2024 Q2 - Ken Entenmann

Welcome to Quarterly Market Insights, a special series part of CenterState CEO's podcast Talk CNY, presented by NBT Bank. This quarterly series will provide a data-driven economic analysis and how it could impact you and your business.

Welcome to Market Insights, a special series of CenterState CEO's podcast Talk CNY, presented by NBT Bank. I'm Andrew Fish, senior vice president of Member and Business Experience at CenterState CEO. In this quarterly series, we'll be talking with Ken Entenmann, Chief Investment Officer and Chief Economist of NBT Bank, where he'll be giving you updates on the markets and how it will impact you. On today's episode, Ken and I will be discussing what we're seeing so far in 2024, what to expect for the remainder of the year, how the housing market is impacting inflation, and the disruptive technology of artificial intelligence and how it's having an impact not only here in our regional economy, but globally as well. Well, welcome again, Ken. Thank you so much. Thrilled to have you here. As we do our check-in as the second quarter wraps and the third quarter begins, why don't we dive in and kind of talk about what we're seeing in the market today.

Well, as always, it's great to be here and yeah, I think it is a continuation of where we've been and it's a stark contrast to where we were a year, year and a half ago where everybody was imminently waiting for a recession. We talked about this the last time and it just hasn't happened. What is happening in the first half of this year is the economy is slowing a touch, which was widely expected. I mean the third and fourth quarter of last year's, GDP was quite strong and we expected a bit of a slowdown and the big question was whether it was slowing to a point where we had a recession, and so far we've avoided that. The first quarter GDP came in at around 1.3 forecasts are between one and a half and low twos, 2.2, not a recession, but it's slowing. Recent economic indicators for ISM manufacturing real estate has been struggling.

Retail sales just this morning was a little bit weaker than expected, so that slowdown is occurring, but it's unlikely we're going to enter a recession, which is a good thing. The other thing that is happening perhaps slower than the Federal Reserve would like is that inflation is starting to come down. And so that trend has been in place and it continues, but the big debate is whether we're going to have kind of an acceleration in that decline. It's been moving in the right direction, but very grudgingly and the CPI and PPI both came in a little bit lighter, so that was encouraging, but the absolute levels are still high enough that the Federal Reserve, where the market has concluded the should cut rates right now, all of the language coming out of the Federal Reserve, including Chairman Powell's press conference last week, all say that the fed's going to take their time.

And I find it a little interesting that the market is saying the Fed should cut, the Fed should cut. I believe that the 1970s still haunt the Fed where we had this kind of double dip recession environment, and I think the Fed scared to death of that and coming off of their, I think fair to say that they miss the transitory inflation story. Inflation proved to be much more stickier. I don't think they want to make two mistakes in a row, and I would argue that's going to make them more cautious in all of their language as it relates to rate cuts is more cautious. So the market is calling for a rate cut in September, the Fed's calling for maybe a rate cut in December and we're going to spend the summer kind of reconciling

It. Well, and I think it's interesting because the market seems to, while having a long view, has a short memory. Absolutely. And so certainly when the Feds are looking back and thinking about their choices, they tend to try and learn from their mistakes and the market's just not designed to do that. So I think we've talked before, we actually were talking at the end of last year about what we were going to see in terms of rate cuts this year, and I distinctly remember you saying maybe one and maybe at the end of the year. So it's evident that your advice was sound even though the market at that time was calling for four or five different cuts at that point. So September, I think we've talked about this before. We've got this major national event looming in November. And again with that look to the history, there's been a few rare occasions when the Fed has chosen to take any action on the rate leading up to an election.

And ironically, the market's calling for a rate cut. Historically, when the Fed does cut rates right before an election, it's typically bad for the incumbent because it means the economy is slow to a point where the Fed feels compelled to cut, which provides plenty of fodder for the other side to say, well, the economy's doing poorly, that's why the Fed has to cut rates. The perfect world is the economy has a fairly strong growth environment and you can cut because inflation is coming down. I still worry about inflation and the persistency of it. I do think a big part of the recent declines is gasoline prices. That is a testament to the productivity and the enhancement of technology when it comes to digging stuff out of the ground. It's really remarkable because from a regulatory standpoint, we're trying to disincentivize energy production or fossil fuel production specifically, yet they're producing more and more.

