From Highs to Headwinds: Navigating the Economy’s Crosscurrents

0:00 Welcome to Something More with Chris Boyd. Chris Boyd is a certified financial planner, practitioner, and senior vice president and financial advisor at Wealth Enhancement Group, one of the nation's largest registered investment advisors. We call it Something More because we'd like to talk not only about those important dollar and cents issues, but also the quality of life issues that make the money matters matter. Here he is, your fulfillment facilitator, your partner in prosperity, advising clients on Cape Cod and across the country. Here's your host, Jay Christopher Boyd. Welcome. This is Something More with Chris Boyd. I'm Chris Boyd here with Jeff Perry. We are joined this week by Brian Regan, our team's senior portfolio manager, and we are all of the AMR team at Wealth Enhancement and glad to have you with us.

0:49 We want to talk about some of the kinds of things that I think clients are coming to us with regularly, this sense of, gee, it's great that markets are at highs, like they're feeling pleased, but a little bit anxious. When's the other shoe going to drop? Is there something coming? What to expect? With that in mind, we're going to talk with Brian about the topic of headwinds. What are the headwinds? Is there more opportunity than risk or more risk than opportunity? Well, I guess that's what makes a market move, right? Yes, the answer is yes. Yes, right.

1:29 And of course, none of us has a crystal ball with any of this stuff, but Brian, you spend a lot of attention watching the data. We started to see the feds signaling, what's your take right now as to how's this affecting the way you think about outlook and positioning? So the market's up, that's good news. So bear with me while I give you a bunch of bad news, but the topic is headwinds, so it's kind of natural, right? Yeah, you might expect it. Here are the headwinds that I want to talk about, tariffs, immigration, and student loan repayments. We're really starting to see the effects of the tariff policy.

2:13 And unfortunately, it hasn't been good. It's been five months, let's say, quote unquote, liberation day, where things got crazy. We settled down to a spot that's much higher than it has been historically, actually, maybe higher than it's ever been in the country's history. We're around 18% tax compared to income taxes for Americans right now, bringing in around $350 billion over the last five months. If you annualize that, we're looking at $800, $900 billion worth of taxes on the American consumer. What are we seeing? We're seeing inflation in goods rise, and we were seeing some disinflation from services.

2:58 We're starting to see that level off and actually start to rise a little bit. The parts of the economy that are heavily inflicted by tariffs, basically anything that's imported, has seen a dramatic either price increase or demand just has disappeared. Think apparel, think furniture, things like that. But we're also starting to see some lightening up on things like going out to eat, hotel and accommodations. We're starting to see some price increases there. When you look at our $800 billion tax, we're expected to take down about 70 basis points of GDP growth.

3:38 If potential GDP is 2% and you take around 70 basis points, you're at 1 .3%. Your margin of error gets a little tighter. At the same time, we've seen employment growth stagnate to close to zero within a margin of error that could be negative, could be positive. In my mind, that means that, hey, look, we might be in a recession. If you have a Bloomberg machine and you were to pull it up right now, it would say that there's an expectation of a 30% chance of a recession. That's tariffs. It hasn't been good. Prices have been increasing. The expected inflation is 3% for the next 12 months.

4:20 The price on a one-year inflation swap, which basically means what the market thinks is willing to pay for inflation protection over the next one year, is 3.5%. Keep in mind that the target for the Federal Reserve is 2%, but I'll get to that in a minute because it seems like the Reserve has abandoned that as a target, whether that's political or whether or not they're prioritizing the unemployment situation is debatable, and I actually think it's both. I think this Lisa Cooke thing is about being in control of the Federal Reserve so that they can change it and really stop thinking about- Drive monetary policy the way they want.

5:06 Among other things. They could change Fed presidents in every city if they wanted to, if they had four board governors rather than the three dissents right now. The makeup of the board governors on the Federal Open Market Committee are important, and so that's a different topic. I think we're on a good show though, maybe. That's a good topic further, but anyway, come back to it. Yeah. As you guys know, I have a lot on my mind right now. So that's tariffs, right? What are we seeing? We're seeing a slowdown in GDP to the tune of around 70 basis points. That's from the Yale Budget Office, that estimate, and we're seeing inflation expectations to be three for at least the next 12 months.

