U.S. Equity Markets Bracing for a “Melt-Up?” Seriously? (Colyer)

Wednesday, July 18th, 2012

by Scot Colyer, Advisors Asset Management

There are many indicators that we look for that tends to define cyclical market bottoms and give us signs of an upturn. Talking heads on TV often times are just talking their book. Recent investor lack of volume and record high cash balances can also point to a change toward higher market valuations. Every day I hear about the relative cheap valuations of U.S. equities. We know that valuations can stay depressed for years, even decades. Why would we be thinking that a potential melt-up might be about ready to happen? Remember, market timing is generally ineffective and we caution that trying to time the market can be dangerous. We do believe that cash is a long-term losing position as inflation will render its purchasing power crippled over time.

Why could we possibly be bullish on U.S. equities now? After all, haven’t you heard that the United States is slowing and likely going into a recession? Europe is melting down and it appears that LIBOR was being fixed by a number of large banks (which has been true for decades). Job creation is slowing and consumer confidence is lagging. We would point out that markets always focus on the crises of the day. We would note that banks and their earnings are coming in above estimates, showing continuing progress in decreasing delinquencies. Leading economic indicators are rising (emphasis on LEADING). Housing has turned up and record-low mortgage interest rates should propel pent-up consumption. Foreclosures are now being grabbed for cash. Look at the value of housing and housing-related stocks for proof. Finally, in all of history we have never had GLOBAL fiscal easing anywhere near the level we currently have. Most major developed and emerging economies are goosing their economies with cheap money. I would not underestimate the Fed or other central banks’ resolve here! We consider them a pretty reliable bid to support higher asset prices.

Finally, today it was reported that short interest on NYSE stocks have surpassed the September 2011 bottom. As many of you know, peaks in short selling often accompany cyclical market bottoms. We are now squarely in that category. When we analyze a number of indicators together, we believe there is a very high likelihood that equity prices may be moving much higher in the short term. Highly correlated income stories could potentially include investment in business development companies (private equity-like exposure), high yield and emerging markets.

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the disclosures webpage for additional risk information. For additional commentary or financial resources, please visit www.aamlive.com/blog.

Tags: Asset Price, Cash Balances, Central Banks, Cheap Money, Consumer Confidence, Cyclical Market, Delinquencies, Emerging Economies, Job Creation, Leading Economic Indicators, Libor, Low Mortgage, Market Bottoms, Market Timing, Market Valuations, Mortgage Interest Rates, Purchasing Power, Scot, Talking Heads, Upturn
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Is a U.S. Recession Looming?

Wednesday, July 11th, 2012

by Scott Colyer, Advisors Asset Management

In the third quarter of 2011 the Economic Cycle Research Institute (ECRI) called for a 100% chance of a U.S. recession. They have a stellar track record of calling U.S. economic cycles. We noted this in our communication to clients at the end of 2011 and again in the first quarter of 2012. We gave the call credence because of who was making the call. What we also noted is that the ECRI estimated the severity of any slowdown to be shallow and fairly short-lived. Most recessions in the U.S. are over even before they are positively identified. Other very reliable indicators did not flash a U.S. recession and did not support the ECRI assertion which included a very positively sloped U.S. yield curve (still 100-110 basis points between the 30’s and 10’s).

The ECRI is very well thought of as Morgan Stanley reversed their bullish call on the U.S. equity markets back in August of 2011 based on the same data. Months and months have gone by since these calls were made. It now appears that we have a slowing economy based on the trajectory change in job creation and other monitors. Europe woes are the blame of the day. Is this the 2011 recession coming in 2012? I am not sure but I doubt it makes much difference to us.

Normally, a slowing U.S. economy would prompt Central Banks to ease monetary policy. However, right now, not only the U.S. Federal Reserve (Fed) has the monetary policy pedal already to the metal. Likewise, the global economies are easing at record pace. The point here is the Fed, if faced with a recession, will certainly move to implement QE3. We believe this would be supportive of higher U.S. equity prices and lower bond yields. The bottom-line here is that whether we are seeing a recession or just a soft patch in the economy, our investment thesis remains the same. With monetary policy GLOBALLY being the easiest in history, we would expect future returns in the equity markets to be greater than high grade debt. Additional QE measures should goose hard asset prices and tend to weaken the dollar. Income assets will be what investors will seek as traditional assets have little yield. This situation will be supportive of the prices of income producing assets.

This commentary is for informational purposes only. All investments are subject to risk and past performance is no guarantee of future results. Please see the disclosures webpage for additional risk information. For additional commentary or financial resources, please visit www.aamlive.com/blog.

Copyright © Advisors Asset Management

Tags: Basis Points, Bond Yields, Central Banks, Colyer, Credence, Economic Cycle Research Institute, Economic Cycles, Ecri, Future Returns, Global Economies, Investment Thesis, Job Creation, Monetary Policy, Morgan Stanley, Recession, Recessions, Record Pace, Slowdown, Trajectory Change, Yield Curve
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ECB Warns Easy Money No Solution (Merk)

Friday, May 4th, 2012

by Axel Merk, Merk Funds

May 3, 2012

Axel Merk May 3, 2012

Central Banks around the world have been under pressure to cover shortfalls in fiscal policy. At his monthly press conference, European Central Bank (ECB) President Mario Draghi stuck to his guns, telling politicians to focus on structural reforms to stimulate growth, rather than raising hopes for more easy money from the ECB. Interest rates remain at 1%; the euro reacted positively to Draghi’s comments.

