Welcome to the June 2021 Newsletter. This month, we’re discussing the economy, employment, COVID-19 vaccine deployment updates, and more.
Summary
In recent weeks, the stock market has been caught in a tug-of-war between two sets of investors. The first group is the “confident” group that remains positive on a market outlook and embraces the Federal Reserve view that the current spike in inflation will be transitory and therefore short-lived. The second group is the “fearful” group as they are concerned that the forces of inflation will become sustainable and cause lower equity valuations by reducing the present value of future earnings.
The Federal Reserve Bank of Cleveland is doing some remarkable work on inflation. They have created a “trimmed mean CPI,” which takes a weighted average of most components and shows a 2.4% increase for the year through April 2021. The Cleveland Fed observes the trimmed median CPI can provide a better signal of underlying inflation trends than the headline or core CPI.
There are three good reasons to believe the U.S. stock market will continue its upward trend for some time, even as it endures volatility and the occasional period of consolidation. First, the Federal Reserve is providing significant monetary stimulus by keeping short-term interest rates low and continuing its purchase of Treasury Bonds and mortgage-backed securities. The latter will keep long-term interest rates low. Second, Congress is forecasted to continue massive spending to prop up the economy and rebuild the country’s infrastructure. And third, U.S. citizens have embraced the COVID-19 vaccines, allowing the country to reopen faster than the rest of the world.
Employees should continue to make their weekly, biweekly, or monthly contributions to their employer’s retirement plan and personal and spousal IRAs. At this time, additional money can be added to an investor’s stock market allocation, but only on a dollar-cost-average basis spread over 12 months. All portfolios remain fully invested.
Quote of the Day
“Corporate executives’ responsibility is to maximize profits while conforming to the basic rules of society as embodied in law and ethical custom.”
By Milton Friedman, advisor to President Ronald Reagan and British Prime Minister Margaret Thatcher. In his 1962 book, Capitalism and Freedom, Friedman advocated for the volunteer military, floating exchange rates, and school vouchers.
The Economy
Employment
Total U.S. nonfarm payroll employment rose by only 266,000 in April, and the unemployment rate edged up to 6.1% from last month’s 6.0%. Economists were disappointed as they were expecting another month of 900,000 additions to the national payrolls. The Job Opening report calculated there are 8.1 million open jobs in the U.S. at the end of March.
The seasonally adjusted, all-encompassing unemployment rate (U-6) declined in April to 10.4% from 10.7% last month. It was 22.9% in April 2020. There are 9.2 million people unemployed in the U.S., age 16 and older, compared to 9.7 million last month.
Unemployment Rates by Education Level, April 2021
| Less Than High School Diploma | 9.3% |
| High School Graduate, No College | 6.9% |
| Some College or Associate’s Degree | 5.8% |
| Bachelor’s Degree or Higher | 3.5% |
The February payroll number increased by 68,000 to 536,000. The March payroll number was revised down by 146,000 to 770,000. The rolling three-month payroll average decreased slightly to 524,000 this month from 539,000 last month.
Gross Domestic Product (GDP)
The Bureau of Economic Analysis said the second estimate of the 2021 first-quarter GDP increased by 6.4%. There was no change from last month’s advance estimate.
The increase in first-quarter real GDP reflected an increase in personal consumption expenditure (PCE), nonresidential fixed investment, federal government spending, residential fixed investment, and state and local government spending.
Inflation
Annual inflation increased to 3.6% in April as measured by the Personal Consumption Expenditures (PCE) index. The core PCE index, which excludes food and energy, increased in April to 3.1% from 1.9% in March.
Why has the Federal Reserve said inflation will be high in the short term, but it’s only transitory? It’s because today’s inflation is always compared to inflation 12 months earlier. In the second quarter of 2020, inflation was unusually low due to the pandemic. See the 2020 core inflation numbers below.
Average Quarterly PCE Core Inflation in 2020
| 1st Quarter | 1.8% |
| 2nd Quarter | 1.0% |
| 3rd Quarter | 1.4% |
| 4th Quarter | 1.4% |
So, for sure, second-quarter 2021 inflation is going to be reported higher than recent normal numbers.
