J.P. Morgan’s Chang Muses About New Financial Landscape

Joyce Chang of JP Morgan

2020 has been a year of extremes, between the pandemic, the lockdown, and the financial response. Joyce Chang of J.P. Morgan looks to prepare us for what’s coming next.

There are all sorts of types of analysts in the financial world, and while most specialize in various types of investments, there are others which we call strategists which try to understand the bigger picture more.

The interesting thing is that you really need to look at both the small and big pictures, and as important it is to try to understand how a particular investment is expected to do based upon what we could call internal factors, assets are driven in large part by what we could call external factors, what are generally known as market forces.

Since assets are driven by both internal and external forces, those who focus exclusively on internal forces only see part of the picture, and at times, this part can be pretty small indeed. People may correctly predict a company’s maintaining its good earnings and its competitive advantage, seeing their mast rise high in the water in the future, but when the level of the water plunges, when the market itself drops a lot, this lack of proper guidance can leave us badly damaged.

On the other hand, we can mess this thing up pretty badly at the level of individual investments as well, where we just choose bad investments period. It is amazing how much we try to understand investments as if they were in a cocoon, and even more amazing that we do this and don’t generally even get why this is a bad idea or even that we are even doing this, although if you are in a cocoon, you have isolated yourself from everything else so nothing else will even weigh on your mind.

There is a lot more going on here than just breaking this down to a micro and macro view, which we could describe as how a stock is expected to do, the micro part, and how the market itself may perform, the macro view. When we just take the micro perspective, this not only misses the macro perspective, it also misses the comparative one, how stocks stack up to each other.

We can use the analogy of looking to choose horses to bet on in a horse race to bring these three concepts together, the micro, the macro, and the comparative. You get interested in a particular horse and inspect it visually, and there are actually bettors who pick the strongest looking horse in the race even though that’s not a particularly good way to do it.

This is what a fundamental analyst would do, and typically not even by picking strong looking horses, but oddly enough, being put off by the strong looking ones and picking lesser looking horses and even some pretty scrawny ones at times.

They also like to bet on underdogs and tend to hate favorites, in a game where the odds are the same for all horses and therefore betting on the favorites tends to be more lucrative and betting on longer shots without any additional money odds to compensate doesn’t make sense, but sense is not required to bet at this track.

How fast a horse actually runs doesn’t matter to this type of analyst, and they will ignore a horse’s results, looking instead at things like its lineage or its trainer while ignoring the actual performance.

They also think that a horse doing badly is somehow due to pick it up or the good horses just won’t stay good for that long, and they don’t even need to show that any of this makes sense. Real horse bettors may try a system out and look to do something else when it proves not to work, but these fundamental bettors just stick with their bad systems year in and year out, with no regard to any of the things that matter, the internal ones, the external ones, or the comparative ones.

Technical analysts at least look at what actually matters at the internal level, how fast a horse runs, and measure the desirability of the horses that they pick based upon that. It’s certainly better to look at this versus just how a horse looks standing in their stable, now many hands high they are, and other physical characteristics, and how this all translates on the track is surely what matters.

Whether a horse runs fast or slow, it doesn’t matter why when what we’re out to predict is how fast that they will run. We’re at least looking at what really matters when we measure stocks based upon their performance and not on focusing on certain things that may be influential but only give us part of the picture of the internal dynamics, or may be completely off base like price to earnings ratios are, which has us preferring underdogs without the odds.

It’s not that fundamental analysts don’t notice performance, but they consider good performance a fault and bad performance a virtue, the opposite of what it takes to succeed at this betting. Fast horses scare them, and have been telling us to jump off fast horses like Apple for years, as it continues to run in the lead pack, and are still trying to talk us into far less desirable stocks even though they have continued to lag the field for so long.

The comparative analysis part of this virtually gets neglected by everyone, even though its importance should be very obvious to us. We may pick a certain horse without even looking at how it compares to other horses in the race. We want to be betting on the best performers, and it is senseless to try to pick one without looking at how fast other horses travel.

Fundamental analysts don’t even care about these things, or even understand why they even should care. They tell us the reasons that they think that a horse is a good one, which usually is based upon things other than their speed, and all we have to do is find much better horses out there to discredit their view, which is usually very easy, and then ask why we should bet on their weaker horse instead.

