Today the August jobs report came out and was quite disappointing. The U.S. only added 235,000 jobs, which was well short of expectations that were for over 700,000 new jobs. Fears regarding the Delta variant likely had a role in this big miss. Many businesses I’ve talked to have expressed immense frustration about a lack of available labor, so we are seeing strong wage inflation as a result. This is fine for some businesses, but can certainly be challenging for smaller businesses, especially when it coincides with higher costs for commodities and supply shortages. It will take some time for these factors to find an appropriate balance, so I’d expect some economic friction in the meantime.
U.S. equity markets still appear to be very richly priced overall. A report from Credit-Suisse this week argued that, over the past decade, the S&P 500 growth index has traded at an average of 2.6 P/E points above the P/E multiple of the S&P 500 Index. Today the Growth Index is trading at a premium of 6.7 points to reflect a P/E multiple of 27.3. Value stocks are still trading at very attractive levels, although the market overall is quite expensive.
The 10-year Treasury is trading just above 1.3%, so it is as expensive as it has ever been relative to inflation and real rates are deeply negative. Our ability to generate returns and cash flows from undervalued equities and conservative income-generating options strategies such as covered calls and cash-secured puts is as important as ever. This is due to the fact that we are facing what is undeniably an expensive equity market and expensive bond market. Real estate prices are also rocketing higher, along with just about every other asset class, including Crypto which has been on a great run.
I think we should see a strong finish to the year in many of our key positions. Assured Guaranty is at a key point in its negotiations resolving Puerto Rico’s bankruptcy and things are going quite well. We are at the tail-end of hurricane season, so it would be quite beneficial if the Commonwealth can avoid any late season surprises there, which could delay negotiations a bit, but so far so good at least. We should know more in the next two weeks or so. Some of our European investments should pay large dividends toward year-end, as many had to put them on hold for a year so they are playing a bit of catch-up, which should be a nice jolt of cash.
Importantly, we have inexpensive securities, growing intrinsic value, with plenty of upside to go. Many of these positions would benefit from a higher interest rate environment, which I think is likely, as inflation doesn’t seem to be slowing down too quickly. All indications are that these supply disruptions are going to be with us for a while and it is a huge problem, ultimately keeping inflation higher than desired. Our options strategies generally target double-digit annualized returns with less risk than the overall market. We typically see a nice benefit towards the end of the year, as the time premium declines at an accelerated rate as we approach our largest expiration dates. I think they will be more and more important over the next 5-10 years, as there is no chance equity markets will do anything close to what they have done over the last decade in my opinion. These strategies work very well in choppy markets, such as what occurred in the early and mid 2000’s.