ED HARRISON: Welcome to Investment Ideas. I'm your host, Ed Harrison. And today, we are talking to Danielle DiMartino-Booth of Quill Intelligence. She's the chief strategist there. She's going to be talking to us about the Fed, the US economy and actually, whether or not we're going to be seeing recession in short order. Let's get right to it.
Danielle DiMartino-Booth, I'm very excited to have this conversation with you. Because your name has been bandied about in terms of a lot of the things that are happening with the Federal Reserve. But as you know, when I was talking to you earlier, we're going to be talking about investing ideas over the next six to 24 months. And we'll get to some of the Federal Reserve stuff at the end of that. I wanted to start out with your macro view in terms of in the environment that we're in today, what is the macro call that you see for the say, the next six to 12 months?
DANIELLE DIMARTINO-BOOTH: So, at the beginning of the year, Quill Intelligence came out with its three big predictions for the year. One of them was that Germany would go into recession, it looks like we're just about there. The other was that the 10-Year Note would get down to 2%. People thought we were absolutely nuts. And the third one was that despite all of this, we saw the dollar strengthening. And we're standing by all three of those calls for the remainder of the year, despite the fact that our targets have largely been met. Mainly because if you look outside of the United States, there's every reason to believe that the United States will continue to be the most attractive horse in the glue factory as my old boss, Richard Fisher, used to say.
So, on a relative basis, we've got talks about the European Central Bank relaunching stimulus, I think that Japan would certainly follow them, Australia's in a cutting move after an expansion that's lasted almost 30 years because China's slowing to the extent that it has. So, if negative rates are going to be getting more negative, then there will be a flocking to the 10-Year Treasury at the same time that we know that there aren't enough dollars out there. There's simply a dearth of dollars, a dearth of dollar funding, which is going to have investors continue to clamor to get their hands on greenbacks.
So, a lot of these things run cross current to one another. But the overarching, I haven't bought gold in years. But a few months ago, I finally stepped back in and said, we're not going to be decoupling forever. Everybody on bubble vision who says that the United States can indefinitely decouple from the rest of the world, I'm like, I've heard that somewhere, like a decade ago, and it didn't work out too well then. And I think that that's why we've seen gold pushing six-year highs here.
ED HARRISON: So, let's unpack that. That's a lot in terms of the US economy, because that's where the rubber hits the road in terms of what you're talking about. And you have a bevy of stats that you look at that traditional macroeconomists aren't getting into the weeds into these places. Tell me what are the things that are the most salient for you in terms of where we are? Are we actually on the cusp of recession there?
DANIELLE DIMARTINO-BOOTH: I think that the US economy is definitely sliding into recession. And you mentioned where the rubber hits the road, I like to think of big sell side, macroeconomists as saying, well, the car is running so it must be fine. Well, they're just looking at the headlines. If you look underneath the hood, there's leaks here and tubes breaking there. And the engine's about to break down and your transmission is about to fall out.
And if you look at things like the Cass Freight Index, when they were down month over month for three months in a row, and then four months in a row, and then five months in a row, they held the line saying this could just be a slowdown, like the industrials recession of 2015 and 2016, we could be coming out of it. But once they hit that six consecutive month of year over year declines, we are a nation of consumers, we are what we buy. And if there are fewer trucks delivering whatever Jeff Bezos is selling us, then that is a sign that a consumption-led economy is slowing.
So, after that sixth consecutive month, Cass came out and use the word contraction, that they see a contraction in the third or fourth quarter of this year. And I can't disagree with their assessment, given the fact that even, even a labor market has started to show some signs of serious weakening.
ED HARRISON: Tell me about the labor market in particular, because one of the things that I find interesting is the concept of revisions. That is, is that two things on that. One is the real time revisions that we say, oh, by the way, the last two months, we revised them down, but also then the benchmark revisions that we have now. So, in some senses, we're not really seeing the actual numbers that we will see once all the data come into play.
