable digital technologies are now ready to address much of the skills shortage.

The MOFAR trend is clear, but all too many still refuse to see it.

Given this trend, we offer the following forecasts for your consideration.

First, in 2021 and 2022 the United States will experience exceptionally strong GDP growth of up 5 to 7%. Americans haven’t seen such strong growth rates since the early 1980s. And just as the previous growth surge rested on the productivity leap enabled by the Installation Phase of the Digital Techno-Economic Revolution, this surge is enabled by the productivity leap associated with the Deployment Phase of the Digital Techno-Economic Revolution. However, for a real analog, you have to go back to World War II when a surge of fiscal policy and technological innovation laid the foundation for America’s last Golden Age in the 1950s.

Second, over the next 12 to 18 months, the recovery itself will be uneven across economic sectors. Consider weekly credit card data for three types of purchases: durable goods, nondurable goods, and services.  By and large, consumption of durable goods has returned to or surpassed pre-crisis levels, and in some categories is 20% or 30% higher than it was at the beginning of 2020. However, services consumption is still down between 20% and 40%. Meanwhile, nondurable goods consumption is somewhere in between. Expect a huge surge in services spending over the next year with a relative plateauing of spending on goods.

Third, while a 10-year Treasury rate above 2% in the near term is not unreasonable, rates will remain subdued for the foreseeable future. The benchmark 10-year U.S. Treasury yield was below 1% as we headed into 2021. It rose as high as 1.7%, and (as of this writing) is hovering below 1.6%; the Trends Editors wouldn’t be surprised to see it slightly above 2% sometime in the second half of 2021.  However, the fact that longer-term rates as reflected in the 30-year mortgage rate have fallen back below 3%, reflect the market’s confidence that any inflation surge will be transitory. Why won’t rates get higher? Monetary policy authorities do not want to risk disrupting this recovery. Their target metric is unemployment at or below year-end 2019 levels. So, no systemically important central bank will withdraw liquidity in the medium term.  And since there is still a tremendous amount of economic slack in all of the major economies, interest rates should remain low for the foreseeable future and liquidity conditions should remain robust.

Fourth, as the MOFAR unfolds, stronger economic growth will mean strong corporate earnings growth leading to higher stock prices. The Trends editors expect economic growth to increase to a point where it ultimately averages two to three times higher than growth averaged for the period from 2010 to 2019. Historically, earnings growth for S&P500 or NASDAQ 100 companies has been well in excess of the growth rate for the overall economy. Furthermore, disruptive innovators invariably exhibit higher growth rates than other public companies. Since there is every reason to expect this relationship to continue, disruptive innovators - with extraordinary technologies and/or business models - will likely to be the big winners in the years ahead.