Gluskin Sheff
Commentary
Implications of the Debt Downgrade
As we had suggested in recent weeks, a U.S. downgrade was going to likely be more negative for the equity market than Treasuries, and that is exactly how the week is starting off. The reason is that history shows that downgrades light a fire under policymakers and the belt-tightening budget cuts ensue, taking a big chunk out of demand growth and hence profits. It is not just the United States the problem of excessive debt is global, from China to Brazil to many parts of Europe. And lets not forget the Canadian consumer.
Commentary
American Consumer Sputtering in Q1
The U.S. consumer spending and income report for February was a bit of a mixed bag. First, personal income in the U.S. did eke out a 0.3% MoM gain in February, but it was below expected and failed to keep up with the rise in inflation, which are largely, but not exclusively, being driven by food and fuel prices (accounting for half the increase). The personal consumption expenditure (PCE) price deflator rose 0.4% MoM and as such real income - straight up, net of taxes and excluding personal transfers - fell 0.1% in the first contraction since last September.
Commentary
The Profit Boom is Over
A seven-quarter run of positive profit growth ? six were double-digits ? came to an end in the fourth quarter as pre-tax corporate profits in the U.S.A. sagged at a 10% annual rate (looking at corporate earnings before tax without inventory valuation and capital consumption adjustments). That was the first decline since the fourth quarter of 2008. The YoY growth rate is still healthy at +16% but off the boil, that is for sure.
Commentary
Bullish Sentiment Entrenched
A mini corrective phase in the equity market came and went. Investors have been groomed to buy the dip this cycle, and this is not just a mere observation. The flare-up in the Middle East, the tragic nuclear disaster in Japan, and not even a recent slate of poor U.S. economic data have put much of a dent in what is still an extremely positive sentiment readings. Bob Farrell?s Rule 9 seems to be facing a stiff headwind from the Fed?s overt policy stance on lifting valuation levels for risk assets. The bulls are fully in control and can now see new highs in sight for the major averages.
Commentary
Shiller P/E Still Points to Extreme Overvalution
One of our favourite equity valuation metrics, the Shiller Cyclically Adjusted P/E ratio, continues to suggest that the equity market remains overvalued (the cyclically-adjusted P/E uses 10-year earnings to smooth out volatility). At 23.7x, it suggests an overvaluation of over 40% relative to historic norms (and in this case the data goes back to the late 1800s). Note that this indicator has been over 23x for three months in a row, something we haven?t seen since early 2008.
Commentary
In Search of Value
Within the space we do favour large-caps, strong balance sheets, high-quality, low P/E stocks, and commodities, especially energy. But among all the worries, we still see this as an overvalued market and we believe in buying low and selling high. We know that many pundits like to use short-term market measures of valuation using year-ahead or trailing earnings or cash flow, which at times seems a little disingenuous for an asset class that is inherently long-term in duration. Be that as it may, perhaps we can shed some light on why patience may still be virtuous here.
Commentary
There are Still So Many Unknowns
There are still many unknowns with regard to the global macro picture, but what we do know are the following 10 things: 1. There are more upside than downside risks to the oil price. 2. Japan was already the number-one importer of liquefied natural gas (LNG) and this status will be accentuated as replacements for a damaged nuclear grid is sought. 3. Nuclear energy development takes a near-term hit here by the politics of the Japanese crisis but not a permanent hit. 4. The aftershock in Japan will be related to contaminated food supply so we can expect to see more inflation on this score too.
Commentary
Equity Market Bounce-Back -- Don't get Too Excited
Between the put-to-call ratio and the 40% share of stocks trading below their 50-day moving average, the U.S. stock market became hugely oversold. Plus we had the skew from the quadruple-witching session. And the cease-fire announced in Libya and the FX intervention to reverse the yen?s strength provided some fodder for the shorts to cover. But trend lines have been broken, portfolio managers have little cash to work, and according to a ML-BAC survey, we had a net 67% of global portfolio managers overweight equities against their position. Plus, the world is still a very uncertain place.
Commentary
Has the Game Changed?
An object at rest will remain at rest unless acted on by an unbalanced force. An object in motion continues in motion with the same speed and in the same direction unless acted upon by an unbalanced force. This is otherwise known as Newton?s first law of motion. In market parlance, this implies that a trend remains in force until such time as an exogenous shock causes it to either stall or reverse. Economic, geopolitical, and natural disaster events aside, equity markets around the world have definitely broken their intermediate-term uptrend.
Commentary
Consumer Confidence Turns Back Down
According to an RBC consumer outlook poll, one in three U.S. households is already ?significantly? cutting back on spending because of rising gasoline prices. And this was a survey taken at a time when the national average price at the pumps was around $3.20 per gallon ? wait and see what happens when it costs four bucks to fill up the tank ? that is the pain threshold for 41% of the consumer sector as per this poll.
Commentary
Random Post-Employment Thoughts and Consensus On Oil Impact
The consensus is that the U.S. labor market is healing. That may well be the case but the slack in the job market remains huge allowing for a structural rise in the unemployment rate. Only 15% of the recession job losses have been recouped despite the fact that expansion has surpassed the downturn. The consensus is that the world economy has gotten used to high levels of oil prices so this latest run-up in crude poses little risk to the economic outlook. But it is change that matters to growth, not levels. As for the macro impact, do not understate the potential for economic contraction.
Commentary
Payroll Review ? Nice Job, Shame about the Paycheck
The reaction to the jobs report today is uniformly positive. I think a dose of reality is really needed here. It may as well come from this pen. Here is what I think is important: because of the winter storms, we really have to average out the past two months. While we are seeing positive job growth, it is not accelerating even though we are coming off the most intense impact of the fiscal and monetary easing that was unveiled late last year. We are disappointed with what is still a lackluster trend in net job creation, particularly in view of the peak stimulus we are currently experiencing.
Commentary
What Happens If There is No QE3?
?who picks up the slack if the Fed stops its bond-buying program?? The answer is hardly complicated since we have a template for this. It is a very simple guidepost. Last year, from April 23rd through to August 27th, the Fed allowed its balance sheet to shrink from $1.207 trillion to $1.057 trillion for a 12% contraction as QE1 drew to a close. Go back a year to the Federal Open Market Committee minutes and you will see a Federal Reserve consumed with forecasts of sustainable growth and exit strategy plans. A sizeable equity correction coupled with double-dip fears were nowhere to be found.
Commentary
Random Market Thoughts
Only time will tell if yesterday?s market action was a true watershed. It was the first time since last July that the stock market was down on the first day of the month. Till yesterday, the opening days in January and February had already accounted for over half the year-to-date gains in the S&P 500. It was also the first time since the last leg of the bear market rally began six months ago that ?good? news failed to ignite equity prices. Yesterday we saw auto sales shoot up 6.7% to 13.4 million units, which was the best level since August 2009, and we also saw the ISM inch higher.
Commentary
The Good, The Bad and The Ugly
The good: The manufacturing data in the U.S. continues to improve, at least within the confines of the major diffusion indices. The bad: The U.S. income and spending numbers were hardly stellar. It remains to be seen how much of the weakness was weather-related, but consumer spending dipped 0.1% in January ? the first decline since Apr 2010. The fact is that consumers kept a lid on their spending even with the fiscal windfall in Jan, pushing the savings rate up to a four-month high of 5.8% from 5.4% in both Nov and Dec. The ugly: The housing sector remains in the dumpster.
Commentary
Random Thoughts
The combination of sharply higher oil prices, the global food crisis, the accelerating geopolitical risks abroad, and the switch in the United States from fiscal stimulus to restraint ? all will serve to complicate the macro and market outlook further. Valuation may not be at an extreme, but most measures of market sentiment are. And some folks are beginning to notice that the wheels are starting to fall off the tracks.
Commentary
What Really Drives the Market
Well, we used to say there were four key drivers: 1. Fundamentals; 2. Fund flows; 3. Technicals; 4. Valuation; Then we introduced another one last week: 5. The Fed?s balance sheet; Now that is not going to be included in any of the Graham & Dodd textbooks, that is for sure. But since Dr. Bernanke embarked on his non-traditional monetary maneuvers two years ago, there has been an 86% correlation between the S&P 500 and the movement in the Fed?s balance sheet. And now there is a sixth: 6. Corporate earnings surprises Yes, this works with a 90% historical accuracy rate.
Commentary
Will the Oil Price Be a Game Changer?
First Tunisia. Then Egypt. And now Libya. What makes Libya different from a market?s perspective is that we are now talking about an oil exporter in the sudden grips of political upheaval. In this domino game, the next critical country we have to keep an eye on is Bahrain. The risk of further unrest is rising, especially with sectarian issues in full force in Bahrain. This means that oil prices at a minimum will retain a geopolitical risk premium. Bottom line: there is still more near-term upside potential than downside risk for the oil price (and most energy stocks).
Commentary
It's All About the Timing
The calendar of events that could create recurring bouts of market volatility is coming into closer view: February 25: Irish elections. Is a default coming? March 4: U.S. government shutdown; this is the date that the latest resolution expires. The hardliners in the GOP are digging in their heels over $60 billion of spending cuts. April 1: U.S. nonfarm payroll report for March. The jobless claims data suggest no improvement from poor February results. Then end of QE2 and the knowledge that movements in the Fed?s balance sheet in the last 14 months have had an 86% correlation with the S&P 500.
Commentary
Fiscal Contraction is Coming ... This is a Key Theme
Well, if you haven?t yet heard, major budgetary restraint is coming our way in the second half of the year, and so we would recommend that you enjoy whatever fiscal and monetary juice there is left in the blender. There isn?t much that is for sure. The weekend newspapers were filled with reports of how the conservative wing of the Republican party have banded together to ensure that spending cuts will be in the offing. The state and local governments are already putting their restraint into gear.
Commentary
Breakfast with Dave
The Treasury market retains a nice bid here and equities now look a bit wobbly or at least engaging in a pause. European bourses are in the red column for the most part and Asia was mixed with Japan, Hong Kong, and Korea posting gains but China and India were both clocked for a 0.9% and 1.6% loss, respectively. Even though China raised reserve requirements by a half-point again, the oil price is receiving support from concerns over the spread of social unrest in the Middle East towards Libya and Bahrain.