Pointing to the experience of how stagflation in the 1970s was overcome, Draghi points out structural reform, not increased spending, is the the proper course of action. Specifically, Draghi calls for: fiscal balances, fiscal stability and competitiveness. Having said that, the prepared introductory statement of the press conference mentions “growth” 13 times, stressing that “growth and growth potential in the euro area need to be enhanced by decisive structural reforms. In this context, facilitating entrepreneurial activities, the start-up of new firms and job creation is crucial. Policies aimed at enhancing competition in product markets and increasing the wage and employment adjustment capacity of firms will foster innovation, promote job creation and boost longer-term growth prospects. Reforms in these areas are particularly important for countries which have suffered significant losses in cost competitiveness and need to stimulate productivity and improve trade performance.”

Draghi also calls for a vision of how the Eurozone ought to look in a decade, so that such vision can be implemented. A fiscal compact, not a “transfer union” is the appropriate starting point of how fiscal sovereignty can be delegated over time to a central Eurozone authority. The press conference was ahead of this weekend’s national elections in France and Greece, as well as regional elections in Germany.

In our assessment, austerity is the easy part, structural reform is the tough part. With regard to monetary policy, Draghi was notably light. He shed cold water on the notion of re-activating the peripheral bond purchase program (Securities Markets Program, SMP). He also dampened expectations of a rate cut by emphasizing balanced inflation risks, as well as a gradual economic recovery, albeit with downside risks. He suggested the European banking sector is improving, not only visible in reduced intra-bank refinancing (repo) rates, but also apparent in an increase of the deposit base in peripheral Eurozone countries.

Curiously, just about all actions suggested by Draghi are really outside of the purview of the ECB. We may want to add a comment recently made by Bundesbank President Jens Weidmann: the higher cost of borrowing can also been seen as an encouragement to engage in reform. It appears that the ECB is in line with our view that the one language policy makers listen to is that of the bond market.

Please sign up for our newsletter to be informed as we discuss global dynamics and their impact on currencies.

Axel Merk
President and Chief Investment Officer, Merk Investments
Merk Investments, Manager of the Merk Funds

Tags: Austerity, Central Banks, Easy Money, Ecb Interest Rates, Ecb President, Elections In France, Elections In Germany, Employment Adjustment, Entrepreneurial Activities, Eurozone, Fiscal Policy, Fiscal Stability, Growth Prospects, Introductory Statement, Job Creation, National Elections, Product Markets, Regional Elections, stagflation, Trade Performance
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Is the Fed Promoting Recovery or Desperation? (Hussman)

Monday, April 9th, 2012

On Friday, the Department of Labor reported that March non-farm payrolls increased by 120,000, falling well short of consensus expectations in excess of 200,000. For our part, we continue to expect a deterioration in observable economic variables, with weakness that emerges gradually and then accelerates toward mid-year. On the payroll front, our present expectation is that April job creation will deteriorate toward zero or negative levels.

Immediately after the payroll number was released, CNBC shot out a news story titled “Disappointing Jobs Report Revives Talk of Fed Easing.” Of course it does, because this remains a market dependent on sugar. And with little doubt the Fed will eventually deliver it – perhaps following a market plunge of 25% or more – but with little doubt nonetheless, because like the indulgent parent of a spoiled toddler, the FOMC can’t stand to see Wall Street throw a tantrum without reaching for a lollipop.

If the Fed indeed steps in with an additional round of QE, a few distinctions may be helpful. First, regardless of Fed actions, and even in the past few years, the market has invariably suffered significant losses following the emergence of the “overvalued, overbought, overbullish, rising-yields” syndrome that we presently observe. In contrast, the main window where it has not paid to “fight the Fed,” so to speak, has been the period coming off of oversold lows. That’s primarily the window where financials, cyclicals, materials, and garbage stocks with highly leveraged balance sheets have outperformed. Regardless of the fact that QE has had no durable economic benefits (more on that below), and does little but to repeatedly lay fresh wallpaper over the rotting edifice that is the global banking system, the main effect of QE has been to provide temporary support for the most speculative corners of the financial market after they have been pummeled.

Strategically, then, we concede that there is some latitude to ease back on defensiveness between the point where QE induces an early improvement in market internals and an upturn in various trend-following indicators (coming off of a previously oversold condition), and the point where an “overvalued, overbought, overbullish, rising-yields” syndrome is established. But once that syndrome is established, it is unwise to ignore it, and a defensive stance becomes essential (as we saw separately in 2010 and 2011, not to mention at most major market tops over history). Meanwhile, it is unwise to believe that additional rounds of QE will do much to help the economy in any event, as its primary effect is merely to drive investors into speculative investments by starving them of safer yields.

There is a very well-defined theoretical and empirical relationship between the monetary base and targets like short-term interest rates and monetary velocity (see Sixteen Cents: Pushing the Unstable Limits of Monetary Policy), but investors should note that the response of the stock market and other financial assets to quantitative easing is far more based on superstition than on structure. We can observe, for example, that drowning the financial markets in zero-interest assets has tended to lower the yields (and therefore raise the prices) of higher-risk, longer-duration assets, but that response is dependent on a certain form of myopia. Specifically, investors either have to assume that they can safely speculate until some particular date arrives on the calendar and they can all take their profits simultaneously, or they have to ignore the tendency for low prospective long-term returns to go hand in hand with quite negative prospective intermediate-term returns. For that reason, any “QE indicator” we might develop (as several people have requested) would likely be spurious and not very robust going forward, even though one might be back-fitted to the data. A better approach, as noted above, is to take a signal from market action and trend-following measures, but emphatically to also impose several alternate exit criteria – including for example a deterioration of those measures, or the establishment of an overvalued, overbought, overbullish, rising-yields syndrome. I remain convinced that investors who simply have blind faith that QE is reliably bullish in and of itself, or can be trusted to limit losses, will have their heads handed to them.

