Fourth Quarter 2023 Podcast

[Carolyn Goldhaber] Hi. I’m Carolyn Goldhaber, President of SBH Asset Management. Welcome back to this quarter’s episode of Thoughts on the Current Environment Podcast. Today, I’m joined by Ralph Segall to discuss the key highlights from his newsletter. Ralph, welcome and thanks for joining us.

[Ralph Segall] Hello, Carolyn. Good to be here.

[Goldhaber] Thanks, let’s get started. Ralph, since the end of 2022, it seems as though we have been discussing the same themes throughout 2023, an impending recession, the Fed cutting interest rates, and a resurgence in China. However, in reality, none of these have occurred. Is everyone just getting it wrong, or is there something else beneath the surface?

[Segall] Your question, Carolyn, basically makes me very happy that our investment process does not really involve economic forecasts, which we shy away from. But you’re quite right. People were talking at the beginning of the year, about the resurgence of China leading to a stronger economy, wondering whether or not that would be enough to offset a possible recession in the US, but throughout all of that, everybody was wondering when, not if, but when the Fed would start cutting interest rates. And none of those seem to be playing out.

China, to everybody’s surprise, is really turning out to have huge problems, and they have no line of sight to when their economy’s going to start to get better. Conversely, the US economy seems to be shrugging everything off and doing reasonably well. And at the same time, that’s cause the Fed to keep raising rates, not cut them. So what do we see going forward? Well again, we’re not making forecasts, but one of the things that we did suggest late last year, which has played out, is that if there were a recession, it would probably be okay for Main Street, but not so good for Wall Street.

And what I meant by that was that the actual, the real economy had enough going for it to keep chugging along, but Wall Street was going to have to grapple with the consequences of higher interest rates, which really hadn’t been built into many Wall Street thinkers’ planning. And in fact, that’s what’s played out. Employment gains have continued to grow. The September employment report that was released just last week was a remarkably good gain in jobs, and that wages, wage growth was steady, but it was moderating a bit from the peak from before. People are getting jobs. The unemployment rate is quite low. Things are going well.

On Wall Street, however, there’s a problem, and the problem is that interest rates are going up, and the bond market is still feeling the pressures of that, and you might say, “Well, stocks are doing well,” but if you dig down just a little bit, what you’ll discover that the gain from the stock market is due almost exclusively to what some people are referring to now as the Magnificent Seven, which are seven companies, mostly related to AI, artificial intelligence, that are carrying the market. If you exclude how those stocks have done, the rest of the market is still struggling with pressure on profits, and that’s something that’s probably not going to change, particularly if the Fed doesn’t cut rates, and they don’t seem inclined to at this point.

[Goldhaber] Well, that’s the perfect lead-in for my next question, Ralph. A final theme that you mentioned, and in my opinion has been the ultimate buzz of 2023, which is artificial intelligence. How do you see AI impacting us, if at all?

[Segall] That’s a great question. Let me give you two answers to it, because it’s so good. If you’re talking about the impact of AI on the US economy, I think it’s going to be profound in ways that we can’t imagine. It’s going to transform a lot. The question is when will it do that? If you think back to the Internet boom, back in the late ’90s, you had the introduction of Microsoft’s Windows software. You had the development and the maturation of the Internet occurring. But what really caused the Internet to become what it is today took 10 years, because of the introduction of the iPhone. And correspondingly, I think that AI will be a major force in our lives. What the killer app will be or the killer… the primary usage of it, or how it will influence our lives, will be more a 2034 question or 2035 question than a 2025 question.

But we got to worry about the stock market today, and the concern that we have is that the valuations that the market is putting on AI are somewhat typical of Wall Street enthusiasm. They’re taking a good idea, they’re expecting it to occur tomorrow, if not having already occurred, and they’re starting to discount it in earnings, and you could almost say that in some instances, they’re discounting out into the hereafter. So, we think that the big concern about AI from a market point of view is that when it has some realization that there’s not going to be an explosive gain in profits from it in the coming year or two, and some disappointment sets in, that could take out a key prop in the stock market that we’ve seen here.

So I guess the answer to my question is long term, AI’s a big deal. Short term, it could be a source for concern, if the enthusiasm that’s currently present, for whatever the reason, fades. And that may be higher rates that do it.

[Goldhaber] Well, it’s certainly something that is going to be exciting to watch, and I’m assuming will give us a lot to talk about over the next few years. So thanks for joining me today, Ralph, and until next quarter.

[Segall] Take good care.

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