ED HARRISON: Welcome to another edition of Investment Ideas. I'm the host here, Ed Harrison, and I have the distinct pleasure of talking yet again to the great David Rosenberg of Rosenberg Research. Dave, welcome back.
DAVID ROSENBERG: Thanks very much, Ed. I would just say that there's some people that might say Great David Rosenberg is an oxymoron, so I tread carefully there.
ED HARRISON: Well, you say that because just before we came on, we were talking about the great cognitive dissonance that's going on as a result of what I would call actually, a mania. I don't want to put words in your mouth because as soon as you start talking about it from that perspective, people will start downvoting you, but I think that we're in extraordinary times. Who would have thought that you could have a pandemic close down the entire economy, and the outcome would be stocks to a record high across the globe? That's where we are today.
DAVID ROSENBERG: Well, because I guess what the opposite side of the argument would be that the policy response has been even greater than that initial negative shock. I think that's one part of it. That looks as though both the monetary intervention by the Fed and other central banks and the radical fiscal stimulus are lasting. Well, they certainly outlasted the closure of the economy, the shutdowns, but people believe that the stimulus will be ongoing and will continue to outlast whatever lingering impacts there's going to be from the end of the pandemic.
Of course, on top of that, I think we'd have to acknowledge, even amongst those of us that are most cautious or most bearish, that the vaccines were a really big deal. I remember being lulled into that view just a year ago about how it takes three to five years to get a vaccine, that we're going to have to find some way to get out of this but it's going to be such a painfully slow approach, or we'll just have to burn our way through it like we did with the Spanish Flu over a century ago. At the same time, I think we have to acknowledge that the vaccinations were a real gamechanger compared to what our mindset was this time last year.
ED HARRISON: Yeah, 100%. One of the reasons that I brought you on was because you have what I would consider a contrarian view to the general narrative right now. I want to talk to some of that, especially with regard to the 30-year bond, long bonds in general, how in Q1, they had the worst quarter in 40 years. Before we get into that, and the big I, inflation, I'm going to talk a little bit about the here and now, because that pictures a longer term picture. The here and now is really a lot about technical analysis.
I was telling you when you came on, right before we started, I was reading your piece about you're a technical analyst and what you guys are looking at and saying that, yeah, I want to hear what's happening, especially because it seemed like the market is churning right now. There's a rotation going on, the Russell 2000 hit a peak in March, large cap growth has rolled over to a certain degree. What's going on from a technical perspective that we can profit from over the next short term period?
DAVID ROSENBERG: Well, look, I think that the rotation that we had from growth to value also happened by the way coming out of the Great Recession back in 2010-2011. When you're taking a look at the last cycle, value did outperform growth 20% of the time, but growth outperformed value 80% of the time. I like the fact that people call it the value trade because it's not really a trend. You really need to have the value narrative work on a sustainable basis if you believe in accelerating economic growth, clsing of the output gap, inflationary pressures, and a bear steepening of the yield curve and that brings you to a rotation to value, which of course we've had for the better course of the past six to eight months.
It seems to have basically stalled out just in the past few weeks. Of course, small caps benefit from that as well because so much of the small caps are loaded with financials and financials, of course, benefit from the steepening yield curve. That's what you need to drive it going forward inflation, inflation expectations, bear steepener, the yield curve, accelerating growth expectations. But we've reached a point right now, Ed, where I'm not going to say that none of that's going to happen. Even if it does happen, it's already priced in.
The markets have already priced in. We're almost at the exact mirror image of where we were back in March of 2020 when you started noticing that the market was rallying on bad news, and that's always a sign that all the bad news is priced in. Now all of a sudden, everybody likes to pick their favorite index. One day, the Dow might be at a new high. Oops, now it rolls over but the NASDAQ might be the new high, or the S&P.
It seems to me, and especially if you're taking a look at the NASDAQ seems to have put it in a peak about two months ago, ditto for the small caps, a lot of the leadership in that value trade seems to have petered out. A lot of these segments of the market had a lot of catching up to do from a relative valuation standpoint, that valuation gap has been closed. What I'm saying mostly is that a lot of the inflation in the rates market, a lot of the growth in the stock and commodity markets, that's already in the price.
Where do you go from here? Like I said, you go back to a year ago, and it didn't take anything more than just the bad news not getting worse to drive the stock market and risk assets higher. Yeah, that's still the question. Especially from the value proposition, because value works best when growth is accelerating, and inflation expectations are moving up, that's already happened. Incrementally, the question is going to be what would reinforce that trade even greater in the next several months? I'm skeptical. I think there's probably too much of that already priced in.
ED HARRISON: Yeah. Interestingly for me is the bonds. When we're talking about the near term, and tactical thinking, bonds, really, we had the worst quarter in 40 years, and then suddenly, they've gone sideways. They've done nothing, they made two runs at 175, and then pulled back and we're now in the 160s. What's going on there? Why is it that we're not seeing bonds sell off more than they have?