How QE “works”

Keep in mind that the U.S. banking system has trillions of dollars sitting in idle deposits with the Fed already. Quantitative easing simply does not relieve any constraint that is binding on the economy. Rather, QE is a method by which the Fed hoards longer-duration, higher-yielding securities like U.S. Treasury bonds and replaces them with cash that bears zero interest. At every moment in time, somebody has to hold that paper. The only way for the holder to seek a higher return is to trade it for a more speculative asset, in which case whoever sells the speculative asset then has to hold the cash. The process stops when all speculative assets are finally priced so richly and precariously that the people holding the cash have no further incentive to chase the speculative assets, and are simply willing to hold idle, zero-interest cash balances.

Why does the Fed want this? Simple. Chairman Bernanke believes that by creating a bubble in speculative assets, people will “feel” wealthier and keep consuming – regardless of the fact that real incomes are stagnant and debt burdens are already intolerable, and despite the fact that there is extremely weak evidence for any such “wealth effect” in the historical record. Undoubtedly, it would be difficult for Bernanke to refrain from these reckless policies when everyone is crying “do something!” But the willingness to tolerate short-term criticism in the interest of long-term benefit is part of what separates leadership from cowardice.

Given the bubbling concerns among various FOMC members about inflation risk, the next round of QE is likely to be “sterilized.” Essentially, the Fed would buy Treasury bonds from banks, and would pay for them with newly created cash, but the Fed would then borrow those funds back from banks, holding them as idle deposits with the Federal Reserve. By definition, the additional “liquidity” created by a sterilized round of QE would not be available for new lending (as if there aren’t enough idle reserves in the banking system already). So again, the main goal is to increase the outstanding stock of zero- and low-interest assets in the economy, in order to lower the yields and increase the prices of more speculative investments.

Now, if you think carefully about this, you’ll recognize that the U.S. government is still running a deficit of more than 8% of GDP, so the Treasury will have to issue more than a trillion dollars of new debt in the coming year anyway. Given that banks already hold trillions of dollars in idle balances, the Treasury could have the identical effect of an additional round of QE simply by issuing a larger portion of the new debt as very short-term T-bills, which also yield next to nothing. So why bother doing this as “quantitative easing” when the Treasury could just change the maturity profile of the new debt all by itself?

Well, for one, the Treasury securities are issued on the open market. The Fed typically pre-announces which issues it will buy, allowing the banks that act as primary dealers to essentially front-run: buying the newly issued debt from the Treasury in expectation of getting a higher price from the Fed. So doing all of this as QE has the benefit of handing the banks a nice trading profit. Second, the Fed has an awful lot of Treasury debt on its balance sheet, which is leveraged about 50-to-1 against its own capital. By purchasing Treasury securities and creating zero-interest cash (or low-interest reserves), the Fed essentially earns a spread that can cover any shortfall it might experience if it is ever forced to unwind its position and sell any of those securities at a loss. It’s true that if the Fed earns any surplus interest, it has to go back to the Treasury, but the surplus rendered back to the Treasury is only what remains after a night on the town in the Fed’s balance sheet.

Finally, the reason for doing QE through the Fed (rather than simply changing the maturity profile of the new Treasury debt) is that Wall Street – at least – believes that the Emperor is actually wearing clothes. Despite the fact that the main effect of QE is to boost speculation and release brief bursts of pent-up demand, both which immediately soften when the policies are suspended, this recurring pattern is still unclear to many investors and analysts. As long as that delusion persists, we can expect the Fed to periodically exploit it.

Ignore that the side-effect of this delusion is the misallocation of capital toward speculative assets in the belief that the Fed has set a “put option” under the markets. Forget that savings are discouraged, bad lending decisions are rescued, incentives and economic signals are distorted, and the accumulation of productive capital is disabled. We have the most creative, entrepreneurial nation on the planet, but our policy makers are intent on preventing debt restructuring and misallocating scarce capital. As a result, they continue to compromise long-term growth in favor of temporary bouts of short-term speculation.

What about recent employment gains?

But wait. How can we say that quantitative easing has such weak effects on the economy when we’ve clearly enjoyed a significant amount of job creation since mid-2009? Isn’t that clear evidence that Fed policy is working?

Well, that depends on what one means by “working.”

Last week, we observed “Real income declined month-over-month in the latest report, which is very much at odds with the job creation figures unless that job creation reflects extraordinarily low-paying jobs. Real disposable income growth has now dropped to just 0.3% year-over-year, which is lower than the rate that is typically observed even in recessions.” It wasn’t quite clear what was going on until I read a comment by David Rosenberg, who noted that much of the recent growth in payrolls has been in “55 years and over” cohort. Suddenly, 2 and 2 became 4.