5:53 Why the next 12 months? Because you're probably going to start seeing it roll over and the CPI growth on a higher base. Unless tariffs go up again, we'll roll out, which is the other reason why the Fed is probably looking at it as a, I don't want to say transitory, because 12 months... People in the world these days can't think of 12 months as a short amount of time. Before you go on to other things like student loans and other things, I want to just come back to this. So $800 billion, that's very interesting as an estimate for where revenue generated by tariff taxation for the federal government.

6:37 We were running about a $2 trillion, $1 .8, $1.9 trillion deficit last fiscal year. That might help at least the debt direction of things, if not the economy because of money that people don't have to use in other ways. 0.7% GDP, that's taking out 0 .7% you said from the tariff, that's about what that represents. And you said our GDP growth was about 1.3% forecasted right now? No, the estimate for potential is 2%.

7:18 You take out that 70 basis points, you get to 1.3%. Over the last 12 months, I believe it's been 1.75%. So you're getting on the hairy edge, right? We're far from being settled on these issues. Your point about recession, this risk of recession. I've said this before, but it's been a long time since we had a recession, really. We had the pandemic where we had a recession, but there was all this stimulus thrown at it that was very short-lived and arguably government policy driven and resolved in both cases.

8:03 So it's been a long time since we had a recession otherwise. So it seems to me that it'd be surprising that we didn't have a recession in this administration. Before we knew the outcome of the election, that was kind of my expectation that whoever won, you'd probably likely to have a recession just because it's been so long since we had one. But the Fed seems to have found this a sweet spot of moving monetary policy, helping to navigate that seemingly effectively. This question of inflation on the one hand, saying rising to 3%, 3.5% on the one hand, and a zero growth perhaps on the employment end of things, just the minimal employment, that does seem to speak to, hey, we're slowing down.

9:06 On the one hand, which would say, hey, let's lower interest rates on the other hand, the rising inflation seems to be like, oh, maybe we don't want to. But you're saying because of the tariffs being a big component of that, maybe that'll just work itself out because it's a one-time, not an ongoing, growing endeavor. My guess is when the Federal Reserve cuts rates tomorrow and they have a press conference, that's what Jay Powell's going to say, that he expects it to be transitory. And that's going to be his excuse. We're recording this on September 15th for our listeners. Yeah, I think that's going to be his excuse. And that the unemployment concerns outweigh the inflation concerns because of that.

9:49 Okay. All right. So you were starting to tell us what these headwinds are. And part of it, you were talking about tariffs as the setup. We got cut off here because I interrupted. Well, I think I was done with tariffs, so it was a good time to interrupt. We mentioned the employment situation there a couple of times. Part of the reason why folks think the employment situation is worsening is because of deportations. So we're on track for about a million deportations here in 2025. You take that from a year ago, we were having about a million or more people coming into the country.

10:33 Let's call it a 2 million person swing. Let's say that those people were making $30 ,000 a year. And you start to get some very big numbers that are taken out of the economy on top of that. I have not done the math. I haven't done accurate estimates, but basically- Theoretically, you get the point. Right. The supply has come down. And what would you expect in certain industries like agriculture, construction, leisure and hospitality, restaurant service, you're going to see wages go higher. And I mentioned briefly on the tariff conversation, how we were having tariffs go up pretty obviously in goods directly related to tariffs.

11:17 But we were also seeing inflation go up in some services. And I think that's partly because, if not largely because of this change in immigration situation. So again, this is kind of a stagflation type of policy, right? We have less labor supply, we have higher wages, which means more inflation, less economic growth, which is not great. Again, that's why you're seeing inflation be around 3% and economic growth expectations to be around 1%. And these aren't my numbers. These are the consensus estimate numbers for the next 12 months. So if you want to disagree with them, fine.

11:59 Just know that you're disagreeing with the 60 economists or market participants who get interviewed by Bloomberg to build their index of expectations for this. I saw last week, or maybe the week before when one of the unemployment numbers were coming out, a really interesting conversation on CNBC about the credibility of these numbers when you're talking about deportations and all the related issues, because so much of this part of this economy is underground, right? It's not like people are working. Many of them are, many of them are authorized to work, but many are not.

