Posts Tagged ‘Nber’
Friday, July 20th, 2012
by Guy Lerner, The Technical Take
A real time recession indicator constructed from a composite of leading economic indicators, high frequency economic data, and SP500 pricing model continues to suggest that the US economy is NOT in recession.
This composite indicator utilizes data from the Economic Cycle Research Institute (WLI, LEI), the Philadelphia Federal Reserve (Aruoba-Diebold-Scotti Business Conditions Index), and the Chicago Federal Reserve (Chicago Fed National Activity Index). Furthermore, two SP500 price models (one proprietary and one not) are monitored. Earlier in the month, the data from the regional Federal Reserves and the ECRI were soft, but collectively they did NOT add up to a recession. In addition, the priced based models are far from confirming a recession.
Another model that I have developed is based upon SP500 earnings. In this case, I am looking at the SP500 price to earnings ratio. Earnings are normalized over the past 5 years. I am looking for statistically significant extreme readings in the PE ratio. These are identified by the black dots in figure 1, a weekly chart of the SP500. The indicator in the lower panel is an analogue representation of past recessionary periods as determined by the National Bureau of Economic Research (NBER). When the value is depressed, the economy is in recession.
Figure 1. SP500/ weekly
What I have found, over the past 50 years of data, is that these extreme readings in the PE ratio typically occur near market tops as earnings begin to falter. Extreme readings can occur at other times, especially when the market is under stress as in 1987 or 1998, but it is a breakdown in the trend in earnings that coincides with the onset of a recession. These are identified by the red vertical bars in figure 1.
As you can see in figure 1, the breakdown in earnings correctly anticipated the recessions in 2008 and 2001. Going back to 1969, there have been 7 recessions as defined by NBER criteria, and 6 out of 7 were correctly identified by this methodology. The lone miss was in the 1980 recession, but then again, this was a very short recessionary period where prices on the SP500 lost little ground during that time. In addition, there was a false positive in 1977 where there was no recession but the SP500 lost about 10% before bottoming. The 1969 to 1981 period is shown in figure 2.
Figure 2. SP500/ weekly
Returning to figure 1 and our current situation, it would take a close below the 1200 level on the SP500 before this model would indicate the onset of a recession. In addition, our real time recession indicator continues to show that a recession is not likely. Lastly, getting the economic headwinds correct is important, but this doesn’t change my contention that the price action is more consistent with a market top as opposed to a launching pad to a new bull market.
Tags: Activity Index, Business Conditions, Chicago Fed, Composite Indicator, Diebold, Economic Cycle Research Institute, Ecri, Federal Reserves, Guy Lerner, Leading Economic Indicators, Market Tops, National Bureau Of Economic Research, Nber, Pe Ratio, Price To Earnings Ratio, Pricing Model, Recessions, Scotti, Vertical Bars, Wli
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Case for US and Global Recession Right Here, Right Now; Recognizing the Limits of Madness; Permabears?
Wednesday, July 11th, 2012
There is a big difference between making a claim the economy is in recession from a claim the economy is headed for one.
Case for a Global Recession
I think the entire global economy is in recession and said so on July 6, 2012 in Plunging New Orders Suggest Global Recession Has Arrived
However, we need to define the term “recession”
Contrary to popular myth, recession does not mean two consecutive quarters of economic contraction. Rather, two consecutive quarters of economic contraction is a sufficient, but not necessary condition.
In the US, the NBER is the official designator of recession start and end points. Many recessions have started with GDP still growing.
The “Conditions for Global Recession” are even looser. “The International Monetary Fund (IMF) considers a global recession as a period where gross domestic product (GDP) growth is at 3% or less. In addition to that, the IMF looks at declines in real per-capita world GDP along with several global macroeconomic factors before confirming a global recession.”
Given current conditions are what one would expect from outright stagnation (if not worse), I am confident a global recession has begun.
What About a US Recession?
On June 21, I gave 12 Reasons US Recession Has Arrived (Or Will Shortly).
Tipping the Balance to Now (Not Shortly)
- The Third Consecutive Weak Payroll Report
- The pending Global Collapse In Auto Sales
- Plunge in China Import Growth (For discussion see China Import Growth Plunges, Trade Surplus Hits 3-Year High; Will US Response Be Protectionism? Is China Headed For a Deflationary Shock?)
That is enough for me. And I am not the only one to feel that way.
ECRI’s Achuthan: “I Think We’re in a Recession Already”
Link if video does not play: ECRI’s Achuthan Says U.S. Economy Is in Recession
Partial Transcript of Video
Achuthan on whether he can reaffirm his recession call from last year:
“Yeah…I think a lot of people forget what our call was. What we said back in December was that the most likely start date for the recession would be in Q1 and if not then, by the middle of 2012. I’m here to reaffirm that. I think we’re in a recession. I think we’re in a recession already. As I said back there, it is very rare that you know you’re going into recession when you’re going into recession. It often takes some big hit on top of the head. In the last recession, it took Lehman to wake people up and the recession before, it took 9/11.”
Those are exactly the kinds of things that irritate me about the ECRI. The fact of the matter is Achuthan was calling for a recession in September, not December, and not June.
For details, please see my September 30, 2011 post ECRI Calls Recession Based on “Contagion in Forward Indicators”; Just How Timely is the Call?
Tom Keen: “Single Sentence, why recession now”
ECRI’s Lakshman Achuthan: “Contagion in Forward-Looking Indicators”
That link clearly shows I thought a recession was imminent as well. Those are the facts. It is silly to try and hide them.
Yet, in December (after economic data firmed), Achuthan moved the date forward to June, wanting another 6 months to be proven correct.
My question in September “Just How Timely is the Call?” was a good one. The ECRI has been both very early and very late. Far from the perfect track record they claim.
That my friends is the nature of making predictions. No one is perfect, not me, not Achuthan, not anyone, and it is very foolish to pretend otherwise.
Actually, I have no problem at all with Achuthan moving the date forward. Conditions change. My problem, is revisionist history that makes it appear as if a recession call in September was a recession call for June (made in December).
All this nonsense goes away the moment Achuthan admits the ECRI does not have a perfect track record.
That said, I think Achuthan is now correct. However, I thought so in September. So be it. I was wrong. The solution when you were wrong is easy, simply say you were wrong.
The Other Extreme “Recession is Not Imminent”
Please consider the other extreme, Recession is Not Imminent by Dwaine van Vuuren.
Among the bearish voices I most respect is John Hussman, whose work I read regularly. He is thorough and quantitatively rigorous. Whenever I am convinced there will be no recession, I temper my enthusiasm by re-reading his articles to make sure I maintain a balanced view. One day he will be right and I will be wrong, but at least I won’t be blindsided.
But the data don’t show catastrophe. Looking at the Leading SuperIndex, we are a bit worse off than last summer and the summer before that. We just put in a leading SuperIndex peak on April 13 (10 days after the SP-500 peak) that is lower than the prior two peaks. This slowdown, if not checked in time, may well be the one that pushes us into recession. But even that worst-case scenario is still three to four months away, according to the SuperIndex recession-path projections in our regular weekly report.
Emphasis in italics added.
I disagree. The global data is an outright catastrophe. Moreover, the jobs reports in the US and the US ISM manufacturing numbers are a catastrophe as well.
I am amused by van Vuuren’s statement “at least I won’t be blindsided”. I suggest he already is.
“We Have Reached the Point that Delineates an Expansion from a New Recession”
John Hussman asks What if the Fed Throws a QE3 and Nobody Comes?
With regard to the economy, I noted two weeks ago that the leading evidence pointed to a further weakening in employment, with an abrupt dropoff in industrial production and new orders.
Mike Shedlock reviews the litany of awful figures we’ve seen since then, focusing on the new orders component of global purchasing managers indices: U.S. manufacturing new orders and export orders plunging from expansion to contraction, Eurozone new export orders plunging (only orders from Greece fell at a faster rate than those of Germany), and an accelerating decline in new orders in both China and Japan.
Recall that the NBER often looks for “a well-defined peak or trough in real sales or industrial production” to help determine the specific peak or trough date of an expansion or recession. From that standpoint, the sharp and abrupt decline we’re seeing in new orders is a short-leading precursor of output. As the chart below of global output suggests, I continue to believe that we have reached the point that delineates an expansion from a new recession.
On the employment front, Friday’s disappointing report of 80,000 jobs created in June may be looked on longingly within a few months, as we continue to expect the employment figures to turn negative shortly. That said, it remains important to focus on the joint action of numerous data points, rather than choosing a single figure as an acid test. I noted last week in Enter, the Blindside Recession, GDP and employment figures are subject to substantial revision.
Lakshman Achuthan at ECRI has observed the first real-time negative GDP print is often seen two quarters after a recession starts. Earlier data is often subsequently revised negative. As for the June employment figures, the internals provided by the household survey were more dismal than the headline number. The net source of job growth was the 16-19 year-old cohort (even after seasonal adjustment that corrects for normal summer hiring). Employment among workers over 20 years of age actually fell, with a 136,000 plunge in the 25-54 year-old cohort offset by gains in the number of workers over the age of 55. Among those counted as employed, 277,000 workers shifted to the classification “Part-time for economic reasons: slack work or business conditions.”
Hussman has been labeled a “permabear”. So have I. So has Dave Rosenberg. So have many others. It only seems that way. The reality is Hussman, I, and Rosenberg were bullish at the March 2009 bottom.
However, the market shot up so far, so fast, that valuations became quickly stretched.
I cannot speak for the others, but I surely underestimated the effect of global coordinated liquidity move by central bankers virtually everywhere (US, EU, UK, China, Australia, Canada, etc.).
The result was we had a 10-year stock market rally in three years. Those patting themselves on the back for their “no recession” call were correct only because of a massive coordinated liquidity pump by central bankers worldwide.
Unless the “no recession” callers specifically counted on that, then they were lucky with their forecast.
What about now?
What if the Fed Throws a QE3 and Nobody Comes?
What if stock market valuations reach typical bear market valuations?
What if a recession is really at hand?
I do not believe the Fed is in control. Such ideas are a myth.
If the Fed could prevent recession we would never have them. Yet we do, don’t we?
The fact of the matter is Fed tail-chasing policies combined with fractional reserve lending and moral-hazard bailouts have amplified the crest and trough of every boom and bust.
Hussman comments …
Our economic problems run far deeper than what can be healed by more reckless bubble-blowing by the Federal Reserve. At the center of global economic turmoil is a mountain of bad debt that was extended on easy terms by weakly regulated lenders with a government safety net. Global leaders have done all they can to protect the lenders at the expense of the public – to make good on the bond contracts of mismanaged financial institutions by breaking the social contracts with their own citizens. The limit of this unprincipled madness is being reached.
The way out is to restructure bad debt instead of rescuing it. Particularly in Europe, this will require numerous financial institutions to go into receivership, where stock will be wiped out, unsecured bonds will experience losses, senior bondholders will get a haircut on the value of their obligations, and loan balances will be written down. Bank depositors, meanwhile, will not lose a dime, except in countries where the sovereign is also at risk of default. Even there, depositors will probably not lose any more than they would if they held sovereign debt directly. In the U.S., the pressing need continues to be mortgage restructuring, and an emerging recession is likely to bring that issue back to the forefront, as roughly one-third of U.S. mortgages exceed the value of the home itself
Recognizing the Limits of Madness
I agree. The key statement is “The limit of this unprincipled madness is being reached.”
The problem is not only recognizing the limits of “unprincipled madness” but also recognizing the market’s willingness to play along. It always lasts longer than one thinks possible.
At the end of the line, every possible person is sucked into belief current conditions can go on forever. We saw that in the 2000 dot-com bubble, the housing bubble, the commercial real estate bubble that followed the housing bubble, and we see it now in the “Fed is omnipotent belief bubble”.
The only reason we have escaped recession so far is the amazing effort central bankers and global governments have put forth to avoid what needs to be done. Congratulations to those who recognized this condition in advance.
However, no credit can be given to those with the misguided belief such policies and efforts will last perpetually. The end of the line always comes.
There was no decoupling in 2008 and there will be no reverse decoupling now. For further discussion please see Will the US Economy Continue to Decouple From the Rest of the World?