Commentary
The News is Not All Bad, Though There are Several Caveats
If there is anything to be worried about it is really that the equity market has easily climbed so many walls of worries. Is the outlook that much devoid of risks or do we have tremendous complacency on our hands? To be sure, the news is not all bad, though there are several caveats: Deere and Comcast beat their earnings estimates; The Fed lifted its real GDP forecast; The latest retail sales data were soft but there is momentum in the payroll-tax cut; etc.
Commentary
Random Thoughts
At a time when bullish investor sentiment has soared to extreme levels, we can see some storm clouds coming. Yesterday?s market reaction to the +0.3% MoM print in U.S. retail sales attests to the view that a whole lot of growth is being priced in. Meanwhile, the real economic data are going to be deflated by a surging deflator ? U.S. import prices of food has risen at a 30% annual rate in the past three months and fuels by a whopping 60%. Looking for an asset class with possibly way too much risk priced in? Try muni bonds.
Commentary
What Is In the Market and What Isn?t
Inflation is priced into the market. This is not where the surprise will be and it is surprises that move markets. This is very good news for the bond market from a contrarian stand point. What isn?t being discounted is the degree of fiscal austerity that is coming down the pike, and likely sooner rather than later.
Commentary
Fiscal Drag Coming and No More QEs
In an otherwise uneventful weekend, what did come out is that fiscal stimulus is about to turn towards restraint in a significant fashion. Even the White House recognizes the need for fiscal discipline and is on the precipice of unveiling a much more austere budget. And this will coincide with massive tax hikes and spending cuts at the lower levels of government too. The surgery is much more preferable now than becoming a banana republic down the road.The future of QE2 is looking more certain ? it will live to see June of this year but the chances of a QE3 are remote.
Commentary
Reiterating Our Investment Thesis for 2011
For 2011, not only do I still favor credit, especially the spread compression left in the high-yield space, but relative value portfolios, hybrids with a decent running yield and exposure to Canadian dollars. The resource sector is also attractive, especially oil, with a long-term view towards buying these companies on dips and not just for the commodity price uptrend. Corporate bonds, especially BB-rated product. Hedge funds, with low correlations with the direction of the market or the economy. And precious metals as a hedge against periodic bouts of currency and monetary instability.
Commentary
Betting Against the House; Is This the Time to be Going Long?
Housing starts are at around 550k annualized units right now and household formation averages in the 1.1 to 1.2 million range. At what point do you think this dovetails and a housing recovery takes place? Great question. This is one overextended U.S. stock market, that is for sure. We have a dividend yield on the S&P 500 of 1.8% with a 10-year bond yield at 3.7%. The dividend yield, by the way, is where it was at the market peak in October 2007. The cyclically-adjusted P/E ratio on the S&P 500 is now 23.3x, where it was back in May 2008. At the lows, it was trading at 13.3x.
Commentary
How to Play in 2011
At the start of every year I remind myself that each individual year has its own story. For example, 2007 taught us that it never hurts to take profits after the market doubles and that if something is too good to be true (housing and credit bubble) it probably is. The 2008 lesson focused on capital preservation strategies and the urgency of managing downside risks. 2009 it was vital not to overstay a bearish stance in the face of massive fiscal and monetary stimulus. Last year?s lesson was how to handle the many post-stimulus market swings that are inherent in a post-bubble credit collapse.
Commentary
Give ?Em Credit; Looking at Sales, Not Just Earnings
Across many indicators, this goes down as a horrible recovery, especially in view of all the stimulus. Of course things look much better than they did in the ?double dip? risk days of last summer but absent the impact of the GDP deflator?s collapse and the decline in the savings rate, Q4 real GDP would have actually come in closer to +0.5% SAAR than the posted +3.2% print. We are hearing how great S&P 500 sales are doing so far for Q4 ? up 7.7% and beating estimates by the highest margin in 5 years. We scoured the data and found almost all the growth in sales is coming from outside the US.
Commentary
Jobs Data Redux and Inflation Spasm Ahead
The labor market in the US is not improving. Lost in the debate over the weather impact was the benchmark revision to 2010 ? overstated by 215k or 24%. The economy generated 909k jobs last year -insignificant considering that the population grew around 160k/month. The level of employment today is where it was in 2003. There have only been a handful of times in the past when both food and energy prices were rising so sharply in tandem. Since almost 25% of the CPI basket is in food and energy directly, it would seem logical to assume that we are going to get headline inflation in coming months.
Commentary
US Employment ? Snow Job?
It is next to impossible to make book on the January employment report. The data were not as weak as the disappointing headline would suggest, but there was nothing here to say that the U.S. labor market is progressing at anything close to resembling a normal post-recession recovery. The headline nonfarm payroll report came in light at +36k, well below consensus views of 146k and whispered numbers ahead of the report that were bordering +180k. Adjusting for our estimate of what the Bureau of Labor Statistics birth-death model artificially added, the headline would have been -52k!
Commentary
No Room for Short Memories
Two weeks ago, Ben Bernanke congratulated himself on CNBC for helping to boost the Russell 2000 by 30%. More recently, the San Francisco Fed Reserve Bank published a report doing likewise, citing QE2 as a success because the inflation rate is currently a percentage point higher than it would have been absent the Fed intervention. Everyone should be made aware of the insanity of it all, and that preserving their capital and growing it slowly and prudently is a totally appropriate strategy for this radical money easing environment. This type of policy breeds speculative and dubious rallies.
Commentary
Random Thoughts from the Lone Star State
I still consider this to be a bear market rally. With respect to the economy, the illusion of sustainable prosperity has done wonders for consumer spending in the U.S. The consumer has been an upside surprise and the ISM was a whopper too as these manufacturing indices have been in general around the globe. There are so many other headwinds out there. Dramatic cutbacks and tax hikes at the state and local government levels are in motion. Federal government austerity is next. The housing market has not yet stabilized.
Commentary
House Prices in the US Still Sliding
No sooner did we run with a piece yesterday highlighting one of the critical downside macro risks to the year than the WSJ runs with Home Prices Sink Further ? its tracking of some 28 major markets shows each one of them suffering from YoY home price declines as of Q4. And, many cities are facing inventory backlogs of between 13 and 15 months? supply. It?s a mess, and will prove to be a deadweight drag on wealth, confidence, and spending.
Commentary
Market Ripe for Correction
The stock market headed into this post-Egypt action terribly overbought and a correction was overdue. It is incredibly ironic that 18 months ago, President Obama gave his first foreign policy speech at the University of Cairo (the Investor?s Business Daily dubs it the ?ill-conceived Muslim outreach speech? in today?s editorial), and now, Egypt is burning. Oil, gold and TIPS should be on anyone?s ?buy list? if the turmoil does spread within the Arab world.
Commentary
Is There Really Joy in Mudville?
The Q4 GDP data, while a tad light on the top line versus the consensus and whispered estimates of 4% did confirm that the spring and summer lull was just that, as opposed to the onset of a double-dip downturn. The 3.2% annualized real growth rate followed a 2.6% trend in Q3 and 1.7% in Q2. The configuration of the GDP report should help real GDP growth maintain its trend in the current quarter. The critical test will be the second quarter, when the incremental fiscal stimulus fades and the effects of higher food and energy prices depress the ?real? macro numbers.
Commentary
Herbert Obama
Obama?s State of the Union: ?Two years after the worst recession most of us have ever known, the stock market has come roaring back. Corporate profits are up. The economy is growing again.? Herbert Hoover, 1930:?While the crash only took place six months ago, I am convinced we have now passed the worst and with continued unity of effort we shall rapidly recover.?
Commentary
A Reality Check
We will probably end up with a few years of stable to moderately deflating consumer prices once the effects of the latest commodity surge starts to fade. It appears that we are in the process of seeing another down-leg in national home prices. Equities are wildly overbought and may suffer the same fate before long, with all deference to the recent leg-up in valuations. The U.S. unemployment rate is unlikely to come down much, if at all, if real GDP growth does not accelerate beyond 3%. If it couldn?t do it in 2010, then we have no idea why it would be the case in 2011.
Commentary
Muni Update
The unfunded liability that has to be closed at the lower levels of government is estimated to be $1 trillion and the combined deficit that has to be closed for this year is far higher than we initially thought at $135 billion. Second, there is reportedly talk in Congress of a broader bankruptcy bill that would give the states the power to adjust their pension obligations and rework union contracts. However, no bailouts are coming and the GOP is adamant about that. Staff cuts, service reductions, and tax hikes are coming in this critical 12% of the economy. Count on it.
Commentary
What Will Turn Me More Bullish On Tthe U.S.A.
Here's a list of ideas: An energy policy that truly removes U.S. dependence on foreign oil (shale case, coal, nuclear). A complete rewrite of the tax code that promotes savings, investment, and a revamp of the capital stock. A credible plan that reverses the runup in the debt to GDP ratio. A massive mortgage write-down by the banks. A creative strategy to put people to work instead of paying them to be idle ... and more
Commentary
'The Feeling is... Mutual!'
As they chase performance, retail investors plowed a hefty $6.54 billion into equity funds in the week of January 12. TD Ameritrade has reported that margin lending has soared 31% from year-ago levels. Uh oh. The one industry that is being hammered right now is the municipal bond fund space ? with net outflows last week of $2.37 billion, the tenth week in a row. While there is no doubt that we remain cautious on the equity market as an asset class, we like the large-cap, blue-chip, cash flow generators and reliable dividend payers.
Commentary
Breakfast with Dave
In more than 20 months, the equity market has managed to turn in the same performance it took 60 months to achieve in the last bear market rally. Strip out the financials, and indeed, the entire equity market is now behaving as if the destruction of debt and household balance sheets either never happened or that the aftershocks are completely yesterday?s story. Governments around the world, especially in the U.S.A., have managed to convince nearly everyone that prosperity is here and will persist to perpetuity. But ? if it is too good to be true, it probably is. This is an illusion.