If you dig into the payroll data, the picture that emerges is breathtaking. Since the recession “ended” in June 2009, total non-farm payrolls in the U.S. have grown by 1.84 million jobs. However, if we look at workers 55 years of age and over, we find that employment in that group has increased by 2.96 million jobs. In contrast, employment among workers under age 55 has actually contracted by 1.12 million jobs. Even over the past year, the vast majority of job creation has been in the 55-and-over group, while employment has been sluggish for all other workers, and has already turned down.

For most of history prior to the late-1990′s, employment growth in the 55-and-over cohort was a fairly small and stable segment of total employment growth. Undoubtedly, part of the recent increase has simply been a change in the classification of existing workers as they’ve aged (1945 + 55 = 2000, so the we would have expected to see some gradual bulge in this bracket since 2000 due to aging baby boomers). But the shift is too large to be explained simply by reclassification. Something more troubling has been underway.

Beginning first with Alan Greenspan, and then with Ben Bernanke, the Fed has increasingly pursued policies of suppressing interest rates, even driving real interest rates to negative levels after inflation. Combine this with the bursting of two Fed-enabled (if not Fed-induced) bubbles – one in stocks and one in housing, and the over-55 cohort has suffered an assault on its financial security: a difficult trifecta that includes the loss of interest income, the loss of portfolio value, and the loss of home equity. All of these have combined to provoke a delay in retirement plans and a need for these individuals to re-enter the labor force.

In short, what we’ve observed in the employment figures is not recovery, but desperation. Having starved savers of interest income, and having repeatedly subjected investors to Fed-induced financial bubbles that create volatility without durable returns, the Fed has successfully provoked job growth of the obligatory, low-wage variety. Over the past year, the majority of this growth has been in the 55-and-over cohort, while growth has turned down among other workers. Meanwhile, overall labor force participation continues to fall as discouraged workers leave the labor force entirely, which is the primary reason the unemployment rate has declined. All of this reflects not health, but despair, and explains why real disposable income has grown by only 0.3% over the past year.

Economic Notes

It’s important to recognize that our concerns about the stock market here are independent of our economic concerns, in that the “Angry Army of Aunt Minnies” we’ve recently observed are associated with very negative average market outcomes regardless of economic conditions. Even in the past few years, the emergence of these conditions has invariably been followed by declines that have wiped out all of the intervening gains since the earliest signal was observed.

As noted above, even in the event of another round of quantitative easing, the particular window to ease back on a defensive position would be between the point where QE induces an improvement in market internals and an upturn in various trend-following indicators (coming off of a previously oversold condition), and the point where an “overvalued, overbought, overbullish, rising-yields” syndrome is established. To ignore the syndromes we observe at present, in the hope that the hope of QE will be sufficient to limit market risk, is a strategy that would not have been successful even in recent years.

Still, though our present market concerns are independent of economic concerns, they are also reinforced by those economic concerns. We’ve reviewed various lines of evidence, from leading indicators to “unobserved components models,” and I continue to view the coming weeks as a likely minefield of economic disappointments. The issue here remains the distinction between leading, coincident and lagging measures of the economy. As I’ve noted before, a tendency toward positive economic surprises over this period would improve the underlying economic state that we infer from observable data, but here and now, the most leading components remain clearly negative. The concerns are also clearly compounded by the uniform deterioration in economic measures in Europe, China and India, among other regions. The charts below convey the general situation.

Over the weekend, the New York Times published a good article (Some Dreary Forecasts from Recovery Skeptics) that summarized the concerns of a number of economic observers, placing Lakshman Achuthan of the ECRI and me into the classification of “perma-bears.” Actually, with respect to the economy, I’m pleased to be in good company, and don’t greatly object to the “perma-bear” label in that I continue to believe major underlying economic problems have merely been kicked down the road and remain unresolved (primarily an overhang of unserviceable debt, which continues to need restructuring, and which will leave the global economy prone to recurring crises until that happens).

I also periodically get the “perma-bear” label with respect to my views on the financial markets. While I do believe that stocks have been generally overvalued since the late-1990′s (a view that is supported by the predictably dismal overall total returns on stocks since that time), I do think that some observers misclassify the 2009-early 2010 period as being a reflection of our standard investment strategy instead of what it was – a period when we suspended risk taking until we were confident that we had adequately stress-tested our methods against Depression-era data. That may seem like a distinction without a difference, but the difference is that for most periods since 2000, our present investment methods would do very little differently than we actually did in practice (though there are of course a few moderate differences due to various refinements and ongoing research). The 2009-early 2010 period is distinct in that it is not at all indicative of the hedge position that can be expected of our strategy in future market cycles, even under identical conditions and evidence. The fact that we removed about 70% of our hedges in 2002 (when our projection for 10-year S&P 500 total returns was not much more compelling than what it is today), should be some evidence of that.

Financial markets fluctuate, and prospective returns change. We will undoubtedly have ample opportunities to accept financial risk in expectation of reasonable returns, and if history is any guide, those opportunities will emerge well before our economic problems are behind us. What concerns me here is the refusal of investors to even recognize those problems; the army of hostile syndromes we observe in both financial and economic data; the blind faith that simply changing the mix of Treasury debt and bank reserves can produce growth and put a floor under speculative assets; the near-complete denial of ongoing debt strains; and heavily bullish sentiment that Investors Intelligence correctly notes is now in “territory associated with market tops.”