Inflation of some commodities has risen much higher compared to 12 months earlier. The price of some metals has gone up as follows: copper 85%, silver 56%, and gold 7%. Energy prices have also gone up: gasoline 96%, crude oil 85%, and natural gas 65%. Some agriculture prices have increased the most: lumber 278%, corn 108%, soybeans 81%, sugar 52%, coffee 42%, cotton 40%, and wheat 31%.
Long-term inflation expectations can be determined by measuring the differences between Treasury bond yields & TIPS real yields of the same maturities. Results are:
| Bond Maturities | Annual Inflation Expectations |
| 5 Year | 2.57% |
| 10 Year | 2.42% |
| 30 Year | 2.32% |
This month’s estimated annual inflation numbers above were basically unchanged from last month.
Stock Market
Commentary
During mid-May, we had a whopping 4% correction on a closing basis. On May 7, the S&P 500 Index closed at an all-time high of 4,232.60. Then on May 12, the S&P 500 Index closed at 4,063.04 – down 4%. There is so much money on the sidelines, as soon as the market is down a few percent, big money flows in driving stock prices back up again. One of these days we will have a 10 to 15% correction, but not likely in the short-term.
We expect the stock market performance in 2021 to be above average, but we believe most of the gains have already been made. We also expect moderate to high levels of volatility in the stock market this year. A stock market downturn could begin at any time, but due to the high levels of fiscal and monetary support, any downdraft will likely be short-lived.
Stock Market Valuations
One of the most bullish (positive) guys on Wall Street raised his guidance for 2021. Brian Belski, BMO’s Chief Investment Strategist, said in mid-May, “I am raising my estimated $ of earnings per share for the S&P 500 Index from $175 to $190 for 2021. This should drive the index from 4200 to 4500 by year-end. Our favorite sectors are Tech (but not the high-flying, no-earnings tech), Financials, Energy, Industrials, Materials, Communication Services, and Consumer Discretionary.”
Another Wall Street Bull is Tom Lee of Fundstrat. Tom said on May 24, “Our stock view remains constructive. Incremental data support the next major move of the S&P 500 Index to 4400 by midyear. Energy remains our favorite sector. We believe tech made its low for 2021 on March 5, but we think tech will underperform the broad S&P 500 into year-end.”
One of the most bearish (negative) guys on Wall Street is Mike Wilson, Morgan Stanley’s Chief U.S. Strategist. Mike’s prediction for the S&P 500 Index is 4,225 through June 2022! That is only an increase of 1.7% compared to the May 21, 2021 close of 4,156.
Based on our forecast of strong economic growth in 2021, we estimate S&P 500 operating earnings will increase to $180 this year and as high as $210 next year. This assumes the corporate income tax rate in 2022 will increase to 25%. With a price/earnings ratio of 21 times, the S&P 500 Index has the potential to reach the 4,400s late this year or mid-2022. The S&P 500 Index closed Friday, May 28, at 4204. That is up 0.6% since the close last month.
Recommended Action for Your Stock Portfolio
In this part of the newsletter, we like to offer good ideas where investors can put their money. This month, we wish to remind everyone of three ideas we have previously mentioned:
- BRK-B: Berkshire Hathaway (Class B stock)
- SCHD: Schwab U.S. Dividend Equity (a large-cap value ETF)
- SVAL: iShares (a U.S. small-cap value ETF)
These are all valuable ideas. But we also want to remind everyone of the self-centered, mostly inappropriate, seldom profitable ideas that come out when markets are booming. Please stay away from the following:
- Annuities:
- Penny stocks
- Leveraged investments
- Collateralized loan obligations
- Collateralized debt obligations
- Collateralized mortgage obligations
- Non-traded REITs
- Unit investment trusts
- Currency trading
- Life insurance purchased as an investment
- Limited partnerships
- CDs based on commodity prices
- Exchanged-traded notes (very different from exchange-traded funds)
Unfortunately, the above products are still around, so be careful. But now there is a whole new category of inappropriate investments.