Recession Has Begun
In this case, the data speaks for itself. We are at the end of the line. The recession is not coming, it is not down the road, it is not likely, it is not at even at-hand.
Rather, the recession has begun. Fiscal stimulus from Congress is not coming and no amount of QE is going to stop it.
Tags: China Import, Consecutive Quarters, Current Conditions, Economic Contraction, GDP Growth, Global Collapse, Global Economy, Global Recession, Hussman, Import Growth, International Monetary Fund, International Monetary Fund Imf, Macroeconomic Factors, Nber, Necessary Condition, Partial Transcript, Payroll Report, Protectionism, Recessions, Trade Surplus, World Gdp
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Sunday, May 13th, 2012
ECRI’s Lakshman Achuthan was making the rounds yesterday, with yet another defense of his firm’s recession call – the first claim which came early last fall. I do think (from memory) he has pushed out the time frame a bit from when the initial call came, but since early this year has claimed we will see it by mid year. Perhaps the very warm winter hurt the call as well – who knows with these black boxes. Below we have a video with CNBC and there is one nugget in there I did not know. Conventional wisdom is a recession is back to back quarters of negative GDP… but according to the NBER (and Achuthan) that is but one of a group of potential signals.
The Committee does not have a fixed definition of economic activity. It examines and compares the behavior of various measures of broad activity: real GDP measured on the product and income sides, economy-wide employment, and real income. The Committee also may consider indicators that do not cover the entire economy, such as real sales and the Federal Reserve’s index of industrial production (IP).
10 minute video – email readers will need to come to site to view
Tags: Black Boxes, Cnbc, Conventional Wisdom, Economic Activity, Economy, Federal Reserve, GDP, Lakshman, Lakshman Achuthan, Measures, Memory, Nber, Nugget, Quarters, Real Gdp, Recession, Signals, Time Frame, Video Email, Warm Winter
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Wednesday, April 18th, 2012
It is often stated that copper is the metal with a Ph.D. in economics, and the data for the most part bears this out.
Figure 1 is a monthly chart of copper (cash data) with NBER dated recessions noted by the indicator in the lower panel. With the indicator in the down position, the US economy is in recession; when the indicator is up, the US economy is expanding. As can be appreciated, copper does better during economic expansions. The metal typically peaks during recessions before heading into a down trend (see vertical gray bars).
Figure 1. Copper v. NBER recessions/ monthly
Presently, copper is under performing the broader market, and as we can see from the weekly chart (see figure 2, cash data), copper gap below its 40 week moving average last week, and it is making a lower high. The weakness in copper should be respected, but there is more to the story.
Figure 2. Copper/ weekly
The next graph (figure 3) is a weekly chart of copper (cash data). In the lower panel, is the “Bullish Consensus” data for copper from MarketVane. According to the MarketVane website, “the Bullish Consensus measures the futures market sentiment each day by following the trading recommendations of leading Commodity Trading Advisors.” Many investors view the MarketVane data (and sentiment data in general) as helpful in identifying market turning points. For the most part, this is true as we have seen many times how too many investors on one side of a trade often leads to a strong reaction in the opposite direction. But sentient data also has other uses that few rarely speak of, and this has to do with trend following. In essence, as prices of an asset rise so does the degree of bullishness, and as prices fall, investors become more bearish. So what good is following investor sentiment if it just tracks price? My research shows that investor sentiment leads price by about a week or two, so investor sentiment is a good tool at identifying changes in a trend that do not occur at the extremes. Let me give some examples.
Figure 3. Copper v. MarketVane Bullish Consensus/ weekly
Figure 4 shows how investor sentiment leads price. Once again, this is a weekly chart of copper (cash data) with the Bullish Consensus for copper in the lower panel. The black dots represent swing pivot points. Now if we look at the current Bullish Consensus value and compare this value to past swing pivot points, we can make the statement that a close below three swing pivot points is bearish. As you can see, this was the the case in 2006 and in 2008. (This also happens to be the case across time and other asset classes.) When the Bullish Consensus value closed below 3 prior swing pivot points, copper dropped rather precipitously. (As an aside, I am drawing upon my research with pivot points, and I have previously presented similar findings in a SP500 trend following strategy; click HERE to go to that article.) So a close below 3 pivot points is generally bearish, and since sentiment tracks price and as sentiment often precedes price in time, this is an ominous sign.
Figure 4. Copper/ weekly
Now let’s move our chart forward in time and look at the past 2 years. See figure 5. At point #1, the Bullish Consensus value closed below 3 swing pivot points. Rather than sell off, this marked the low point for copper before it reversed strongly higher. 8 weeks later, Federal Reserve Chairman Bernanke mentioned QE2 at his speech at Jackson Hole. At point #2, this breakdown nearly marked the high point for copper back in April, 2011. Point #3 was the break down back in September, 2011. Rather than lead to a break down in price, this also marked a bottom. This also happened to coincide with the Federal Reserve’s Operation Twist and with the European Central Bank’s LTRO. Lastly, turn your attention to the “?????”. The Bullish Consensus has closed below 3 swing pivot points. While this normally would be interpreted bearishly, one could easily speculate, based upon the recent past, that central bank intervention is imminent.
Figure 5. Copper/ weekly
So what have we learned from Dr. Copper today?
One. Copper generally peaks during recessions.
Two. Copper is currently putting in a lower high and is trading below its 40 week moving average; copper peaked over 1 year ago.
Three. Investor sentiment not only tracks price but it often precedes it by a couple of weeks. The current price structure for the Bullish Consensus is bearish.
Four. Recent bearish patterns in the price structure of the Bullish Consensus have been bullish owing to central bank intervention. In essence, central banks have prevented a recession from unfolding.
Five. It should noted that each central bank intervention has provided less and less benefit to the markets. When looking at copper, we see that Operation Twist did not produce gains that were seen during QE2. It’s as though the markets have become resistant to the effects of monetary stimulation.
Lastly and most importantly. What’s next for copper and the markets? The breakdown in the price structure of the Bullish Consensus for copper strongly suggests lower prices for copper, which in all likelihood implies a recession. Central bankers have been timely in their implementation of recent quantitative easing, and we could easily make the case that their interventions have thwarted the onset of a recession on more than one occasion. Copper will need to reverse from the current levels and investors will need to embrace that risk. This will be heralded by a reversal in the Bullish Consensus. Will central bankers be able to save the day again?
Tags: Bullish Consensus, Commodity Trading Advisors, Copper Gap, Copper Metal, Down Position, Down Trend, Economic Expansions, Figure 3, Futures Market, Gap, Gray Bars, Investor Sentiment, Market Sentiment, Market Turning Points, Marketvane, Nber, Recession, Recessions, Sentiment Data, Strong Reaction
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Tuesday, August 17th, 2010
This article is a guest contribution by David Rosenberg, Chief Market Economist, Gluskin Sheff.
A few readers have taken us to task for our reliance on the U.S. Household Employment Survey given that the steep declines in the past few months were skewed by the removal of the Census workers from the data. There is indeed some truth to that criticism but we went back and adjusted the Household employment numbers by netting out the federal government segment from the Payroll survey, the results are the same. Excluding non-postal government workers, Household employment fell 446k in May, 80k in June and by 11k in July. That is a total loss of 537k and again, history shows that when the household employment is down three months in a row, we are already in recession or about to head into one 98% of the time. That has not changed and still applies to the current backdrop.
What is playing a key role in dragging these numbers lower is not the reversal of the Census hirings as much as the steady declines we are seeing in self-employment — the “entrepreneurial” part of the jobs picture. The number of job losses here has exceeded 130,000 in just the past three months and, at 9.64 million, the level is down to the lowest it has been since November 1987.
The ECRI leading index did improve again in the latest week, to -9.8%, but the die has been cast and the damage has been done. It has never before hit these negative levels without the economy heading into a downturn. In addition, the Chicago Fed’s National Activity Index never gave the green light that the recession that began in December 2007 ever really ended despite the inventory pickup and concomitant manufacturing rebound we saw. This may be why the Nation Bureau of Economic Research (NBER) has dragged its heels in making any proclamation.
As former Labor Secretary Robert Reich said over the weekend: “It’s nonsense to think of the economy heading downward again into a double-dip recession when most Americans never emerged from the first dip. We’re still in one long Big Dipper.”
We would tend to agree with this assessment. Others are beginning to fall into line even though this remains a minority view — see Double Dip? A Tipping Point May Be Near on page 4 of the Sunday NYT. Even the folks at the ECRI are starting to sound a bit nervous after months of dismissing the forecasting relevance of their own leading index — Lakshman said “We are at a very critical moment in the business cycle” though he added that he would not know until the fall as to whether “we’re dipping back into recession”?
We recently received some data underscoring how the business cycle is now evolving — all four components: Industrial production almost stagnated in June, with a mere 0.1% gain, ditto for real personal income, excluding transfers (+0.5% in April, to +0.4% in May, to +0.1% in June). As we said before, what the quarterly profit data miss is the huge deceleration we saw from April to June and is continuing through the summer. Employment fell 131,000 (payroll survey) and we just received data on business sales — down 0.6% in June after a 1.2% slide in May and +0.6% in April.
Tags: Activity Index, Census Workers, Chicago Fed, Chief Market, China, David Rosenberg, Double Dip Recession, Ecri, Employment Numbers, Employment Survey, Gluskin Sheff, Gold, Government Workers, Household Employment, India, Labor Secretary, Market Economist, Nber, November 1987, oil, Robert Reich, Secretary Robert, Self Employment, Steep Declines
Posted in Energy & Natural Resources, Gold, India, Markets, Oil and Gas, Outlook | 1 Comment »
Thursday, August 5th, 2010
This article is a guest contribution by Bill Hester, CFA, Hussman Funds.
Friday’s GDP report offered up a slew of new data. We learned that the economy’s rate of expansion in the second quarter decelerated again, to 2.4 percent at an annual rate. This is down from 3.7 percent growth in the first quarter and 5 percent growth during the fourth quarter of last year. The Commerce Department also released their annual revisions of the data, which broadly painted a picture of a recession that was deeper than originally thought and a recovery more shallow than first reported.
The revisions in the data help explain why other measures of economic performance like wage gains and hiring have been so weak. GDP was revised lower for 7 of the 12 previous quarters and the economy contracted by 4.1 percent from its peak versus an originally assumed 3.7 percent, making it clearly the worst recession in post-war data. Consumer spending and corporate profits were also revised lower during the period. Likewise, the recovery has been even more anemic than originally thought. The economy grew at a 1.6 percent annual rate in the third quarter of 2009 and at a 5 percent rate in the fourth quarter, versus the 2.2 percent and 5.6 percent rates, respectively, that were originally reported.
Given the arrival of this new data, and because we are now one year past Wall Street’s assumed trough date of the recession, it is a good time to benchmark this recovery against prior recoveries. I’ve periodically shown the unevenness of the current recovery by looking at the four broad measures (income less transfer payments, trade sales, industrial production, and jobs) that the NBER uses to help determine recessionary periods. These are closely followed because they are released monthly. Benchmarking the GDP data adds another important perspective to the analysis, because it’s the broadest measure of the health of the economy. In a recent statement, the NBER said: “The committee believes that the two most reliable comprehensive estimates of aggregate domestic production are normally the quarterly estimate of real Gross Domestic Product and the quarterly estimate of real Gross Domestic Income, both produced by the Bureau of Economic Analysis.” So it’s worth walking through the components of the GDP report to benchmark the current recovery against previous recoveries.
Each of the graphs below plots 4 lines. The black line shows the average performance of each data series around the recessions ending in 1958 and 1982, because the two recoveries that followed are typically thought of as “V-Shaped.” The green line plots the performance of each data series around the end of the recession that occurred in 1980. This is an example of a “double-dip,” where the expansion in output lost its momentum and the economy turned down again into a recession beginning in 1981. The red line plots the current performance of each data series. Finally, the blue line is the average performance of each data series around the six other recessions since 1950 that don’t fall into one of the above groups. This is our “standard” recovery benchmark.