And if anything, there's an oversupply of oil and therefore the price of a barrel of oil have come down. And gasoline prices, which normally are spiking at this time of year because it's the summer travel season, prices have come down a little bit. They're still materially higher than they were three years ago, but they've come down and that had a big impact on retail sales this morning. And so the inflation story is not horrible, it's just not improving as fast as the market wants. And the Fed, I think because of their history and has the luxury, if things aren't horrible, I think the Fed has the luxury to be more patient than the market expects. And so I think the Fed is in the one cut and probably December, and it helps them avoid the minefield that's

changing

rates in the middle of a political season.

One of the things we'll have to put a pin in it and come back to it, we'll do a whole episode because fascinated by the whole supply and demand and pricing dynamics of the gasoline market and what you see on the price of oil side does or does not always translate to what you see at the pump, but that's for another conversation for another time. So we've got the election looming in terms of what might have some impact there both from the rates but also as it relates to the market and where we're going. What are some of the key indicators, some of the key numbers that we're looking for maybe in addition to, or especially because the environment we're in heading into the second half of the year.

So I think particularly as it relates to the political season, the unemployment rate is one of the big, so it's really unemployment and inflation, and that happens to be the two mandates of the Federal Reserve. Unemployment has ticked up a little bit to around 4%. At its low was three and a half or 3.5 and 3.6. So unemployment's ticked up a little bit, but not to the point where it's a concern. And one of the reasons why it's ticked up is that immigration has picked up, which we've talked in the, especially when as it relates to Micron locally, the need for high skilled computer programmers, engineers, that type of thing, that's going to be very much in demand for the Micron project. There's no way that the United States can fill that demand. So the fact that immigration is picking up is expanding the labor force, which...

Has some impact on the

unemployment rate, sure. So the fact that the unemployment rate has ticked up a little bit, it's at 4%, which is still historically very strong. Absolutely. So I think that will be a big, big driver, particularly as it relates to politics. But I think the big factor is inflation and it's still proving to be stickier than I think most people expected. And one of the interesting things about inflation is it was widely expected that inflation would come down rapidly because of shelter costs housing, and it's proven to be far more stickier. I believe it's because there is still a very big shortage of single family homes across the United States and people are starting to return to cities, certainly not to the level of pre covid, but people are starting to come into cities. You're starting to see major corporations in big cities requiring their people to come in some full-time, some four days a week. And so the rent that goes into is a major calculation factor for inflation was expected to come tumbling down and it just hasn't. So I think that's something that's going to be really critical in terms of where we advance, how we advance going forward with inflation.

You're absolutely right, and I think obviously this is something that's happening nationally, the issue of supply for housing and the cost of shelter and going up, but we have an accelerated issue here in central New York and there's no better indicator of that. Then this statistic came out since last we met, even though it was a statistic about January of this year, but from January 23 to January of 24, they did a survey of rate or percent increase in rent for a one bedroom apartment, and Syracuse was the number one city in the country in terms of the amount it went up, not in terms of dollars, but in terms of percent 22% increase year over year unsustainable frankly, even in an environment where we had such lower cost of living here traditionally, we're very rapidly going to change that dynamic if we continue on that. And it really comes down to an issue of supply.

And I do think the whole Micron project, if I can generalize it in that way, I think one of the things that we have going for us is that all of the municipalities seem to be in accordance with this. They're not fighting, and you can see it down the throughway and Malta where Global Foundries built, you just drive off of 80 and there's just condo projects and apartment houses, and I suspect that's going to happen, which is a fabulous thing for Central New York, but given the demographics of the nation writ large, I think the only way you're going to fix this is to grow out of it. There are two things kind of holding that back, and one of them is mortgage rates, which are really, really difficult or construction financing, all the rates are higher. Personally, I think this is a grudgingly difficult road to normal where people who might've financed the building of an apartment complex two, three years ago at sub 4% rates, now that rate is seven or eight and it's a different calculation, but seven or eight is more normal than the abnormal three or four.