SPACs – A Special Purchase Acquisition Company is a company with no commercial operations that is formed strictly to raise capital through an initial public offering for the purpose of acquiring an existing company. Some experts have sent a letter to the House Financial Services Committee saying SPACs are “fueled by conflicts of interest and compensation to corporate insiders at the expenses of retail investors.”
Cryptocurrencies – These have four problems.
- Cryptocurrencies are not currency. Why not? First, because the IRS says they are an asset, not a currency. Second, anyone who sells a cryptocurrency for a price higher than where they bought it must pay capital gains taxes on every trade.
- Cryptocurrencies are not an efficient way to trade. The blockchain is an efficient way to transfer information, but to buy and sell a cryptocurrency, an investor must go through a cryptocurrency exchange. The exchange will charge a buyer or seller a variety of fees that can range from 0.2% to 1.5% of the trade value. Also, there is a substantial spread between the buy and sell price of a cryptocurrency at any given moment. This is another 1.2% to 5.0% cost. The costs to trade cryptocurrencies are quite high.
- Cryptocurrencies are an asset that is not likely to hold value over the long term. There is nothing behind cryptocurrencies – no stocks, no dividends, no bonds, no interest, no gold, no commodities, no land, no buildings, no assets of any kind. The only thing behind a cryptocurrency is faith that more people will buy them tomorrow than today.
- An investor cannot hide their cryptocurrency assets. The IRS is coming after the cryptocurrency exchanges to require information on every trade and trader. Not even cryptocurrencies can hide from the IRS.
Non-Fungible Tokens (NFTs) – A non-fungible token is a digital asset that represents a real-world object like art, music, or a video. NFTs are allegedly one of a kind. Because an NFT is a digital asset, the owner has a built-in authentication. But some say NFTs are no different from Beanie Babies of the 1990s or Cabbage Patch Dolls of the 1980s as the only difference is an NFT is digital.
Tesla: This Month’s Corporate Bad Boy
Source: Page A1, The Wall Street Journal, May 21, 2021
Tesla’s Autopilot is designed to ensure driver engagement by monitoring the external force applied to the steering wheel by the driver. If there is no external force on the steering wheel, the car will come to a stop. Even so, some Tesla owners have posted videos of themselves riding solo in their vehicle’s backseat while their vehicle drives down the road. To enable this, drivers must trick the car into thinking the driver’s hands are on the steering wheel.
First, a primer on the various levels of autonomous driving as defined by the Society of Automotive Engineers: A car with level 0 has no self-driving ability. Level 1 means there is some driver assistance, such as adaptive cruise control. Level 2 is where the car can perform steering, braking, and acceleration, but the driver must be ready to take control of the vehicle at any time. Levels 3 and 4 are fully autonomous, but with human override capability a possibility. Level 5 vehicles are fully autonomous with no steering wheel or pedals. Tesla vehicles for 2021 and earlier are only level 2, no matter what Elon Musk says.
The National Highway Traffic Safety Administration (NHTSA) has said Tesla isn’t doing enough to prevent the misuse of Autopilot as some Tesla drivers have been arrested while sitting in their car’s backseat with a defeat device attached to the steering wheel.
One Tesla owner recently arrested said he was inspired by Mr. Musk. The driver, Mr. Sharma, said he regularly operates his vehicle from the back seat, occasionally touching the steering wheel with his foot to keep the vehicle from coming to a stop.
Tyron Louw, a senior research fellow at the University of Leeds, said, “If a vehicle manufacturer knows their system is prone to being hacked, then just like software engineering, the manufacturer needs to figure out how the hacks are evading their system and resolve it.”
Additional Financial News
Let’s Run Government More Like a Business
At the CEO Council Summit in early May, JPMorgan CEO Jamie Dimon said, “Government spending aimed at driving economic growth will fall flat if it isn’t designed with measurable outcomes. For example, a highway plan should detail how many miles would be built, at what cost, and by when. Also, offering free tuition for community college won’t work if schools aren’t measured by graduation and job placement rates.”
