Clefs & Accidentals: Wages, EMH, and more Wages

It’s been a pretty quiet year so far for Macrofugue.  The market and data have validated many of our views.

A little on investment philosophy….

We tend to start with a 60/40 portfolio as a foundation for this reason:


At 14.6% y/y with a -6.7% maximum drawdown, it’s tough to beat!  Even the professionals have a very difficult time with it.  On the best & brightest — hedge fund managers, from CXO Advisory:

  • Almost all funds exhibit outperformance based on stock picking, with one third statistically significant.
  • No hedge funds show statistically significant outperformance based on market timing.

And on their mutual fund counterparts:

Specifically, portfolio managers with a past high level of security selection (market timing) activity outperform (underperform) in the future

This is not to say that we do not deviate from this pattern – sometimes substantially.  But always very deliberately with the previous knowledge.

Wage growth as the lynchpin

We do a great deal of analysis on wage growth.  It’s the lynchpin for every discussion on inflation, and by proxy, many other things like interest rates and growth.

When we saw wage growth had moved sharply down in the latest Employment Situation release, it wasn’t entirely surprising – depending on which variables you look at.  Let’s first look at some previous samples:


In particular, we witness that wage growth declines even as the unemployment rate declines quite frequently.  This is actually to be expected — until the level of employment reaches or nears its previous peak, a decline in unemployment is generally hiring back the less specialised (and consequently less well-compensated) employees.  We theorised about this back in February of last year.

A different variable we look at, the sum of the 5s10s and 1s2s inverse US Treasury spreads, forecasts that this trend is likely to soon change:


In the past, there have been similar divergences near troughs in wage growth, and it has eventually resolved upwards.

Flipping arguments about real rates on their head

The traditional argument is that real rates describe a transfer of wealth from to or from savers.

However, I contrarily posit: rates net of nominal growth are a transfer of wealth, not to and from savers, but in fact to and from wage growth.

As evidence, I enter this graph:


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