MY HOT TAKES
-
Forecasting is fuzzy even for top economists
-
Markets aren’t binary systems—stop expecting yes/no answers
-
The obsession with today’s close distracts from meaningful long-term trends
-
Digital tools don’t guarantee digital clarity
-
Analog thinking still has value in a digitized market world
-
You can quote me: “Getting the right answer often requires asking the right questions.”
Fuzzy signal. We live in a digital world. If you were born into this digital world, the word analog probably means very little to you. However, those of my regulars who, like me, were born into an analog world, can remember a time where there were “channels between the channels.” We had to adjust antennas and fine tune. We had to employ tin foil (it’s aluminum now), wire hangers, and often Scotch tape to hold wires in stange configurations just to get what we were after: a clear signal. Nowadays, knobs are likely placed for show, and if functional, likely control some sort of digital circuit anyway.
Today, it’s yes or no, on or off, 1 or 0, and everything else is just unnecessary noise. We shove nature, which is analog, into a giant digital meat grinder where everything is broken down to 1’s or 0’s. The more powerful the meat grinder, the more accurate digital representation we get. These days, the meat grinders are pretty powerful. Of course, I am referring to the semiconductors that gird most of this activity. But this morning’s topic is not about semiconductors, though you all know my passion for that particular sub-industry. No. This morning, I would like to talk about equity markets and the economy.
Surprised? Of course you're not. Think of equity markets and the economy as very noisy analog signals. As investors, we attempt to break down all those deviant signals into a very simple indicator like up or down, buy or sell. And as many of you know from experience, it is not that easy to do.
Do you know where the market is going today? Look, I know you want it to close up, but objectively, based on information, can you really tell me with a reasonable degree of confidence? It’s tough, isn’t it?
The only thing we can do to increase the probability of getting the answer correct is to factor in as much known information as possible. That, thankfully, is much easier to do in this digital age. There is lots of information and we have access to fantastic, and relatively cheap, computers, which are pretty adept at crunching that information. Still, grinding it all down to get the SIMPLE answer we desire, up or down, is still no straight-forward task.
So, where is the economy going? Perhaps we should ask probably the smartest economists (certainly the most powerful ones) in the world–the Fed FOMC members. Where do FOMC members think GDP will be for 2024? The simple answer is 1.4%. Unfortunately, that is just a median of their projections! If you look at their individual projections, you see that they range from as low as 1.1% and get as high as 2.1%. That is a pretty broad distribution, wouldn’t you say? Just by looking at the range, you can see that even those economists struggle to find a clear signal. And remember, we are already half way through the year, so those are projections for 6 months from now. As you may not be surprised, the range for 2026 is even more extreme, 0.6% to 2.5%.
Not a fan of those Fed economists? Do you think of them as political cogs? Ok, let’s have a look at what Wall Street’s brightest blue chip economists think. Surely they have better computers, not to mention closets full of Patagonia vests. 🤣 That collective group thinks that GDP for this year will be 1.5%, slightly higher than the Fed. Remember that is just a median. The 71 blue chip economists polled by Bloomberg have even a wider range of responses than the FOMC. They estimate GDP as low as 0.4% and as high as 3.0%! Hold on now! I know that I have at least a few budding quant/statisticians amongst my regular followers.
Averages can be deceiving! There is a famous allegory amongst us quant nerds. A traveller approaches a river bank on a horse. He wonders if he can forge the river on horseback. He sees a monk passing time under a tree, and inquires on the river’s depth? The monk says, “about 4 feet on average,” with confidence. The traveller thanks the monk and proceeds to cross on horseback, confident that his worst-case scenario would be wet boots. No sooner does the traveller enter the river than he sinks below the surface and drowns. 🫧 The story comes to a violent close, but the moral is clear. Averages are deceiving. If he asked the monk for the range of depths, he would have likely not entered the river. If he asked for the standard distribution of the depths… well, he could have calculated the probability that he might drown (that’s a stats joke). Check out this chart of blue chip economist GDP forecasts, and follow me to the finish.
By looking at this histogram, you can see a central tendency, but the distribution is pretty broad with wide tails. You have to remember that this is forecasting for 6 months from now; it’s hardly a long-term projection. The reality is, that it is tough even for those smart economists to figure out where the economy is headed in the current environment.
I won’t go through all the mixed economic signals that we have been getting, but employment is one that has a lot of attention right now. There are two reasons for that. The right reason is that healthy employment is necessary for a healthy economy. Obvi! The not-so-right reason is that the Fed is watching it closely and will likely base its next rate decision on it. While not all of us agree that a rate cut is needed, we can all agree that a rate cut would be a tailwind for stocks. No matter what your reason, you are keen to know what the labor market looks like, and this is your week to get that glimpse.
Yesterday, we got two labor data points. JOLTS Job Openings came in higher than expected and greater than the prior month. That means that job vacancies are on the rise, and better than economists were estimating. We also got a ISM Manufacturing PMI, which on the surface looked positive, but below the surface, showed lower estimates for hiring. In fact, if you look at that series over time, you will see that it is in a clear downward trend. That is negative for the economy, but positive if you are hoping to jar the Fed into cutting rates. This builds on the recently observed trend in the weekly employment numbers which show a marked and rising increase in continuing jobless claims (long-term unemployed). This morning we will get ADP Employment Change which is expected to show a gain from last month’s print. Though it is an inaccurate predictor of the official monthly employment figures, it is still closely watched. The official Bureau of Labor Statistics number will be released tomorrow, a day early, because of Friday’s Independence Day holiday. We will also get the weekly release tomorrow, and we will see if the rising trend of Continuing Claims continues to grow.
What I can tell you with confidence is that by the end of this week, you will have a lot more data on the health of the economy and what the Fed may do next. Unfortunately, that will still not be enough to accurately predict where the economy will be at the end of the year, nor the S&P 500 for that matter. Have I frustrated you with all of these conflicting signals? Don’t worry, I have a solution for you. Back in the analog TV days, if you could not get a good signal and were close to the television, you might not be able to recognize the picture, but if you took several steps back you could get a pretty good idea of what was happening.
If you plotted a daily chart of the S&P 500 you might see a lot of noise. However if you step back, that is, you looked at a longer-term view, you could spot some helpful trends. If you stop asking yourself where the market will close today, but rather ask yourself if the market will be higher or lower in a year or two years… or dare I say, five years from now, I think you might find it easier to predict and you might get some comfort.
Folks, there are no digital, simple answers in this market. If that leaves you confused, then maybe you can learn something from us analog babies. Getting the right answer often requires asking the right questions. If you don’t believe me, you can ask the traveller… you can find him down river.
YESTERDAY’S MARKETS
Stocks had a mixed close yesterday with the Nasdaq and the S&P being dragged down by tech declines as investors decided to take some profits. All eyes were on Capitol Hill as Republicans ultimately passed the Big Beautiful Bill, which is headed to the House to be scrutinized. For all those traders who have not yet checked out for the July 4th holiday, their eyes are sharply focused on the bevy of employment data starting this morning.