Commentary
Headwinds Ahead
It is difficult to understand why it is that everyone is so whipped up about U.S. growth prospects. Even the latest set of data points has been less than exciting. Retail sales, payrolls, and consumer confidence have all been below expected and all of a sudden we see that jobless claims are moving back up. We have federal fiscal support, which at the margin is subsiding. And we have massive monetary support, and on this the Fed is going to be facing much more intense congressional scrutiny going forward. At the same time, about half of last year?s GDP growth was inventory accumulation.
Commentary
Adding Up the Inflation Carnage; US Consumer Hitting an Air Pocket
This is just the fifth time in modern history that BOTH food and energy prices have risen at a double-digit annual rate for any length of time ? 1979, 1980, 1996, and 2008. At this rate, the energy bill is going to create a drag U.S. household spending power by $60 billion this year. Beneath the veneer of all the enthusiasm is the reality that real organic incomes are under pressure.
Commentary
Creating an Illusion of Prosperity
The question really today is still one of sustainability. If the Fed and our public officials were as comforted as the financial markets now seem to be over the sustainability of the recovery, then after a full year into it the central bank would not have embarked on another monetary experiment and the government would not have dipped into Social Security as a means to put more change in people?s pockets for spending purposes. Money, as an aside, that isn?t really ours.
Commentary
Call it the Wile E. Coyote Market
While Bob Farrell?s rule number nine warns us to be wary of widespread consensus opinions, it may well turn out that all the bullish Wall Street analysts end up being correct that 2011 proves to be another wonderful year. But the one thing we can assure you, as was the case in 2010, is that it will not be a straight line up. In fact, we would argue that there are more headwinds, potholes, and event risks this year than there were last year.
Commentary
Sushi with Dave
Consider the charts below the equivalent of 10,000 words explaining why the U.S. post-bubble economic and financial backdrop is looking more and more like the Japanese experience of the past two-decades.
Commentary
Global Instability
With inflation in China over 5%, Chinese policymakers are going to spend 2011 in restraint mode. Count on it. We are in the throes of a global currency war and late last week we saw Brazil move aggressively to rein in the real?s strength by imposing reserve requirements on domestic banks? foreign exchange positions. We have food prices surging and this is very likely going to cause social strife in the emerging market world - India, China and Indonesia come to mind. The Eurozone sovereign debt situation is looking increasingly tenuous.
Commentary
US Jobs Report: Better Than It Looked, But Still Not Great
While the details were obviously better than the headline, it would be a mistake to read much into the unexpected decline in the unemployment rate, which fell to 9.4% from 9.8% ? the lowest it has been since May 2009 (when the economy was still technically in recession) and the sharpest one-month decline since April 1998. While some of this ?decline? did indeed reflect the rebound in Household employment, it was largely due to the sharp decline in the labour force participation rate, which tumbled to a 27-year low of 64.3% in December from 64.5% in each of the prior two months.
Commentary
Some Risks Worth Factoring In For The Year Ahead
Home price declines are an added significant risk to household wealth and spending. The Dallas Fed just published a report concluding that home prices have potential to decline more than 20% from here. Perhaps the banks can handle that, but the implications for the household wealth effect, consumer confidence and spending are hardly constructive.
Commentary
What The Bulls May Be Ignoring ... At Their Peril ... Plus Some Ideas For 2011
The bullish case is pretty well established right now and there is no sense repeating them but what may be ignored are these half-dozen. Nothing of course says that the market can?t keep going up over the near-term. risks, I list. Just as the onus was on the double-dippers last summer given the sentiment and market action, the onus now is clearly on the V-shaped enthusiasts.
Commentary
Getting a Grip
We can expect a showdown between the House Republicans and the Administration over the debt ceiling in Q2. At stake could be a good dose of spending restraint as ?pay-go? rules make a sudden reappearance after being neglected by the lame-duckers last year. There is always the reality of the payroll tax cut coming to an end in December and how that will crimp personal income in 2011. Of course, there is always the prospect of a Q4 corporate spending binge as the bonus depreciation allowance expires. The last 3 quarters of 2011 are going to be very interesting
Commentary
The Skinny On Thursday?s Data Flow
We got a flurry of U.S. data releases on 12/24 that, at the margin, added some comfort for the growth bulls. Initial jobless claims came in roughly as expected at 420k on a seasonally adjusted basis for the week of December 18, down 3k from the prior week. The 4-week moving average is at 426k and this time last year it was sitting at 479k, so the pace of firings has clearly receded sharply. The issue at this time is really one of hiring and going beyond part-time help.
Commentary
Ten Reasons To Be Cautious For The 2011 Market Outlook
1) In Barron?s look-ahead piece, not one strategist sees the prospect for a market decline. This is called group-think. 2) The weekly fund flow data from the ICI showed not only massive outflows, but in aggregate, retail investors withdrew a RECORD net $8.6 billion from bond funds during the week ended December 15. 3) Bullish sentiment has now reached a new high for the year and is now the highest since 2007 ? just ahead of the market slide.
Commentary
Here We Go Again!
Market sentiment is as overly optimistic now as it was pessimistic at the July-August lows. Eurozone fiscal deflationary shock. Anti-inflation policy restraint in emerging Asia. Widespread cutbacks at the state and local government level. Debt ceiling issue triggers major rounds of market volatility. Tax breaks that are temporary tend to have marginal economic impact with few multiplier impacts, hence GDP revisions will likely be to the downside post-Q1. Another downleg in home prices undercuts confidence and spending (with around two years? supply of total vacant inventory backlog).
Commentary
Stimulus or Restraint?
The bond bears and equity bulls are placing much of their faith in the $858 billion tax package in the U.S. Most of this ?stimulus? only prevented the federal government from acting as a contractionary economic force in 2011. How much of the tax cuts will go into saving and imports remains to be seen. We think the ?stimulative? effects are over exaggerated. What we don?t see discussed that much are the spending cuts coming our way and these indeed will show up directly in GDP.
Commentary
The Secular Theme that Transcends the US Business Cycle
If there is a secular theme that transcends the U.S. business cycle it is agriculture. Farm incomes are rising sharply and all indications point in a similar upward direction in 2011 and likely beyond. This is another way, beyond going long mining excavation equipment and industrial commodities, to play the increasing demand for food, especially proteins, alongside the ever-rising standards of living in China, India and other emerging market economies.
Commentary
Next Phase of China's Development
Considering that China has now exceeded the United States for two years running in terms of motor vehicle sales, it is not 100% the case that the country is exclusively reliant on fixed investment and exports for its economic success. Inch by inch, the consumer is comprising an ever-greater share of GDP. China is also largely responsible for the extended bull market in resources.
Commentary
Europe Remains a Clear Downside Risk
Europe remains a clear downside risk for the global economic outlook with the problems spreading to Spain and Portugal. Contagion risks are being underestimated by Mr. Market who has been myopically focused on irresponsible fiscal expansion in the US and recent hopes that QE2 would morph into QE3. As some proof that the recent economic data flow are over-rated, and likely exaggerated by seasonal influences, the Fed barely raised its macro outlook and actually seemed to dampen its view of the housing sector.
Commentary
The Case for Dividend-paying Stocks
Despite all the noise that the Democratic left is making, the tax bill is going to pass very soon. There is a tangible positive effect here from the tax bill and pertains to dividends. Under the deal, the top tax rate on dividends will stay at 15%. If most of the spasm in the bond market is behind us, one would have to think that a focus on dividend growth is going to have some payoff with the taxation uncertainty put to bed. The U.S. nonfarm nonfinancial corporate sector is sitting on $1.93 trillion of cash/equivalents, which is at a 51-year high representing 7.4% share of total assets.
Commentary
Perception versus Reality
I've been a secular bond bull and am not yet changing my view of the fixed-income market, but the perception that the economy will grow vigorously is now extremely strong. I think it will only grow about 2% next year and that core inflation will continue declining. These are the primary downside risks: 1. The U.S. Treasury market becomes unglued. 2. Further sharp increases in energy prices. 3. Renewed fiscal problems in Europe. 4. Bad inflation news out of emerging markets. 5. U.S. state & local cutbacks become more severe. 6. Latest down-leg in home prices accelerates.
Commentary
Fleshing Out Our Themes for the Year Ahead
Consensus views of 1,350 on the S&P 500 and 4% real GDP growth are far too high. In my view, real GDP growth in the U.S.A. is set to slow from around 3% in 2010 to 2% in 2011, or possibly even lower. This is not a double-dip but it is a slower growth profile. The fiscal and sovereign credit problems in Europe are not going away. The U.S. dollar is likely to strengthen, particularly versus the yen. Emerging markets will struggle as central banks move more forcefully to curb accelerating inflationary pressure.
Commentary
Come On Rich! Our Take On Richard Bernstein?s Themes for 2011
It is extremely difficult to judge what part of the economic cycle we are really in. If you look at the unemployment rate, the workweek, the industry CAPU rate, the levels of consumer confidence, housing starts and sales, you would think we were still in a recession. But if you looked at profit margins and the ISM index, you would come to the conclusion that we were mid- or even late-cycle.
Commentary
Second Take on The Latest Financial Stimulus Announcement
There wasn?t really that much ?new? information in the Obama announcement, except for the fact that the President ended up repealing everything he said he stood for during the election campaign, like reducing the extreme income bifurcation that was exacerbated during the Bush era. Then again, who is going to risk a renewed contraction in the economy and then take the blame? How can anyone take the U.S. seriously when the country fails to get enough votes over the weekend to bring the deficit reduction package recommended by the White House debt-reduction panel to the House and Senate floor.
Commentary
Looking at the Tax Compromise Measures
The just-announced comprise tax measures along with the Fed?s pump-priming, have pretty well extinguished double-dip risks, notwithstanding the myriad of other headwinds. This amounts to a new stimulus measure. If the U.S. government opts for a series of fiscal measures that could end up adding as much as $750 billion to the existing large public debt burden, the fixed-income market is not exactly going to like it. Elsewhere, EU finance ministers ruled out an immediate aid package for Portugal or Spain (putting the onus on the ECB to restore calm).
Commentary
The Worst US Employment Report of the Year?