Market Climate

As of last week, the Market Climate for stocks remained characterized by a hostile “overvalued, overbought, overbullish, rising-yields” syndrome, and a variety of other hostile syndromes that I’ve reviewed in recent comments. Strategic Growth and Strategic International Fund remain tightly hedged here. Strategic Dividend Value has a hedge equal to about 50% of the value of its holdings – its most hedged stance. Strategic Total Return continues to have a duration of just under 3 years, and a small percent of assets in utility shares and foreign currencies. We raised our exposure in precious metals shares to just over 4% on last week’s price weakness, but there too, our stance remains decidedly conservative at present.

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Tags: Balance Sheets, Banking System, Cnbc, Consensus Expectations, Cyclicals, Department Of Labor, Desperation, Economic Benefits, Economic Variables, Edifice, Fomc, Global Banking, Hussman, Job Creation, Lollipop, Lows, Market Plunge, Non Farm Payrolls, Payroll Number, Qe, Tantrum
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Paul Kasriel’s Parting Thoughts – Mary Matlin’s Economics

Friday, March 30th, 2012

Kasriel’s Parting Thoughts – Mary Matlin’s Economics

As many of you know, I will be retiring from The Northern Trust Company on April 30. In the few remaining days of my tenure, I will be sharing with you some of my parting thoughts with regard to economics as time permits and the spirit moves me. By the way, after April 30, my Northern Trust email address will disappear into the ether, but I hope I will not follow it there. If you feel the need to contact me after April 30, and I cannot imagine why you would, I have established a personal email address, which has gone live: econtrarian@gmail.com.

Now, on to Mary Matalin. I saw her on one of the cable news shows on Wednesday defending Republican presidential candidate Mitt Romney’s planned car “elevator” in his new La Jolla home in terms of job creation. Ms. Matalin argued that by installing this elevator, Romney would be creating new jobs for the economy. How might Bastiat, the 19th century French political economist, have reacted to Ms. Matalin’s argument? My suspicion is that he would have made a distinction between what Ms. Matalin “sees” and what is “unseen.” Ms. Matalin sees the additional workers manufacturing and installing the elevator. What she apparently does not see are the workers who otherwise would have been hired for some other unrelated project had Mr. Romney forgone the installation of the elevator and rather invested, or saved, these “elevator” funds. Ms. Matalin, a Republican partisan, appears to have bought into the Keynesian fallacy often trumpeted by Democratic (or is it Democrat?) partisans that an increase in saving implies less total spending in the economy and diminished job creation. If Mr. Romney chooses to forgo the installation of a car elevator in favor of, say, purchasing some additional financial assets, in effect, he is transferring some of his purchasing power to another entity – a business, another household or a governmental body – that has a greater urgency to spend currently than does Mr. Romney. So, although Mr. Romney would be hiring fewer workers to manufacture and install a car elevator, the recipient of Mr. Romney’s investment funds would be hiring additional workers to produce whatever they were purchasing. (This concept of transfer credit comes from the Austrian school of economics, whose pupils greatly admire Bastiat.)The only way Mr. Romney’s decision to forgo the installation of a car elevator would not lead to a creation of jobs is if Mr. Romney chose to increase his saving by holding more bank deposits and/or currency, in which case would result in a decline in the velocity of money.

So, boys and girls, like Bastiat, keep your eyes open. Try to see everything when analyzing economic issues. Ms. Matalin was not incorrect to argue that Mr. Romney’s decision to install a car elevator in his new abode would create new jobs. But what she apparently failed to see is that new jobs would have also been created if Mr. Romney had chosen to forgo the purchase of the car elevator and instead invested those funds. Increased saving in general does not result in decreased aggregate spending. Rather, it merely changes the composition of who is engaging in the new spending.

Copyright © Northern Trust

Tags: Cable News, Chief Economist, Elevator, Fallacy, Financial Assets, Job Creation, La Jolla, Mary Matalin, Mary Matlin, Mitt Romney, New Jobs, Northern Trust Company, Parting Thoughts, Partisan, Partisans, Paul Kasriel, Political Economist, Purchasing Power, Republican Presidential Candidate, Republican Presidential Candidate Mitt Romney
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TrimTabs Biderman: Is BLS Data Skewed?

Sunday, February 5th, 2012

The biggest headline for all financial media today is that the US economy added a much more than expected 243,000 jobs in January, and 446,000 jobs over the past two months. That is many more new jobs than our estimate of less than 50,000 for January and our estimate of 90,000 for December and January.

Our estimate of a slowly growing economy is based primarily upon daily income tax collections. Either there is something massively changed in the income tax collection world, or there is something very suspicious about today’s Bureau of Labor Statistics hugely positive number. We continue to check and recheck our analysis of income tax collections. We are aware that another service believes that incomes are growing faster than we do. So far we have not found any errors or discrepancies in our work, but if we do, we will let you know.

The BLS each month reports two data series, but only one jobs number is reported by the media. Actual jobs outstanding, not seasonally adjusted, are down 2.9 million over the past two months. It is only after seasonal adjustments – made at the sole discretion of the Bureau of Labor Statistics economists that 2.9 million less jobs gets translated into 446,000 new seasonally adjusted jobs for January and December.

No one I know has any idea as to how the BLS does this seasonal adjustment. BLS historic data is changed almost every month until the income tax returns for each year are available three years in arrears. In other words, the BLS currently has accurate data for 2008 and before.

I keep repeating that the BLS refuses to use the data embedded in income tax collections to be able to report real time jobs and wages. Why does it refuse? Could the reason it refuses to use real time data on jobs and incomes be because perhaps this jobs number is politically motivated? The entire world is looking at US job creation as a proxy on how well Obama is doing? Could the Obama administration be pressuring its economist employees to create the best possible new jobs number?