DAVID ROSENBERG: That's just classic, call it bear market math, where from a total return standpoint, and when the 10-year note is 0.5%, you don't need to have much of an increase in yields to generate a negative return. If we go back 30 years when the 10-year note was over 10%, a one percentage point move would knock down your total return, but it would still be positive. I know that's what people like to say. Worst quarter for Treasurys in 40 years or on record.
You know what's interesting? I never heard anybody ever say when we had the 34% down in the stock market in February, March of last year that we talked about, oh, worst, worst month for the stock market since the Great Financial Crisis. No, people in the equity market don't talk like that. They just say, you got to buy the dips, and that was a pretty big dip. But nobody talked about all worst month since whenever but for bonds, because bonds are a detested asset class, don't you see? People are so frustrated.
The jubilation when you look at the financial and business media, and you read the Wall Street research, the jubilation and celebration over bond yields going up was palpable because it just justifies your view that growth is going to be accelerating, we're going to have the roaring 20s coming out of this, huge inflation, huge growth, the Fed's behind the curve. It's been very frustrating. I'm watching this on the sidelines in amusement.
Yeah, we were supposed to be at 2% of the 10-year note by now. Of course, that's still the forecast but it hasn't happened yet as you said. We got as high as I think 1.78 on the 10-year intraday and we rolled down about 20 basis points since then, and we're in a bit of a holding pattern, but the point is well made. I think that when you go to the rates market, looking at the 5-year 5-year forwards while or you take a look at the 1-year 9-year forwards, and you're actually taking a look at the futures curve, at the strip curve to see what is the market telling you where the Fed is going to be at the peak have the funds rate in the next cycle?
The markets telling you we're going back to 2.5% to 2.75%. You see what I'm saying? It's that when you're taking a look at the forward curve, it's already telling you we're going back to a funds rate that the Fed couldn't even achieve in any sustainable form in the last cycle when the unemployment rate got to 3.5% and we had tax cuts and tariff increases, and populism and nationalism, and the end of globalization and all of that stuff that was supposed to cause huge inflation, and Jay Powell couldn't even get the funds rate above 2.5%. Then in 2019, he's cutting rates three times.
The market's gone to price in peak funds, actually a funds rate higher than the peak of the last cycle, and inflation of roughly 2.5%. We're already there in terms of talking-- unless you think we're going back to something more sinister on the inflation side, unless you believe that the supply is never coming back on stream, that all the reopenings are going to bring back demand, but no, no, no, the reopening phase won't bring back supply, and we're going to have a multi-reflation process.
Well, if your that's your view, you're entitled to your view, I have a different view. Right now, the bond market is priced for peak inflation and peak Fed Funds prematurely, in my view, and that's where the value is in the Treasury market right now.
ED HARRISON: Yeah, very interesting, because I think that is where the rubber hits the road in terms of the longer term. We can make the segue now into thinking about instead of talking about technical analysis and tactical plays, into why it is that we're seeing the stall out in the reopening trade, to value and why it is that we're seeing a stall out in bonds. It's almost as if the market is saying, okay, we want more that now, we're almost to the full reopening. The United States is very well along the way to vaccination, and now the proof is in the pudding. What are your expectations for the rest of 2021 from an economic perspective? Then do you have any thoughts on 2022?
DAVID ROSENBERG: In answer to your first question, I think the markets are telling you that a lot is already priced in. We just had a, let's say, in the past day, we had year-over-year industrial profits in China. They're up more than 90% year-over-year. You couldn't have sold that story 12 months ago, the Shanghai index didn't even budge. In fact, it's, you can argue, in a correction phase right now. What's that telling you? It's telling you that the good news is already priced in.
If the markets are supposed to be forward looking, they've already priced this in [?] do for an encore. We got some really strong Korean GDP data, the Korean KOSPI didn't really react to it. It was priced in. We had a month last year, I think it was an April, where retail sales were down 15%. I remember that day, the S&P was up 20 basis points. You say, well, what's the S&P up 20 basis points? We just had a historic decline in retail sales. I think it was the April numbers that came out in May last year.
Well, you look at it and say, well, it's the markets are telling you it's already in the price. The bond market's in a resting place right now, Ed, because a lot of the news we're talking about are already priced in. You're asking me about the rest of the year. Well, let's take a look at what is-- let's be honest with each other. What are the primary sources of vitality in the US?
ED HARRISON: Government spending.