This was arguably one of the worst employment reports of the year. It was fascinating to see what little negative market reaction there was to the data ? not just nonfarm payrolls but also the news that factory orders slipped 0.9% MoM in October, the steepest decline in five months. This is why everyone seems to believe the economy is improving and it?s so easy to do that when you simply ignore the bad data points! One of the key features of the payroll report was the continued retrenchment in the state/local government sector. This promises to be a major macro theme for 2011.
Commentary
Fish, Chips & Latkes with Dave: Market & Data Musings
The recovery is obviously still so fragile that the Fed felt the need to expand its balance sheet by an additional 25% and policymakers in DC fear that the economy can slip back into recession if the Bush tax cuts and the 99-week emergency jobless benefit plan are not extended. Job market conditions have improved, but the reality is that the preponderance of the employment gains in the past six months has been in part-time positions. The tailwinds to US profits from accelerating global growth, not to mention a weak dollar, which has turned the corner, are about to become headwinds.
Commentary
Confident Or Not?
The Conference Board?s measure of U.S. consumer confidence report was all the rage in November with an above-consensus print of 54.1 from 49.9 in October and 48.6 in September. But, five of the nine major regions were actually down in November. In a possible sign that the GOP victory may have been at play, the West South Central region, which includes Texas, soared from 68.8 to 92.6 ? the fourth largest spike ever!
Commentary
Macro and Market Thoughts
All these ?rescue? packages in euroland really do is provide bridge financing ? they do not resolve the underlying structural problems or the deflating asset values in bank balance sheets. The massive selloff in government bond markets, even in countries like Belgium and Italy (let alone Portugal and Spain), is a clear sign that the bond vigilantes are now targeting the supposedly stronger governments in the eurozone. The austerity packages needed to bring intractable deficits down will fuel deflation, which will further destabilize the financial system and damage the economy.
Commentary
A List of Concerns ? A Dozen of Them
Among Rosenberg?s concerns: China undergoing a significant, though likely brief, economic adjustment by 2012; The contagion reaching Spain, which would likely be game over for the euro; A renewed deflation in home prices in the US; State and local government budgets ? the critical source of downside risk for the U.S. economy in 2011, which could easily result in 1.5-2.0 percentage points of withdrawal from GDP growth.
Commentary
Scenario Building - Key Risks Ahead
The dramatic fiscal tightening in Ireland and others is insane and I wonder how a new government in early 2011 is going to react. Everybody seems to believe the euro is sacrosanct, but this was also the view around the Argentina nearly a decade ago; it ultimately devalued in order to reflate and pay off its debts in debased currency. Some of these peripheral countries will leave the EU, go back to their own currency to reclaim control over their monetary policy and pay their debts in devalued punts, drachmas and pesetas.
Commentary
US Q3 GDP and Profits Analyzed
The Q3 real GDP is better, but momentum has clearly waned. Based on the hits that the household sector will likely face in the early part of 2011, Q1 growth is likely to be disappointing. On a sequential basis, corporate profits are still clearly rising, but at a more moderate rate than before. Not only did housing starts get clobbered in October, but existing home sales fell unexpectedly as well. Retailers are anticipating a solid holiday shopping season, and yet, they are aggressively marking down their prices well in advance.
Commentary
Setting the Record Straight...Again
Still-high levels of mortgage delinquency rates are a vivid sign that household financial strains have hardly abated. The NY and Cleveland Fed?s published reports outlining the severity of the deleveraging cycle that?s in full swing. The Fed?s yet again going to take a knife to its growth and inflation forecast as it has done with regularity over the past eight months. Corporate profits have come in fine despite one of the weakest recoveries on record, but to some extent, much of this has already been priced in.
Commentary
Reality Check
The world's economic environment is extremely fragile. The growth bulls are underestimating the fact that the fiscal disarray at state and local governments is a major headwind for the U.S. economy --state and local governments are the second largest contributor to spending outside of the American consumer. There is still scant evidence of a vibrant organic recovery. At least initially, the reversal of all the risk-on trends in the markets suggests that the pullback that became apparent after the peak in April is likely to be sustained over the intermediate term.
Commentary
Philly Fed Up, NY Empire Down
Despite mixed indicators, it looks like real GDP is chugging along at a tepid though still above-water annual rate of between 1% and 2% at an annual rate. The fragility is what is important. Gold still looks very good in this uncertain and unstable environment.
Commentary
Trouble Ahead
State and local governments in the US are in a state of disarray and the need to cut spending to close massive fiscal gaps are simply acute. Companies, like Cisco, that sell into this part of the economy ? the lower levels of government represent 13% of the economy, which is the largest contributor outside of the consumer and double the relative share of capital spending ? are extremely vulnerable. Gasoline prices are up $.26 from a year ago. The core measure of consumer inflation in the U.S. has now been flat-to-slightly negative for three months in a row ? a feat last seen in the 1960s.
Commentary
Can You Handle The Truth
The S&P 500 has been locked in a rough 1,000-1,200 range now for 14 months. Most pundits still believe we are in a cyclical bull market but that is not the case ? it has been a sideways market now for over a year. Moreover, after testing support in July, the market hit resistance levels in November, so it would seem logical to expect the index to make a run at the low end of the range. The only question is whether support will hold up once again.
Commentary
Income Theme Still Intact
Spasms don't throw secular trends away. The bond market is going through a corrective phase right now. The sharp selloff in the municipal bond market is an over-reaction to default risks - there is a lot of supply coming onto the market and the end to Build America Bonds is looming. We have been advocating relatively low weightings in the equity market, but certainly not a zero exposure despite our cautious outlook. Our exposure is running between 20-25 percent with a barbell approach - income equity on one side, balanced by raw materials on the other.
Commentary
U.S. Consumer Confidence - Less than Meets the Eye
So, when you do the simple math, Joe Sixpack sees inflation at 3% in the coming year (from 1% now) and then averaging 2% in the next four years. Depending on how food and fuels play out, this could well be consistent with a zero or even sub-zero environment as far as core consumer price trends are concerned. This is why long Treasuries are likely to remain in a secular bull market for some time to come.
Commentary
Market Thoughts
The overwhelming consensus view is that the market will continue to rise through year-end and into 2011. The trend in most asset classes that had been rallying the past three months are now reaching an exhaustive phase. I?m a little nervous about changing our view at the high end of the range on equities. The problem with the U.S. fiscal outlook is that the intractable U.S. debt and deficit situation cannot be solved by cutting government spending alone. Taxes, that evil five-letter word, will have to rise in the future.
Commentary
Rising Oil Prices; Still Like Gold, But...
Oil is now challenging the $90/bbl threshold and this is more a reflection of the Fed?s quest to weaken the dollar than any incipient global economic boom. As in the case of most other commodities, the Fed has unleashed the floodgates of investor speculation on the commodity complex. How can this possibly be constructive for the 90% of the U.S. earnings outlook that is not hooked to the basic commodity sector? We don?t see where this is addressed anywhere in ?Street? research. The economy is much more vulnerable to an energy shock now than it was in 2007.
Commentary
The Anti-QE Market
Yesterday?s manic performance in many asset classes may well have been a watershed event. The U.S. dollar reversed course and rallied and all the program trading risk-on trades are correlated with the greenback. It could well be that some folks are beginning to pay more attention to what is happening in Europe where sovereign default risks and bond spreads within the periphery are blowing out again.
Commentary
Chinks in the Armour
Nobody thought a year ago that things would have weakened to such an extent that we would have needed QE2 or the extension of Bush tax cuts. The Fed is doing $600bln in quantitative easing, which is about one-third what it did last year. I?m not convinced that it alone will prevent the economy from weakening, even if contraction risks have abated. Now what will it take to turn me more positive? Well, a sustained job creation for one and if we can get initial jobless claims down to 400k that would be huge. But I have to admit, QE2 does not do it for me.
Commentary
What Has the Fed Really Done?
In the Fed?s latest QE quest, by targeting the front- and mid-part of the U.S. Treasury curve, it is only really influencing yields that were already at microscopic levels before anything was even announced. It is hard to figure out what a 0.3% yield on the 2-year T-note or a sub 1 % yield on the 5-year T-note is really going to accomplish as far a spending stimulus is concerned. The Fed?s action seems to have unleashed a wave of speculative trading activity in risk assets ? from stocks, to commodities, to emerging markets
Commentary
More on QE2 - Will it Work?
Quantitative easing is no antidote for structural economic problems, even if it manages to give investors a short-term sugar high. Let's learn from the Japanese QE experiment. The day the Bank of Japan launched the program on March 19, 2001, the Nikkei surged 7.5 percent, from 12,190 to 13,103. Three months later, as it became painfully obvious that the real economy was not responding well to the shock therapy, the Nikkei index slid 16 percent to just over 12,000.
Commentary
Thoughts on QE2
While the Fed could have done more yesterday, it didn't because the economy is doing better than expected, even if it is still quite fragile. Auto sales, for example, rose to 12.3 million at an annual rate in October from 11.8 million in September (best result since August 2009). However, recall that motor vehicle sales also jumped 2.4 percent in September and all that translated into was a +0.08 percent inch-up in total real consumer spending, which was one of the weakest months of the year. Consumer spending excluding auto will now be essential to watch.
Commentary
The New Abnormal
We are definitely in an abnormal economic environment. We just came off a 2 percent real GDP growth performance in a quarter - the fifth in this nascent recovery - where the economy is usually humming along at a 4.3 percent clip and on a lot less government stimulus. Make no bones about it, heading into year two of the post-recession recovery, the pace of activity is usually accelerating, and doing so at a 5 percent rate. The Federal Reserve with its continued monetary expansion just may well see something in the economic outlook that has yet to fully register with Mr. Market.
Commentary
Big Week Ahead in the U.S.
After Tuesday's elections, there is little question that the GOP will take the House with a 1994-type landslide. Once in control, the GOP will not support more fiscal initiatives. We are therefore likely about to see a pronounced slowdown in the pace of economic activity; outside of government intervention and inventory accumulation, catalysts for growth are few and far between. Unlike during the soft patches of the mid-1980s and mid-1990s, the economy today is just a shock away from slipping back into contraction mode.