How Credit Cards Affect Our Brains & Spending
Research on credit-card spending has tended toward the explanation that delaying payment removes a barrier to purchases in shoppers’ minds. A study published in February in Scientific Report found evidence of another kind of trigger. Differences found in brain activity between shoppers planning to use a credit card and those planning to buy with cash indicate that buying on credit doesn’t just ease shopper’s inhibitions; it actively encourages purchases. Sachin Banker, assistant professor at the University of Utah, said, “You’re basically feeling more reward when you shop with credit cards. We don’t see that with cash. It was actually a very stark difference.”
The IRS is Coming for Crypto
The IRS is mounting a full-court press to ensure taxpayers are compliant if they profitably sell a cryptocurrency as the taxpayer now has federal, and likely state, capital gain taxes to pay. In Boston’s federal court, the IRS has recently won a summons to the payments company Circle and its affiliates (including Poloniex) and another summons to Kraken in San Francisco. Both summonses require the companies to turn over to the IRS customer names, mailing and email addresses, and taxpayer ID numbers who have traded cryptocurrencies from 2016 to today. Recent taxpayers who submitted amended tax returns (because they just got caught) have now paid the additional taxes. Court filings show these taxpayers were able to avoid criminal prosecution but were levied heavy fines and interest on the taxes owed.
EEO Commission Says Employers Can Require Employees to Get Vaccinated
On May 28, the Equal Employment Opportunity (EEO) Commission said EEO laws do not prevent an employer from requiring all employees entering the workplace to be vaccinated for COVID-19. They also said EEO laws do not prevent or limit employers from offering incentives to employees to get vaccinated.
David Swensen Dies at 67
Investment pioneer David Swensen made Yale University one of the wealthiest schools in the country after spending 35 years as their endowment chief. Mr. Swensen oversaw the university’s endowments grow from $1 billion in 1985 to over $31 billion as of June 2020. His extraordinary financial prowess was fulfilled in part by embracing a highly diversified and low-cost investment portfolio. In fact, Mr. Swensen’s methods inspired a generation of young financial managers.
Yale’s endowment would be even larger if it were not for increased spending by the university of its endowment. In 1985, Yale’s endowment contributed 10% to the school’s spending. In 2019, the endowment contributed roughly a third of the school’s budget. David was quoted in 2017, “I’m an old-fashioned guy who wants to sit across the table from someone who’s done the analysis. I am skeptical of quantitative strategies.”
Best Read for a DIY Investor
Unconventional Success – A Fundamental Approach to Personal Investment by David Swensen
COVID-19
Vaccine Deployment
U.S. Data by the CDC – May 30, 2021
| Percent of the Total U.S. Population Fully Vaccinated | 40.7% |
| April’s Fully Vaccinated Percentage | 30.5% |
| March’s Fully Vaccinated Percentage | 15.0% |
| Quantity of U.S. Population Receiving Pfizer Vaccine | 159,400,000 * |
| Quantity of U.S. population Receiving Moderna Vaccine | 124,500,000* |
| Quantity of U.S. Population Receiving J&J Vaccine | 10,800,000 |
| Quantity Not Identified | 200,000 |
| Total Vaccines Injected | 294,900,000 |
| Total Vaccines Delivered to U.S. Healthcare Facilities | 366,300,000 |
*2 shots required per person to be fully vaccinated. Some people receiving these vaccines have only received 1 shot as of May 29, 2021.
Worldwide Data by Johns Hopkins
| Percent of Total Population Fully Vaccinated | Number of Countries | Last Month |
| Over 60% | 2 | 1 |
| 10% to 59% | 47 | 28 |
| 3.0% to 9.9% | 23 | 38 |
| 0.01% to 2.9% | 55 | 42 |
| No data reported | 34 | 61 |
Vaccine Development
Below is a summary of vaccine development for four U.S. pharmaceutical companies and one U.K. company.
Pfizer reported on May 7 they have requested that the FDA grant full approval of their COVID-19 vaccine for adults. Currently, the vaccine only has emergency use authorization (EUA). Pfizer requested a priority review, which allows the FDA to only take six months for a decision instead of nine months. Hopefully, it will take much less time. If full approval is granted, the drug company can then advertise and promote the safety and effectiveness of the vaccine to the public.