DANIELLE DIMARTINO-BOOTH: And to your point about benchmarks, I think we need to pay particular attention, because for a few years there, we could just ignore them because they were being revised upwards. But that hasn't been the case in recent years, I wouldn't expect that to be the case in the latest batch that we're expecting. And on top of that one of the first things that they teach you at the Federal Reserve is that lags matter, which we know they do. And the tightening that was unleashed that ended in December, it's still percolating its way through the economy in various forms.
But also that backwards revisions really tell us what inflection points are, that June non-farm payroll headline, it was fine. But we had what the Fed considers to be a moment of truth, three consecutive months of downward revisions to the prior months. That tends to tell you that the unemployment rate is heading up and that we've seen peak labor growth if you start to see these backward revisions in real time. We're not waiting a year for the benchmarks. We're seeing them in real time right now. Three consecutive months running.
ED HARRISON: Yeah. So, let's think about this, the 10-Year Treasury in that context, because what you're talking about is a slowdown in growth in the United States, and potentially a recession coming on to that. So, what does that mean in terms of your macro thesis of the Treasury from here? Because we're already near the 2% level that you talked about earlier. Do you see that going even lower? Because we spoke to Garry Schilling, he's talking about 1%.
DANIELLE DIMARTINO-BOOTH: I'm good friends with Gary and I read some of his work. But if you think about what some of the prior lows have been in the cycle, 1.65. If we're actually going into recession and we've bounced off these lows before when it was just a dress rehearsal, it's just an earnings recession, we're going to be fine. We're going to come out of it. Not once, but twice. And again, the major differentiating factor between those earnings recessions and now is that we have residential construction that is going down. 11.2% rate, the latest read over the prior year.
That was a huge tailwind during the industrials recession of '15 and '16. We don't have that as an offset. And that tells me that there's no reason in the world, if a larger proportion of the US economy is slowing that we wouldn't break through that 1.65 and keep going back towards 1%, especially again, given what's happening off our shores.
ED HARRISON: And so actually, I wanted to pivot to other things in the US economy when you said off our shores. Tell me about that. What is actually happening? You were talking about the second and third largest economies- Germany and China, what's happening there?
DANIELLE DIMARTINO-BOOTH: Well, they're exporting powerhouses. And there's a symbiotic relationship between the two of them. So, you and I were speaking before about the fact that you can't urbanize an entire country twice. So, China's checked that box. They won't be able to pull the entire world economy out. If you look at worldwide car sales in 2008-2009, it looks like just a little blip and then off we went to the races. That was largely a reflection of Chinese strength. That was also seen in Germany, exporting millions and millions of cars, BMW, Mercedes, Volkswagen, these massive brands rely on China as an export market.
And that is simply not there. And we're beginning to see a trickle-down effect. We're seeing things like the beginnings of rising unemployment in Germany. And Germans are beginning to talk about fiscal relief and spending more. They're the most prudent people in the world. They do not want to take debt on, but they know that their economy is going to be needing it. And soon, and that there's no way to turn away from the fact that the bulk of their auto manufacturing is the internal combustion engine when their main consumer, China, has changed over to electric vehicles.
So, these are structural moves that we're seeing here. And there's no reason to believe that given the amount of investment that's been made by these companies in the United States, think of BMW in the South, think of the South Carolina presence of so many of these companies, Kentucky- a lot of- it used to just be Detroit and the Midwest, but foreign, especially German manufacturers' presence in the United States has been a huge benefit to the entire manufacturing sector. That's going away, not disappearing. But it's definitely decreasing at a time that we're seeing retail sales, retail car sales in United States, also on the decline for the first six months of the year.
Everything's being flattered by fleet sales, but don't buy that. Don't buy it when Fiat Chrysler comes out and says we had a great month, by the way, one in four of every cars we sold was fleet. That is not a reflection of a strong US consumer.
ED HARRISON: That is interesting. You talked about housing not being a tailwind. Now, we're talking about autos not being a tailwind.
DANIELLE DIMARTINO-BOOTH: Two leading indicators.
ED HARRISON: And then we're talking about the foreign sector as well, in terms of the fundamentals, I thought it was interesting that you didn't mention policy there. That you're actually looking at the fundamentals and you're saying that the fundamentals are weak. But what happens when you add the policy in? The policy mix into that. Especially with regard to trade because autos is a big part of that?
