What's up Income Inequality, and the Possible Solutions?

Dear Reader,

​The Market.

• Diversification: be careful about position sizing, consider where you have an edge in markets, and be careful of overexposure to risk from overweighed positions.
• BREXIT has caused Britain's economy to slowdown with a 0.2% drop in GDP.
• 75% of relationships started from a dating app.
• Growth in US oil production is heading for a major slowdown, from nearly 2 million barrels per day annual growth in 2018 to 440,000 barrels per day projected for 2020. Oil stocks have taken a huge beating (See graph below).
  • The energy sector is the largest and worst-performing sector within the US.
• Around $13 trillion of global fixed income assets are trading at a negative yield, a $5 trillion increase since the beginning of 2019.
• An overshoot on inflation by the Fed could pose problems for bonds and interest rates, and the valuation of stocks can be impacted. To hedge against this risk, consider investing in real estate, commodities, infrastructure, and TIPS.
• Material wellbeing is high, and Americans are doing well on average compared to other OECD countries. The US is experiencing high levels of consumer confidence which continues to drive the economy’s expansion. (See graph below)
  • Risks in the US economy include elevated leverage ratios in the corporate sector, rising trade tensions, increases in government spending and the rising debt levels.
• Globalization and automation have displaced workers, especially in the industrial sector.
• The death from drugs has become a concern in the last 5 years due to its increased growth and its effect on productivity and lost wages. (See graph below)
• Goldman Sachs’ top trade ideas: stay long 10-year US breakevens, go long the MCSI emerging markets index of stocks with a hedge, long cyclical versus defensive developing nation equities, short 10-year UK gilts, short the euro versus the pound, and long Italian over Portuguese sovereign bonds.
• Investors are selling/shorting Canada due to their very expensive housing market and how much debt consumers have.
• Wages and projected openings by occupation.

Financial Fallacies. Like in literature, we have fallacies in finance as-well. A fallacy is a belief/observed occurrence which seems logical, but in reality, it is unfounded and unproven by statistics. Common fallacies present in finance/investing are the sunk cost fallacy, gamblers fallacy, loss aversion bias, confirmation bias, and the self-fulfilling prophecy. Although these all play a large part in day-to-day investment decisions, most people aren’t aware they exist. The sunk cost fallacy is continuing to include previously spent, irrevocable costs into your current investment decisions. An example of this would be investing in an equity, solely because you spent time researching it. Personally, I believe the fallacy which plays the largest part in the overall market would be the self-fulfilling prophecy. This fallacy states that because one believes something will happen, that will play a part in it actually happening. An example of this could be because a large portion of investors believe we will see a massive sell-off in this last q4 of 2019, as we saw in 2018, it will occur in large part to these investors selling in preparation. 

A World in Protest. Over the past year, we have covered the rise of authoritarian leaders and “strongmen” across the world, who rose to power in the wake of people's frustration with their standard of living. It appears this trend may be coming to an end. In the U.S over the last two waves of state elections, the citizens of the U.S have stood up to the current administration and elected a significant number of Democratic candidates. Over the past few weeks, mass protests have broken out in Bolivia, Chile, Spain, Ecuador, Lebanon, Hong Kong, Iraq, and Iran. While these protests are separated by thousands of miles and have different causes, the same themes still arise. Except for Hong Kong, all of these protests can be tied to income inequality. Income inequality is a disparity of income distribution which the majority of income going to a small percent of the population. Economists have found that countries with high-income inequality have high rates of health and social problems. The graph below will give you an idea of where some major countries measure income inequality. In Bolivia after a brief period of recovery where their president cut extreme poverty in half in just a few years, the people now face increasing rates of extreme poverty. Chile has one of the highest income inequality rates in the world. In Ecuador and Iran, government actions lead to an increase in the price of fuel that acted as a catalyst pushing thousands of people to protest the increase in fuel prices combined with a low standard of living. While the government of Ecuador has met the demands of the protesters, the government in Iran had reacted to protestors by shutting down the nation’s internet and shooting at protestors. There is no doubt that the core issue in these countries is income inequality. While most of these countries are rich in natural resources much of that wealth goes to a very small percent of the people, creating a very low standard of living leading to social and health problems and frustrating the people of these countries. With any luck, these protesters will continue their momentum and lead to at least some improvements in their countries, because a more equal economy is more productive and able to grow at a steady rate.

Are you sure your investments are appropriate for you? High valuations or low valuations, overweight or underweight, bullish or bearish, growth or value, income or total returns, etc. are very important to consider when investing, but are not nearly as important as how the investments jibe with you personally. Here are some important factors to consider to help you judge the appropriateness of your investments:

• Your tolerance for volatility
• Willingness, ability, and need to take risk
• Where you are in your investing lifecycle
• Past experiences with gains and losses
• Ability to understand what you own
• Your tolerance for regret

Recommendations on How to Sustain Economic Growth. Output growth is strong, the tax reform has boosted business dynamism, inflation is moving up, unemployment is low, but regulations continue to hinder the business environment, infrastructure is under-supplied, participation remains low, and housing prices are high. What are the solutions to these problems? Incentivize corporations and consumers to spend more, raise interest rates at a gradual pace as long as inflation remains close to the Fed’s target, ease restrictions and regulations, remove exemptions from anti-trust law, reform housing finance and support the provision of affordable housing for low-income families. By solving these problems, we can help the economic expansion continue.

Impeachment. While following this process, a group of elected officials seeks to accuse another public official of criminal wrongdoing. In the United States, impeachment does not actually result in the removal of said official, but rather a successful impeachment becomes a formalized accusation that is put forward from the US House of Representatives to the Senate, where the House acts as a “prosecutor” of sorts, seeking to prove to the Senate the guilt of the accused party. The Senate acts as a “jury,” and the proceedings are presided by the Chief Justice of the US Supreme court. Importantly, impeachment is not a criminal process and is largely political in nature.
 
Impeachment Hearings to Date. On September 24, 2019, House Speaker Nancy Pelosi put forward a motion to initiate an impeachment inquiry into President Donald Trump as a result of testimony from a “whistleblower” from within the Trump administration. The whistleblower was responding to a phone call between the Ukrainian President, Volodymyr Zelensky, and President Donald Trump, alleging that the US President had withheld $400 million of American military aid from the Ukrainian government in order to pressure them to investigate former US Vice President, and possible presidential rival, Joe Biden. The impeachment inquiry began with a closed-door fact-finding session in the US intelligence committee, where both Democrats and Republicans interviewed potential witnesses for the upcoming impeachment proceedings. The next phase involves public hearings by witnesses that are called by both Democrats and Republicans, where both sides are permitted to ask questions. The first witnesses included members of the bureaucratic class of Washington, including Lt. Colonel Alexander Vindman, whose careers are meant to encompass multiple administrations and are therefore seen as generally impartial to partisan bias within their areas of expertise. The next witnesses called include officials specifically appointed by Donald Trump and would, therefore, be seen as potentially more loyal to the Trump administration. One of these witnesses, Ambassador to the EU Gordon Sondland, testified that he was instructed by his superiors to withhold aid from the Ukrainians in pursuit of the investigation of Vice President Biden. Mr. Sondland, a former hotel-magnate from the Pacific Northwest, was appointed by the President, and personally donated more than $1 million to the Trump campaign in 2016.

Keep Climbing,


The Alchanati Campbell and Associates Team