Obviously I am quite suspicious of the numbers that I see in today’s BLS press release. Remember most financial journalists and even stock market strategists do nothing more than rewrite government press releases. So do not expect very few others to question the good news.

For those of you who care, look at Table B-1, Total Nonfarm Employment in today’s BLS press release attached to this video on our blog site. Start with the non seasonally adjusted table that shows that in November 2011, there were 133.172 million actual jobs. Actual jobs dropped by 220,000 jobs in December and actual jobs dropped an additional 2.7 million in January. Only as a result of unknown seasonal adjustments, could the BLS report 243,000 new hires in January.

Yes, the labor market contracts during the winter and expands in the spring and summer. Could this number be manipulated? Of course it could. Is it? I don’t know.Am I the only suspicious soul out here? Hope not. Certainly feels lonely right now.

Charles Biderman
President & CEO
TrimTabs Investment Research

Tags: Accurate Data, Arrears, Bls Data, Bureau Of Labor, Bureau Of Labor Statistics, Discrepancies, Economist, Economists, Entire World, Income Tax Collections, Income Tax Returns, Job Creation, Jobs And Incomes, New Jobs, Real Time Data, Seasonal Adjustment, Seasonal Adjustments, Sole Discretion, Time Jobs, Wages
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James Paulsen: Investment Outlook (January 2012) – “Beware of Rising Confidence!”

Thursday, January 5th, 2012

Investor Alert – Beware of Rising Confidence!

For the first time in this recovery, general economic confidence seems poised to improve significantly— a trend which will likely dominate major investment themes throughout 2012. Investors should therefore consider the potential rewards and risks associated with a meaningful improvement in confidence.

Rising Confidence… Why Now?

While not a perfect relationship, Exhibit 1 shows change in the unemployment rate is a very important determinant of confidence. It overlays the Consumer Confidence Index (solid line) with the U.S. unemployment rate (dotted line, shown on an inverted scale). Confidence has not yet improved much in this recovery mostly because the unemployment rate remains stubbornly high.

This may finally be changing. Although still disappointingly slow, the pace of job creation is now sufficient to slowly but steadily lessen the unemployment rate. In 2010, private monthly job gains averaged slightly less than 100 thousand whereas in 2011 (through November) monthly job gains improved to 155 thousand. Following this slow progression, private monthly job gains during 2012 seem poised to average more than 200 thousand.

For the unemployment rate, something magical happens once job gains persist in the 150 to 200 thousand range—labor demand exceeds labor force growth producing a slow but steady fall in the unemployment rate. This may already be underway. In recent months, the unemployment rate has declined to its lowest level of the recovery at 8.6 percent. We expect the unemployment rate to decline further to between 7.5 and 8.0 percent by the end of this year. Using Exhibit 1 as a reference, such improvement in the labor market would be consistent with a Consumer Confidence Index (currently at about 65) of about 85!

If economic confidence in the U.S. recovery does finally embark on a slow but steady rise, what are the implications for investors in 2012? Specifically, what would a revival in confidence imply for bond, commodity, and equity investors?

Confidence and Treasury Yields?

Exhibit 2 overlays the Consumer Confidence Index with the “real” 10-year Treasury bond yield (10-year yield less the annual core consumer price inflation rate). Similar to the aftermath of the dot-com crisis, “fear” has proved the bond market’s best friend since 2007. In the last recovery between 2003 and 2007, the real Treasury bond yield oscillated between 2 and 3 percent. However, as confidence collapsed to record lows in early 2009, the real bond yield declined briefly below 0.5 percent. Real bond yields were quick to recover, however, once confidence bounced from its record low reached during the darkest days of the crisis in March 2009. Indeed, even though confidence improved only marginally, by early 2010, the 10-year real bond yield surged higher by almost 2.5 percent! In 2011, the U.S. economic slowdown and escalating European contagion concerns produced another “fear-based” collapse in the real 10- year Treasury bond yield. As we begin 2012, the dominance of fear is currently illustrated by Treasury investors willingly accepting a “negative” real 10-year Treasury yield.

Exhibit 2 highlights a growing potential risk for Treasury investors. Even though the real bond yield remains at its lowest level since the crisis began, confidence has bounced again in recent months. Something seems likely to give in the next few months. Either renewed confidence in the economic recovery is about to fade or Treasury yields are likely to suffer a significant rise.

Should economic confidence improve this year, the bond market is at risk for two reasons—decaying calamity fears and rising inflation fears. If a consensus agrees the U.S. economic recovery is sustainable and risk of an imminent calamity has diminished, Treasury investors would likely reestablish a normal 2 percent real bond yield (and with a current core inflation rate of about 2 percent, a 2 percent real bond yield implies a 4 percent 10-year Treasury yield—ouch!). However, if the economic recovery is perceived as sustainable, because both monetary and fiscal policies have been too accommodative in recent years, calamity fears would likely be quickly replaced by intensifying “inflation fears.” For these reasons, high-quality bond investors should be particularly concerned with the likelihood of a steady rise in economic confidence this year.

Confidence and Gold Investors?

Rising economic confidence would certainly be good for commodity investors. A sustainable economic recovery would raise commodity price prospects and also heighten inflation expectations. However, as suggested by Exhibit 3, gold may lag other commodity investments (note, the relative price of gold is shown on an inverted scale).

