In today's "Ask a Hedge-Fund Guy" column, I'm answering readers' questions about the state of the world. It seems we have a lot of confusion and uncertainty to deal with; and since many television pundits like to provide their analysis and back it up with "just because" as an educated explanation, I figured what better time than now to address these issues.
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The first question comes from a "Janet Y." from Washington, DC:
"I'm hearing that without quantitative easing, the economy can't stand on its own. Not for any particular reason, it's just because. Of course, this comes from some guy wearing a skinny tie on CNBC. What do you think?"
Answer: No question, the U.S. economy is stronger today post-QE than it was pre-QE. Economic activity popped almost 3 percent following the first two rounds with private sector jobs increasing by a stunning two million. And, with interest rates so low, the country witnessed healthy improvement in housing and car sales.
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But the answer to your question isn't so much a result of not having QE; it's the impact six years of Federal Reserve intervention will have on Americans. And this, my friends, is where we may have a problem.
The dreaded I-word, Inflation, is one of those words rarely discussed on Main Street. And, to be fair, household costs have actually been dropping (have you been to a gas station recently). However, this inflation issue is a ticking time bomb and will likely begin to show its ugly head sometime in 2015.
The QE programs created a lot of new money. It's important to remember, though, that the Fed actually created what we call "reserves," which is money held by commercial banks (i.e., M&T, PNC, Bank of America, etc.) in separate accounts held at the central bank. Sometimes — but not so much in recent years — the increase in "reserves" should incentivize your friendly bank to lend you some money.
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Obviously, this has not actually been the case; so, without a lot of lending of those "reserves," inflation has been kept in check. Bank analysts like to point out the fact that low interest rates will essentially force banks to remain on the sidelines and refrain from adding risk via lending. After all, no bank wants to go hat-in-hand back to Capitol Hill and ask for a bailout.
But what happens if they do start lending?
Ah, this is where a post-QE world gets a little scary. Everyone (and I mean everyone) is expecting higher interest rates in 2015. When this happens, banks will see how offering loans increases profitability. And, class, when the banks begin, ahem, easily lending to firms and households, we will also see an increase in the money supply and added inflationary pressure.
The end result for the U.S. economy in a post-QE world: Tough times ahead.
The second question today comes from a "Warren B." from Omaha, Nebraska:
"I'm hearing stocks are overvalued and we'll see a significant market correction, just because. True?"
Absolutely not! Who's telling you this stuff? Stocks don't just move, just because. There's a rationale behind increases and decreases; and suggesting we're "due" for a correction because it just seems right is a ridiculous explanation.
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Over the prior rolling twelve-month period, the S&P 500 has returned nearly 12 percent. And, keep in mind, over the past year we have witnessed a number of headwinds that have traditionally spelled c-o-r-r-e-c-t-i-o-n, but not this time.
A polar vortex froze the ticker tape; first-quarter GDP was down an abysmal 2.9 percent; ISIS has given us images so haunting it's hard to believe they are real. Yet, this stock market continues to persevere. And, the future looks bright too.
Interest rates will remain low at least for the foreseeable future, which means equities are the only place to find yield. Corporate earnings have been decent and the forward looking guidance during analyst calls has remained optimistic.
Plus, we're on the cusp of having a GOP-controlled Congress with a Democrat residing in the White House. The last time this happened was from 1995 to 2001, and the S&P 500 returned a stunning 188 percent during that time.
So, Warren, with the future so bright, I suggest wearing shades (and maybe hold onto your Luxottica stock).
Last question comes from a "Charlie B." from Peanuts, USA:
"I'm hearing investments into chocolate companies, like Hershey, make for a great investment. You know, just because of the holidays."
I love chocolate as much as the next guy, Charlie, but I think the run for profits may be ending for companies like Hershey and Mondelez. Because of the end of quantitative easing, we're likely to experience a stronger U.S. dollar, which will increase commodity costs. Plus, dairy prices are rising rapidly and as you'll see if you tour Chocolate World in Hershey, Pennsylvania, milk (and lots of it) is a critical ingredient when making chocolate.
Commentary by Todd M. Schoenberger, managing partner at hedge-fund firm LandColt Capital. He is the portfolio manager of the LandColt Onshore and Offshore Funds. Follow him on Twitter @TMSchoenberger.
Disclosure: Neither the author nor LandColt Capital hold positions in MTB, PNC, BAC, HSY, MDLZ or LUX.