[A note about the construction of the graphs: Because the graphs use quarterly GDP data, I've used the quarterly recession dates provided by the NBER. This will create some variation in the data immediately around the end of recessions. The NBER assumes that the quarter in which the trough occurs is within the recession. So a recession ending in October in monthly data would end in December in quarterly data. These effects are limited when we focus on the full four years surrounding the end of recessions. ]
The first graph plots real gross domestic product, the output of goods and services produced by labor and capital in the US. As this graph shows, and as most of the others also will also show, this is one of the slowest expansions in post-war data, and it has fallen far behind the average expansion. The current recovery even falls behind the 1980/1981 recovery, which lacked the internal momentum to develop into a sustainable recovery in the face of higher interest rates. This graph also offers perspective on the discussion regarding a “typical mid-expansion slowdown.” This is a phrase that is gaining in popularity among investors, even if there’s not much evidence to support it. Neither V-Shaped recoveries nor standard recoveries show any indication of a “typical” mid-expansion slowdown. The only mid-expansion slowdown that shows up in the data from this perspective is the 1980/1981 recovery. That mid-expansion slowdown quickly turned into a double-dip recession.
Final Sales is a measure of demand that excludes the effects of changes in inventory. This series will be important to watch as is looks like the inventory cycle might be winding down. Inventories rose by $76 billion last quarter, the biggest gain in 4 years. The second half of 2008 must still be fresh in purchasing managers’ minds, when inventories relative to sales grew by 15 percent in 6 months. Overstocking is not likely in their plans (at least not intentional overstocking). Final Sales grew just 1.3 percent in the second quarter. This was similar to the first quarter’s 1.1 percent expansion, and a clear downshift from the 2.1 percent rate of growth in last year’s fourth quarter. The growth in Final Sales during this recovery has trailed the typical recession by a large amount. It’s tracking more closely (but still trailing) the weak demand that was experienced during the 1980/1981 recovery.
For the components of GDP, we’ll focus the analysis on Consumption and Investment, because they are the largest components of GDP that are cyclical in nature. Toward that, the next two graphs show the changes in Personal Income and the changes in Personal Consumption. While Personal Income isn’t a measure of demand, I’ve included it because it helps explain why consumption growth has been so anemic. Personal Consumption expanded at just 1.6 percent in the second quarter, continuing its subpar performance during this recovery. Its rebound since last June is less than half the typical contribution consumers typically make toward a recovery.
The next two graphs show two components of investment: Fixed Investment and Equipment and Software Investment. Fixed Investment, which includes residential investment, is tracking far below the typical recovery (even with residential activity gaining 28 percent in the second quarter fueled by the winding down of the home-buyer tax credit). Investment in equipment and software is the one ray of light in these series of graphs. The expansion in this type of investment is actually outpacing the standard recovery. But at only 7 percent of GDP, business investment’s ability to continue to fuel GDP is limited. And as Bank of Tokyo’s Ellen Zentner recently pointed out, because job growth has been so limited, these investments are very likely directed at replacing equipment and technology. Sustainable growth in business investment will likely depend on robust and persistent job creation.
Although the first GDP report out after the end of each quarter does not include an estimate of corporate profits, benchmarking the profit recovery with the data through the first quarter highlights some interesting trends. The two graphs below shows how corporate profits from both financials and non-financial companies compare with earlier recoveries. The top graph shows the role that the large dislocations in the financial sector have caused on the profits for that group. The bottom graph may be the more interesting of the two. As measured by the GDP report, corporate profits for non-financial firms have trailed the typical recovery. These graphs highlight the incredible amount of volatility and lack of clarity the credit crisis created, and in the increased difficulty in estimating the earnings power of corporations. The implosion of financial sector earnings and the historic rebound in those earnings – fueled by the government’s direct investments in those banks, the Fed-induced upward sloping yield curve, low borrowing costs, and the easing of asset valuation standards – are skewing overall rates of profit growth. Meanwhile, the earnings of private and publically traded non-financial companies are rebounding, but have lagged the gains of past recoveries.
For workers and job seekers, a slow-growing economy is better than one that is contracting. But the speed of job creation following a recession is partly a function of the internal momentum of the recovery. As Lakshman Achuthan of ECRI has observed, companies hire because they are scared of not being able to meet growing demand. Momentum helps economies build a pattern of activity which can protect them against an exogenous shock. The current US economic recovery has very little internal momentum, and what little momentum it has is waning.
For investors, what’s important is the extent to which expected growth in the economy and earnings is priced, or possibly overpriced, into the market. The current subpar recovery should probably warrant a below-average level of valuation compared with prior recoveries. Unfortunately, the opposite is true. To put the current level of valuation into perspective, the table below shows Robert Shiller’s Cyclically Adjusted P/E Ratio (CAPE), which normalizes earnings by averaging the prior decade’s results. The table shows that there have only been two other periods where the economy was recovering from a recession and the level of valuation was higher. One was in November 2002, a year following the end of the 2001 recession. The S&P 500 has achieved a total return of just 4.2% annually in the 8 years since then. The other instance was in February 1962, a year after the 1961 recession ended, when the CAPE was at 21.45 (the S&P 500 quickly lost a quarter of its value over the next few months). The average CAPE level for the periods shown is 16, versus the current level over 20.
|1 Year after End of Recession||Cyclically Adjusted P/E Ratio|
Along similar lines, an article in this weekend’s Barron’s suggested that because the US economy has spent a quarter of the time over the prior decade in recession, investors should expect above-average returns going forward. The column noted that there have been only a few occurrences where the economy was in recession 25 percent of the prior decade: in 1955, 1958, 1975, and 1982. “The subsequent average annual stock-market returns over three, five and 10 years were all above average, between 14% and 16% for each period.”
I’ve mentioned this metric of economic uncertainty in prior research pieces, so it may be useful to add one more piece of color to the analysis. Following extended periods of time where the economy has slipped in and out of recession, valuation levels have typically been far lower. The periods mentioned in the Barron’s article are good examples. In 1955 Professor Shiller’s CAPE was 15. In 1958 it was 13. In 1975 it was 10. And in 1982 the CAPE was 7. Applying those multiples to today’s real 10-year averaged earnings ($55) would imply an S&P 500 Index of 825, 715, 550, and 385, respectively. Clearly, from those levels the expected long-term returns of the market would be more attractive. Secular bear market bottoms have typically occurred when recessions were so frequent that they have knocked the last bit of optimism out of investors. One of the best measures of that remaining optimism is the P/E multiple on normalized earnings, which presently remains stubbornly high.
Measured by most of the components of GDP this is one the weakest recoveries on record. GDP, Final Sales, Consumption and broad measures of Investment are all growing at rates far below the levels seen during standard recoveries, and even less than what proved to be an unsustainable recovery in 1981. To suggest that renewed weakness in the US economy is unlikely because it’s a rare event leaves out another equally as important rarity: the anemic performance of the current economic recovery.
Copyright (c) Hussman Funds
Tags: Bill Gross, Cfa, Commerce Department, Consumer Spending, Corporate Profits, Economic Performance, Fourth Quarter, GDP, Gdp Data, Gdp Report, Hester, Hussman Funds, Market Valuation, Nber, Post War, Recession, Revisions, Second Quarter, Slew, Transfer Payments, Trough
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Sunday, August 16th, 2009
This post is a guest contribution by Rebecca Wilder*, author of the of the News ‘n’ Economics blog.*
I wrote an article some time back about the pathetic recovery expected by Economists. In that article, Spencer (of Angry Bear) gave the following comment (please read the entire comment, as Spencer’s argument is not represented here in full):
Maybe this time will be different and we may actually have a weak recovery, but just remember that economist have a long and repeated history of underestimating the strength of recoveries.
I myself did not know that Economists have a very good track record of undershooting recoveries. However, I did a little digging through old files at work and found Blue Chip forecasts around the end of the 1981-1982, 1990-1991 recessions, and a DRI forecast (now known as Global Insight, couldn’t get Blue Chip) at the end of the 2001 recession (recession end determined much later by the NBER). The forecast way undershot the actual growth rate for the first year of recovery in two of the last three recessions – by 2.3% in the 1983 recovery!
Ahem. Don’t be too surprised if they mess it up again!
Rebecca Wilder is an economist in the financial industry. She was previously an assistant professor and holds a doctorate in economics.
Tags: Assistant Professor, Blue Chip, Doctorate, Dri, Economics, Economist, Economists, Forecasters, Global Insight, Guest Contribution, Nber, Rebecca, Recession, Recessions, Spencer
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Sunday, August 2nd, 2009
For some reason the lyrics of Electric Light Orchestra’s classic, Livin’ Thing, keep resounding in my head: “You took me, ooh, woah, higher and higher, baby. It’s a livin’ thing … ” Followed by: “It’s a terrible thing to lose … ” But let me get on to the review of the financial markets …
Investors (or should I say “Johnny-come-latelies”?) last week again favored the reflation trade on the back of better-than-expected US earnings announcements and economic data, indicating that the trough of the recession might be behind us, or at least be stabilizing at depressed levels.
Newsweek’s cover declared: “The recession is over”, but a footnote stated “Good luck surviving the recovery”, implying a hard and treacherous slog ahead – note the pin below the “liquidity-inflated” balloon.
Tempering the bullish sentiment, David Rosenberg (Gluskin Sheff & Associates) commented as follows on Friday’s announcement of a 1.0% (quarter on quarter annualized) contraction in Q2’s real GDP: “While we are past the most pronounced part of the downturn, it may still be premature to call for the end of the recession merely because of the prospect of a positive third-quarter GDP result. After all, we saw GDP advance at a 1.5% annual rate in last year’s second quarter, and if memory serves us correctly, the NBER did not subsequently declare the end of the recession. And even if the recession is ending, as we saw in 2002, that does not guarantee a durable rally in risk assets. Sustainability is the key, and it remains the wild card.”
Source: Ed Stein, July 31, 2009.
Many global stock market indices reached new highs for the year during the course of the week, and the S&P 500 Index closed in on the roundophobia 1,000 level. Other beneficiaries of investors’ continued interest in risky assets included commodities, oil, gold (rebounding strongly after a midweek sell-off of $24 an ounce), high-yielding currencies and corporate bonds. On the other hand, the US greenback remained out of favor and the Dollar Index closed the week at its lowest level for the year as investors shunned safe-haven assets.
The past week’s performance of the major asset classes is summarized by the chart below – a set of numbers that again indicates investors’ increased risk appetite. In the case of government bonds, a lukewarm response to the US GDP report took the edge off a poor response to the massive issuance of paper by the Treasury.
A summary of the movements of major global stock markets for the past week, as well as various other measurement periods, is given in the table below. As the second-quarter corporate results in the US came in thick and fast, the American and other markets extended their rallies to three straight weeks in most instances. As a matter of fact, if not for the down week of the Dublin ISEQ Index, the entire table would have been green. But then again, “green shoots” seem to be frowned upon by many pundits.
The MSCI World Index (+1.7%) and MSCI Emerging Markets Index (+2.5%) both made headway last week to take the year-to-date gains to +13.5% and an imposing +48.8% respectively.
As seen from the table, July was a solid month for stock markets with all the major indices recording positive returns. The Dow Jones Industrial Index had its best month since 2002 and the S&P 500 Index, Nasdaq Composite Index and Russell 2000 Index all recorded a fifth successive monthly gain, but were trumped by the Chinese Shanghai Composite Index that notched up seven consecutive positive months.
Click here or on the table below for a larger image.
Stock market returns for the week ranged from top performers such as the Czech Republic (+8.7%), Kazakhstan (+8.5%), Turkey (+8.2%), Indonesia (+6.3%) and Kyrgyzstan (+5.8%) to Slovakia (-6.3%), Greece (-3.6%), Nepal (-3.0%), Ecuador (-2.2%) and Macedonia (-1.5%) at the other end of the scale.
The Shanghai Composite Index has surged 87.4% in 2009 as $1.1 trillion of bank loans and government spending stimulated economic recovery. Notwithstanding its gain for the week, the Index plunged by 5.0% on Wednesday – its largest decline in eight months – on speculation that the government might curb inflows into the stock market. “The government is worried that this bubble is becoming too big so they’re going to cut credit growth by probably half in the second half,” remarked former Morgan Stanley chief Asian economist Andy Xie. “I think the property and stock markets will come under pressure around October,” he said in a Bloomberg interview.
