When my children were young, one of the books we read to them was: “When You Give a Mouse a Cookie.” The point of the book is to follow a chain reaction stemming from providing a treat to a rodent. He will want a glass of milk, a napkin, have to sweep up crumbs, etc. It was odd, but entertaining.
I’m often reminded of this book when I see economic reports. It’s not that the numbers are frivolous, but taken as individual data points they can’t mean very much.
Everyone knows this, and yet the world hangs on each announcement as if it were the most important thing to ever happen. Maybe it’s driven by the media, but I think investors, as consumers of the financial media, are part of the issue. It’s just the way we are wired.
Warren Buffett once said that in the short-term equity markets are voting machines, but in the long-term they are weighing machines.
His point was that on any given day the equity markets are something of a popularity contest. Story stocks with a lot of sizzle shoot up the charts, posting dizzying returnrns, while those seen as ugly ducklings are cast out.
But over time, beauty fades. Investors tend to evaluate companies based on what they returnrn to their shareholders in earnrnings and dividends, as well as what they expect in the future, and tend to view economic statistics as steps on a path, instead of each number being an end unto itself.
To shorten this up – we’re emotional in the moment, but rational over time.
Unfortunately, we live in the moment. The first Friday of every month is a great example.
At the start of each month, the Bureau of Labor Statistics announces how many jobs were added to non-farm payrolls, the unemployment rate, and a host of lesser statistics.
Economists, analysts, and a myriad of market watchers all have expectations of what these numbers will be. There is a build of anticipation right before the numbers are announced, then, at the magic moment of 8:30 a.m., the figures hit the tape. Bam!
The reaction to the announcements could be anything from yawning if the numbers are in-line with expectations, to wild market gyrations if the reports are a surprise.
Of course, it’s not the numbers themselves that send everyone into a tizzy, it’s what they might – might! – mean for the future. And that’s where the guessing game begins.
If the jobs report is weak, then perhaps the Fed will either refrain from raising interest rates, or maybe even lower interest rates, at their next meeting.
If interest rates remain low or fall, then money should be cheap to borrow. The low-cost funds allow consumers to borrow more to buy homes, cars, TVs, etc. The low rates also give companies more wiggle room for financing expansions or even takeovers.
This combination of consumer spending and corporate activity both spur purchases, which translate into orders for manufacturers and put money in the pockets of workers. They, in turnrn, spend money and keep the cycle going.
Voila! The virtuous cycle is bornrn!
Unless, of course, the jobs report is a surprise to the upside, meaning more jobs were created, leading to a fear of inflation.
Then the entire cycle happens in reverse. The Fed might raise rates, making money more expensive to borrow, cutting into consumer and corporate spending, slowing economic growth, leading to layoffs, and further harming the economy.
In the final analysis, it all comes down to one very big, very important thing – the cost of credit.
If we open the money spigot a little bit more by lowering rates, then the economy should grow. If we close it just a bit, then everything should slow down.
It never happens that way, of course. Actual spending depends on a lot more than just interest rates, as we’ve explained for years.
But this doesn’t stop people from engaging in the guessing game. It happens just about every time an economic report comes out, including decisions by the Fed, jobs reports, new home sales, etc.
Maybe we all engage in the guessing game to keep it interesting. After all, who would read a newspaper with the headline, “Not Much Happened Yesterday.”
Still, most days when I read the papers and financial blogs that are part of my routine, I find myself wondering: do those writers really believe each report is that important?
Maybe they do. After all, if you give a mouse a cookie…
Follow me on Twitter @RJHSDent