Commentary
US GDP: Real Final Sales 60 Basis Points Shy of Double-Dipping
At 60 basis points above zero, real final sales are just a shock away from double-dipping - a shock like looming tax hikes, accelerating fiscal cutbacks at the state or local government level or the millions about to fall off the extended jobless benefit rolls at the end of November. The double-dip has been delayed but not derailed, despite widespread cries from the economic elite to the opposite. The economic recovery is extremely fragile and unless we get an improvement in real final sales, all it would take is a modest inventory drawdown to pull real GDP back into contraction mode.
Commentary
The Four Horsemen
There are two basic components to GDP: inventories and real final sales. The run-rate on real final sales is 0.9 percent, by far the weakest 'post-recession' recovery ever recorded. And we know with reasonable certainty that we will face a negative fiscal shock in 2011 that will drain at least 1.5 percentage points from the underlying trend in GDP. So arithmetically, there is a strong chance that the economy will contract next year, barring some exogenous positive development that can act as an antidote.
Commentary
Fifty Not Nifty
Consumer confidence came in at 50.2 in October versus the 49.9 expected. Of course, the media types were hyping up the number as another reason to load up on equities. Let's get a grip. In periods of economic expansion, consumer confidence averages 100.3 on the nose. For all the rejoicing, today's level is half what is normal for an economy supposedly out of recession, and in recessions, consumer confidence averages 72.9. We are 22 points south of the level that historically typified economic contractions. Yikes!
Commentary
Real Economy Leading Indicator Points to Anemic Growth
After adjusting the Conference Board's Leading Economic Indicators to include 'real economy' statistics only, the indicators have fallen four months in a row, suggesting that real GDP could slow meaningfully into this quarter and early next year (we currently expected Q4 real GDP to be sub-1 percent). Not only that, but the coincident-to-lagging indicator fell 0.4 percent month-over-month in September, the third decline in as many months, which also points to weaker growth ahead.
Commentary
It's All About Earnings
The equity market has now managed to climb three weeks in a row despite the fact that the U.S. dollar has done likewise in a classic countertrend rally from oversold conditions. Almost one-third of the S&P 500 universe has reported, and the year-over-year earnings growth rate is now running at plus-28 percent from plus-24 percent last week. Fully 83 percent of the companies have beaten their bottom-line estimate, which is far above the historical norm of 62 percent; although barely over 60 percent are bettering their revenue estimates, which is below average.
Commentary
North America Losing Some Serious Momentum
The U.S. economy may in fact be contracting again. The monthly data from Macroeconomic Advisers showed that real GDP contracted 0.6 percent in August. While this did follow a red-hot +1.25 percent gain in July, this marks the third decline in real activity in the past four months. Maybe the bond market does not need the Fed's help after all ? the super-soft economic environment is all the Treasury bond market really needs to sustain the downward trend in yields.
Commentary
It's All About Ben, the Fed's Intent and the Market Reaction
The U.S. economy is caught in a classic liquidity trap. With additional fiscal stimulus no longer a viable political option, even though the government is better equipped to deal with many of the structural hurdles to growth than monetary policy, Mr. Bernanke clearly feels that the Fed is the only game in town. Monetary policy, even in a non-conventional form, is a very blunt tool to use to reverse a secular uptrend in the savings rate, fix chronic unemployment or induce people to spend rather than correct their debt-laden balance sheets.
Commentary
Interesting Insights from Bernanke; A Double-Dip Signpost
Despite a speculative equity market binge, a weakening U.S. dollar, an economy that seemingly avoided a double-dip recession last quarter and a renewed boom in commodity prices, what continues to prove elusive in this so-called recovery is pricing power in the broad retail sector.
The headline rate of inflation sits at 1.1 percent today. The core inflation rate, proven to be the key driver for bond yields, is now running at a mere 0.8 percent year-over-year rate, the lowest level since March 1961.
Commentary
Who's Doing the Buying?
So who's buying equities right now? Good question. We know it's not the retail investor and private clients - they have been selling into this entire bear market rally and rebalancing their asset mix in favor of income. It's not the mutual funds, because institutional private managers already have cycle-low cash ratios. There would seem to be three principal buyers right now: pension funds struggling to reach their 8 percent assumed annual returns, hedge funds, and the proprietary trading desks at big commercial banks.
Commentary
What's Ahead in Q3 Earnings Season; Our Fair Value of the S&P
The consensus is still expecting U.S. operating earnings per share growth of $95-plus in 2011, but at a time when profit margins are at a cycle high, not a trough. Judging from past performance at cycle highs, however, it may be more prudent to be valuing the equity market at $75 EPS growth, rather than $95. Slap on an appropriate multiple and you can see why an underweight position in equities still makes sense, speculative fervor sparked by quantitative easing notwithstanding.
Commentary
It's a Mad World
Gold could be the only asset class that makes sense right now. If the bond market is right, then we will get deflation, and gold is a hedge against the uncertainty such an environment would entail. If the equity market is right, then we will get gobs of liquidity out of the Fed and then go off to a new reflationary credit cycle - gold would benefit in this scenario, too. And if the commodity complex is right, then we are heading towards a new inflationary cycle, and of course gold is a classic way to play this scenario.
Commentary
Back to School... And This Report Gets an F!
Considering that policy rates are at zero, the Fed's balance sheet has tripled in size (with more to come), and a 10 percent deficit-to-GDP ratio that would have even made FDR blush, the unemployment situation is an unmitigated disaster that deserves the government's undivided attention. The question that has to be asked - and answered - is why the equity market would be rejoicing over today's somber piece of economic news.
Commentary
You Can't Make This Stuff Up!
In the October 6 New York Times, op-ed contributor Daniel Gross called on the American consumer to 'get back into the game.' 'The renewed willingness and confidence to spend money we don't have,' Gross wrote, 'is vital to the continuing recovery.' There was no mention in the article of the fact that with a 70 percent share of GDP, U.S. consumer expenditures never exactly went into hibernation, even if spending decisions have changed. And haven't employment and income always been the vital components to sustainable growth?
Commentary
Is Warren Buffett Correct on this One?; I Love Gold, But?
Warren Buffett says that equities are currently cheaper than bonds, and that people who are buying bonds are 'making a mistake.' That's quite a statement considering what bonds, even at ultra-low yield levels, have managed to generate in terms of total returns this year compared to the equity market. It's not even close, with all deference to the recent snapback in the stock market. More fundamentally, there is a critical difference between something that is government guaranteed and comes due in 10 years versus something that has downside capital price risks and never comes due.
Commentary
In a Word, Surreal
Why do so many people think bonds are in a bubble when they are actually the most detested asset class out there? After all, as we saw in the tech mania of the late 1990s and the housing mania of 2003-2006, bubbles usually involve a mix of adulation, admiration and adoration with the asset class in question, which is obviously missing in the current case as it pertains to Treasury securities. You can't lift up a newspaper or watch a business program on TV and not see pundit after pundit talking about the dangers of being invested in bonds. Something here is amiss.
Commentary
What's On My Mind?: Five Developments Driving Investor Sentiment
The bottom-up S&P 500 operating EPS estimate currently driving equity valuations is $95. That would be a 14 percent gain on top of this year's anticipated 36 percent bounce. Here's the rub: to get that $95 operating EPS for 2011, we either need to see at least 7 percent nominal GDP growth, which last happened in 1989 when inflation was 5 percent, not close to zero, or margins manage to reach new all-time highs. The base case now, however, is for low single-digit nominal growth and some margin compression so frankly we could be looking at something closer to a $75 earnings stream next year.
Commentary
Gold Still Shining and Renewed Housing Deflation
The latest data on U.S. new home prices, Case-Shiller and the FHFA data series are all pointing toward renewed housing deflation. The culprit? A new wave of foreclosure supply is saturating the market. According to RealtyTrac, 24 percent of all homes sold last quarter were homes that had been foreclosed. Meanwhile, as imminent quantitative easing by the U.S. Federal Reserve and the Bank of England threaten to grow supplies of fiat currencies, gold and silver will likely go much higher still.
Commentary
Reality Check on the Macro Outlook
More than 80 percent of the economic growth we saw from the lows of 2009 in real GDP was due to the massive amounts of federal government stimulus and the huge inventory swing. The underlying trend in organic real final sales is barely above 0.5 percent. One therefore has to therefore wonder, with an estimated 1.7 percentage point drag from fiscal withdrawal in the coming year and the evident signs of a peaking-out in the inventory contribution to growth, how can the economy not contract heading into 2011?
Commentary
What Happened on Friday?
On Friday, a very successful hedge fund manager came on CNBC and told viewers that the equity market now was a one-way ticket up. If the economy sputtered, he said, the Fed would step in and engage in more quantitative easing, and that would propel the equity market higher. And if the economy chugs along, then there will be no need for more Fed balance sheet expansion but the stock market will enjoy the fruits of stronger earnings growth. The third scenario he did not mention is that the economy will weaken to such an extent that the Fed will indeed re-engage in QE, but that it will not work.
Commentary
Housing Still in a Deep Funk and Gold Going Higher Still
Existing home sales increased 7.6 percent month-over-month in August in what can only be described as noise around a fundamental downtrend. The three-month trend in single-family sales is still -72 percent at an annual rate, the six-month trend is -31 percent and the 12-month trend is -19 percent. Meanwhile, gold is now on the precipice of breaking above $1,300/oz, and is likely to remain in this secular uptrend for quite a while longer. We're talking years. We're still talking $3,000/oz.
Commentary
So the Recession is Over, Eh?
By now, based on when the recession ended, we should be at a new high in real GDP. As things stand, however, real GDP is still 1.3 percent lower now than it was at the end of 2007. Steep declines in GDP are typically followed by vigorous recoveries, but this time we had the largest decline in GDP since the 1930s and despite unprecedented amounts of monetary, fiscal and bailout stimulus, the recovery has been extremely weak ? real GDP growth of 3 percent is far less than half of what one would ordinarily expect to see coming out of such a deep downturn.
