Striking Portfolio Balance with Gold Stocks (Holmes)

Sunday, December 18th, 2011

Striking Portfolio Balance with Gold Stocks

By Frank Holmes, CEO and Chief Investment Officer, U.S. Global Investors

It wasn’t a pretty week for gold prices. The eurozone’s epic endeavor to conquer its sovereign debt issues forced some institutional investors to liquidate profitable gold positions to meet a rising need for liquidity.

In addition, falling confidence in the euro and other global currencies pushed investors tumbling toward the relative safety of the U.S. dollar. As we outlined for you last week, the key phrase is “relative safety” because we know that it could only take a slight breeze to blow the dollar’s house down.

Back on August 22, I wrote that gold was due for a correction and that it would be a non-event to see a 10 percent drop in gold. I wrote, “This would actually be a healthy development for markets by shaking out the short-term speculators.”

This morning’s gold price of $1,590 is about 15 percent from the high, which is a little greater than predicted, but a non-event just the same. I believe the long-term story remains on solid ground.

In a report this week, Credit Suisse reiterated the bull market for gold is not over, saying, “We do not believe the key fundamental drivers of the [gold] bull market have dissipated. While there are risks, in our opinion gold is getting close to attractive levels for new longs to be initiated.”

Gold Stocks vs. the Federal Budget

This chart, which we’ve highlighted several times, shows the size of the surplus or deficit in the federal budget. When the federal government is spending more than it takes in, gold and gold stocks tend to outperform the broader market. It’s important to point out that it’s the political policies, not political parties, that drive this phenomenon. During the 1990s, when President Clinton was in office, there was a budget surplus and investors could earn more on Treasury bills (about 3 percent) than the inflationary rate (about 2 percent). This gave investors little incentive to embrace commodities such as gold, and prices hovered around $250 an ounce.

Since 2001, increased regulation in all aspects of life, negative real interest rates, welfare and entitlement expansion funded with increased deficit spending have created an imbalance in America’s economic system. It’s this disequilibrium between fiscal and monetary policies that drives gold to outperform in a country’s currency. The Federal Reserve capped interest rates near zero back in 2008 and the federal budget deficit ballooned to $1.4 trillion. In fact, both the deficit as a percentage of GDP (negative 11 percent) and federal government debt as a percentage of GDP (nearly 65 percent) are at the highest levels since 1950. This has helped fuel gold’s rise through $1,000 and $1,500 an ounce.

Striking Portfolio Balance with Gold Stocks

Gold stocks have historically ranked among some of the most volatile asset classes. Over any given one-year period, it is a non-event for gold stocks to move plus or minus 38 percent. This DNA of volatility is about three times that of gold bullion, which carries an annual volatility around 13 percent.

Despite this volatility, our research shows that investors can use gold stocks to enhance returns without adding risk to the portfolio.

In 1989, Wharton School finance professor Jeffrey Jaffe completed an academic study that illustrated the effects of portfolio diversification into gold stocks. Jaffe’s original study covered the period from September 1971, just after President Nixon ended convertibility between gold and the dollar, to June 1987.

Tags: Budget Surplus, Chief Investment Officer, Credit Suisse, Debt Issues, Eurozone, Federal Budget, Frank Holmes, Fundamental Drivers, Global Currencies, Gold Price, Gold Prices, gold stocks, Institutional Investors, liquidity, Political Policies, Relative Safety, Sovereign Debt, Speculators, Treasury Bills, U S Global Investors
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Time for a Pause (Wien)

