Investors and the Federal Reserve are in the difficult position of a photographer trying to take a picture of a kindergarten class, David Kelly, chief global strategist for JPMorgan Funds, said on a call Wednesday. “They all look adorable, but the problem is you’ll never get them to smile at the same time.”
The Fed is “waiting until they’ve got some kind of global nirvana,” with good growth, inflation rising to 2% and a strengthening labor market, Kelly said. “Waiting for perfection over the last few years has left them sadly behind the curve and actually inflicting a lot of damage to the economy in the long run.”
Investors aren’t doing much better, he said, leaving more than $12 trillion parked in short-term accounts in the U.S., “earning essentially nothing while long-term assets continue to provide positive returns in the first half of this year.”
He pointed out that when interest rates, confidence, earnings and growth all “look good, […] that is the definition of a market top.”
Instead, investors should “take advantage of the single biggest anomaly out there”: low global short-term interest rates.
Consumer spending is driving economic growth and was 69% of GDP in the first quarter, Kelly said. He expects consumer spending growth in the second quarter will be 4.3%, as an increase in jobs and wages, low gasoline prices, and rebounds in home prices and consumer confidence drive spending.
“The funny thing is that when you ask people about the direction of the country, they think it’s going in a terrible direction. If you ask them about their own finances, they’re actually feeling a little bit more optimistic,” Kelly said.
Consumers are also holding more assets than debt, he said, and most of that debt is mortgages. With low interest rates, they’re able to pay if off, too; Kelly said total consumer credit (including credit cards and personal loans) delinquency rates are below 2% for “only the second time since 1987.”
“That’s why we feel strongly that unless some big shock hits the economy, this economy is not on the verge of any recession. It’s just going to keep ambling along,” Kelly said.
On the other hand, energy investment is down about 75% from its peak, he said. “To be honest, it can’t fall much further, but that has been a big drag and will continue to show up in second-quarter GDP.”
3 Problems With the Fed Forecast
In its June forecast, the Fed predicted real GDP growth of 2% for 2016 and 1.9% over the long run. Kelly believes 2016 growth will be closer to 1.7%. Economic growth over the long term will likely only be around 1.5%, rather than the 1.9% predicted by the Fed, he said.
Over the last 50 years, the economy has grown by an average 3.3% per year, Kelly said, most of which came in an increase in the number of workers. However, the last decade has seen only 1.4% growth, which Kelly expects will continue.
“I think a very reasonable outlook for the long run is half a percent growth in the number of workers, 1% growth in productivity, [which] gives you 1.5% growth, not 1.9%.”
The Fed forecast unemployment of 4.7% in 2016, falling to 4.6% in 2017 and 2018. However, Kelly said, unemployment already reached 4.7% in May, falling from 10% in October 2009. He estimates that unemployment will reach 4.5% by the fourth quarter of this year, and 3.9% by the end of 2017.
Kelly cautioned that unemployment numbers have a lot of variability, but he expects that the jobs report that will come out on Friday will show the labor market is strengthening.