So I think there's some rate shock in the mortgage market and the construction finance, but I think we'll get through that. We have to. There's just not enough housing. Therefore despite Syracuse having this unique Micron factor, it's true in every major city that there's still a dearth of single-family homes. And in my way of thinking, you have to build out of it, grow your way out of it, and build. And that's going to require some cooperation by regulators, whether it's local, municipal, county, state to get these projects up and running and hopefully it's going to result in we will get some lower interest rates that will help on the finance side.

Yeah, we've been doing a lot of work on the housing market here and we know that just kind of as a baseline and using very unscientific, very straight line growth numbers, we know that we need to be building about 2,500 units of housing in this market annually going forward for the next 20 years. And when you look back at the Syracuse MSA, the metropolitan statistical area for our listeners, that includes Oswego County, Onondaga County and Madison County. In 2021, there were 700 plus units permitted and built in 2022. Again, around 700 and some. In 2023, there were only 350. So the trend line there is not going the right direction. So we're almost talking about a factor of seven or eight times the number of units needing to be built. The good news is that we have a pipeline that has over 9,000 units in it.

Now, these are only projects that are conceptualized or proposed. There's only about 700 units or so that are actually in process of being built right now. But it really is that that mortgage rate, the cost of doing the project, the development cost of doing the project and the cost of money. And it is funny because the thing that's going to bring inflation down is maybe to grow out of it through building the homes. The thing that's preventing the homes from being built is the rates themselves, which won't come down until the inflation rate comes down. So it's a really fun game of chicken I think that we're playing, but you're absolutely right. It's a product of, for the better part of a decade we were seeing sub four rates on all of these projects for development, for capital improvements, for all these things. And I think there's probably just a need to recognize that that's not going to be our long-term opportunity. Yeah,

I think that's right. And I think for upstate New York or specifically central New York, I do think we have ample land. So it's not like we're landlocked, like a major New York City or a Boston where it's like love to build a building, but where, so we have that opportunity. I think we have opportunity for rehabbing a lot of the buildings in the downtown metro urban area. So I don't know. Neither of us know where rates are going to go, but I do think this kind of grudgingly difficult path to normal is occurring and that sticker shock eventually life moves on and you can wait a lifetime waiting for rates to go back to zero. They don't go to zero very often. That's not normal. Normal is kind of where we are. And you're absolutely right. You can see it in the 23 statistics where things slowed. I would call that sticker shock because you're used to financing a construction project at three or four and now it's seven or eight.

You're like, whoa, timeout. That definitely changes the math, the economics of a project. But unless you think rates are going back to three and I don't, you can't wait the rest of your life for that, you're going to be pretty idle. So you're going to have to bite the bullet. And I think the economy is starting to kind of figure that out. I think if rates go down and you can just see it in the last three weeks, the 10-year treasury has gone from four, six to four and a quarter, and you could just see mortgage applications already pick up in just the last two or three rates. So I think the market is very sensitive to that interest rate at this point. Not that so much that they think they're going back to three, but if they can get six or six and a quarter instead of seven, they're going to jump on it and hopefully there's some pent up demand there that's going to fuel things.

Yeah, it's funny. This is our sixth episode of these Quarterly Market Insights and I think four of the six we've talked about housing and the same different elements of it, but the same conversation, which is can't wait for the rates. You got to move whether you're a home buyer or a developer, and it's just basic supply and demand economics. So at some point, you see 22% increase in the cost of a one bedroom year over year increase. At some point the money that is going to be able to be generated by those units because of the increase in the cost or the increase in the rental rate is now going to make up for that difference of seeing three and a half percent on the project versus six and a half percent on the project. And so we'll get there. I'm hopeful that maybe the next time we have this conversation, or maybe by this time next year, we can be talking about the significant increase in starts of units that are being permitted in this community because we're going to have a big influx of construction workers coming in 2025 for this project and they're going to need a place to stay even if it's temporary.