Thursday, June 16th, 2011

Time for a Pause
by Byron Wien, Blackstone Group

June 2011

Uncertainty has finally caught up to the equity markets around the world and we shouldn’t be surprised. At the beginning of the year, most investors were optimistic about the outlook, partly as a result of the quantitative easing begun by the Federal Reserve in the fourth quarter of 2010. Much of the liquidity that poured into the system found its way into financial assets rather than the real economy. Even though a number of events that would be considered negative for equities took place in the first four months of the year, the indexes moved higher. The market was able to withstand the 9.0 (Richter scale) earthquake in Japan and the resultant tsunami, the Fukushima-Dai-ichi nuclear accident and related manufacturing disruptions, floods in Australia, severe winter weather in the United States, regime change in Egypt and Tunisia, civil war in Libya, a sharp rise in oil and other commodity prices, major credit problems in Greece and Portugal again casting doubt on the viability of the European Union and the euro, the possibility of a government shutdown as a result of hitting the debt ceiling in the U.S. and an inability of Congress to reach a compromise on cuts in the Federal budget.

Finally, however, the optimism began to wane. We have learned that the best time to buy stocks is when most investors are pessimistic. Points of extreme pessimism in terms of investor sentiment most recently occurred in March 2009 and August 2010, both important buying opportunities for U.S. stocks. As investor confidence improves and cash is employed, equities can have a sustained move. If investors are already positive, as they were at the beginning of 2011, stocks can still rise but it is likely that the energy of the market will dissipate and a correction will begin before too many months go by. The decline will be blamed on the factors that the market successfully plowed through during the upswing. The question then becomes: How vulnerable is the market and how far down will stocks go? Sentiment seems to be turning. Some survey-based indicators which were very optimistic (and therefore negative for the outlook) have shifted to neutral and the transaction-based Chicago Board Options Exchange put/call ratio is approaching a bearish reading which is favorable.

It is my view that the current market pullback was inevitable and is not indicative of a reversal of the positive move in equities that began last September. I still believe the basic underlying fundamentals are constructive. The U.S. economy grew 1.8% in real terms in the first quarter and I think forces are in place for real growth of 3% or more for the remainder of the year. There are three principal factors driving the growth: exports, capital spending and the consumer, and they are still in place, although perhaps not as robust as they were a few months earlier. The first quarter real gross domestic product report showed equal 1.5% contributions from the consumer and private investment. For the consumer, durable goods (primarily automobiles) and services made equal contributions of .7%; for private investment, equipment and software provided the largest share, much of it for productivity-improving devices. Net exports were a disappointment. Although exports were reasonably strong, the increase in the price of oil resulted in a small net loss for the category.

A number of observers are worried that the end of quantitative easing (QE2) will result in a sharp slowdown in the economy and a resultant market decline. While I believe the withdrawal of liquidity might contribute to the correction running its course, converting the optimism of the beginning of the year to concern or pessimism, I do not believe we are at the start of a prolonged market decline or the beginning of a recession. The negatives are well known: the rise in the price of oil has drained some consumer spending capacity; the slow decline in the unemployment rate has also deprived the economy of the buying power of more people finally at work again; the tightening of credit in the emerging markets to dampen virulent inflation has diminished demand for imports by those countries from the developed world; and uncertainties related to the viability of the European Union as a result of the possible default of sovereign credit in Greece, Portugal and Ireland have unsettled investors everywhere.

The turbulence in the Middle East and North Africa confused investors as well. While many cheered the coming of the Arab Spring, it is not clear that democracy will thrive under the new regimes. One thing we do know is that oil production in Libya has stopped and the world no longer has access to the 1.5 million barrels a day that were being produced there. Events in Europe, North Africa and the Middle East have driven investors looking for a low-risk place to put their money into United States Treasury securities. The yield on the 10-year note is approaching 3% as fear capital from everywhere floods into America. Concern about slower growth in the U.S. economy has created a “risk off” attitude among domestic investors as well.

While the negative factors are far from illusory, there are some positives to consider as well. We are finally beginning to get some better news about housing. New home sales rose in April according to a Commerce Department report. Most of the other housing-related data are still seriously negative, however. The overhang of houses with mortgages that are 90 days or more delinquent is several million. Partly as a result of this, the Case-Shiller index of property values in 20 cities is still depressed, and sales of existing homes are still declining modestly month-to-month, but I believe the housing industry is approaching a bottoming process. This is important because construction workers comprise a key component of those unemployed. Some improvement in housing starts over the next year would be a major positive for the economy.