DANIELLE DIMARTINO-BOOTH: Well, so I think one of the most disturbing things to come out of the G20 is that it looks like the administration might be moving its focus to the European Union. Nothing worse could possibly happen if you've got those tariffs that are running 24/7 in China and you are to start to throw even threats of tariffs to the EU. But it looks like Trump might have them in his crosshairs, that would not be a beneficial development. But everything that we've seen shows that this trade war is just going to be this constant drag, this constant source of uncertainty that's reflected everywhere, but the US stock market.
ED HARRISON: And so, what does the Fed do given that because off-camera, before this, we were talking about the Fed's dilemma and so forth. And I think it all starts with December. Basically, that when December happened the markets threw up, Jerome Powell came, and he was saying I repent, we didn't really mean it.
DANIELLE DIMARTINO-BOOTH: January 4th, Powell pivot.
ED HARRISON: And everything has changed since then. And now, people are expecting even 50 basis points of cut, 75 this year, is that really going to happen?
DANIELLE DIMARTINO-BOOTH: I think that the Fed would prefer that that not be what unfolds here. Who knows whether or not all of the bullying from the White House caused them to hike rates in December, just to be able to show their independence. Not say they're independent of what the administration is asking them to do, but to show it with a force of power by raising rates, even if it's going to hurt the economy. Now, that's against the Fed's mandate.
So, but I think the conventional wisdom among the hawks is that if we just un-ring that bell, if we just undo the damage from that December hike, that we'll be able to look forward and look to resume hiking rates by 2020, 2021. It's not typically how things work. It really isn't. But we have to bear in mind, rate cutting cycles entail 550, 525 on average basis points of cuts. What? Do we have half of that now?
So, they don't have a lot to work with before they're sitting around that great big table at the Federal Open Market Committee and debating negative interest rates. I don't think they want to go there. Jay Powell doesn't want to go there. But it's why they're trying to keep their ammunition in reserve and toe the line and hope for the best and say, we're going to pull out of this. We're just going to undo December on July the 31st. And it's going to make everything better.
ED HARRISON: It sounds almost like they're in denial. Because when you're talking about interest rates going from 2% down to 1.6513% and the Fed's talking about keeping rates on hold, then that would suggest that you have a sharp deterioration in the economy and that the Fed will at some point be forced to really unleash a torrent of rate cuts.
DANIELLE DIMARTINO-BOOTH: But they don't have a torrent to release. So, there's this underlying dilemma, but there's no denying, we just got a big layoff announcement at BNSF. We know that it's not just the Cass Freight. It's not just truckers. We've seen port activity come down. We've seen rail activity, intermodal activity come down as well. So, we've got the first big railroad on the wires now announcing layoffs.
So, we'll see a 12th consecutive month in July of Challenger, Grey & Christmas layoffs increasing over the prior year. It used to just be a retail story that everybody said whatever, JC Penney's going out of business, Gap is going out of business. Who cares? This is just an ongoing story of the US consumer moving to an e-commerce platform, no big deal. Fade the retail layoffs.
But earlier this year, it shifted to auto industry layoffs and industrial layoffs. And now we're seeing layoffs in rails. And a few months ago, we saw technology layoffs. These are high paying jobs that make no mistake were reflected. Again, look under the hood of the car. Just because the car is running doesn't mean that it's about to- the engine block is not about to break in half.
You've seen the average workweek, average weekly hours- excuse me, average weekly pay. And I look at that instead of hours. Because I take home a weekly paycheck, you take home a weekly paycheck, Americans take home a weekly paycheck. They don't take them an hour at a time. And we've seen the growth rate on a six-month annualized basis decrease from January's 4% level, which was a great strong level to 2.7% in July- excuse me in June. This is not a dress rehearsal. This is not a drill. This is the real deal. And we're seeing weakness in the workweek, weakness in temporary employment. These are all leading indicators of what's to come. So, if the Fed's in denial, God help them.
ED HARRISON: So, going back to your original thesis, because I think we definitely have it covered that the 10- Year in that scenario looks like a very bullish call. But what about the second part of that with regard to the dollar? The US dollar, this is a relative value play