Of the 97 stock markets I keep on my radar screen, a majority of 74% (last week: 82%) recorded gains, 22% showed losses and 4% remained unchanged. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)
John Nyaradi (Wall Street Sector Selector) reports that as far as exchange-traded funds (ETFs) are concerned, the winners for the week included KBW Regional Banking (KRE) (+11.1%), MarketVectors Indonesia (IDX) (+9.2%), PowerShares Global Gold and Precious Metals (PSAU), and United States Gasoline (UGA) (+6.7%).
At the bottom end of the performance ranking, ETFs included “all things short” such as ProShares Short Financial (SEF) (-3.6%), ProShares Short MSCI EAFE (EFZ) (-3.1%) and ProShares Short Russell 2000 (RWM) (-2.3%).
As far as the thawing of the credit crisis is concerned, junk bond yields continued declining, as shown by the Merrill Lynch US High Yield Index (and also by the good performance of the iShares iBoxx $ High Yield Corporate Bond ETF). The Index dropped by 57.8% to 922 from its record high of 2,182 on December 15, meaning the spread between high-yield debt and comparable US Treasuries was 922 basis points on Friday. Considerable progress has been made and high-yield spreads “only” need to fall another 7.4% to reach the “pre-Lehman” level (854 basis points).
The quote du jour this week comes from Richard Russell (Dow Theory Letters) who said: “I’m reading and listening to an awful lot of drivel these days. Every analyst has his own scenario, and all seem anxious to broadcast their personal opinions. In this business, there comes a time when the situation is so complex that the most honest thing to do is simply to admit that you don’t know what the hell is going on. The best thing to do is to keep your mouth shut and await developments.” (Also read Barry Ritholtz’s related post on “Analyzing the analyzers“.)
Other news is that Washington hosted a US-China Strategic Dialogue, as the Chinese are increasingly focusing on America’s deficit, the value of the US dollar and the implications for their Treasury holdings. Interestingly, the Federal Reserve’s balance sheet last week contracted for the second consecutive week. “Do you think Ben assured Chinese officials earlier this week that the Fed was reducing its balance sheet?” asked Bill King (The King Report).
Also, the US House of Representatives on Friday approved a $2 billion extension of the government’s car sales incentive program, “Cash for Clunkers”, while the Federal Deposit Insurance Corp (FDIC) closed four more banks on Friday, bringing the tally of US bank failures in 2009 to 68 (93 since the beginning of the recession).
Next, a tag cloud of all the articles I read during the past week. This is a way of visualizing word frequencies at a glance. Key words such as “bank”, “economic”, “market”, “prices”, “growth”, “China” and “Fed” featured prominently.
The key moving-average levels for the major US indices, the BRIC countries and South Africa (from where I am writing this post) are given in the table below. All the indices trade above their respective 50- and 200-day moving averages. The 50-day lines are also in all instances above the 200-day lines and therefore not threatening the bullish “golden crosses” established when the 50-day averages broke upwards through the 200-day averages.
Importantly, the 200-day moving average of the S&P 500 Index last week turned up for the first time since January 2008, after being breached upwards by the Index in early June. The 200-day line – generally seen as a key indicator distinguishing between a primary bull and bear market – is now trending higher for all the indices included in the table, with the exception of the Dow Jones Transportation Index and the Russian Trading System Index.
The June highs and July lows are also given in the table as these levels define a support area for a number of the indices.
Click here or on the table below for a larger image.
When considering monthly data, three momentum-type oscillators (RSI, MACD and ROC) are reversing course for the first time since the sell signals of 2007 and now either indicate buy signals (or are getting close to one in the case of MACD).
The bulk of the Q2 earnings reports in the US are now in and 71% of the companies have so far reported better-than-expected earnings – one of the highest quarterly readings over the last ten years and by far the highest since the bear market began in late 2007 (albeit largely as a result of cost cutting negating a decline in revenues). “We’ve now had two straight quarters where the ‘beat’ rate has increased quarter over quarter, meaning analysts overestimated earnings to the downside. This is a very positive sign for the market at the moment … ,” said Bespoke.
Source: Bespoke, July 31, 2009.
Expectations for the next earnings season will be high and whether these are met will be determined by the extent of the economic recovery. “… what should matter most for stocks is nominal GDP – price multiplied by volume. Indeed, the chart below illustrates the case – the rate of change in the S&P 500 ultimately tracks the trend-line in nominal GDP growth,” said David Rosenberg.
Source: Gluskin Sheff – Lunch with Dave, July 31, 2009.
I now know why I keep thinking of those ELO lyrics – it’s the stretched valuations that bother me. Based on operating earnings (i.e. stripping out everything that is bad), the historical price/earnings (PE) multiple of the S&P 500 is 24.6; using reported earnings the figure shoots up to a giddy 777.5! Getting past the loss-making fourth quarter of 2008 and calculating prospective multiples through December 31, 2010, reduces the valuations to 17.8 and 32.9 respectively – still hardly the type of valuations that will inspire one to be a buyer across the board. (The earnings estimates are courtesy of Standard & Poor’s.)
Kevin Lane (Fusion IQ) said: “We have been saying for a while now that the market would likely work higher as sentiment was more doubting than embracing, suggesting that many still had not deployed a lot of capital. That said, we now believe that investors who let the market run away from them or were only partially invested are finally coming into the pool. The new entrants could certainly fuel things (i.e. new buying power) a little bit further before we have another corrective wave. That said, we think in the not too distant future and a bit higher from these levels there will be an opportunity to make sales before a late summer/fall correction.”
Looking at the next few weeks, I am of the opinion that stock markets have run away from fundamental reality and that a pullback/consolidation looks likely. Taking a slightly longer-term view, I think we are in a (possibly lengthy) bottoming-out phase as far as slow-growth (OECD) countries are concerned, but already in new (potentially volatile) uptrends regarding high-growth emerging and commodities-related markets.
For more discussion on the direction of financial markets, see my recent posts “Stock markets – secondary or primary bull?,” “How to interpret the Dow Theory bull signal, according to Richard Russell“, “Picture du Jour: US housing – better days ahead?” and “Video-o-rama: The yin and yang of China/US relations“. (And do make a point of listening to Donald Coxe’s webcast of July 31, which can be accessed from the sidebar of the Investment Postcards site.)
The results of last week’s Survey of Business Confidence of the World achieved their best level since early October, reported Moody’s Economy.com. Business sentiment is improving across the globe and businesses’ broad assessments of current conditions and the outlook into 2010 have brightened meaningfully. However, despite the steady improvement in confidence, businesses are still cautious and the Survey results remain consistent with a global economy that is still in recession.
Source: Moody’s Economy.com
According to the European Central Bank’s Q2 2009 bank lending survey, the number of banks tightening standards is falling across all loan types. “If you asked me, this constitutes good(ish) news. The credit crisis in Europe has likely passed …,” said Rebecca Wilder (News N Economics).
Source: News N Economics
A snapshot of the week’s US economic reports is provided below. (Click on the dates to see Northern Trust’s assessment of the various data releases.)
Friday, July 31, 2009
- Q2 GDP – the parachute has opened
Thursday,July 30, 2009
- Jobless Claims report makes a case that the labor market is improving
Wednesday, July 29, 2009
- Durable Goods Orders – decline in airline and defense masks improvement
Tuesday, July 28, 2009
- Case-Shiller Home Price Index – home prices are stabilizing
- Consumer Confidence Index slips in July
Monday, July 27, 2009
- Sales of new homes surge in June, inventories of unsold homes are sliding down
Additionally, the Federal Reserve’s latest Beige Book, released on Wednesday, indicated that the US economic recession was becoming less severe. While still weak, some regions reported that the pace of the downturn had moderated.
According to the US Commerce Department’s advance growth estimate, real GDP contracted at an annualized rate of 1% in the second quarter – smaller than the consensus expectation for a 1.5% decline. The rate of contraction slowed from the first quarter’s -6.4% as a result of a much smaller decline in investment, a smaller drop in inventories, less of a decline in exports, and strong government “stimulus” spending (+13.3% on an annualized basis – see chart below). However, consumer spending fell by a disappointing 1.2% in the second quarter.
Source: Northern Trust – Daily Global Commentary, July 31, 2009.
Summarizing the growth data, Paul Kasriel (Northern Trust) said: ” … the worst is over, but the best is not yet at hand. The imminent recovery will take hold not with some sustainable explosion in one sector or another, but because some hitherto really weak sectors will stabilize and/or grow a little.”
“We expect a gradual recovery in the US economy in the months ahead, but the Fed will need to keep the policy setting extremely aggressive to achieve a self-reinforcing upturn in consumer confidence and spending,” added BCA Research.
Warning of a W-shaped recession, Nouriel Roubini (RGE Monitor) said (via Forbes): “The global recession may end toward the end of 2009 – instead of sooner – but the global recovery in 2010 will be anemic and well below trend as households, firms and financial institutions are constrained in their ability to borrow, lend and spend.
“Meanwhile, a perfect storm of the following has inched a little closer on the radar of this cloudy global economic outlook: persistently large fiscal deficits and public debt accumulation; monetization of such deficits that will eventually increase expected inflation; rising government bond yields; soaring oil prices; weak profits; still-falling job figures; and stagnant growth. It’s a storm that could blow the recovering world economy back into a double-dip recession by late 2010 or 2011.”
|New Home Sales||Jun||
|S&P/Case-Shiller Home Price Index||May||
|Durables, Ex Transportation||Jun||
|Fed’s Beige Book||-||
|Employment Cost Index||Q2||
Source: Yahoo Finance, July 31, 2009.
Click here for a summary of Wells Fargo Securities’ weekly economic and financial commentary.
Across the pond, the Bank of England (BoE) and the European Central Bank (ECB) will make interest rate announcements on Thursday (August 6), while in the US economic highlights for the week include the following:
Monday, August 3
Construction spending, ISM Index and auto sales
Tuesday, August 4
Personal income and spending and pending home sales
Wednesday, August 5
ADP Employment, factory orders, and ISM services
Thursday, August 6
Initial jobless claims
Friday, August 7
Jobs data and consumer credit
The performance chart obtained from the Wall Street Journal Online shows how different global financial markets performed during the past week.
Source: Wall Street Journal Online, July 31, 2009.
“It’s not whether you’re right or wrong that’s important, but how much money you make when you’re right, and how much you lose when you’re wrong,” said George Soros. Let’s hope the news items and quotes from market commentators included in the “Words from the Wise” review will assist Investment Postcards readers in adding considerable value to their balance sheets.
For short comments – maximum 140 characters – on topical economic and market issues, web links and graphs, you can also follow me on Twitter by clicking here.
That’s the way it looks from Cape Town (where a winter sun is welcoming the month of August).
Source: Jerry Holbert, July 30, 2009.
Nouriel Roubini (Forbes): The road ahead for the global economy
“The global recession may end toward the end of 2009 – instead of sooner – but the global recovery in 2010 will be anemic and well below trend as households, firms and financial institutions are constrained in their ability to borrow, lend and spend.
“Meanwhile, a perfect storm of the following has inched a little closer on the radar of this cloudy global economic outlook: persistently large fiscal deficits and public debt accumulation; monetization of such deficits that will eventually increase expected inflation; rising government bond yields; soaring oil prices; weak profits; still-falling job figures; and stagnant growth. It’s a storm that could blow the recovering world economy back into a double-dip recession by late 2010 or 2011.
“After rising sharply for three months, asset markets in the mature economies have paused and started a tentative correction in the last few weeks. Risk investors that had driven up prices have partially taken profits, and suddenly they are wary. They are right to be wary.
“Before the recent correction started, there was a very sharp rise in asset prices, beginning around March 9. Equities rose, oil and energy prices rose, commodities rose. Credit spreads sharply contracted, indicating a surge of new confidence in the corporate sector. Long-term government interest rates shot up as ten-year Treasurys rose from 2% to 4% before retracing, suggesting that markets saw growth returning in the near future. The volatility of asset prices also fell, and that is always a sign of increasing confidence and lower risk-aversion.