12:40 And so the dynamic of the data with so many of those people being not in, not officially in the wage pool and not officially paying taxes, and I know they pay taxes for all the things that they do in the economy, and that has an impact on it. But as far as payroll data and unemployment rates, et cetera. Do you have any thoughts on that, Brian? Sure. So I have, I think that it's a little misleading. I mean, I hear your point. It's hard to know exactly in this data, but I do have- What was misleading? It's a question. Whatever you said, I do think we have some data on this, I guess, is what I think is misleading. And I'm just going to quote it. From the US Bureau of Labor Statistics, industries that make up unauthorized labor as a percentage of total nonfarm payrolls, so total nonfarm payrolls is the survey that happens, and you get the data once every month, and it gets, they do revisions for two months prior, and then they do a big annual revision, which we just got, which is one of the biggest ever from the March period, 12 months prior.

13:48 But this is- Talking about reliability of data. Well, the data is trending negative, and it's kind of not really debatable. But yeah, you're right. I mean, it was a big revision, and the surveys are maybe not completely reliable, but certainly trending negative. But anyways, the US Bureau of Labor Statistics, the same people who put out that annual report that we put a lot of stock into, has 4% in unauthorized labor and wholesale trade, 4% in transportation and warehousing, 5% in construction, 10% in retail trade, and 10% leisure and hospitality. So those are the industries that are likely going to be more impacted by this than others.

14:32 So we do have some data on it. And I think it's undeniably a negative on the economy on both the inflation and employment and growth front. That answer your question, Jeff? You good with that? Sure. Yeah. I mean, I think that's a fair point. We may not have comprehensive data, but I think the point Brian's driving at is we may not have it comprehensively, but we know directionally, this is where it's going to be most challenged. I was making the question of, isn't this maybe even a bigger issue because so many people are not counted.

15:18 Might not even realize, capture the extent to which. And if they need to be replaced by people who are counted, just to throw the generalities out there, that might even drive up wages more. Inflation. Inflation and so forth. Because you're taking part of the underground, which is part of the goal, is taking part of the underground economy and making it legal and above ground. And so the magnitude of these predictions might be understated. That was my question. It wasn't really a statement, but it was a very interesting discussion anyway that I saw. Well, maybe I misunderstood the question, but my point was just that we do have some data on it.

15:58 Whether it's accurate or not, I assume it is as best as any other government statistic, I guess. The third one was student loan repayments. So with student loan, we have 45 million Americans that have a student loan. That's about 20% of the adult population. And they're paying anywhere between 5% and 10% on interest rates. And they recently had to start paying after a long reprieve from not having to pay them following COVID. And what we're seeing is delinquencies are skyrocketing.

16:38 I believe the number is around 11 million people are either defaulted or between 60 and 90 days delinquent. So that's not a small amount of money in the economy either. Now, I have not worked up an estimate. And I asked Torsten Slack of Apollo this today, he did not have an estimate on how much immigration and student loan payments are going to be a drag on the economy. But if we're already at one to 1 .3, because of tariffs, and you layer these on top of it, you start getting into a scary territory, I guess is all my point is. And then the 30% estimate of recession on Bloomberg, that's the expectation over the next 12 months.

17:23 I would say, I think there's a 30 % chance that we're in a recession today. And how does that impact your portfolio is an interesting question too, because we all have this data. I'm not the only person that has access to this data, right? And the market has gone up. And I think this is a function of the makeup of the stock market. We have very, very profitable, very, very high margin companies, very much not leveraged to the consumer, but leveraged to B2B enterprise customers.

18:05 If you think NVIDIA, they do sell some to gamers and things like that. But basically, they've been selling chips that will go in the big data centers that will end up in cloud computing. Microsoft has Windows, it's a big enterprise product. Azure is a big cloud computing company. Google has exposure, of course, to the consumer economy because they do a lot of advertising, but they are the advertising platform. Facebook, well, Meta and Google, they're dominant, right? Where we are seeing other media do very, very poorly. If you want to think of typical TV cable providers and their media, they're not doing well.