The liquidity provided by the quantitative easing program of the Federal Reserve must be replaced for the economy to continue to expand. There is some evidence that this is happening. Bank loans and commercial paper issuance have been increasing over the past four months and commercial and industrial loans have been rising for six months. Clearly some business people have enough confidence in the future to begin borrowing again and some banks are willing to grant the loans to facilitate their needs.

The credit situation in Europe is clearly worsening and the real risk is that the commercial banks may be vulnerable if the weaker countries default on their sovereign debt. Greece is the most troubled, and the mid- teens yield on its 10-year paper and the high cost of its credit default swaps are signs that confidence in that country’s ability to meet its obligations has all but disappeared. It now appears that a “soft restructuring” is likely, which means that debt maturities will be extended. There can be no doubt that the financial condition of Greece, Portugal and Ireland is extremely weak and the political climate makes a major austerity program in these countries difficult to implement. I still believe the stronger countries – Germany, France and The Netherlands – have more to lose than to gain if the European Union (EU) dissolves and they will provide substantial transitional aid to the weaker members. Even if one or more of the smaller countries does go through a debt restructuring, I think the EU and the euro will survive. Right now I think time is being bought. If progress isn’t made in the next three years, more substantial changes will take place in the EU.

It appears that the manufacturing situation in Japan is improving. I spent a day in Tokyo in May and it is clear that business activity has slowed down. Traffic moves freely and Narita airport is almost ghostly as fewer travelers are passing through Japan. Industrial production in March was down 15.5% from April and the impact of the nuclear accident on automobile production both in Japan and the United States has been significant. Evidence is beginning to emerge, however, that manufacturing is returning to normal, but concerns about inadequate supplies of electrical power this summer are troubling many companies. Toyota plans to work weekends during the summer and take two weekdays off. Both non-manufacturing indexes and department store sales are improving, and there are growing expectations that manufacturing will approach normal levels during the summer. Japan is no longer a major contributor to world growth, but it is an important component supplier and a return to normal manufacturing output is an important development.

During the past few months there has been considerable focus on the inflation issue. This has been particularly pronounced in the developing markets where food and energy are 30% or more of their respective consumer price indexes. China and India have tried to address this problem through monetary policy and there is evidence that they have achieved some success, but the major improvement in the inflation outlook has come from the commodities themselves. The possibility of Qaddafi stepping down in Libya has been a factor in reducing crude prices, but I believe oil and agricultural commodities got ahead of the price that was demand-induced because of an abundance of financial speculators buying futures. Once the prices showed signs of topping, traders got out and commodities pulled back to levels closer to those created by normal demand, thus reducing inflation pressure. I continue to believe inflation will remain relatively modest in Europe and the United States because wages and house prices will not be showing significant increases. In the developing world we have probably seen the worst because I believe commodities have peaked for 2011.

Certainly one cloud hovering over the equity market is the prospect of an impasse on the $14.3 trillion debt ceiling in the United States. In my view a government shutdown would be a negative for both political parties. If the government was unable to send out benefit checks and pay its bills, and could only maintain essential services, the American public would lose confidence in the political system as a whole and the Republicans would not get credit for their fiscal discipline and the Democrats would not get credit for trying to continue support for those in distress. In the eleventh hour (perhaps August), some compromise will be reached, but the trade-off may be costly. At the end of last year, the Republicans approved an extension of unemployment benefits (which the Democrats wanted) in exchange for the extension of the Bush tax preferences, resulting in a bigger budget deficit this year and next. Who knows what the deal will be this time?

Tags: Blackstone Group, Byron Wien, Commodities, Commodity Prices, Crude Oil, Debt Ceiling, Disruptions, Earthquake In Japan, Federal Budget, Financial Assets, Floods In Australia, Fukushima, Government Shutdown, India, Investor Confidence, Investor Sentiment, Months Of The Year, Nuclear Accident, Pessimism, Regime Change, Richter Scale Earthquake, Upswing, Winter Weather
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Canada’s Demographic Time Bomb?