Tags: Consumer Confidence Index, Determinant, Dotted Line, Economic Confidence, Investment Outlook, Investment Themes, Investor, Investors, Job Creation, Meaningful Improvement, Pace, Relationship, Rewards, Slow Progression, Unemployment Rate
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“The Gear Year” (James Paulsen’s 2012 Outlook)

Friday, December 23rd, 2011

The Gear Year (James Paulsen’s 2012 Outlook)

by James Paulsen, Chief Investment Strategist, Wells Capital Management (Wells Fargo)

Although widely considered a “new normal,” the contemporary economic recovery is closely tracking the last two economic recoveries during 1991 and 2001. As we have illustrated in earlier missives (see EMP Updates dated May 4, 2011 and June 21, 2011), since the mid-1980s, the character and speed of U.S. economic recoveries have been significantly altered by a watershed decline in the growth of the U.S. labor force. For the third recovery in a row, the contemporary economic cycle, like both the 1991 and 2001 recoveries, has been a “slow-starter” with the revival in real GDP growth, job creation, and confidence all muted compared to pre-1985 economic recoveries. And, like the last two recoveries, many believe (and panic) the recovery is simply dysfunctional.

However, if the current recovery continues to mimic the last two recoveries, 2012 could prove a pivotal year. During both the 1991 and 2001 recoveries, “year three” represented a “Gear Year”! Not a year when real GDP growth surged, but in both cases “the year” when cultural mindsets (among leaders, businesses, consumers, and investors) finally accepted the economic recovery was improving and was sustainable. That is, after two years of intense debate and generalized worries, year three proved the year when most finally agreed the recovery had finally “Geared.”

Will 2012 finally prove the “Gear Year” for the current recovery? If so, what are the implications for the economy and the financial markets in the coming year?

Yet Another Delayed Recovery?

The sluggish pace of the current recovery has been a constant source of frustration and has kept anxieties surrounding the economy persistently elevated. Chief among the concerns have been a lack of any real improvement in the unemployment rate or in economic confidence. These same concerns were also predominant during the first couple years of the last two recoveries.

Exhibit 1 shows the U.S. unemployment rate and the consumer confidence index since the 1960s. Shaded areas represent recessions. Prior to the mid-1980s, once an economic recovery began, both the unemployment rate and consumer confidence would improve almost immediately. However, beginning with the 1991 recovery and now obvious for the third recovery in a row, the unemployment rate and confidence have actually worsened during the first couple years of recoveries. For the last 25 years, significantly delayed recoveries in job creation and confidence have become the norm. Consequently, panicky attitudes surrounding whether a recovery is working and whether it’s sustainable have also become commonplace.

Exhibit 2 illustrates two media clips—one written about two years into the 1991 recovery and one written about two years into the 2001 recovery—both which show a very similar cultural mindset characterized by widespread anxieties surrounding the economy existed at this point during the last two recoveries. Either of these articles could easily appear in today’s morning newspaper and fit perfectly with accompanying stories. Many believe the current “disappointing” recovery is a “new” normal. It stands out as uniquely substandard in most minds. However, widespread angst during the first two years of economic recoveries has become “normal” in this country during the last quarter-century!

Exhibit 1

Exhibit 2

Tracking Previous Disappointing/Delayed Recoveries!

Exhibit 3 shows just how closely two of the most important metrics of the economy—real GDP growth and job creation—are tracking the average of the last two recoveries. Through the first nine quarters of this recovery, the cumulative gain in real GDP is slightly less than its average gain during the first nine quarters of the last two recoveries. However, its pattern throughout the recovery clearly resembles the last two recoveries. Indeed, during the first six quarters, the current recovery was usually slightly stronger than the average of the 1991/2001 recoveries. Similarly, during the first 29 months of this recovery, the cumulative gain in total job creation has been almost identical to the average gain at the same point during the last two recoveries. Moreover, the total gain in private job creation so far in this recovery is notably better than the average during the 1991/2001 recoveries.

Tags: Anxieties, Chief Investment Strategist, Economic Confidence, Economic Cycle, Economic Recovery, Financial Markets, GDP, GDP Growth, Intense Debate, Job Creation, June 21, Mid 1980s, Mindsets, Real Gdp, Slow Starter, Sluggish Pace, Source Of Frustration, Unemployment Rate, Wells Capital Management, Wells Fargo
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Emerging Markets Cheat Sheet (September 26, 2011)

Saturday, September 24th, 2011

Emerging Markets Cheat Sheet (September 26, 2011)

Strengths

• Hong Kong’s unemployment rate dropped to 3.2 percent in August, a substantial improvement from 3.4 percent in July and exceeding a previous trough of 3.3 percent during the first half of 2008, as businesses remained optimistic and job creation outpaced labor force additions.
• South Korea’s unemployment rate fell to a three-year low of 3.1 percent in August from 3.3 percent in July, thanks to sustained job growth in service sectors less affected by external demand uncertainties.
• Thailand’s August exports rose 31.1 percent from a year earlier, higher than expected, thanks to increasing shipments of agricultural products, including rice and rubber, with limited impact, so far, from the slowdown in the U.S. and Europe.
• Sales of Turkish white goods are up 21 percent in the first eight months of 2011 over the previous year and may reach six million units, reported Haberturk. The domestic market for products such as refrigerators, washing machines and dishwashers grew more than expected, according to the Turkish white goods association.