And I think the last time we did this podcast, it wasn't official that the money was granted. Now it is. So you have a little bit better sense that this is going to happen. Funding is there, and I think if the people who are involved with those units, that gives them a little bit of a confidence boost to push 'em off the shelf and get 'em going. So I'd be optimistic that project's not going to work unless there is a substantial increase in housing. So I would be cautiously optimistic that we'll see

that. Anecdotally, we are having significantly more conversations here with both developers in the region and those from outside of the region on that issue. So I think you're right. I think we're going to start seeing some of that. And I mean we've talked about it before, but how we build and how we grow is going to be critical for achieving some of those things we want in terms of continuing to keep the cost of living low, working on issues of social and economic disparity between different populations within our region and creating those opportunities because you need to have a job opportunity and an economic opportunity to grow, but then you also need to ensure that you can be financially sound with your decisions around that job opportunity and own a home and grow wealth. And that's really what we're trying to do here is grow wealth within our region and create that access for people that haven't had it before.

So switching gears a little bit, but not really. We're going to kind of stay in the Micron theme. A lot of people I think don't have a real understanding or concept of what Micron does as a company. They know they make semiconductor and microchips and what really is driving this significant project for them. Of all of the semiconductor projects that have been announced in the United States when they complete this four fab project, it will be the largest of what has been proposed at a hundred billion dollars. They make data chips and they're in our phones and they're in our cars, and they are essentially producing a very tiny little microchip that stores a lot of data and data's really driving some interesting aspects of the economy. You and I have talked some of the things we think are maybe a little bit overvalued. Some of the things are continuing to progress maybe even faster than we thought, but a lot of times people will hear data and not understand or really get that that's the foundation for what everyone's talking about, which is artificial intelligence, AI. What are we seeing as it relates to AI in the market?

So I think AI is a fascinating topic, and when you go back over time and only do this in hindsight, but you identify those paradigm changing new technologies, not just 2.0 or three, something new that drives productivity and increased economic growth. So it's like the industrial revolution.

Everything

Talking the assembly line - the assembly line, commercial aviation railways to put railways were more efficient than horses and planes are more efficient. So you constantly have this evolution of technology and I think the marketplace, it's clear artificial intelligence is here, there's dangers to it and there's pros and cons to it, but it's here. I think from my perspective, and this is when I put my chief investment officer hat on instead of an economics, I worry that some things are priced there is going to be this incredible thing. So the degree of which it is. So when you look at artificial intelligence, the one thing that is absolutely necessary is you need microprocessor to process it and you need memory to store the data that you get. So a good example of where I think AI is going to have just an incredibly major impact is on drug manufacturing or drug research even, right?

So you think of you have this cancerous cell or this virus and how do you go and attack it? And you literally need to do millions of iterations of compounds being included and combined. In the past that was done manually by a bunch of scientists in their white suits with their test tubes. Now you can run those iterations in weeks or months instead of years or decades. So, good example of the acceleration of the productivity of at least that's the hope, but if you think about that, it's millions of iterations that data's got to be stored and it's got to be processed. So that is the driver now, Micron's in the memory chip part of it, which is a separate, there's others, but it's driving this hardware requirement now and Micron's kind of right in the sweet spot of that. So really interesting stuff.

And I think we've had just even recently, I think the marketplace has this tendency to make something much grander than potentially it is. So it doesn't take long. So if you think about the pc, the personal computer, it really wasn't until the internet came along and then the phone came along and it exploded. But the internet was around for years. It was kind of slowly making inroads and then it exploded. And I suppose I would think that's what's going to happen with artificial intelligence, but at a minimum you need more hardware. So you need more memory, you need more chips, you need, hopefully it's going to generate the need for upgrades of the current technology we have in our hands and our iPads and computers and cell phones, et cetera. So it really does have the potential to be that paradigm shifting technology. But I would go back to two or three years ago when the metaverse was hailed as the next great step, and there are some cool things about the metaverse, but it's proven not to be a paradigm-shifting thing.

And now all the hype is around AI. And the question is, is that going to be a paradigm shifting thing? I do think it has great potential just because of the ability to process data so much faster. But I don't know from an investment standpoint, is it something where I was talking to somebody today, just think about a weather app on your phone. Five years ago you called up the news and you listened to the 12 o'clock news to find out what the weather is. Now I get alerts on my phone saying it's going to rain in three minutes, really remarkable, requires a lot of data. Could I live without a weather app on my phone? I suppose I could, but so is it going to be just an additional app on my phone that I use and my searches are a little bit faster and more efficient, or is it going to be this paradigm-changing thing, that I think remains to be seen?