Sunday, April 3rd, 2011

Via Pension Pulse.

Paul Vieira of the National Post reports, Canada’s demographic time bomb (HT: Gary):

Lost in the political drama over the 2011 federal budget was a spending line item that starkly illustrates the fiscal squeeze posed by the aging population — an issue yet to be addressed during the 41st election campaign.

As laid out in the budget, government spending on elderly benefits is set to surge 30% from 2010-11 levels to 2015-16, with annual increases of between 4.9% and 5.8%, well above projected rates of Canadian economic growth.

Dig a bit deeper and the fiscal noose around Ottawa gets tighter. During the next five years it is expected the federal government, of whichever political stripe, will need to find an extra $2-billion each year either through program cuts or tax increases to finance payments through the Old Age Security and Guaranteed Income Supplement schemes. From 2015 to 2020, that figure climbs to $3-billion each and every year.

“That money has to come from somewhere,” says Kevin Milligan, economics professor at University of British Columbia, who did the shortfall calculations based on actuarial reports compiled by the Office of the Superintendent of Financial Institutions.

But there has been little talk about this during the first week of the campaign. Instead, Canadians have been promised roughly $4-billion in annual goodies through income splitting, education and day care.

“By emptying the fridge with all of these current promises, it is going to make it harder for any future finance minister,” Prof. Milligan says.

The aging population is among the big issues that policymakers must confront, as the labour force shrinks, income tax receipts slow, and the pressure builds on governments to fund health care and benefits for the elderly who are living longer and longer. From here on, analysts warn, the government’s budget-making process will incorporate annual program and spending reviews, such as the one proposed in the 2011 federal budget, to find the needed money to pay for the rising price tag for elderly benefits, drugs and doctors. Program cuts, privatizations and outsourcing of back-office operations are all likely to be on the table.

That’s just the beginning. There’s also the issue of unfunded pension and benefits liabilities governments face from the wave of retiring Baby Boomers from the public service. The C.D. Howe Institute, a Toronto think-tank, has warned the unfunded liability in the pension plan for federal public-service workers is actually $65-billion larger than what Ottawa has accounted for on its books.

Glen Hodgson, chief economist at the Conference Board of Canada, said the demographic shift represents a “game changer” for the Canadian economy, much like the soaring loonie has altered the industrial landscape, forcing companies that survive to ramp up capital spending and adjust production.

The greying of Canada means the country will go from a position of surplus labour to labour shortage.

“There is a huge debate coming,” Mr. Hodgson says. “Provincial governments are a little bit ahead of the game as they can see the consequences for health care. But at the federal level it hasn’t become an issue yet — but it is going to have to.”

He cited aggressive moves by Quebec, from spending cuts to a two-percentage-point jump in its provincial sales tax, aimed at balancing the budget in just over two years — faster than what the federal government is proposing. Demographics are a factor driving Quebec’s policy decisions, as projections indicate the province will be among the oldest in the industrialized world, with people 65 and older making up more than 25% of the population by 2031.

“Quebec knows that a revenue crunch is coming,” Mr. Hodgson said. “So now is the time to get back to balance because, if you don’t do it now, the province is going to be hard pressed to do it down the road.”

Under population scenarios developed by Statistics Canada, the Canadian population could exceed 40 million by 2036, with aging projected to “accelerate rapidly” as the entire Baby Boom generation turns 65 in this time frame. The data agency also warned that the number of senior citizens could more than double by 2031, outnumbering children for the first time.

In economic terms, this means slower potential economic growth in the years ahead, which will ultimately translate into slower growth in tax revenue for Ottawa — just as the provinces demand more in transfers to finance an already stretched health-care regime that has to tend to an increased elderly population.