Commentary
The Recession is Over! But No Recovery in Housing
Well, the National Bureau of Economic Research made it official yesterday: The recession ended in mid-2009. The equity market rejoiced, which itself is amusing since the stock market is supposedly a discounting mechanism, but it goes to show that old news sells well. Meanwhile, the National Association of Home Builders housing market index disappointed in September, coming in flat, at 13, instead of inching up a point to 14, as was widely expected. This well below the stimulus-led yearly high of 22 set in May.
Commentary
Gold Breaks Out ? Again; Investment Strategy in a Deflationary Environment
What is amazing is that there are just about as many naysayers about gold out there as there are bond bears. Until the investment elite catches on, the odds of these two asset classes continuing as relative outperformers are quite high because no bull market ends until the masses fall in love with the asset or security in question. What makes the gold story so interesting is that bullion has so many different correlations - with inflation, with the dollar, with interest rates, with political uncertainty - and it also has different faces.
Commentary
Can The USA Slip Into Outright Deflation?
The last time we flirted with deflation was in 2003, the year when the Fed cut rates to 1 percent. If the core goods consumer price index were to ever revert back to its historic lows of 2003 and bump against the current historic low in the core services CPI, then we would indeed slip into a mild deflation of -0.2 percent. That prospect, however, is not even remotely priced into nominal bond yields, even with the 10-year note sitting around 2.7 percent and the long bond yield just under the 4 percent mark.
Commentary
Reality Bites and Models Broke Down
Week after week, and month after month, all the data show that households are embarking on a deliberate move to redress their underweight allocations in bonds and overweight allocations in equities. Yet again, the investment company institute numbers showed that last week, bond funds took in a net $5.73 billion inflow while equity funds posed a net redemption of $1.1 billion (on top of a $9.7 billion outflow the week before). Equities have not recorded a positive inflow for one week since early May!
Commentary
Stocks For the Long Run? And a Look at Gold
The bond market usually gets it right, and the 0.9 percent yield on the 10-year TIPS security is back to where it was at the depths of the recession. Something is going to have to give. If we recall correctly, bonds led both the stock market and the economy in 1990, 2000 and again in 2007. In the next few months we may well look back at the 130 basis point rally in 10-year Treasury bonds this spring as an important event, analogous to the rally we saw in the summer and fall of 2007. David Rosenberg also comments on Tuesday's gold rally.
Commentary
What Passes For Research These Days
A long list of published reports has claimed that private sector employment is actually running at a faster rate now than it was coming out of the 2001 recession. We should be extremely judicious, however, about how we interpret this research, especially since we know that the Fed just cut its macro forecast twice in two months, Obama felt the need to announce yet another fiscal stimulus package and the latest Fed Beige Book was the softest it has been in nearly a year. The macro backdrop could not possibly be more clouded.
Commentary
Market Comment and Forecast Update
One can call it a 'growth recession,' but if Mr. Market wants to focus on the word 'growth' and ignore the word 'recession,' then one may well see ebullience take hold for a time. The most important factor right now is the prospect of significant downward revisions to earnings estimates in the next several months and quarters. The next great buying opportunity will be when the market has come to grips with or even overreacts to that. Therefore, patience over the near-term will be extremely important; now is not the time for impulsive buying behavior.
Commentary
Statistics, Damned Statistics and Lies
We just completed the fourth quarter of the statistical recovery from the 2009 lows in real GDP. Normally, that particular quarter is running at over 6 percent annual growth. This time around, it was 1.6 percent and likely to get marked fractionally lower again. The notion that it is normal to have a growth pause this early in the cycle, assuming we are early in the business cycle as opposed to slipping along a downward trend line, is nuts.
Commentary
It's a Depression and Other Thoughts
This is what a depression is all about - an economy that 33 months after a recession begins, with zero policy rates, a stuffed central bank sheet, and a 10 percent deficit-to-GDP ratio, is still in need of government help for its sustenance. We had this nutty debate on Friday on Bloomberg Radio in which another economist claimed that there was no evidence of any indicator pointing to renewed economic contraction. And yet, that very day, the ECRI leading economic index came in at a recessionary -10.1 percent print for last week.
Commentary
The Economy is in a Modern Day Depression
The economy is in a modern day depression. A depression, put simply, is a very long period of economic malaise, a series of rolling recessions and modest recoveries over a multi-year period of general economic stagnation as the excesses from the prior asset and credit bubble are completely wrung out of the system. Depressions usually are caused by a bursting of an asset bubble and a contraction in credit, whereas plain-vanilla recessions are typically caused by inflation and excessive manufacturing inventories. You tell me which description fits the bill today.
Commentary
You Call This Capitulation?
The extent of the denial over U.S. double-dip risks is unbelievable. Investors Intelligence did show the bull share declining further this past week, to 33.3 percent from 36.7 percent. The bear share barely budged, however, and is still lower than the bull share at 31.2 percent. Are we supposed to believe that at the market lows, there will still be more bulls than bears out there? Hardly. At true lows, the bulls are hiding under table screaming 'uncle!.'
Commentary
What's With Equity Valuation?
Historically, the average consensus estimate forward price-to-earnings ratio on the S&P 500 has been 15.6x. And yet, what we actually end up with on average is 19.2x. The consensus, in other words, is systematically publishing earnings forecasts that make the market look cheap. Meanwhile, the Shiller P/E, which uses the 'bird-in-the-hand' earnings, takes them in inflation-adjusted terms, and cyclically-adjusts the earnings data, currently generates a multiple of 20.6x, which is 26 percent above the historical norm.
Commentary
Even More Job Loss Ahead?
The size of the securitized loan market has shrunk 60 percent in the past two years. Balance sheets, production, order books and staffing requirements are all rightsizing to this new semi-permanent landscape of reduced credit availability. In fact, we could see a situation where another 4 to 5 million jobs could be shed in the United States - especially in the three sectors that were, and remain, the most affected by the housing crisis and financial collapse: construction, finance and state and local government.
Commentary
Is it Japan All Over Again?
Everyone has been contemplating the possibility that the U.S. could reenact Japan's Lost Decade of protracted slow growth- especially as the Treasury yield curve flattens out in sashimi-like fashion. What is interesting, however, is that things are evolving much more quickly in the United States than in Japan. Japan let its imbalances linger for longer, which is why their unemployment rate never did break above 5.6 percent, while today in the U.S. it sits at 9.7 percent.
Commentary
The Bear Market in Housing Starts is Still Far From Over
With the homeownership rate still at 67 percent versus the pre-bubble norm of 64 percent, and with lending requirements more stringent, including a new emphasis on down payments, you can forget a revival in housing demand anytime soon. Instead, demand will shift toward the old room at Ma and Pa's, the basement guest room at the in-laws or space in the rental sector. Indeed, demand for apartments may actually do well in this environment. The critical question, however, is: 'Have the builders done enough cutting?'
Commentary
The Bond Bubble Debate: 'One Rosie' Takes on 'Two Jeremies'
What we have on our hands is a powerful demographic appetite for yield at a time when income is under-represented on boomer balance sheets. The two most significant determinants of the trend in long-term bond yields - Fed policy and inflation - continue to flash 'green' at a time when the yield curve is still historically steep and destined to flatten. Finally, the central bank has already assured us that short-term rates will remain at rock-bottom levels for as long as the eye can see. David Rosenberg also comments on growing acceptance of frugality by retailers.
Commentary
Not the Time For a Jubilee
We are in the early stages of a secular credit collapse following the biggest credit bubble in human history. The housing bubble was the result of a universal, irrational and linear belief in real estate asset appreciation that developed in the 1990s and reached its glorious peak in 2007. Now we are rolling back into pronounced economic weakness, with contraction in GDP likely to soon follow the stagnant economic conditions of the current quarter.
Commentary
Double-Dip or Single Scoop?
It is only a commentary on the human condition and the innate need to be optimistic that the vast majority of economists, analysts, strategists and market commentators still seem to be acting like ostriches with their heads in the sand, even in the face of fairly substantial evidence that GDP growth was cut at least in half in Q2 and that there is negative momentum in real retail sales being 'built' into the current quarter. If we are realistic, however, we can actually deploy strategies that will generate profitable results - certainly better than zero percent yields on cash.
Commentary
Bonds Have More Fun
Yields cannot go to microscopic levels, even with large-scale government debts. In the past, at the peak of bull markets in bonds, the yield curve has gotten so flat that the average spread between the long bond and the federal funds rate has been 100 basis points. It would seem that just as BB-grade sliver in the corporate bond universe was the laggard with the greatest return potential, within the Treasury curve it would seem that the long end carries with it the most compelling total return opportunity.
Commentary
Not in Kansas Anymore
The transition to the next sustainable economic expansion and bull market in these types of business cycles takes between five and 10 years, and is fraught with periodic setbacks. While an underweight positions in equities still makes sense, a bar bell between basic materials and defensive dividend stocks is a prudent strategy, with the overall emphasis in the asset mix tilted towards bonds, especially the BB-rated sliver or that part of the higher quality non-investment grade space that currently has the greatest unexploited potential for spread compression and capital gains.
Commentary
Some Salient Facts About the July Payroll Report
David Rosenberg outlines a number of reasons why last Friday' U.S. nonfarm payroll report was even weaker than we thought. He also comments on the recent 120 basis point decline on 10-year Treasury note yields, and its implications for the stock market.
Commentary
Perspective Needed
We are heading into the third quarter knowing that there was minimal growth coming from U.S. consumers. July's data on chain store and auto sales were both below expectations. Personal bankruptcies jumped 9 percent in June, and 2010 is now on track to have the largest number of consumer insolvencies in five years. If capital spending is going to do the heavy lifting, then it will have to accelerate by nearly 10 percentage points for every percentage point slowing in household spending. Now that is a daunting task.
Commentary
Slow Motion Recovery and What Would Make Me Bullish
Legions of economists are claiming that it is normal to see the economy take a breather at this stage of the cycle, but in truth, what is 'normal' in the context of a post-WWII recovery is that four quarters into it, real GDP expands at over a 6 percent annual rate. That puts the current 2.4 percent growth rate into a certain perspective. David Rosenberg also lists 10 economic developments that could turn him bullish.
Commentary
The Emerging Consensus; A Gold Buying Opportunity?