They may select a stock and make a prediction, where even if they are right and this stock makes a half decent amount of money, making a decent amount of money cannot be the goal. Whether or not we should buy XYZ doesn’t just include XYZ making money, it has to be a good pick competitively. If we can come up with dozens of stocks that are likely to do considerably better, that should put an end to our even looking at XYZ, but these analysts just don’t get that, even though this is reasoning at the level of kids in a playground.

Even when they manage to pick a winner, telling us that a certain stock will go up by a modest amount and end up being correct in spite of their tragic approach to trying to understand the situation, thinking slow horses will magically run faster, we just have to look around the stable a little to find even better choices, which they miss because they have their blinders on and can only see one horse at a time. The picks of these analysts do not do well comparatively and this should come as no surprise as they are picking their horses by things like color or cool sounding names, not speed.

Technical Analysts Do This Better, But Still Not Good Enough

Technical analysts tend to look around the stable more, since they are selecting their horses based upon performance, but tend to be too easily pleased, seeing one they like and then putting their head down and focusing their eyes on its chart without properly vetting whether this is the best choice. We may have to look around harder to find some better ones than we have to with the fundamentalist’s picks, but while fundamental analysts don’t try, technical analysts don’t try hard enough typically.

We aren’t necessarily looking to just pick one horse, although it’s certainly a better idea to go with one good one rather than a stable full of lesser ones, but given that the success of our betting depends on the average speed of our horses, we do need to stick to the fast ones, and have several in case our top pick doesn’t run as good of a race as we hoped, where we just don’t pick it to win but pick some other fast ones as well and bet them all to win, place, or show, to hedge our bets.

To do this, we need to look at the horses that are in the field and pick the good ones. In terms of stocks, just because a stock is expected to go up is not enough, although the ones analysts pick just focus on that, that a stock may be expected to go up by a certain amount but not even placing this in proper context, by even caring how it stacks up to other stocks, where the expected performance may not even be above average and sticks us with a comparatively bad bet.

This does not have to be that difficult to do well. At the beginning of the year, we looked at the top 10 performers in the stock market in 2020, and picked the 5 which were also at their all-time highs, a simple and mechanized approach, but one we felt good enough about to made our top 5 stocks for the year. We also were well aware of how much something would make the hair of those who invest like old fogies stand on end, those who are terrified of high flyers, who we were sticking our tongue at in amusement.

Only one is not up by over 20%, with Copart lagging the field down 3%, but we also have Chipotle (34%), Apple (27%), AMD (27%), and Lam Research (21%), all of which are in the lead pack in a year where the average stock is down. The real point here isn’t to show off this fine stable, but to show just how uncomplicated success can be.

The goal with these selections is to make this as simple as possible in fact, and we could have gone deeper than this with our analysis and put together an even better stable for you, but we’re more interested in showing you ways to do this yourself without much skill, and this combination of simplicity and success is where the real delight is here.

We also need to consider external factors, which in our case is the speed of the track. An example of this is how we went from a track with great conditions to one that ended up getting very slick when the coronavirus rains came earlier in the year, at a time where it would have been exceedingly wise to pull all our bets as we saw even the strongest horses lose their footing and fall to the ground due to market risk going through the roof.

The performance of our picks could have been easily increased significantly by stepping aside during the panic and getting back in when things settled down, but they more than held their own regardless. This is managing the external factors, COVID-19 in this case, and these results include standing by helpless and watching them all collapse along with all stocks during this time, not a wise way to go by any means as much more could have been easily got from these bets by playing them more sensibly.

Doing so would have us seeking to get all three in our favor, picking very strong horses who stack up very strongly in the pack and also watching track conditions. This is the trifecta of investing and we need all of these things considered enough to get the odds in our favor as much as we should want to, even though so many choose to neglect all three.

Fundamental analysts are particularly prone to market risk, which we could describe in our analogy as the track conditions, where it can be sunny and dry or storming and muddy. They are ignoring everything but the look of the horse, and don’t even care how fast a horse runs anyway, whether the track conditions are good or terrible.

In this horse race, we are rewarded on the performance of our individual horse, meaning how fast they run, and slower tracks mean slower speed. They have to run at a certain speed for us to make money, and when all horses slow down so much to make them all bad bets, we need to pull our bets for a while, until the rain stops.

If all the horses fall and are able to get back on their feet when the rains stop and the track dries out a little, speed is going to matter again, and given that technical analysts are actually watching the action unfold, they will notice when the track starts to get muddy and their horses start to lose their footing and will also see when things improve and it’s time to climb back on their horse, which is a huge advantage anyway but especially during these times.