Kevin Page, the parliamentary budget watchdog, has projected the economy’s potential output — the level of goods and services the economy can produce without triggering inflation pressures — will drop to 1.3% by 2020 from 2.1% in 2010 and 3.7% in 2000.

He has cited demographics as a key factor in sticking to his forecast for a $10-billion deficit in 2015, whereas Jim Flaherty, the Minister of Finance, expects a surplus.

In a paper published for Policy Options magazine, Christopher Ragan, economics professor at McGill University, said the Baby Boomers’ exit from the labour force would pose a “significant drag” on growth. Given population trends and assuming productivity growth of 1% to 2% a year, real GDP per capita is set to grow only 1% annually over the next three decades — half the pace recorded in the previous 40 years.

Such a scenario may explain why Bank of Canada officials, led by governor Mark Carney, have urged policymakers and the private sector to confront the country’s “abysmal” productivity record.

“The implications for government tax revenue are clear: in the absence of changes to the governments’ various tax rates, the slowing of the growth in per-capita income will lead to a slowing of Canadian governments’ per-capita tax revenue,” Mr. Ragan said.

Slowing revenue, meanwhile, is on a collision course with increased expenditures on health care and elderly benefits. Mr. Ragan’s calculates the increase in those costs between 2020 and 2040 as people age will be equivalent to 3.5% of Canada’s GDP on an annual basis — or $56-billion in today’s economy, or more than 10% of federal and provincial spending, combined.

“As population aging drives the increase in age-related spending, provinces will demand greater financial transfers from the federal government,” Mr. Ragan said. “Based on the past experience, these heightened demands will create significant political tensions, the resolution of which will depend on the personalities and the political landscape in the place at the time.”

That political battle will take shape when the federal government and the provinces, which are responsible for delivering medical services, begin renegotiating the health-care transfer deal that expires in 2014. The Canada Health Transfer is the single largest expense item on the government books, accounting for $27-billion this fiscal year and more than $30-billion by the time the federal-provincial deal runs out in 2014.

Under the last deal, negotiated in 2004, the provinces were guaranteed 6% annual increases in health transfers. The federal government has said there are no plans to cut transfer payments as part of its deficit-reduction effort, but experts suggest the increases in transfers may be limited to between 3% and 4%.

“What we have is a classic zero sum, in which the provinces, which are at the front-line of the demographic time bomb, will be seeking more money from the federal government, and the federal government seeking to reduce its liabilities,” said Joshua Hjartarson, policy director at the Mowat Centre, a Toronto think-tank.

His concern is that the future of health-care funding will garner little discussion on the election campaign, because of the difficult policy dilemma it raises. In addition, Mr. Hjartarson said, the political leaders may simply resort to the old debate about how much transfers should increase as opposed to looking at new and radical ideas to address the funding crunch that the aging population presents. Issues that should be up for discussion include possibly handing over a chunk of GST revenue to the provinces, and some form of “tax swap” that would give provinces additional capacity to raise revenue.

“It would be a shame if the election doesn’t begin to highlight the problems in the transfer system. If not, our heads are in the sands,” Mr. Hjartarson said.

Will the “greying of Canada” mean the country will suffer huge deficits as soon as 2015? I’m not so sure. When I read articles on “demographic time bombs,” I take them with a grain of salt. Why? First, more and more people are choosing to work past 65 years old. Why not? If they’re healthy enough to work, why retire early?

More importantly, it’s worth noting that Quebec’s recent budget introduced significant pension changes: larger penalties for workers who retire under age 65, but more generous pensions and tax breaks for those who continue working past that age (smart move). The province will also be hoping to collect from tax evaders. It has hired 1,000 more employees to crack down on such chronically problematic fields as illegal tobacco sales and the construction industry (when it comes to tax evasion, there are bigger fish to fry).

All this to say that while demographics will impact the country long-term, in the near-term, I’m more worried about bigger problems like Canada’s mortgage monster fueling the Canada bubble. When that pops — and it ultimately will burst — it will blow a massive hole in government revenues, forcing many Canadians to retire well past the age of 65.