Weaknesses

• Taiwan’s August export orders rose by a slower-than-expected 5.3 percent year-over-year, decelerating from 11.1 percent in July and the slowest in 22 months, led by weakening technology orders including LCDs, semiconductors, and batteries. Consistent with decelerating exports, August industrial production rose only 3.9 percent year-over-year, slower than expected.
• The HSBC China Flash Manufacturing Purchasing Managers Index (PMI) declined further to 49.4 in September from 49.9 in August, forecasting continued contraction in activity at small- and medium-sized companies in China with both export orders and output levels easing as a result of domestic policy tightening and uncertainty in U.S. and European demand.
• Asian currencies slumped by 4.3 percent on average so far this month, heading for the biggest monthly loss since December 1997, led by the South Korean won and the Indonesian rupiah, as European investors with mounting balance sheet problems continued to redeem out of emerging market bonds and equities.
• Russian oil and gas companies should make $94 billion this year, more than twice Exxon’s expected profits of $46 billion. Yet the entire Russian oil and gas sector has a market cap less than that of Exxon. At the peak of its market capitalization in 2007, Gazprom alone had surpassed Exxon.

Opportunities

• The Philippines market has managed to outperform the rest of the Asian markets by about 8 percent this year to date, as its smaller foreign investor base made it less vulnerable to profit-taking by crisis-stricken Europeans. Growing revenues from multinational outsourcing and accelerating domestic bank lending could presage a multi-year credit and investment cycle much like what Indonesia has enjoyed in the last five years.

• S&P raised Turkey’s local currency rating to investment grade, and affirmed the foreign currency sovereign rating at BB with a positive outlook. Sovereign credit default swaps (CDS) are low relative to higher-rated countries, indicating that agencies are still behind the curve. The rating upgrade will be positive for the banking sector, according to Wood research.

Threats

• Dedicated equity fund outflows from Emerging Asia have reached $13.6 billion in total so far this year, the largest outflow since 2008’s $25.3 billion. In addition, fund flows for Asian ETFs have turned negative year-to-date, versus consecutive positive flows for eight years in a row. Intermittent negative news out of Europe may weigh on already fragile investor sentiment and encourage more redemptions out of Asia.

• A standoff on gas tariffs threatens an IMF loan to Ukraine. While the IMF reiterated that a sharp increase in domestic gas tariffs was a pre-condition for completion of the second review and a further tranche of funding, the Ukrainian authorities do not intend to raise gas tariffs, and are actively seeking other sources of funding.

Tags: Agricultural Products, Asian Currencies, Bonds, Contraction, Dishwashers, Eight Months, Emerging Markets, Europe Sales, Export Orders, Hsbc, Job Creation, Medium Sized Companies, Outlook, Previous Year, Purchasing Managers Index, Refrigerators, Service Sectors, South Korea, Substantial Improvement, Unemployment Rate, Washing Machines, White Goods
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The Economy and Bond Market Cheat Sheet (September 19, 2011)

Sunday, September 18th, 2011

The Economy and Bond Market Cheat Sheet (September 19, 2011)

Bond yields rose this week as crisis was averted in Europe. The French, Germans and Greeks were able to agree that a Greek euro exit was unthinkable. This calmed the market, which was bracing for a potential Greek default.

While the U.S. is not immune from what is going on in Europe, America appears much further along in dealing with the fundamental issues afflicting Europe today. One hopeful sign is the Conference Board Index of Leading Economic Indicators, commonly known as the LEI. As can be seen in the chart below, on a year-over-year basis, the LEI remains high, indicating reasonably strong economic growth in the next six months.

The LEI has historically been a good predictor of economic growth. The index deteriorated in 2000, well ahead of the recession that began in 2001. In 2007 and early 2008, the index declined before the global financial crisis and associated recession began.

One other factor confirming the strength in LEI is the number of companies in the S&P Composite 1500 Index with year-over-year revenues of more than 10 percent. Currently there are 705, almost half of the S&P 1500, which is very impressive in a slow growth environment. At the bottom of the cycle in late 2009, only 179 companies were growing this fast.

The U.S. economy continues to produce dynamic growth companies which are the driving force behind economic growth and job creation. While the current environment has been difficult, the future economic situation appears to be better than most people will give it credit for.

Strengths

• Industrial production rose a better-than-expected 0.2 percent in August.
• Sentiment among Japanese manufacturers bounced back from depressed levels earlier in the year.
• The University of Michigan Confidence Index rose in September, bouncing off very low levels in August.

Weaknesses

• Initial jobless claims rose to 428,000 in the week ended September 10, indicating no relief on the job front.
• Retail sales for August were disappointing remaining unchanged from July as consumers remain cautious.
• U.S. GDP forecasts are being revised lower as global growth has been disappointing.

Opportunities

• With the economy weak and concerns brewing about an additional financial crisis, the Federal Reserve will remain accommodative for some time and bonds appear well supported in the current environment.

Threats

• There is a crisis of confidence in world leaders at the moment and the potential for another financial crisis is rising.

Tags: Board Index, Bond Market, Bond Yields, Bonds, Cheat Sheet, Confidence Index, Depressed Levels, Driving Force, Dynamic Growth, Economic Situation, Fundamental Issues, Global Financial Crisis, Growth Environment, Hopeful Sign, Index Of Leading Economic Indicators, Initial Jobless Claims, Japanese Manufacturers, Job Creation, Leading Economic Indicators, Recession, University Of Michigan Confidence
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