DAVID ROSENBERG: Yeah, stimulus checks and vaccinations. The US economy, I'm here in Toronto, we're locked down. We were where the US was like six to nine months ago. But everybody, look, you see that in the mobility and engagement data. Of course, the Dallas Fed, I don't think is publishing those anymore. Maybe for good reason. Most of the economy's already reopened, which is great news, but it means from an economic standpoint, if you're looking at rate of change, a lot of that delta is already behind us in terms of-- people talk about reopening, reopening, reopening, I don't know.
My friends in Vegas tell me that casinos are filled. Maybe foreign travel and tourism, commercial real estate, these are things that will come back last but most of the gardens are already reopened, which is great news from a human standpoint, obviously, and from an economic standpoint, but you know what, in the final analysis, what you ultimately focus on in our business, which is financial markets, and tying in the macro and the financial is that we pay for growth, it's about rate of change.
Well, most of that reopening trade is behind us. Now, what about the stimulus checks? Well, we know a couple of things. We know that when the stimulus checks ran out last fall, we had negative retail sales in October, November, December. We know looking at the monthly GDP data last year, and you can get GDP monthly, because quarterly averages can sometimes distort the pattern of what's happening in a given quarter but most people don't know that from the end of September to the end of December of 2020, real GDP actually contracted at almost a 3% annual rate.
Next thing you know, Donald Trump in his last hurrah is signing a $900 billion spending bill on December 27th, which, of course, next thing you know, January retail sales skyrocket. Then we have the Biden spending plan. You're quite right, a lot of this this fiscal stimulus, a lot of it went to state and local governments, went to schools, went to the vaccination program, a lot of it, obviously, is stimulus checks into people that actually don't even need it.
The point I'm making is that everything here is temporary. This is not a 10-year tax cut under Ronald Reagan in 1986. This is not a 10-year tax cut under George W. Bush. This is not a 10-year tax cut under Donald Trump. There's nothing permanent about this, and that's when the Fed talks about transitory and people just roll their eyes. Oh, it's true. There's that word again, transitory, but really what isn't transitory? Unless you believe we're going to roll into a situation where the US is going to follow Europe into universal basic income into some national welfare scheme, well, we can discuss if the election was really fogged over whether we're going to take America to European style model.
I'm not so sure. That's what that was about, and US election cycles are two-year cycles in any event, but what we know is that the stimulus checks and even if a small part gets spent, in a month or two, it has a gargantuan impact on the data, as we just saw with the March retail sales numbers, which will last for a few more months. That's the operative word. What multiple, or how do you capitalize a few months' worth of stimulus driven economic activity? This is just basically Cash for Clunkers, or tax rebates on steroids.
We've seen this before. We had tax rebates under George W. Bush, a nice little gimmick, of course, that went to people that were working because they had to pay taxes, these stimulus checks and extended jobless benefits go to everybody, or mostly everybody, but at the same time, they're going to run out. We saw what happened late last year, is we had the economy sputter. Then we had another few rounds of stimulus. Will there be more rounds of stimulus? Who knows?
The next round of stimulus that Trump signed on to on December 27th only happened when the economy started to relapse. What I'm saying is that we're going to have a different economy and a different narrative I think after July. My view has a lifeline that takes me past July. I will just scream uncle, I'm wrong, if the economy does not slow down precipitously past July. I will say, look, I was dead wrong on this, I totally underestimated the so-called dry powder that people have in terms of savings, that's going to go right into the economy that we don't really need all the stimulus after all. We'll see.
I know the history of these stimulus checks is that once they subside, and I'm saying even with the economy reopened, the fiscal drag, the fiscal withdrawal we're going to have after July into the end of the year is going to be massive. I don't really understand why the consensus is so heavily on the other side of this call. I'll tell you this much, Ed. I'll tell you this much. When you back out the fed's forecast, the Fred's newly minted forecast from the last meeting, and you trace out their growth based on what we know the first quarter is going to be, what they're telling you the Q4 number is going to be and you trace out a reasonable pattern for the second and third quarter because we know second quarter is going to be huge. We know that.
When you back all the sellers on the back of an envelope, you see that the Fed's actually telling you that they think the economy is going to stagnate in the fourth quarter. The Fed is implicitly telling you, if you're paying attention, that the economy is going to stagnate in the fourth quarter and it's interesting that they didn't change their 2022 growth forecasts. They just mark to market everything based on this temporary stimulus. Well look, if you're a central banker, and you believe that the economy is not going to do any better next year than what you thought it was going to do previously, and then all we have here is a near term bump and then the economy actually stagnates in the fourth quarter, why would you be moving interest rates or doing anything on that backdrop?
Central banks have to make up their mind, is this a blip on a trend or a fundamental shift in the trend? The Fed's telling you that the trend hasn't shifted. We just have a temporary deviation, and that's all. Well Then, you don't do anything in that environment, and they're not. Maybe that's what the bond market is coming to grips with. Because I'll tell you one thing, and look, Ed, you've written about this, about the bond vigilantes that the Fed, it's interesting,