“Emerging market asset prices – equities, bonds and currencies – have, if anything, been more bullish. The broad indexes of the BRICs showed that, in early 2009, some investors again began to believe that these economies, starting with China, will recover and experience further rises in commodity prices.
“In other words, markets, which only four months ago were pricing-in an L-shaped global near-depression and a near financial meltdown, were three weeks ago pricing-in a rapid V-shaped recovery toward potential growth. And there are some good reasons for part of this rally. At the beginning of the year gross domestic product (GDP) was falling at a rate that suggested that something close to economic depression really was looming, and there was a widespread sense that many of the world’s biggest financial institutions were effectively insolvent.
“Today, both of those fears have been, for now, checked; the tail risk of an L-shaped near-depression is significantly lower. We have seen policy action by the US, Europe, Japan, China and many other economies that has been unprecedented, with interest rates reduced to near zero, with much bad debt ring-fenced (although not written off or worked out), with liquidity created by orthodox and unorthodox means and with final demand in many economies primed by central governments. The rate of output decline has shallowed dramatically, the ‘tail risk’ of a chronic slump has been suppressed, and financial institutions are recording profitable quarters, at least on paper, as forbearance and public subsidies are, for now, hiding their mounting losses.
“All this creates a moment when risk to a rally is to be expected. As tail risk is reduced, investors move back into equities, credit and commodities.”
Click Forbes here for the full article.
Source: Nouriel Roubini, Forbes, July 30, 2009.
Barry Norris (Argonaut Capital): Viva la “V”
“Most in the markets believe the global economic recovery will be anything but V-shaped – although such a scenario actually looks increasingly likely, says Barry Norris, partner at Argonaut Capital.
“He says that while the current downturn has been extremely severe, the overlooked story is that compared to previous recessions, real demand for most goods has suffered just a fairly routine fall-off.
“‘This means inventories in many industries have been drawn down to an unprecedented degree. With very low inventory levels, any normalisation in demand, caused by, say, pent-up demand, is likely to be an equally powerful positive stimulus. This is how the recovery could be V-shaped after all.’
“He says purchasing managers’ indices not only give a good idea of future activity, but of why economies tend to recover from slumps. ‘For most managers, conditions won’t get any worse than December 2008 and it will not be long before the majority are experiencing better conditions.
“‘Global PMIs are moving back towards equilibrium. This means economic expansion and the end of recession – and most major economies will return to growth in the second half of 2009. This recession is ending in a recovery that is suspiciously V-shaped.
“‘This bottoming out should mark the low point in corporate profits. When we buy equities now it is increasingly likely we are buying trough earnings.’”
Source: Barry Norris, Argonaut Capital (via Financial Times), July 27,2009.
Bloomberg: US assures “concerned” China it will shrink deficit
“Treasury Secretary Timothy Geithner pledged to rein in the US deficit as China underscored concern about preserving the value of its $801.5 billion of Treasury holdings.
“The US will ensure a ’sustainable’ deficit by 2013, Geithner said at the beginning of the first round of Strategic and Economic Dialogue talks under President Barack Obama in Washington. China is ‘concerned about the security of our financial assets’, Assistant Finance Minister Zhu Guangyao said.
“In a shift from meetings under the Bush administration, officials indicated there were few signs of tension over the value of China’s yuan, which US lawmakers have labeled as artificially cheap and an aid to Chinese exports. That may be because the ‘best idea is just to keep the yuan-dollar rate stable’ given US need for Chinese demand for Treasuries, said Ronald McKinnon, a professor of economics at Stanford University.
“‘The Chinese are trapped with supporting the value of the dollar,’ McKinnon said in a telephone interview from Stanford, California. ‘If they withdrew from the market, there’s a big appreciation’ of the yuan as a result that would send China’s exports down, he said.
“The new focus on the deficit and Treasuries reflects the legacy of China’s record trade surpluses and its accumulation of dollars as a result of holding down the yuan. Chinese foreign exchange reserves surpassed $2 trillion for the first time in the second quarter, and its holdings of Treasuries reached $801.5 billion in May, about 100% more than at the start of 2007.
“Obama said in a speech opening the meetings he wants to engage China in cooperation on a range of issues, beyond acting together to stimulate a global economic recovery.
“‘We must also be united in preventing Iran from acquiring a nuclear weapon,’ Obama said. He cited nuclear proliferation, terrorism, piracy, global pandemics, climate change and civil war as other common threats facing the two countries. In her sessions, Clinton addressed both the Iranian and North Korean nuclear programs.”
Source: Rob Delaney and Rebecca Christie, Bloomberg, July 28, 2009.
Laurence Mutkin (Morgan Stanley): The borrowers return
“Recent official lending surveys in the UK and eurozone offer grounds for optimism, says Laurence Mutkin, head of European rates strategy at Morgan Stanley.
“He says it is vital to identify whether the collapse in broad money growth since the onset of the credit crunch – and particularly in lending to the non-financial sector – is cyclical or secular.
“‘If it is the former, then a cyclical economic upswing should revive credit markets. Central banks and governments have taken extraordinary measures to achieve this.
“‘But if we are seeing the start of a secular deleveraging, with fiscal and monetary authorities unable to trigger a revival in credit growth, the monetary transmission mechanism will remain impaired – making a period of Japan-style stagnation more likely in the West.’
“The latest survey from the ECB provides some reassurance, Mr Mutkin says. ‘It shows that appetite for lending and borrowing became less negative during the second quarter. Consumers have moved more quickly than corporations towards being willing to borrow again.’
“This trend was also reflected in the Bank of England’s latest credit conditions survey, he says.
“‘All in all, while credit growth looks set to remain soft, the restored willingness of consumers and businesses to borrow implies a lessening risk of secular deleveraging – although the next half year will prove crucial.’”
Source: Laurence Mutkin, Morgan Stanley (via Financial Times), July 30, 2009.
Radoslaw Bodys (Bank of America-Merrill Lynch): CCE borrowing fears overblown
“Fears about central and eastern Europe’s foreign exchange borrowing problem now look to have been overdone, says Radoslaw Bodys, emerging EMEA economist at Bank of America-Merrill Lynch.
“He points to two major concerns: that borrowing had become a threat to the region’s external financial stability, and the negative impact on the real economy of the private sector’s impaired balance sheet.
“But Mr Bodys says: ‘We believe the former problem has been largely sorted out given the recent massive balance of payments adjustment, while the latter issue has been blown out of proportion from the very beginning.’
“First, he says, the CEE’s non-financial private sector FX credit exposure is relatively large, but considerably smaller than commonly believed.
“Second, he argues that the belief that exchange rate depreciation severely hit central Europe’s non-financial private sector balance sheet is a complete misunderstanding.
“‘The fact is that falling interest rates have more than offset FX depreciation over the past year. Not only did the service cost of FX loans not increase, but actually fell by between 5.5% and 7.5% from the previous year.’
“And Mr Bodys believes that calls for, and actions by, regulators to ‘kill’ FX lending are pointless. ‘Banks have already tightened their credit policies so severely that FX lending is already virtually dead.’”
Source: Radoslaw Bodys, Bank of America-Merrill Lynch (via Financial Times), July 28, 2009.
Financial Times: Europe braced for rising credit card defaults
“Lenders in Europe bracing themselves for a rising wave of consumer debt defaults as the credit card crisis that has caused billions of dollars in losses among US banks spreads across the Atlantic.
“The International Monetary Fund estimates that of US consumer debt totalling $1,914 billion, about 14% will turn sour.
“It expects that 7% of the $2,467 billion of consumer debt in Europe will be lost, with much of that falling in the UK, the continent’s biggest nation of credit card borrowers.
“National Debtline of the UK said that the number of calls it had received from UK consumers worried about loans, credit cards and mortgage arrears had reached 41,000 in May – double the 20,000 calls it had received in May 2008. It added that the number of calls showed no sign of abating.
“In the US, credit card defaults have been rising for months as a spike in unemployment and the most severe economic downturn since the Great Depression took their toll on overstretched consumers.
“The rate of US credit card losses has overtaken the rate of unemployment in recent months – a highly unusual occurrence that makes it more difficult for card issuers to forecast future losses.
“The severity of the financial crisis coupled with rising unemployment on both sides of the Atlantic have stoked fears of a substantially higher default rate in the coming months.”
Source: Jane Croft, Megan Murphy and Francesco Guerrera, Financial Times, July 26, 2009.
The New York Times: House votes for $2 billion fund to extend “Clunker” plan
“As problems go in the nation’s capital these days, the White House could live with this one.
“Officials at the Transportation Department figured Thursday morning that they had applications in hand for about a tenth of the $1 billion that Congress set aside for the “cash for clunkers” program, meant to give rebates to people who turn in old vehicles for new, more fuel-efficient ones.
“By late Thursday afternoon, they ran to the White House with news that they might have committed the whole $1 billion, or even more. This stimulus program had, in fact, stimulated very heavy demand, which required a quick decision about what to do next.
“Over the course of 24 hours, the White House changed its mind three times. At first, it said it would shut off the incentives by day’s end. Then it let them continue through Friday, and then through Sunday.
“On Friday, the House voted to add $2 billion, soothing the fears of car dealers, who would have been responsible for paying any money they promised to customers as a rebate. But the Senate might not follow suit. Some senators said Friday that the speed at which the money flew out the door was a sign that the government’s deal was too good, and perhaps should be modified.”
Source: Matthew Wald, The New York Times, August 1, 2009.
MoneyNews: Doug Casey – America has died
“As the Obama administration has taken over the car industry, the banking industry, and the insurance industry, some experts now believe that American style capitalism is dead. Doug Casey, a free market capitalist and founder and chairman of Casey Research, is one of them.
“‘Unfortunately, the idea of America has died and it’s been replaced by another political entity called the United States, which in essence is no different from the 200 other countries spread across the globe,’ he says.
“In an exclusive interview with Dan Mangru of Newsmax TV and Moneynews.com, Casey tells why he sees American capitalism on the decline and why other countries such as China will eclipse the United States.
“‘The average entrepreneur in China has a lot more freedom than the average entrepreneur does in the United States. He pays a lot less taxes … he’s got a lot less regulation,’ says Casey.
“Casey goes on to tell Mangru that Communism is a ’scam’ and is designed to cheat workers.
“Casey also believes that the United States has not seen the worst of the economic crisis. ‘We’re just starting to see the beginning of what’s going to happen,’ Casey says.
“The United States has already entered what Casey calls the Greater Depression, one that will be much more serious than the 1930s. ‘This depression can be as long and as deep as you can possibly imagine,’ he says.
“The reason most people don’t realize this is that the majority of those giving economic opinions aren’t economists describing how the world actually works but political apologists describing how they think it ought to work, Casey notes.
“‘Everyone’s looking to the government for a solution, but all the government does is tax and regulate and inflate the currency,’ Casey says.
“Trillions of dollars of phony inflationary capital people believed were real assets have disappeared, says Casey. That’s going to continue to deplete the value of the dollar and guarantee catastrophic inflation in the future.
“‘If you’re relying on the US dollar, you’re relying on a figment of the US government’s imagination,’ says Casey. ‘To me, holding US dollars for the long term is about the most stupid thing you can do. Gold is the only financial asset that isn’t someone else’s liability.’”
Source: MoneyNews, July 29, 2009.
Wells Fargo Securities: Recession probability drops again
“Our monthly recession probability model turned in April, and the sharp drop is now confirmed by our quarterly model. Recent improvement of the LEI and ISM manufacturing series confirms economic recovery.
“Economic recovery prospects have improved. The probability of recession two quarters from now has downshifted sharply over the previous quarter. As evidenced in the top graph, the latest probability calculation from our model is consistent with prior economic recoveries. Our model takes a look at a very broad set of variables, and the results suggest economic recovery is likely within the next six months. The original model estimates were published in “Forecasting US Recessions with Probit Stepwise Regression Models,” Business Economics, January 2008. Economic improvement began to show up in our model in recent months in the regional Chicago manufacturing survey. While the official recovery call will come from the National Bureau of Economic Research, our outlook is that the recovery will begin in the third quarter of this year.