Almost everyone is dismissing double-dip risks in the U.S., while Wall Street research departments are concluding that the ECRI leading index is not foreshadowing another recession. This brings back memories of 2007 and 2008, when all the research houses came to the conclusion that once you strip out the effects of housing, the U.S. economy was still in fine shape. Meanwhile, even though the gold price will ebb and flow, gold is in a secular bull market and will retain its natural hedge against recurring concerns surrounding the integrity of the global financial system.
Commentary
Market Thoughts and the Long-Term Outlook for Inflation
The bull market in bonds will end reasonably close to the point in time that inflation (or deflation) bottoms. This is because the major economic factor that correlates consistently with the direction of market-determined interest rates, at least for long term Treasury Bonds, is CPI Inflation. Core inflation should recede from around 1 percent now to near 0 percent in the next 12-to-24 months, which would imply an ultimate bottom in the long bond yield of 2.5 percent and 2 percent for the 10-year T-note.
Commentary
We're All Chartists Now
Fed chairman Ben Bernanke may not be the world's best forecaster. He has the deepest rolodex, however, deeper than that of any CEO. And when he uses the phrase 'unusually uncertain' to describe the economic outlook, it is irrational to ascribe anything fundamental to the current market rally. The technical picture has indeed improved. The market gets it wrong, however, as often as it gets it right. There is still potential for many disappointments in earnings reports to come.
Commentary
Earnings Season Masks the Slowdown in Q2 Economic Growth
Program trading, algorithms, momentum trading, technicals ? all are at play. Meanwhile, the Treasury market has steadfastly refused to budge from a double-dip view, with real rates still under downward pressure, and while the breadth of the market has been decent, this rally has continued to lack volume ? down a further 2 percent on Friday on the NYSE. We are also at another key technical juncture ? the Dow and Nasdaq have retaken their 200-day moving averages while the S&P 500 and the Nasdaq are caught between the 50-day and 200-day m.a.'s.
Commentary
So What Else are the Bulls Looking at Right Now?
This is still a meat-grinder of a market. The bulls have the upper hand, but only until the next shoe drops in this modern-day depression and post-bubble credit collapse. The best we can say is that we do have a tradable rally on our hands and that we are at a critical technical juncture at the 50-day moving average on the S&P 500 - but remember, in a secular bear market, these rallies are to be rented, not owned. To be sure, 140 companies have reported so far and the news overall is good ? but earnings are a coincident, not a leading indicator.
Commentary
Sediment or Sentiment?
The growth rate on the ECRI leading index sank further into negative terrain, to -9.8 percent during the week ending July 9, down from -9.1 percent the prior week. This was the 10th deterioration in a row. We have never failed to have a recession with the ECRI at current levels. There is, however, an inherent volatility in the index that requires acknowledgment. In the past few weeks, the index has gone from pricing in even-odds of a double-dip to two-in-three odds. It may take a while, but Mr. Market will figure it out before long.
Commentary
The Fundamental Trendline is Still Down
What we are grappling with is this: If the consensus earnings forecast is 'the market,' then the S&P 500 is de facto pricing in $96 of operating earnings next year - a new peak. That is a 35 percent increase from here, and it is extremely difficult to see profits soaring that much at a time when margins are already back at cycle highs and with the prospect of slowing nominal GDP growth. It just does not add up.
Commentary
Recession Odds Still on the Rise
The Economic Cycle Research Institute's weekly leading index fell again last week despite the equity market bounce. The spot index fell 0.6 percent for the second week in a row, and the growth index slipped to -8.3 percent from -7.6 percent at the end of June. While this is the only indicator so far suggesting that recession odds are rising, once you get to -8.3 percent, looking at the historical record, downturns occur more often than not.
Commentary
Challenging Your Own View
A big part of the 'income theme' has been this dramatic move in the disinflation process towards eventual price stability, and perhaps even deflation. Indeed, the Fed (except for some of the regional bank presidents) is taking the deflation risk so seriously, the Washington Post ran an article on methods the central bank is contemplating to head it off ? ranging from even more direct rhetoric in the press statement to reinforce the message that rates will stay near zero indefinitely, to cutting rates charged on bank reserves, to expanding quantitative easing.
Commentary
Double-Dip Revisited
The U.S. economy is very fragile and more vulnerable to exogenous shocks than has been the case in the past. It takes time for these shocks to percolate - six months in 1995 and 12 months in 1998 - and we have yet to feel the full brunt of the European debt crisis hit home, in terms of the depressing impact of their aggregate demand on our export growth. Where the offset from government stimulus comes from next will be interesting to see. If it's not fiscal policy or the Fed, then something tells us that the bond market is going to have to work that much harder.
Commentary
U.S. Economy Hits a Speed Bump, to Put it Mildly
There is certainly nothing on the fundamental front to elicit a rally at present as double-dip risks continue to rise; there should, at a minimum, soon be a growth slowdown of significance. The reason why everyone bought into the V-shaped recovery view was because the equity market told them that it must be the case. Now, however, we have a situation where $1.6 trillion of wealth has been wiped off the books in the past three months as a result of the stock market setback, and so it?s no coincidence that at the margin, question marks are surfacing over the longevity of the recovery.
Commentary
Bonding with the Bond
The U.S. long bond yield is edging lower with each and every passing day, and now stands below 3.90%. It could ultimately reach 1.9%. The most important driver of bond yields is inflation expectations ? more important that fiscal policies or other variables. Core inflation will head lower. As for the equity market, the news, unfortunately, is not good. The S&P 500 has broken below the key line of support for the past five months of 1,040.
Commentary
ECRI Data, Our Themes in the Morning Press, and Radically Restructuring Entitlements
David Rosenberg sets the ECRI?s record straight, arguing that the Lex column should ask about the recent equity market drop rather than the unpredictable rally. Rosenberg comments on the themes of inflation and deflation in the press and how society is becoming familiar with Bob Farrell?s rule, ?Exponentially rapidly rising or falling markets usually go further than you think, but they do not correct by going sideways.?
Commentary
Breakfast With Dave
In today's issue of Breakfast With Dave, David Rosenberg comments on a continued rally in bonds that will remain the most painful trade out there given how the non-commercial accounts are positioned. He also comments on the big drag from the State and local government sector and mixed news on the American consumer.
-Big drag from the State and local government sector
-Mixed news on the American consumer ? just take a look at the slew of conflicting articles in today?s WSJ
Commentary
Not Much Out of G20
David A. Rosenberg summarizes the current conditions and calls for restraint. Fiscal restraint was the overarching message of the G20, which established a goal 'to shave fiscal deficits in half by 2013.' Debates continue as to whether current trends predict 'the third depression' and as to what measures might be taken to prevent that outcome. Rosenberg cites this weekend?s outpouring of articles on deficits, crises, and deflation. There seems to be no 'bottoming out' for the housing market.
Commentary
The Big Picture
Escalating global economic imbalances have dramatically increased the vulnerability of the global recovery. The chances of a growth relapse in the second half of the year are higher than the equity market and credit market have priced in. Treasury bonds seem to be the asset class that most closely shares these cautious views. Anyone with a pro-cyclical bent has to answer for why it is that the yield at mid-point on the coupon curve is below 2 percent, a year after a whippy rally in equities and commodities and what appeared to be a sizeable policy-induced GDP jump off the bottom.
Commentary
Daring to Compare Today to the 30s
Look at what we have today: No room to cut rates. No room ? let alone political will ? to cut taxes. And, in contrast to starting a new war, the U.S. is going to be pulling troops out of Afghanistan, which is a good thing for the troops and their families, but in terms of GDP impact it does represent fiscal withdrawal. The options to resuscitate the economy when it enters a 2002-03 style growth collapse are extremely thin, and probably lie on the Fed?s balance sheet, which means the bond-bullion barbell will likely remain a viable strategy.
Commentary
The Case for Bonds
The problem with trying to assess either supply or demand in the current market environment is that everything is so confusing in the early stages of this new secular paradigm of a global credit collapse. There is no way to get it completely right. As Lacy Hunt has always maintained, it makes much more sense to assess the outlook for inflation as the primary effort in predicting Treasury rates. Maybe perhaps instead of inflation, we should really be discussing deflation, which has emerged as the primary trend, and governments have few bullets left in the chamber to deal with it.
Commentary
China's Currency Shift Not a Game-Changer
The big news over the weekend was the move by China to end the yuan peg to the U.S. dollar. This delink will allow the People?s Bank of China to pursue its own independent monetary policy. In turn, this will help to ease global trade imbalances, ward off the threat of trade protectionism, alleviate domestic credit strains and inflation pressures and accelerate the Chinese shift from export-led to consumer-led growth. It also suggests that the Chinese authorities have confidence in the sustainability of the global recovery.
Commentary
An Intractable Fiscal Problem
Even with low interest rates, the massive debt bulge has become so large that interest charges on the public debt are within three years of absorbing over 30 percent of the revenue base, which then makes it that much tougher to reverse course. In other words, the fiscal problem is becoming increasingly structural and we are already at the stage where even if the economy were running flat out at full employment, the deficit would still be over 7 percent relative to GDP. At some point, this will begin to impede economic progress.
Commentary
Getting a Grip on Reality
Double-dip risks in the U.S. have risen substantially in the past two months. While the economy's 'back end' of industrial production is still performing well, this lags the cycle. The 'front end' of consumer sales and housing leads the cycle. We have already endured two soft retail sales reports in a row and now the weekly chain-store data for June is pointing to subpar activity. The housing sector is going back into the tank - there is no question about it. The recovery in consumer sentiment leaves it at levels that in the past were consistent with outright recessions.
Commentary
The Dow-Gold Relationship
David Rosenberg provides a chart comparing the Dow Jones Industrial Average to gold prices since 1900. If this ratio ends up retesting the two fundamental lows that it has achieved in the past, and if we are correct in our assertion that gold will go to $3,000 per ounce, then we may be getting a Dow 5,000 trough at some point down the road. Rosenberg also comments on the Fed's continued hold on monetary policy, and the threat posed by rising debt levels to growth.
Commentary
Double Dip, Anyone?