***UPDATE***

Dan Braniff of CARP sent me these comments:

These scary numbers seem to ignore the reality that those over 50 hold 80% of the country’s wealth that is growing and subject to ever-increasing tax at all levels. Then there is the final tax of the estate.

The pundits seem to assume that seniors stop paying taxes, just using up air, food and water while blocking medical facilities and basking in government handouts.

At 80 I pay more tax than I ever did even in my final salary years.

How do these factors play in the projections of doom and gloom?

All excellent points that were not discussed in the article above.

Tags: Actuarial Reports, Aging Population, Canadian, Canadian Market, Demographic Time Bomb, Economics Professor, Elderly Benefits, Federal Budget, Fiscal Squeeze, Guaranteed Income Supplement, Income Splitting, Income Tax Receipts, Labour Force, Milligan, Next Five Years, Office Of The Superintendent, Office Of The Superintendent Of Financial Institutions, Old Age Security, Political Drama, Political Stripe, Superintendent Of Financial Institutions, University Of British Columbia
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Budget Deficits in Good Times … Yikes!

Tuesday, March 22nd, 2011

By Tom Bradley

March 21, 2011

When I was a stock analyst at Richardson Greenshields in the 1980’s, I was forced to spend more time analyzing the Federal Budget than I ever wanted to. Everyone in the research team had to determine how the Finance Minister’s words would affect the industries they covered. In my sectors (conglomerates and transportation), there was never any material impact, but I dutifully reviewed the budget items just in case there was a need to change my earnings estimates or recommendations.

Since that time, I’ve steered clear of reporting on budgets. They’re important to a lot of people, but rarely do they have an impact on the stock market. But as I read the articles leading up to this week’s statement, I can’t help but provide a little perspective.

Canada is running a significant deficit at a time when two of its most important industries are experiencing boom times. For natural resources and housing, two highly cyclical drivers of economic activity (and tax revenues), it’s about as good as it gets, and yet, the country is struggling to get its budget under control.

At a time when we should be taking advantage of our good fortune to prepare for the inevitable demographic challenge ahead (increased demand for healthcare) and less favourable economic trends, we’re being provided with a recession-like budget. So when we hear the politicians and media debating about the trees (program spending, election goodies), let’s not lose sight of the forest.

Tags: Boom Times, Budget Deficits, Budget Items, Canadian Market, Conglomerates, Earnings Estimates, Economic Activity, Economic Trends, Federal Budget, Finance Minister, Good Fortune, Good Times, March 21, Material Impact, Perspective Canada, Recession, Richardson Greenshields, Stock Analyst, Stock Market, Tax Revenues, Tom Bradley
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The Recession in Historical Context

Thursday, June 18th, 2009

How does the current economic and financial downturn match up to past contractions?

In an attempt to present matters in historical context, Paul Swartz of the Council on Foreign Relations recently published a chart book showing that the current economic environment has been more severe than a typical recession. He specifically highlights the following four conclusions:

- Financial markets have dramatically improved, but from an extremely low base. Rather than pricing in disaster, they anticipate tough times ahead. For example, the charts on the spread for AAA and BAA bonds show the credit market moving from unprecedented panic to a level of fear that is merely in keeping with the worst experiences since 1945.

- Real economy indicators show signs of stabilization. See in particular the charts on manufacturing sentiment, non-farm payrolls, oil prices, and car sales. Nonetheless, many of these indicators remain worse than anything hitherto experienced in the postwar period.

- The collapse in the federal government’s finances is unprecedented, raising questions about how the government deficit will be brought under control.

- By most measures, the current recession is far milder than the Great Depression. But the appendix shows that house prices have fallen much more sharply than in the 1930s.