“As evidenced by the graph, the recession probabilities move quickly and thereby emphasize how rapidly the economic cycle can change. Moreover, the data suggest that while it may be fashionable for some so-called pundits to be always bearish or bullish the reality is that the economy is characterized by cycles and business leaders are best served by economic advice that recognizes that cycle.
“While we expect consumer spending to improve in the period ahead, we expect such growth to be disappointing to policymakers who anticipate a return to a normal pace of growth. Moreover, we expect the recovery will not be strong enough to produce jobs as in prior recoveries or to fuel the pace of housing/discretionary spending that we have come to expect. Slower-than-usual growth produces greater-than-expected pressures on public budgets.”
Source: Wells Fargo Securities, July 29, 2009.
Financial Times: Fed sees signs of economic improvement
“The pace of economic decline has moderated or stabilised in most parts of the US, the Federal Reserve said on Wednesday, with manufacturing, residential property and even employment showing some signs of improvement.
“According to the Beige Book, which offers a picture of the economy based on anecdotal evidence provided to the US central bank, overall economic activity has stabilised at a low level since its last report in early June when most regions reported that conditions were weak or worsening. The report adds to mounting evidence that the worst recession in the past 50 years is easing.
“The more optimistic tone was a welcome shift from reports earlier in the year signalling that the economy was in freefall. Many obstacles remain, however, and the Beige Book warned that commercial property, consumer spending and the labour market were still severely weakened.
“Retail sales remained sluggish in most of the Fed’s 12 districts, with consumers focused on cheaper necessities while luxury goods ‘languish’. Car sales were mixed early this summer, with purchases of new cars stalling while five regions reported growing strength in sales of less expensive used cars.
“Manufacturing activity remained ’subdued’ but improved from earlier in the year, as some districts reported that companies were replenishing inventories after months of clearing stocks to cope with the collapse of consumer demand.”
“Unemployment, which has reached a 26-year high of 9.5 per cent, is an ongoing worry, but there were some glimmers of hope in the Fed’s report. Seven districts said that businesses had begun to take advantage of the job cuts by partaking in “selective hiring” of top talent that other companies have shed. But the labour market is still “slack” and many businesses continue to cut workers, freeze pay or institute furloughs.”
Source: Alan Rappeport, Financial Times, July 29, 2009.
MoneyNews: Plosser – Obama risks damaging Fed
“Charles Plosser, president of the Federal Reserve Bank of Philadelphia, said he was concerned about the Obama administration’s plans to rewrite the nation’s financial regulations, saying it could leave the US Central Bank with an ill-defined role as bank regulator and make it less effective at its main job of fighting inflation.
“Plosser is one of 12 Federal Reserve regional bank presidents who have a voice in Fed decisions about interest rates and bank supervision.
“‘You don’t want an institution that is so heavy into other things that it fails to do its appropriate role on the monetary policy piece,’ Plosser told The Wall Street Journal.
“‘I would feel more comfortable with this if I had a clearer statement of what it is we’re expected to accomplish,’ he said.
“President Barack Obama has proposed giving the Fed additional power to oversee large financial institutions as part of a regulatory overhaul.
“Nevertheless, public opinion of the Fed is falling.
“A Gallup poll, conducted in mid-July, found that only 30% rated the Fed as doing an ‘excellent/good” job, down sharply from the 53% who thought the Fed was doing an excellent-to-good job in a survey in 2003, the Associated Press reported.”
Source: Forrest Jones, MoneyNews, July 28, 2009.
Financial Times: Bernanke explains Fed’s new openness
“Ben Bernanke has explained his decision to turn the normally secretive US Federal Reserve into something of an open house, saying his unusually large number of recent public appearances are the result of the ‘extraordinary’ times the country faces.
“The Fed chairman has turned up at everything from a 60 Minutes television interview to a Kansas City town hall session over the past few weeks, prompting some to wonder if he is trying to ensure he is reappointed when his four-year term ends in January.
“However, Mr Bernanke said he was answering a clear public need. ‘Normally Fed chairmen don’t do this kind of thing because we want to avoid causing near-term market volatility as people try to anticipate our next FOMC (Federal Open Markets Committee) meeting,” he told the Financial Times this week.
“‘But this is an extraordinary period. We want to answer the questions we know people have about what hit them in this economic crisis, what the Fed is doing about it and how we expect economic developments to play out.’
“The Fed’s new openness is well timed. This week, as the debate continues over the bank’s role in the financial crisis and proposed prudential powers, Gallup showed it is held in lower esteem than the Internal Revenue Service.
“More seriously, there is a populist headwind in Congress among some lawmakers who want to remove the Fed’s monetary independence.
“Cynics believe Mr Bernanke is using this public relations outreach to ensure he is reappointed next January. But Mr Bernanke says the goal is to educate the public about what the Fed does at a time when it keeps getting caught in the crossfire over its role in the crisis and its future prudential powers.”
“The chairman’s personal standing remains high. ‘I would be astonished if Ben isn’t reappointed,’ says Alice Rivlin, a former vice-chairman of the Fed. ‘He has become very good at interacting with people beyond the usual circles and he is good at avoiding traditional Fed-speak.’”
Source: Edward Luce, Financial Times, July 30, 2009.
Nouriel Roubini (The New York Times): The Great Preventer
“Last week Ben Bernanke appeared before Congress, setting off a discussion over whether the president should reappoint him as chairman of the Federal Reserve when his term ends next January. Mr. Bernanke deserves to be reappointed. Both the conventional and unconventional decisions made by this scholar of the Great Depression prevented the Great Recession of 2008-2009 from turning into the Great Depression 2.0.
“Mr. Bernanke understands that in the Great Depression, the collapse of the money supply and the lack of monetary stimulus during contractions worsened the country’s economic free fall. This lesson has paid off. Mr. Bernanke’s decision to keep interest rates low and encourage lending has, for now, averted the L-shaped near depression that seemed highly likely after the financial collapse last fall.
“To be sure, an endorsement of Mr. Bernanke’s reappointment comes with many caveats. Mr. Bernanke, a Fed governor in the early part of this decade, supported flawed policies when Alan Greenspan pushed the federal funds rate (the policy rate set by the Fed as its main tool of monetary policy) too low for too long and failed to monitor mortgage lending properly, thus creating the housing and credit and mortgage bubbles.
“He and the Fed made three major mistakes when the subprime mortgage crisis began. First, he kept arguing that the housing recession would bottom out soon (it has not bottomed out even three years later). Second, he argued that the subprime problem was a contained problem when in reality it was a symptom of the biggest leverage and credit bubble in American history. Third, he argued that the collapse in the housing market would not lead to a recession, even though about one-third of jobs created in the latest economic recovery were directly or indirectly related to housing.
“Mr. Bernanke’s analysis was mistaken in several other important ways. He argued that monetary policy should not be used to control asset bubbles. He attributed the large United States current account deficits to a savings glut in China and emerging markets, understating the role that excessive fiscal deficits and debt accumulation by American households and the financial system played.
“Still, when a liquidity and credit crunch emerged in the summer of 2007, Mr. Bernanke engineered a U-turn in Fed policy that prevented the crisis from turning into a near depression. He did this largely with actions and programs that were not in the traditional toolbox of monetary policy.”
Click here for the full article.
Source: Nouriel Roubini, The New York Times, July 25, 2009.
Clusterstock: Thank goodness for government spending
“Today’s better-than-expected -1% GDP was tempered, somewhat, by the staggering 11% spike in Federal Government spending (hello stimulus!). Today’s chart looks back at the Y/Y GDP change with the same number sans government spending. As you can see from the divergence, the government boost provides a big help.”
Source: Joe Weisenthal and Kamelia Angelova, Clusterstock – The Business Insider, July 31, 2009.
BCA Research: US GDP – major benchmark revision to growth
“US output net of inventories stabilized in the second quarter, which could foreshadow positive growth in the second half as inventory levels are rebuilt.
“Although the advanced GDP report for the second quarter beat expectations, it also indicated that the 2008 downturn in growth and consumer spending was considerably weaker than previously thought. Gross domestic product contracted by 6.4% (at annual rates) in the first quarter, a much weaker result than the previous estimate of 5.5%. Consumer spending was also revised markedly lower. Interestingly however, real final sales of domestic product – i.e. GDP net of the change in inventory – has stabilized, a fairly positive sign that growth can turn positive in the second half of the year as inventories are rebuilt.
“Bottom line: We expect a gradual recovery in the US economy in the months ahead, but the Fed will need to keep the policy setting extremely aggressive to achieve a self-reinforcing upturn in consumer confidence and spending.”
Source: BCA Research, July 31, 2009.
Asha Bangalore (Northern Trust): Jobless claims report makes a case that the labor market is improving
“Initial jobless claims rose 25,000 to 584,000 during the week ended July 25. There were seasonal distortions in the early part of July which have been more or less corrected now. Typically, layoffs at auto companies increase in July for retooling. This year the layoffs occurred in May and June and were related to the GM and Chrysler bankruptcy issues. This shift in layoffs led to lower seasonally adjusted jobless claims in July and the readings we see now are gains after the artificial decline. Despite the increase in initial jobless claims in the past two weeks, the peak in initial jobless claims has occurred in March 2009 (674,000).”
“Continuing claims, which lag initial jobless by one week, fell 54,000 to 6.197 million. Continuing claims have declined in four out of the last five weeks.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, July 30, 2009.
The Wall Street Journal: Consumer-debt picture shows one sign of improvement
“Fewer American households appear to be falling behind on their debt payments, according to a new study, but some economists question whether the data reflect a meaningful easing of consumer-credit problems.
“‘I feel very confident we are at a turning point,’ said Mark Zandi, chief economist of Moody’s Economy.com. ‘Household credit conditions are set to improve significantly by this time next year,’ he said. Mr. Zandi attributed the turn to tightening lending standards.
“Mr. Zandi’s outlook is based largely on his analysis of 7.5 million credit files supplied by Equifax Inc., the credit-reporting titan based in Atlanta. The files analyzed represent 5% of US consumers. The analysis showed that the number of mortgage, credit-card and other consumer loan payments that were 30 and 60 days past due fell by nearly 1.1 million to 13.9 million at the end of June, on a seasonally adjusted basis, from three months earlier. Nearly two-thirds of the decline came from falling credit-card delinquencies.
“The analysis of ‘early-stage’ delinquencies can be key to spotting changing trends. When such data show a slowing, it could indicate that total delinquencies will come down in the next six to 12 months. But the data don’t mean the broader credit problems plaguing banks and other lenders will be eliminated anytime soon.
“In fact, the total number of seriously delinquent borrowers and those in default will keep rising for some time, as borrowers who are 30, 60 and 90 days delinquent move to the next phase of delinquency. Overall, household liabilities in delinquency and default rose to $1.15 trillion in June, 10% of total liabilities, according to Mr. Zandi’s analysis of the Equifax data. The delinquency and default rate in June was up from 8.96% in March and 8.01% in December.
“Still, Mr. Zandi said the reduction in newly delinquent borrowers is a positive sign for the economy, especially coming at a time when ‘the job market and housing market are still bad and getting worse. Once those markets stabilize, when combined with the tighter underwriting, we will see a dramatic improvement in credit quality.’
“But not all analysts are convinced. Some believe that improvements in the data represent little more than temporary blips that will reverse as a new wave of credit problems emerge.”
Source: Ruthe Simon and Constance Mitchell Ford, The Wall Street Journal, July 25, 2009.
Asha Bangalore (Northern Trust): Durable goods orders – decline in airline and defense masks improvement
“Orders of durable goods fell 2.5% in June after a 1.3% increase in May. The 38.5% drop in orders of aircraft and a 28.3% decline in bookings of defense equipment resulted in the overall plunge in orders of durable goods. Orders of non-defense capital goods excluding aircraft increased 1.4% following a 4.3% gain in the prior month.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, July 29, 2009.