Fundamental analysts aren’t looking at the race though so they are particularly prone to have their slower preferences do even more poorly. These are the people who keep their bets in place when the bets fail continually, so whether this happens from picking a comparatively bad horse or from staying with the bet when things really get slick, their strategy does not include looking at what actually is happening and is instead based upon assumptions that are not subject to being disproven because they simply do not care how well they work or even if they work at all.

There is a fundamental side to the macro view though and this is comparable to trying to forecast the weather for the race, and while we do not wish to bet money just based upon forecasts that may be right or wrong depending on what actually happens with the weather, it’s still a good idea to check the forecast from time to time to see what is more likely to happen with the weather than not.

It’s Good to Strategize, But Only if Our Strategies Are Good Ones

We call these weather forecasts strategists, and approach investing on more a strategic level, what we should be doing overall, rather than just at the tactical level that normal analysts look at, what to put our money in specifically.

We look at the weather quite a bit, because while we do not wish to be guided exclusively on the future as some do, we do want to know what else might be coming when it does start to rain. A perfect example of this is what the expectations of the weather were this past February when it first started to really rain, and with a hurricane on the forecast that was expected to blow down all houses and cause a devastating impact on the landscape, it was time to run for cover.

We’re also interested in looking at not only our own weather forecasts but at the forecasts of others as well, at least those who have shown that they have at least a decent idea of what is going on. Sometimes even bad forecasts can be productive to consider, as mistakes can be even more illuminating at times, where as we consider why they are wrong, this can shed more light on what is more right.

We do prefer weather forecasters who at least can read weather patterns though, as even obvious patterns can get short shrift or even be ignored, such as the effect of all this stimulus not on the economy but on the stock market.

Knowing that there is a difference between them is key, and not doing this is by far the biggest mistake that these weather forecasters make. Those who just look at macroeconomic data and assume stocks just follow along like puppies have been roundly fooled, fooling themselves actually from basing their forecasts on a belief that is simply unsound.

When these folks find themselves on the wrong side of reality don’t realize their mistakes, they insist that the market is wrong instead, and stick to their guns stubbornly in a way that is simply hilarious, but you don’t usually get a joke if you are the joke.

We do pay attention to macroeconomic data to be sure, as this is part of the forecast, but we don’t want to be hiding in our basements from the bad weather we saw coming when it is sunny and clear outside. It’s nice to know what may be coming, but we do not want to try to supplant reality with our predictions when they don’t come true, as these people do.

We particularly look for forecasts that view the landscape from the perspective of the market more, and there may be no easier time than now to separate those who do view the situation more though the eyes of the market than the eyes of economic data.

It’s not that the current economic situation or economic forecasts don’t matter, but they cannot ever matter so much that we ignore how these things play out in the real world, and if we are investing, the market is indeed the real world as it has the final say on all these things.

J.P. Morgan’s chief global weather forecaster Joyce Chang is one of the better forecasters out there to be sure, although just being recognized by one by the investment community is not enough for us though, as their threshold for the good is so low and the mediocre or worse often gets lauded. We want their views to stand up to criticism though, which is not considered anywhere near as often as it needs to be.

We just don’t pass along other people’s views on here like regular financial media outlets do, as our main goal is to teach, and we won’t learn or even understand very much just taking things on face value without deliberation. Chang’s views at least stack up pretty well, and when she starts out in a recent interview by telling us that “you don’t fight the central bank,” we already know that she actually gets what is going on right now far more than most.

We need to take this a step further though and explain this as you don’t fight the market, and one of the things that the market doesn’t fight is the central bank, although there are other characteristics of following the market that we don’t want to exclude. Just going with the direction of the central bank, the Fed in the U.S., serves as pretty good guidance in itself and is often the missing factor that macroeconomic analysis misses, seeing the numbers dive for instance and wondering why the stock market is dancing to a completely different tune.

Chang tells us that she envisioned Fed rates going to zero eventually but over a much longer period of time than the flash crash of Fed rates that we saw earlier this year, where they pushed their chips all in without any real hesitation and took us all the way down to zero in a very brief period of time in the early stages of the pandemic.

We’re therefore not only impressed with her actually looking at the current weather but also in this longer-term prediction, where rates matter and they were expected to decline, as this prediction was very reasonable given that we were at the end of a business cycle which the Fed has expressed their clear intention to prolong. Lower rates a one of the key ways to do it, to keep growth low but constant, and that was a plan that was working extremely well until this crisis hit this year.