On May 12, a CDC advisory panel voted 14 to 0, with one member recusing, to authorize the standard Pfizer vaccine for 12- to 15-year-olds. Data from 2,260 adolescents showed the vaccine to be 100% effective at protecting symptomatic COVID-19 in that age group.
Pfizer said they should have Phase 2 safety results for their COVID vaccine for pregnant women in July or August. They also said trial results, with a request for EUA, for a new Pfizer vaccine for 2- to 5-year-olds, and another vaccine for 5- to 11-year-olds should be available by September.
Pfizer also said their vaccine for 6-month-olds to 2-year-olds should have trial results by November, with an EUA requested by late that month.
Moderna announced on May 25 their Phase 2/3 adolescent study had no cases of the virus in participants who received two doses of their COVID-19 vaccine. The study enrolled more than 3,700 participants ages 12 to 17 years. Of those adolescents receiving the placebo, four developed COVID-19 symptoms. The company plans to submit this data to the FDA in early June.
Johnson & Johnson’s single-dose vaccine is back in production and distribution in the United States. Check with your local vaccine distributors to see if they have the J&J vaccine available.
Novavax’s vaccine candidate requires two shots, three weeks apart. Novavax announced on May 3 they have expanded their Phase 3 vaccine trial to include 3,000 adolescents aged 12 to 17 at up to 75 sites across the U.S.
On May 19, Novavax announced their U.S. and Mexico Phase 3 COVID-19 vaccine study of 30,000 subjects 18 years and older should have its final data published late in the third quarter of 2021. The study began in December 2020.
AstraZeneca has not yet applied for emergency use authorization in the U.S. as reported earlier. Nothing new has been announced.
Bond Market
Commentary
The rollout of COVID-19 vaccinations has led to a substantial decline in the pace of cases, hospitalizations, and deaths in the U.S. Nealy 300 million doses have been administered across the U.S. As COVID-19 transitions away from a pandemic and more countries return to “normal,” economic growth is likely to continue. The Conference Board forecasts that real GDP in the U.S. will grow 8% to 9% during the second quarter this year.
As interest rates are likely to increase later this year and in 2022, homeowners who have not yet refinanced their mortgage should do so as soon as possible.
Federal Reserve
The Federal Open Market Committee (FOMC) will convene next on June 15-16. We expect no changes to short-term interest rates or quantitative easing at this meeting. As inflation is now above the Fed’s 2% target and employment numbers continue to grow, we hope and expect the FOMC will begin to talk about increasing the federal funds rate and reducing asset purchases. The latter will likely be spread over eight to 12 months.
U.S. Treasury
The federal budget deficit reached $1.9 trillion during the first seven months of the current fiscal year, an increase of $449 billion from the same period in the prior year. Spending increased 22% and tax receipts increased 16%.
Recommended Action for Your Bond Portfolio
Most bonds are not appropriate today because of rising interest rates. We’ve reduced our bond market mutual fund recommendations to the list below:
- Ultra-short-term U.S. investment-grade bond funds
- Short-term U.S. investment-grade bond funds
The most important aspect in selecting a bond fund in this market is to keep the bond fund’s average duration low. We suggest keeping a bond fund’s duration under two years. The higher the bond fund’s duration, the faster the fund’s price will decline as interest rates rise.
Another idea for safe money is to buy Series I U.S. Savings Bonds. These can only be purchased directly from the U.S. Treasury at: https://www.treasurydirect.gov.
The current I Bond yield is 3.54% and is for I bonds issued until November 1, 2021. The yield can change every May and November based on the rate of inflation. The maximum purchase amount per social security number is $10,000 per year. Another $5,000 per year can be purchased using one’s Federal income tax refund. Bonds can be redeemed after 12 months with a 3-month interest penalty. There is no penalty after 5 years. The bonds have a life span of 30 years. Interest accrues over the life of the bond and is paid upon redemption. Interest is federally taxable but exempt from state and local taxes. See the above website for more information on I Bonds.
**Please note: Everyone should maintain a safe, liquid emergency fund of at least nine to 12 months of family expenses in an FDIC-insured checking account or money market account before investing in a stock or bond portfolio.**
PAST PERFORMANCE IS NOT A GUARANTEE OF FUTURE RESULTS.