The chorus of rate-spike-fearing inflationists has a new member. David Rosenberg, a stalwart advocate of fixed-income investing for the last quarter century, publicly declared on May 3 that his “love affair with the bond market has come to an end.” Prepare for a redux of 1970s stagflation, he said, and he advised investors how to construct portfolios to prepare for that scenario.
Rosenberg is the chief economist and strategist for the Canadian advisory firm Gluskin Sheff + Associates, Inc. He previously held that position at Merrill Lynch. He spoke at the Strategic Investment Conference in Carlsbad, CA, which was sponsored by Altegris Investments and John Mauldin.
“The gurus are talking now about 1% 10-year notes,” he said. “I was once there — no longer.”
The Fed is much closer to ending its quantitative easing (QE) policies than most people think, he said. Full employment is closer too, according to Rosenberg, despite today’s 7.5% rate. An era of slow growth and inflation will ensue, he said, although it will not happen in the near term.
Let’s look at the transition Rosenberg expects for the economy and how he recommended investors position their portfolios.
Rosenberg’s forecast was centered on the fact that in economic terms, the U.S. now has a more elastic supply curve. This means that the supply components of the economy, particularly labor, respond more rapidly to changes in demand than in the past.
Rosenberg said that the U.S. unemployment dropped from 8.1% to 7.5% over the past year, with modest GDP growth of 1.8%. In the three decades prior to the financial crisis, he said it would have taken growth of 4% to 4.5% to produce the same change in unemployment. In those days, the economy could have grown at 3% or 4% without generating inflation, he said. Now, it can’t.
In the future, prices will rise more rapidly when demand increases, according to Rosenberg.
“Believe me — that is a big change,” he said. “I'm not interested in sticking with the old forecast that I think is probably going to be wrong.”
Increased demand will be consumer-driven, he said, and it will come as full employment nears. Rosenberg cited McKinsey research showing that deleveraging cycles typically last five to seven years. Ours began in 2008, so it is nearing its end.
Rosenberg said that the U.S. faces a structural unemployment problem, with nearly 90 million people now out of the labor force. About three times more people have left the labor force than new jobs have been created since Obama took office. Productivity is declining as well, he said.
But wages are “carving out a bottom,” Rosenberg said, and that will produce the cost-push inflation that was a hallmark of the stagflation era in the 1970s. He said that labor’s share of national income recently hit an all-time low and is due to revert to the mean.