Chang expects another stimulus bill soon, although that’s not a sure thing even though the potential is there. Republicans wouldn’t mind a smaller one, but Democrats want to go on a mad spending spree, and are trying to blackmail the other party again, but blackmail won’t work this time and we might not see another bill, and the need for one has certainly dropped by a lot with the economy in recovery phase now at least.

With the majority of the unemployed making more on unemployment than at their jobs, which is a shameful enough situation when the jobs aren’t there to come back to, but when they are and we make it wiser to stay out of work, this ends up hurting the economy rather than helping it. The Republicans are not keen to continue this madness, and that in itself might be a deal breaker.

If it isn’t, then the massive amount of money that Democrats want to use to bail out states that have chosen to self-mutilate themselves economically lately with no regard to the consequences is an even bigger obstacle, where there’s at least a strong argument to let them bear the pain of their own deeds themselves. In doing this, they perhaps will think a little more carefully about doing this ever again as this ended up being a disaster.

It is only sensible that we get a grip on things and start worrying about the longer term a little. We are not so far away from losing liquidity with treasuries, as we went into the red for a time earlier in this crisis, and there will be a time one day, and perhaps sooner than we think, where the government will need to borrow but no one will be able or willing to lend. This will create a crisis of unimaginable proportions, and we’re not even sure how bad it will be other than it will be far worse than anything we’ve seen in history.

Joe Biden wants to build back better, but he doesn’t tell you that the better part means throwing a crazy party that will greatly accelerate our financial destruction. He’s worried about global warming and he actually does have a much better plan on doing this then he is revealing.

We won’t have to worry about carbon emissions with the economy destroyed, and the path he wishes to take will have it destroyed far before global warming does much to us. National debt is a real hockey stick pattern, and a far more dangerous one. We are facing a threat of a much greater magnitude and duration than this little temporary shutdown of ours or the world’s temperature rising by a couple of degrees.

Chang points out that back in March, the market depth for treasuries plunged, where we saw a very alarming loss of over $7 trillion in liquidity. This was a stress test of sorts for the treasury market and it failed it miserably. The Fed was able to step in and save us this time, but as the amount of money in treasuries out there continues to grow like a contagion, next time we may not be so lucky, and if we’re not, the U.S. economy as well as the government itself will collapse.

Chang is quite bearish towards bonds these days, and there are a lot of good reasons to be and really none to have us liking these investments right now. She is even going as far as suggesting that we should consider moving to an 80/20 stock/bond allocation over the typical 60/40, which is at least less harmful.

Having a standard allocation is a stupid idea in the first place, as what is sensible depends on the situation, and taking on something that performs much more poorly just because this might be a better way to go if we blind ourselves doesn’t cut it, and this isn’t even a good way for blind people to invest as stocks kill bonds over the long term even with totally blind approaches.

Chang expects returns with equities will be muted over the next few years, which was the right call before the pandemic, all things being equal, but things have really destabilized since then, in addition to the specter of a Biden presidency and maybe even the Democrats controlling all three branches of government at once, without restraint. They even want to get rid of the filibuster rule and then they could just do whatever they want basically with no one to oppose them.

This wouldn’t be even as bad if it weren’t for their wanting to take the economy down a few notches at least in addition to their mad spending plan, and that’s the part that investors really need to worry about over the next 4 years and why the Republicans holding the Senate is so critical if we are going to minimize this damage, and the odds currently favor it not being minimized at all.

Chang believes that the bigger issue is with China, although she feels that the concerns that many have about trade gridlock is overblown, because the U.S. needs China a lot as well, which is true. The Republicans are far too biased toward American companies and want to put that ahead of the welfare of the country itself and we do this at our own peril. This was the biggest and perhaps only real knock against Trump, aside from how he rubs so many people the wrong way, although Biden does sound a little protectionist as well at times, but certainly a lot less so than Trump.

However, the big elephant in the room is the U.S. unraveling as much as it is these days, not just economically but in virtually every other way as well. The real threat to the United States is the United States and nothing else even comes close. We can only watch and wait and hope and keep things tight to our vest.

John Miller

Editor, MarketReview.com

John’s sensible advice on all matters related to personal finance will have you examining your own life and tweaking it to achieve your financial goals better.

Contact John: john@marketreview.com

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