Asha Bangalore (Northern Trust): Sales of new homes surge in June, inventories of unsold homes are sliding down
“Sales of new single-family homes rose 11.0% to an annual rate of 384,000 in June, after gains in both April and May. The bottom of the housing market appears to have occurred in January 2009 (329,000). Sales of new single-family homes have dropped 72% from the peak registered four years ago in July 2005. On a year-to-year basis, sales of new single-family homes fell 20% in June, a noteworthy deceleration following the largest cyclical drop in January 2009 (45.5%).”
“The inventory-sales (I-S) ratio of new single-family homes has dropped significantly. This ratio has dropped in four of the five months ended June. The median I-S ratio is roughly a 6-month supply. The I-S ratio of all new homes was an 8.8-month supply in June, down from a 12.4-month supply in January. Unsold and sold homes are reported as three sub-categories – not started, under construction, and completed homes. Within the sub-category of unsold/sold completed homes, the I-S ratio was an 8.0-month supply in June vs. a peak of a 12.8-month supply in January.
“The median number of months to sell a new single-family home continues to advance, and in June it reached a new record high of an 11.8-month supply.
“The median price of a new single-family home was $206,200 in June, down 11.9% from a year ago. The elevated level of inventories continues to influence prices of new single-family homes.
“In sum, the housing market is stabilizing with sales of both new and existing single-family homes having advanced in each of the three months ended June and the I-S ratios of new and existing unsold homes have peaked.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, July 27, 2009.
Standard & Poor’s: Case-Shiller – home price declines continue to abate
“Data through May 2009, released today by Standard & Poor’s for its S&P/Case-Shiller Home Price Indices, show that, although still negative, the annual rate of decline of the 10-City and 20-City Composites improved for the fourth consecutive month in 2009.
“The chart above depicts the annual returns of the 10-City and 20-City Composite Home Price Indices. The 10-City and 20-City Composites declined 16.8% and 17.1%, respectively, in May compared to the same month last year. These values are improvements over April’s data, which show annual declines of 18.0% and 18.1%, respectively. After 16 consecutive months of record annual declines, beginning in October 2007 and ending in January 2009, the indices have now shown four consecutive months of improvement in annual returns.
“‘The pace of descent in home price values appears to be slowing,’ says David Blitzer, Chairman of the Index Committee at Standard & Poor’s. ‘There is a clear inflection point in the year-over-year data, due to four consecutive months of improved rates of return, after the steep decline that began in the fall of 2005. In addition to the 10-City and 20-City Composites, 17 of the 20 metro areas also saw improvement in their annual returns compared to those of April. Looking at the monthly data, 13 of the 20 metro areas reported positive returns; and the 10-City and 20-City Composites reported positive returns for the first time since the summer of 2006. To put it in perspective, these are the first time we have seen broad increases in home prices in 34 months. This could be an indication that home price declines are finally stabilizing.’”
Source: Standard & Poor’s, July 28, 2009.
Floyd Norris (The New York Times): Politicians accused of meddling in bank rules
“Accounting rules did not cause the financial crisis, and they still allow banks to overstate the value of their assets, an international group composed of current and former regulators and corporate officials said in a report to be released Tuesday.
“The report, from the Financial Crisis Advisory Group, also deplored successful efforts by politicians to force changes in accounting rules and said that accounting standards should be kept separate from regulatory standards, contrary to the desire of large banks.
“‘The message to political bodies of ‘Don’t threaten, Don’t coerce’ flies in the face of some of what has been coming from the European Commission and from members of Congress,’ said Harvey Goldschmid, a co-chairman of the group and a former member of the Securities and Exchange Commission.
“‘We have become increasingly concerned about the excessive pressure placed on the two boards to make rapid, piecemeal, uncoordinated and prescribed changes to standards, outside of their normal due process procedures,’ the group wrote in its report, which was commissioned by the Financial Accounting Standards Board of the United States and the International Accounting Standards Board.
“‘While it is appropriate for public authorities to voice their concerns and give input to standard setters, in doing so they should not seek to prescribe specific standard-setting outcomes,’ the report added.”
Source: Floyd Norris, The New York Times, July 28, 2009.
CFO: Five firms hold 80% of derivatives risk, Fitch report finds
“Members of Congress probing threats to the global financial system – especially the threat of concentration of risk – will have a lot to ponder in newly mandated disclosures highlighted by a Fitch Ratings report issued last week. While derivatives use among US companies is widespread, an ‘overwhelming majority of the exposure is concentrated among financial institutions,’ according to the rating agency’s review of first-quarter financials.
“Concentrated, in fact, among a mere handful of financial-services giants. About 80% of the derivative assets and liabilities carried on the balance sheets of 100 companies reviewed by Fitch were held by five banks: JP Morgan Chase, Bank of America, Goldman Sachs, Citigroup and Morgan Stanley. Those five banks also account for more than 96% of the companies’ exposure to credit derivatives.
“About 52% of the companies reviewed disclosed there were credit-risk-related contingent features in their derivative positions. Such features require a company to post collateral or settle outstanding derivative liabilities if there’s a downgrade of the company’s credit rating.
“The Fitch analysts also found that just 22 companies disclosed the use of equity derivatives. Just six nonfinancial firms – IBM, General Motors, Verizon, Comcast, Textron and PG&E – reported exposure to share-based derivatives.”
Source: David Katz, CFO, July 24, 2009.
Bloomberg: Schumer presses SEC for ban on “unfair” high-frequency trades
“Charles Schumer, the third-ranking Democrat in the US Senate, asked the Securities and Exchange Commission to ban so-called flash orders for stocks, saying they give high-speed traders an unfair advantage.
“Schumer’s letter to SEC Chairman Mary Schapiro yesterday raised the stakes in a debate over the practice offered by Nasdaq OMX Group, Bats Global Markets and Direct Edge Holdings LLC, which handle more than two-thirds of the shares traded in the US. With flash orders, exchanges wait up to half a second before they publish bids and offers on competing platforms, giving their own customers an opportunity to gauge demand before other traders.
“‘This kind of unfair access seriously compromises the integrity of our markets and creates a two-tiered system, where a privileged group of insiders receives preferential treatment,’ Schumer wrote in the letter.
“Flash orders make up less than 4% of US stock trading, according to Direct Edge and Bats. They have drawn criticism from the Securities Industry and Financial Markets Association, which is Wall Street’s main lobbying group, and Getco LLC, one of the biggest firms that uses high-frequency trading strategies to make markets in stocks and options. NYSE Euronext, owner of the world’s largest exchange by the value of companies it lists, told the SEC in May that the technique results in investors getting worse prices.
“Schumer, a member of the Senate Banking Committee, said he will introduce legislation to ban flash orders if the SEC doesn’t act on his request.”
Source: Edgar Ortega and Eric Martin, Bloomberg, July 25, 2009.
Financial Times: Emerging markets rush to issue debt
“Emerging market bond issuance has risen to record levels as investors hungry for greater risk switch to the securities because of attractive yields.
“The surge in issuance this year, to its highest since records began in 1962, is an encouraging sign for the world economy as activity in emerging market bonds had seized up until a few months ago.
“The bond market freeze had made it difficult for governments and companies, especially those in eastern Europe hit by the credit crunch and needing to refinance debt.
“Bond volumes in emerging markets have risen to $352 billion so far this year, according to Thomson Reuters, up 45% on the same period in 2007 before the financial crisis.
“July, typically a slower month as investors wind down for the summer holidays, has been the second highest for new volumes, with issuance rising to $60 billion.
“China has been the biggest issuer this month, but countries such as Poland and Hungary have been able to tap markets.
“Hungary, which was forced to turn to the International Monetary Fund for financial support, this month launched its first international bond since June 2008.
“Bankers said the pick-up in bond yields had been a big factor in attracting investors.
“Yields on emerging market sovereign bonds, measured by JPMorgan’s Embi Index, are nearly 2 percentage points higher than those on single A rated US corporate bonds.
“Bryan Pascoe, global head of debt syndicate at HSBC, said: ‘Although emerging market bond spreads have narrowed, they still offer a lot of value compared with developed market corporate spreads, with better credit fundamentals in many cases.’”
Source: David Oakley, Financial Times, July 26, 2009.
Bespoke: Financial default risk at lowest level since June 2008
“Our Bank and Broker CDS Index measures credit default swap (CDS) prices for global financial firms on a cap weighted basis. Below is a chart of our index that shows the huge spike in default risk that occurred during the peak of the financial crisis in late 2008 and early 2009. As things have settled down, default risk has now moved well below the levels it was at just before the Lehman bankruptcy. Our CDS index is currently at its lowest level since June 23, 2008, and it’s down a whopping 67% from its all-time high.”
Source: Bespoke, July 29, 2009.
Bespoke: Country returns
“The S&P 500 is up 11.24% since July 10, which is a significant move in such a short period of time. The recent gains also put the index up nicely at 8.28% year to date. As shown below, the US has performed well relative to the rest of the world. Since July 10, it ranks 22nd out of 82 countries. Russia is up the most with a gain of 24.23%, followed by Hungary, Poland, Norway, Romania, and Germany. Middle and Eastern European countries have seen some of the biggest gains in recent weeks.
“While China has been the second best performing country (behind Peru) year to date, it is only up 10.32% since July 10. This is better than most countries, but it hasn’t been the worldwide leader that it was earlier in the year. Five of the G-7 countries have outperformed China, and all seven G-7 countries are in the top 50% in terms of performance. This is a sign that developed markets have been holding their own against emerging markets in recent weeks. Only ten out of 82 countries are down since July 10, with Slovakia leading the way at -5.67%.”
Source: Bespoke, July 27, 2009.
Bespoke: Newsletter writers turning a little more bullish
“This week’s release of the Investors Intelligence survey of newsletter writers showed a moderate increase in bullish sentiment. As shown, the bulls rose back above 40%, although they’re still below levels from early July. Bearish sentiment also declined, but it too is still above 30% and higher than it was a few weeks ago. The market’s rally over the last two weeks has certainly improved spirits, but given the gains, one would expect a larger increase in positive sentiment.”
Source: Bespoke, July 29, 2009.
Bespoke: Are institutions participating in the rally?
“We recently broke the S&P 500 into 10 deciles (10 groups of 50 stocks) based on the amount of a stock’s shares that are held by institutions. We then calculated the average performance of the stocks in each decile since the rally ramped up again on July 10. As shown below, the two deciles of stocks with the most institutional ownership are up the most, while the decile of stocks with the lowest institutional ownership is up the least. Based on this analysis, institutional investors do believe in the rally, and maybe even more than individuals.”
Source: Bespoke, July 27, 2009.
Clusterstock: Shades of 1929
“We’ve put together an amazing, fool-making rally since the market hit its lows in early March. Of course, before you break out the champagne, remember that a strong bull run can happen during a long-term decline.
“We have eclipsed most such precedents. But we did have one big bull run of nearly the exact same length and magnitude between November 1929 and April 1930. And you know what happened after that.”
Source: Joe Weisenthal and Kamelia Angelova, Clusterstock – The Business Insider, July 30, 2009.
Bespoke: Dividend stocks outperform during the rally
“Prior to the 2008 financial crisis, investors typically flocked to stocks with high dividends as safety plays when the overall market was in correction mode. However, since so many financial stocks had nice yields, dividend stock indices and ETFs actually underperformed the S&P 500 throughout the last bear market. The ability for companies to actually pay their dividends eventually came into question, and that added even more fear to owning high yield stocks.
“Below we highlight the performance of the Dow Jones Dividend Select Index versus the S&P 500 during the bear market that ran from 10/9/07 to 3/9/08. As shown, the dividend index was down 60.3% versus the S&P 500’s decline of 56.7%. Since the March 9 bottom, however, dividend indices have outperformed. As shown in the bottom chart, the same dividend index is up 51.16% while the S&P 500 is up 45.18%.”
Source: Bespoke, July 28, 2009.
Bespoke: Q2 earnings growth versus estimates
“At the start of the second quarter, the consensus estimate was that S&P 500 earnings versus Q2 ‘07 would be down 31.3%. As shown below, this estimate trended downward to a low of -35.1% on May 15, picked back up again through the end of May, and then dropped to -35.2% on July 10 just when earnings season was beginning.