The charts below plot current indicators (in red) against the average of all post-World War II recessions (blue). To facilitate comparison, the data are centered on the beginning of the recession (marked by “0″). The dotted lines represent the most severe and the mildest experiences in past cycles. The last few charts specifically compare the current downturn with the Great Depression.

The year-over-year fall in real gross domestic product (GDP) is now competing to be the worst in the postwar period.

The federal budget has deteriorated far more rapidly than in any past recession, in part due to the first economic stimulus and bank bailouts. The current stimulus implies an even larger and more prolonged deficit in the future.

Global trade collapsed in the fourth quarter of 2008 and first quarter of 2009 in a way never seen in the postwar era.

Unemployment initially increased at a rate consistent with past recessions. However, the latest data show the worst labor market in the postwar period.

The fall in nonfarm payroll shows rapid deterioration in the labor market. The deterioration has slowed, but will this improvement be enough to slow knock-on effects?

Industrial production (IP) held up well when the recession began but collapsed in the second half of 2008. The current collapse is creating a new postwar record.

A rise in oil prices is typical before the start of a recession, and a fall is typical as a recession proceeds. This time oil prices initially continued to rise after the onset of the recession. Conversely the recent fall has been larger than usual, even allowing for the rebound in the spring. The recent fall has dramatically changed the geopolitical position of oil exporters.

The ISM survey offers a forward-looking indicator of industrial production. A number above 50 in the ISM survey implies manufacturing growth whereas a number below 50 implies contraction.

Auto sales typically fall by 20% in a recession. This time around they have fallen by over 40%.

Consumer sentiment typically starts falling before the recession begins, but turns around soon after. However, pessimism seems particularly strong this time.

Most post-World War II recessions were preceded by a tightening of monetary policy. This one was not. Easing started sooner and happened faster than is typical. Although the Fed’s ammunition in nominal target rate cuts is gone, it has continued to ease in other ways.

The spread of investment-grade debt – a measure of the risk that high-quality corporate bonds will default – typically rises during a recession. The rise during the current cycle is unprecedented. The credit markets’ recent improvement still leaves spreads at historic highs.

The spread on BAA debt (the lowest investment grade rating) is an indicator of the risk that lower quality companies will default. The recent rise in the BAA spread is unprecedented. As the financial system has stabilized, the credit markets have improved, but the current implied default rates suggest a rough period for corporations.

Equity markets start to fall nearly eight months before a recession begins.
In this cycle, a fall in equity markets preceded the recession. However, the subsequent fall has been larger than normal, and the markets have not recovered on schedule.

The last few charts compare the current recession with the prewar average and the Great Depression.

The thick red line represents the current recession; the thin blue line, the postwar average; the thick green line, the Great Depression; the thin orange line, the prewar average.

Due to financial system deleveraging, the economy is enduring uncomfortably low inflation. The current recession looks more like a prewar recession than a postwar recession or the Great Depression.

Production in this cycle has collapsed relative to the postwar average, but is in line with the prewar average. The current collapse does not compare to that of the Great Depression.

Although the labor market has deteriorated more than at any time since World War II, it is much healthier than during the Great Depression.

US trade – the sum of exports and imports – has collapsed dramatically. But it will have to deteriorate further to compare to the Great Depression.

Government intervention is much less controversial than prior to World War II. Thus government stimulus occurred faster than was the case during the Great Depression. Government net financial investment (bank bailouts) has contributed a substantial portion of expenditures.

So far, equity market performance has lined up with the Great Depression.

One area in which this downturn has been far worse than the Great Depression has been in home prices.

Source: Paul Swartz, Quarterly Update: The Recession in Historical Context, Council on Foreign Relations, June 5, 2009.

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Tags: Contractions, Council On Foreign Relations, Dotted Lines, Downturn, Economic Environment, Economic Stimulus, Economy Indicators, Federal Budget, Government Deficit, Great Depression, Gross Domestic Product, Historical Context, House Prices, Non Farm Payrolls, oil, Oil Prices, Paul Swartz, Postwar Period, Recession, Recessions, World War Ii
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