18:51 So when you think about building out your portfolio on the equity side, I think you really want to think about what is levered to this AI theme. And that can actually get you pretty diversified. It's not just the cloud names. It's not just the semiconductor names. It can also be industrials that are building out data centers, the Eatons of the world. It can also be utilities, which I've touted a lot. It can also be, I think you need to dig deeper into individual companies and individual sectors that might benefit.

19:35 And then when you think about the equities, so we're going to have we're going to have slowing growth and we're going to have cuts in the short-term interest rates, right? But we're going to have rising inflation. And what that's done is it created like this swoosh in the yield curve, right? Basically saying, over the next couple of years, we're going to have low interest rates, but then in the outer years, because of inflation and growth, we're going to have more positive interest rates. So you have the steepening of the yield curve. What companies benefit from a steepening yield curve? The answer is financials, financials, financials, right? Specifically, banks that lend because they're going to borrow and pay you deposits on the short end.

20:19 And that borrowing amount is going to go lower and they're going to lend on the longer end. And that's probably going to be a fixed rate and that leverage and that dynamic is going to do well too. So between banks, utilities, some industrials, some technology, I think you could still do well and get diversified despite this very, very challenging situation I think we're having from a consumer standpoint. And I think that's why the market continues to do well. So on the alternatives and fixed income side, that's where I think things get really interesting, right? I think you need to be careful to go too long in duration because if the longer part of the curve rises due to inflation, you're going to get burned similar to how you might've gotten burned in 2022 as inflation reared its ugly head.

21:16 You also don't want to be too short because growth is changing. So what I think you might want is inflation protected assets, which are expensive. You might want to consider some other types of alternatives that might do well on the up and the down, but they're not going to set the world on fire. And you might want to at least look at certain other types of commodities that might benefit your portfolio. And that's not a recommendation. That's just something that I'm thinking about right now. Really interesting. That's great stuff. I wanted to go back to something.

21:56 We can come back and talk about the portfolio construction concept, the industries, and you did a nice job addressing some thoughts on both equities and fixed income. I wanted to go back for a second on when you were talking about student loans and the concern about delinquencies rising. Are we seeing that on other forms of consumer credit with credit cards and the like? Are we seeing pressure there too? We are seeing a little bit of pressure, particularly on auto loans, not on mortgages, a little bit in consumer revolving loans like credit cards.

22:37 But you're not seeing on mortgages, which is good. A lot of people have a fixed rate, low interest loan still. But it's very obvious when you look at student loans. First of all, in the New York Fed report, which is where I get this data, it has a chart and it doesn't help that the student loans is a red line. So it's very obvious to see. It shows that delinquencies and the defaults and it's a straight line up in recent months. I guess another way to think about the student loans is since they were artificially paused, they were actually stimulating the economy because people should have been paying at the same time.

23:28 Maybe that was part of the reason for that high level of inflation. It's another thing people, they didn't get the money, they got checked, but they didn't get money for their loans, but they didn't have to meet their obligations. So that was just even more of a stimulus. Excuse me. Well, I think there's another thing that I just want to throw into this. And then let's circle back to making sense of this a little bit, because this was a great structure and a great setup, Brian, in terms of thinking about as we go into the back end of the quarter and the end of the year, the last quarter of the year, sort of how do we think about positioning and so forth.

24:17 But I also hesitate to mention, because I know it's not something Brian's going to pay attention to really, but a lot of times people talk about seasonality of the market. And I know it's anecdotal, it's correlation, not causation. But there is that notion that September, October tend to be more volatile months of the market. And here we are at or near highs. And seasonally, we're still in that sell and may go away period before traditionally you relook at it as November as the time when the market is more poised to do well the next six months.

25:04 I just mentioned that just because I do think it's worth thinking about, not because of the credibility of this entirely, but just the notion of risk. If we look at things and say, oh, things are at a high, Brian, you've laid out a fundamentals picture for a variety of reasons why we might see markets begin to reassess their willingness for maybe the pricing they're paying. If things are going to slow, and that might imply profitability could slow. If we have a slowing economy, that might affect prices of the market.