“One of the reasons the market has done so well this earnings season is because actual earnings growth has come in better than expected. Fifty percent of the S&P 500 has reported second quarter numbers, and the collective change in earnings from Q2 ‘07 to Q2 ‘08 has been -24.8%. This is a negative number, but compared to the estimates, it’s a positive.”
Source: Bespoke, July 29, 2009.
Clusterstock: China’s incredible run
“Chinese shares crashed 5% on Wednesday, setting off a mild panic about Asian stocks and currencies. Chinese stocks have had a massive rally this year, by far outpacing the S&P’s meteoric rise since March. So perhaps a pull back shouldn’t be that much of a surprise.”
Source: Joe Weisenthal and Kamelia Angelova, Clusterstock – The Business Insider, July 29, 2009.
Bloomberg: China stocks plunge on tightening concern
“China’s stocks plunged, driving the Shanghai Composite Index down the most in eight months, on speculation the government will curb inflows into a market that had doubled from last year’s low.
“The benchmark gauge lost 5%, snapping a five-day, 7% advance that pushed valuations to their highest since January 2008. The gauge has gained 79% this year as government stimulus spending, record bank lending and an economic rebound spurred demand for equities.
“‘Speculation the central bank may take steps to rein in liquidity worried the market,’ said Gabriel Gondard, deputy chief investment officer at Fortune SGAM Fund Management Co., which oversees about $7.2 billion in assets. ‘A lot of people were looking to take profit’ after the market gains.
“‘Expensive valuations and jitters among investors about fast share-price gains are enough to trigger panic selling like today,’ said Larry Wan, Shanghai-based deputy chief investment officer at KBC-Goldstate Fund Management Co., which oversees about $583 million in assets.
“Stocks plunged amid speculation the central bank is poised to order lenders to set aside larger reserves, Beijing-based Caijing magazine reported today on its website. Market News International said Chinese equities fell on speculation regulators will increase a tax on stock trading.”
Source: Bloomberg, July 29, 2009.
MoneyNews: China says loose monetary policy to stay
“China’s central bank pledged to maintain loose monetary policy to support the economy and said it would ensure sustainable credit growth without resorting to heavy-handed quotas to rein in a lending spree.
“In a statement that analysts said was intended to calm skittish markets, the People’s Bank of China Vice Governor Su Ning said the central bank ‘will unswervingly continue to apply appropriately loose monetary policy and consolidate the economic recovery momentum.’
“The statement was posted on the bank’s website after Wednesday’s 5% fall in the Chinese stock market, its biggest daily drop in eight months, which had been sparked in part by worries that Beijing would restrict bank lending.
“But there was also a hint of a gradual shift in policy footing when an unnamed official was quoted by state-run Xinhua news agency as saying that the central bank would ‘fine tune’ its loose monetary stance and keep prices ‘within a reasonable and controllable range’.
“Officials have expressed concern about the risk of stock and property bubbles inflating because of an unprecedented surge in bank lending, and the central bank said this week that consumer prices, now in mild deflationary territory, could start rebounding after the third quarter.
“China has in the past used a quota system to control lending, telling banks not to exceed specific ceilings. This credit management was a key prong of China’s monetary tightening in 2008 and it was subsequently blamed for contributing to the economy’s sharp slowdown in the fourth quarter.
“Su’s comments appeared to rule out an imminent return to a strict, central bank-directed quota system.
“‘They are responding to an incorrect interpretation by the market,’ said Ting Lu, economist with Merrill Lynch in Hong Kong.
“Beijing has tamped down a little on the tide of money washing through the economy, but it is seen as unwilling to shift to more substantial tightening until a full-fledged recovery is assured.”
Source: MoneyNews, July 30, 2009.
Bespoke: IBD 100 China edition?
“Investors Business Daily has its IBD-100 list that highlights the most attractive stocks from an earnings, growth, and relative strength perspective. When the market is rallying, the IBD-100 has historically outperformed, and when it corrects, these stocks usually underperform.
“This weekend, however, we wondered whether we were reading an alternate edition of the newspaper. When looking through the top stocks in the IBD-100, seven of the top eight and ten of the top twenty were Chinese stocks listed in the US. We’re all well aware of how China has recently been the leading force of economic growth, but given the strength in these names, one has to at least wonder how much of this growth has already been priced in.”
Source: Bespoke, July 28, 2009.
MoneyNews: Gross: Wall Street to blame for high fees
“Bill Gross, the influential manager who runs top bond fund PIMCO, on Wednesday lambasted his industry for charging investors hefty fees for subpar performance amidst the worst economic crisis since the Great Depression.
“In his latest investment letter to clients, Gross, co-chief investment offer of Pacific Investment Management Co., said roughly 90% of the $1.5 trillion in 401K and other defined contribution assets in mutual funds are ‘actively managed’. And yet many of those portfolio managers posted unspectacular performance for exorbitant fees, close to 1%, he asserted.
“He likened the situation to the infamous Madame Rue selling Potion #9.
“‘I’ve never known any gold-capped tooth money managers, but without squinting very hard there is undoubtedly a strong resemblance between all of us ‘managers’ and the infamous Madame Rue selling Potion #9,’ Gross said. ‘Instead of love, though, we sell ‘hope’, but very few are able to seal the deal with performance anywhere close to compensating for the generous fees we command.’
“Gross said investors paying for those potions during an era of asset appreciation with double-digit returns may have been ‘tolerable’, but if investment returns gravitate close to 6% as his firm envisions, ‘then 15% of your income will be extracted based on the beguiling promise of Madame Rue’.
“He highlighted a recent Barron’s article that pointed out that stock funds extract an average 99 basis points or virtually 1% a year in fees from an investor’s portfolio, while bond managers at 75 basis points. Many money market funds manage to charge 38 basis points.
“‘Since money market funds barely earn 38 basis points these days, much of the return winds up in the hands of investment managers,’ Gross said. ‘A mighty expensive potion indeed.’
“For his part, Gross’ PIMCO Total Return Fund, whose assets under management of $164 billion makes it the world’s largest mutual fund, ranks as a strong performer. The Fund charges 46 basis points to investors.
“Gross reiterated that economic growth for the United States will fall short of recent years, expanding around 3% a year once it emerges from recession. The US economy was growing at 5-7% a year for 15 years before it plunged into the worst recession in decades.
“Slower growth means lower profit growth, permanently higher joblessness, constrained consumer spending and increased government involvement, Gross added.
“‘The ‘new normal’ nominal GDP, the future return on our stock of labor and capital investment, will likely be centered closer to 3%, for at least a few years once a recovery is in place beginning in this year’s second half,’ Gross said. ‘Diminished capitalistic risk taking and constrained policymaker releveraging will lead to that likely conclusion.’”
Source: MoneyNews, July 29, 2009.
Steve Barrow (Standard Bank): SNB battles stubborn franc
“Signs are finally emerging that the Swiss National Bank (SNB) may succeed in its aim of driving down the franc, believes Steve Barrow, currency strategist at Standard Bank.
“He notes that it is highly unusual for a central bank to promise to keep a currency from rising. ‘It is more common for them to aim to avoid currency weakness. This is a very important difference.’
“Usually, he says, central banks looking to defend their currency face the problem that they could run out of reserves. Any hint of this happening can lead to intense pressure on the currency. But for the SNB, no such constraint exists – it can intervene with a potentially limitless supply of newly-printed francs, which should leave the market running scared.
“So why has the franc stubbornly refused to fall?
“‘All theories concerning the effectiveness of intervention stress the importance of falling interest rates,’ Mr Barrow says. ‘The problem for the SNB has been that rates are about as low as they can go with a three-month Libor target of 0.25%. But there are signs of a bit more rate divergence now, especially further down the curve. For instance, quite a gap has opened up in 10-year bond spreads between Germany and Switzerland.
“‘With similar, if smaller, divergences creeping in at the front end, the euro could be on its way back to the SFr1.5450 level seen in the wake of the original decision to target franc weakness in March.’”
Source: Steve Barrow, Standard Bank (via Financial Times), July 29, 2009.
TheStreet.com: Frank Holmes – gold will hit $1,300
“Frank Holmes, CEO and Chief Investment Officer of US Global Investors, argues that deflation and the dollar are the main factors moving gold futures and he outlines his number one trading strategy for the rest of the summer.”
Source: TheStreet.com via (via YouTube), July 30, 2009.
Bloomberg: Goldman – crude oil to rise to $85 by year-end
“Goldman Sachs Group Inc. said it is maintaining its forecast that West Texas Intermediate crude oil will reach $85 a barrel by year end as the recent weakness in market fundamentals will be temporary.
“Oil demand will be supported by stabilization in US industrial activity and a positive outlook for China’s economic growth, the bank said in a report today.
“‘Concerns over economic growth and weak oil statistics led a commodity sell-off yesterday,’ said Goldman analysts, led by London-based Jeffrey Currie. ‘However, we believe most of these drivers are less negative than they first appear.’
“‘We maintain that demand stabilization will be critical to a sustainable rise in oil prices that we expect later this year,’ the analysts said. ‘Stabilization in industrial activity and a nascent slowing in industrial destocking give us confidence in this view.’
“Goldman closed its recommendation to buy crude futures for December 2011 delivery in a July 27 report after long-dated oil prices approached the bank’s target of $85 a barrel.”
Source: Bloomberg, July 30, 2009.
CNBC: Speculators hiked oil prices – Chilton
“New data shows speculators played an important role in last year’s hike in oil prices, Bart Chilton, one of four CFTC commissioners, told CNBC Tuesday.”
Source: CNBC, July 28, 2009.
Nationwide: UK house prices up for third month in a row
“The price of a typical house rose for the third consecutive month in July, increasing by 1.3% on a seasonally adjusted basis. The 3 month on 3 month rate of change – generally a smoother indicator of the near term trend – rose from 1.0% in June to 2.6% in July, the highest level since February 2007. House prices are still 6.2% lower than 12 months ago, but this represents another sharp improvement from the 9.3% year-on-year decline in June.
“Even if prices were to remain unchanged for the rest of 2009, the year-on-year rate would continue to improve since prices were falling very sharply in the second half of last year. For the first seven months of 2009 as a whole, prices have risen by a cumulative 1.3%, suggesting there is now a reasonable chance that prices could end the year slightly higher than where they started. Only a few months ago, such an outcome would have appeared unthinkable.”
Source: Nationwide, July 30, 2009.
The Wall Street Journal: UBS, Swiss reach pact on US tax probe
“UBS AG and the Swiss government, rocked by months of embarrassing details about bank secrecy and guilty pleas for UBS clients, agreed to settle a tax-evasion probe with US authorities.
“The agreement appears to signal that thousands of US client accounts, hidden in offshore shadows, will be turned over to US revenue agents.
“The settlement, announced during a teleconference with a federal court judge Friday ahead of a scheduled hearing in Miami on Monday, closes one chapter in the long-running case that centered on the Internal Revenue Service’s demand that UBS turn over the identities of 52,000 UBS accounts that belong to UScitizens.
“Details of the settlement weren’t provided during the call, with the Justice Department simply reporting that the parties had reached an agreement in principle and would work to resolve remaining issues in the coming week. Another conference that could shed more light on the deal is set for Friday.
“But lawyers involved in the case said one likely scenario is that UBS will turn over the identities of some, but not all, of the 52,000 accounts.
“‘I think it’s possibly going to push north of 10,000,’ said William Sharp, a Tampa, Fla., lawyer who is representing UBS clients and was working on the case in Zurich in the past week.
“‘We have never before seen so many US citizens and residents potentially subject to criminal tax prosecution on the same basic issue,’ said Bryan Skarlatos, a partner at New York law firm Kostelanetz & Fink LLP who is representing UBS clients.
“UBS and the Swiss government argued in the tax-evasion case that Swiss bank-privacy law meant the bank couldn’t hand over the account identities. It now appears that UBS and the Swiss government have combed through the files and identified enough potential fraud to make them willing to hand over information about certain accounts.
“Swiss laws don’t provide confidentiality if people engage in fraudulent activities such as setting up accounts with shell companies that lack any real business substance.”
Source: Carrick Mollenkamp, Stephen Fidler and Laura Saunders, The Wall Street Journal, August 1, 2009.
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