And I think there's a lot of companies that are priced like it's going to be this major paradigm. So I would ask investors to be a little bit cautious. Sometimes the reality doesn't meet the hype, but I think AI in general does have huge potential to be that paradigm, that next level. And using our drug manufacturing situation, it's easy to see how that's going to make things so much more productive. And if you think about economic growth and boil out all the Greek letters and formulas, it's how many people do you have working and what's their productivity and the potential to increase productivity is enormous for AI. And so it's going to be something that's here to stay that the full magnitude of it remains to be

seen. Yeah, it's interesting. As you were talking through that, I was thinking about the fact that we talked about assembly line and trains and then commercial aviation and a lot of those things were what I would call enablers, right? You are enabling new opportunities within existing markets. Markets meaning type of business, not necessarily geography. But then you think about things like electricity and the internet and the internet really along with the personal computer and worldwide web and some of those additional aspects and the telephone learning to run it on the lines. And so those two things, the electricity and the internet really were drivers, right? Drivers of entirely new markets. And I think the question right now is, which is AI going to be right? Is it going to be this great enabler, like you said, new app, it's going to make your searches faster, it's going to make research easier, it's going to change the way teachers teach and students learn and all those things. Or is it going to be a driver and create entirely new markets that we can't even understand what those would be today? And I hear what you're saying is that maybe investors are leaning in a little bit heavy on the latter on the driver's side as opposed to the enabler side.

And I think there, well, I'll take it a step further, even if it is a driver as opposed to just that extra app, the history of the world tells you that the leaders and the first movers are not necessarily the big winners. So as I think I've joked on this podcast before, when was the last time somebody logged into AOL? It was the first major player when it came to the internet. Now it's an afterthought, right? And the stock investors made a lot of money and then lost a lot of money. Same thing with commercial aviation. The airline industry as a whole, PAN AM, TWA, go through the list of bankrupt companies, it's clear that it changed the way the economy works, the way people vacation, businesses, all of that. So I do think AI, the productivity potential enhancement is enormous.

And so I do think it's a big deal. I just think you need to keep your feet on the ground. And historically, what we know is it takes a lot longer for the full impact. It's not an overnight sensation. And I think we're seeing that with AI where we can cite examples where it's clearly having an impact, but I think it's going to be a while for the average listener to say, wow, AI just changed my life. It's going to enhance it, but I don't know that it's going to change my daily routine materially in the next year or so. It may change my life because a new drug was found that solves, cures a disease I might have in three years, we'll say 30. It's long term, let's hope, right? So really powerful. But there's trade-offs too. And one of the things not only, but all of the things that, and I find it a curiosity with AI where it's branded as this next great thing.

The one thing AI has, and you can even tie cryptocurrency into this, it requires enormous amounts of energy. And so we've had this massive push for climate-friendly energy production. It is simply not keeping up with the growth in demand for energy. And therefore, even though we have more windmills and we have more solar farms, and the percent is going up a little bit, the overall pie is getting so much bigger and fossil fuels are still the only thing that can fill that need. And I'm a little curious as to why the demand for energy that AI requires hasn't become a factor.

Well, I will say that energy is a conversation that we're having here. Obviously Micron project and several others. We've got a huge economic development pipeline, and a lot of it is advanced manufacturing, which are high energy users, is a topic of conversation. In fact, I want to put a pin in it and say, we'll come back to that conversation in our Q3 update. Right? I look forward to talking with you about that the next time we meet and hopefully the listeners are looking forward to that too. Alright, Ken, thank you so much. Thanks for having me. It's great to be here. Thank you. Thank you for tuning in to Quarterly Market Insights, a special series part of CenterState CEO's podcast Talk CNY, presented by NBT Bank. Episodes are available on clickcny.com, and all major podcast platforms. After each episode, you can join us on Click, where we'll continue to talk about this topic and provide additional resources and links. In Click, you can listen to or watch every episode of Talk CNY. Click is CenterState CEO's digital chamber platform where our members connect, learn, and receive support from our staff. For new episode reminders, be sure to subscribe in your favorite podcast listening app. If you're enjoying our series, consider leaving a quick review or a five-star rating.