25:44 So as a consumer, not only do you want to be thinking about the issues Brian's laid out in terms of positioning in your portfolio, but you may want to be thinking about, am I structured well? Am I tolerant as I look ahead for the risks that can come with the market? Inevitably, that's just the nature of investing. There's volatility. Do I have an allocation that fits my tolerance for that kind of positioning longer term? If not, now's a great time to re -examine, how much do I want to have in equities versus fixed income?

26:25 Maybe how much liquidity do I retain for the unforeseen? Think in terms of our buckets conversations that we have routinely. Jeff, you look like you're ready to add onto that theme. I was thinking about the time horizon in all this. When do you think you're going to need liquidities for these funds? Is it soon? Is it 20 years out? It's really individual. Right. And it makes a difference for how you think about, am I tolerant of these kinds of changes? And Brian, just one maybe change in direction, throw a last thing or two at you here. You know, people tend to invest through index funds very commonly today.

27:13 I think if you were to ask people over the last 10 years, indexed or managed, it's like, oh, I thought this was all solved. Didn't we decide indexing is the way to go? That kind of mindset. Right. This may be the kind of setup that speaks more to managed than indexed. Is that your thought as you look at this, given the notion that not every industry is going to be positioned the same way and how it's going to be affected by labor, interest rates, et cetera, AI changing dynamics?

27:55 I mean, that's a loaded question, and I could go on forever. I think good active management can add value. And I believe that because I've seen it. But I think that there are structural problems in the investment management industry that hold back many managers' performance. And I also think that there's nothing wrong with passive. I utilize both personally. I have about half of my money is actively managed, about half of my money is passively managed. And why?

28:37 Because the passively managed money is in the 401k. It's a rollover for my wife's 401k. And when you add it up, it's about half. But yeah, I think good active management can help and add a little bit of value, whether it's from good asset allocation or good stock selection. I think those are both opportunities to add value. I think when you look at managers that maybe aren't adding value, I think sometimes they're handcuffed. They have to a certain amount in each sector. They can't drift at all. They have to have a certain amount of names. So even if they have high conviction names that do really, really well, if they have 300 names, it's like a minuscule portion of their portfolio.

29:24 The alpha is non-existent. And then after the fee, you might be stuck behind. And that's only one example. Some small cap managers, for example, once they get to a certain market cap, they have to sell them. By definition, they have to sell their winners. There's a litany of problems like this that I think we as a group, as a team have actively tried to avoid. If we think it's a smart decision that can help make money under a reasonable amount of risk. I personally never felt too handcuffed doing anything. So I do think under the right circumstances, active is great.

30:06 And I'm happy that we're going to be able to be nimble throughout this scenario. But every scenario that we've done since I've been here for the last eight years, we've been fairly nimble. And I think that's been a good thing for us and our clients. And we can talk more about some of these issues in future episodes. Let's wrap it up here. So to recap some of those takeaways for investors, Brian, you were talking about inequities, things somehow connected to that AI theme can make a lot of sense. That's not only technology, but perhaps industrials, perhaps utilities, perhaps financials because of the interest rate dynamics.

30:50 Be careful of duration, but take advantage of that, as you call it, the swoosh and try to find that sweet spot, maybe some inflation protection and some alternatives, which could be a variety of things, long, short or commodities or whatever we might want to look into there. So really interesting takeaways. Thanks for being on with us for this episode. And if we can be a resource to you in the execution of your financial planning or portfolio management, don't hesitate to reach out to our team. Until next time, keep striving for something more.

31:51 866-771-8901. Or send us your questions to amr-info at wealthenhancement.com. You're listening to something more with Chris Boyd Financial Talk Show, Wealth Enhancement Advisory Services and Jay Christopher Boyd provide investment advice on an individual basis to clients only. Proper advice depends on a complete analysis of all facts and circumstances. The information given on this program is general financial comments and cannot be relied upon as pertaining to your specific situation. Wealth Enhancement Group cannot guarantee that using the information from this show will generate profits or ensure freedom from loss. Listeners should consult their own financial advisors or conduct their own due diligence before making any financial decisions.