The data suggest that we are now seeing the consumer sputter with what looks like a very weak handoff into the third quarter. The housing sector is collapsing again. The export-import data are pointing to a sudden deceleration in two-way trade flows. Commercial real estate is dead in the water. Bank credit is in freefall right now. A double-dip is not yet a sure thing, however. Not only are the economists calling for 3 percent real growth, but the consensus among equity analysts is that we will end up seeing over 30 percent operating EPS growth to a new high of $95.59 for 2011.
Commentary
The 'Yield' Theme Continues Unabated
Fixed-income is woefully under-represented in U.S. and Canadian household balance sheets, while the average baby boomer is 55 years old and as a result is at an age where capital preservation strategies win out over a strict capital appreciation focus, which worked so well in the 80s and 90s. The market moves in 16- to 18-year cycles. Sadly, this secular down-phase in the equity market began in 2000 when the major averages hit their peak in real terms, so the best we can say now is that we are probably 60 percent of the way into it.
Commentary
Not Your Typical Pullback
The outlook for the U.S. economy and the earnings backdrop have become highly uncertain due to the European debt crisis, which, with a lag, will end up hitting our shores. In the name of prudence, a higher risk premium must be applied to the investment decision-making process, which in turn means that a focus on income, capital preservation, and defensive, noncyclical strategies will work best. Trading up in quality and reducing risk will be the key to solid investment performance in coming months.
Commentary
Bond Bubble?
The problem with trying to assess supply or demand in the current market environment is that everything is so confusing in the early stages of this new secular paradigm of a global credit collapse. Bond yields have been low for some time, and they will remain low. But don't be lulled into numerical micro-phobia. The near-30 percent slide in the Chinese stock market suggests that we have three to six more months of deflating commodity prices. And, if the trend in Japanese, German and Swiss yields are any indication, bonds in the United States and Canada have plenty of room to fall further.
Commentary
Growth Slowdown Coming
The declines in the financial sector, construction and state and local governments are vivid reminders that the parts of the economy that were most affected by the bursting of the housing and credit bubble are still licking their wounds and cannot be relied upon to play any role in helping revive a moribund job market. If it weren?t for the plunge in the labor force, the U.S. unemployment rate would have climbed to 10 percent in May. And it's remarkable that with interest rates so low that we would be seeing mortgage applications for new purchases down to a 13-year low.
Commentary
A Bear Market or Just a Correction?
So far the S&P 500 is down nearly 10 percent from the highs, so this is indeed a correction thus far. More often than not, however, declines like these morph into something more severe. Right now we are looking at a 50 percent retracement of the March 2009-April 2010 run-up, which means 943 on the S&P 500. Lows in the market tend to occur with the index 20 percent below the 200-day moving average, which at this stage would be 879. So at least we have a defined range of when to begin to put money to work.
Commentary
Manufacturing, Construction and Gold
Deflation is still the primary trend, coupled with massive reflation efforts and the unintended consequences that come along with those efforts. The name of the game is therefore to focus on strategies that deliver income, minimize volatility and emphasize capital preservation in a secular bear market, and to use commodities as a buffer in a financially unstable world. Rosenberg also comments on rising manufacturing activity and construction, and rising gold sales at the U.S. Mint.
Commentary
Margins Peak, Gold Saves Lives
There is no ?get-out-of-jail-free? card when it comes to the places where market prices could go during this period of pullback in investor risk appetite. The appetite for risk usually comes back because the Fed cuts rates. This time around, we may have to see more balance sheet expansion and more money printed. Gluskin still loves the bond market, but gold is a very good hedge here just in case we are wrong on the inflation call or if the markets begin to anticipate the massive reflation efforts that are still to come.
Commentary
May Volatility, Downward GDP Revision and Sputtering Labor Markets
We are still in the midst of a credit collapse. There is simply too much debt and debt service globally relative to worldwide income. The fact that we had a year-long respite does not alter this view, because that respite was induced by an unsustainable pace of bailout and fiscal stimulus in practically every country on the planet, not just in the United States. Governments bailed out the banks and stimulated the economy. But because the revenue cupboard was bare, public sector debt loads exploded at all levels of government, and to varying degrees, in every jurisdiction.
Commentary
Sentiment Deteriorates - But Still Not Enough
Bullish sentiment, as per the latest Investors Intelligence survey, fell again to 39.3 percent from 43.8 percent; the bear camp rose to 29.2 percent from 24.7 percent. This means bearish sentiment has risen to July 2009 levels and bullish sentiment has declined to February 2010 levels. It can be argued that at real lows, the bull camp gets to 26 percent (historical average) while the bear camp gets to 49 percent, so we may well have further to go before sending the all-clear signal out.
Commentary
Gold Prices, Housing, Bond Yields and the Shiller P/E Ratio
The fact that earnings have been rising while the stock market has been correcting has helped cut the degree of overvaluation in half, to a 0.5 standard deviation from 1.0 just over a month ago on a normalized Shiller P/E ratio basis. The ECRI leading economic index is foreshadowing a deceleration in real GDP growth, however, to 1.5 percent in the second half of the year from the 3.75 percent average pace since the recession technically ended in mid-2009. The S&P 500 level that would be consistent with that sort of pace would be around 850, rather than the current level of 1,074.
Commentary
W, Not V and Using ECRI Data as a Market Indicator
The downdraft in the market in recent weeks reflects the financial risk related to the European debt crisis, the monetary tightening in China and the re-regulation of the financial sector that is currently making its way through to Congress. The next leg down in the equity market specifically and cyclical assets more generally is economic risk. As the events of 2002 showed, more-than-fully valued markets do not need a double-dip scenario to falter - a growth relapse can easily do the trick. It?s still time to be defensive and too early in this correction to be picking the bottom.
Commentary
The First Official Correction in Equities
There?s no sense getting overly bearish over the latest stock market correction. For those of us with cash on hand, who had been waiting for this opportunity in a Godot-like fashion, the correction comes as good news. For the economy, it cannot be a bad thing to have oil prices come down, which helps add cash to consumer pocketbooks and protect profit margins. And of course this wonderful bond rally has acted as a source of social policy, as it has helped pull mortgage rates down to six-month lows, to 4.8 percent for the U.S. 30-year fixed rate product.
Commentary
Shiller P/E Ratios, Deflation, and FOMC Notes
During the past 130 years, whenever the Graham/Dodd/Shiller normalized P/E ratio goes above 20.6x (it is 21x today), the market experiences a significant correction - a correction of 31 percent on average over the next 16 months. It never fails. Rosenberg also examines new evidence of deflation from the labor market, and statements from the Federal Reserve suggesting that the central bank will not consider raising interest rates until 2012.
Commentary
Why the Depression is Ongoing; Gold Glitters
The "depression" is ongoing because real personal income, once you remove all the government handouts, has barely budged. Outside of the lagged impact of all the government stimulus and the arithmetic impact of inventory accumulation, the U.S. economy is not growing. Separately, gold has broken out to the upside even as the U.S. dollar has done likewise on the back of a renewed flight-to-safety bid.
Commentary
Bazooka Bust and Gold Glitters
On July 15, 2008, former Treasury Secretary Hank Paulson described his plan to back the liabilities of Fannie Mae and Freddie Mac as a 'bazooka.' The stock market rallied that day by more than 1 percent, to 1,215 on the S&P 500, and the short-covering rally took the index above 1,300 by early August. Little did anyone know that we had almost 50 percent to go on the downside before reaching interim lows. Meanwhile, gold has managed to hit new highs in all currencies during the recent round of intense European-led volatility and financial market weakness.
Commentary
Across the Pond - Still a Sea of Red
It remains to be seen how Greece and the other problem countries in the euro area will manage to cut their deficits without at the same time controlling their monetary policy and their currency. While coincident economic indicators such as employment have improved in recent months, many of the leading indicators are pointing towards a discernible slowing in economic and earnings growth in the second half of the year and into 2011 as countries worldwide shift from stimulus to fiscal restraint.
Commentary
Euro-Sclerosis No Longer and Last Week's Market
In what can only be described as a spectacular showing of solidarity, European Union finance ministers managed to cobble together a 750 billion euro stabilization program. This is over and above the 110 billion euro Greek bailout package announced last week and is widely seen as a very powerful countermove against the 'wolf pack' that had been attacking the peripheral euro area financial markets over the past few weeks. Equities, commodities , credit and lower-tiered sovereign bonds should all improve markedly. Gluskin also comments on last week's uncertainty in capital markets.
Commentary
Thoughts on Unemployment and the Market
The U.S. employment report was strong on the headline but masked underlying deflationary trends beneath the surface. While the primary focus in the media and Wall Street research reports will likely be on the obvious - nonfarm payrolls surging 290,000 and an even stronger 550,000 gain in the household survey - what was most notable was the buildup of excess capacity in the labor market last month and further evidence of wage deflation coming to the fore. Gluskin also comments on yesterday's market dip.
Commentary
All Part of the Global Deleveraging Story
Greek default now seems inevitable, as does an exit from the euro zone. This is all part and parcel of the global deleveraging cycle. Entities or countries that massively overextended themselves during the boom years are going to be paying the piper, as we are now, on the opposite side of the credit cycle - the secular contraction phase. It may have started with U.S. banks and American real estate three years ago, but it is now about European banks and welfare states within the euro zone.
Commentary
Ten Reasons for a Dose of Caution and Other Thoughts
One could say the stimulus is keeping the economy above water; however, the recovery thus far lacks the same organic vigor we saw in the failed recovery and risk asset rally in the opening months of 2002. Real final sales, despite all the government?s efforts, have only managed to recover at a 1.5 percent annual rate since the recession supposedly ended last summer. In a typical post-recession bounce-back, the rebound is closer to 3.5 percent and with far less intervention out of the Fed, Treasury, White House and Congress.
Commentary
U.S. GDP, Reflecting on the Market Rally, and Unemployment
While many economists will undoubtedly rejoice over the strongest headline GDP results in six years, today?s Q1 2010 number actually came in a tad light relatively to expectations, not to mention the fact that it was a very mixed performance, from a sector standpoint. Real GDP expanded at a 3.2 percent annual rate versus the 3.4 percent rate that the consensus had penned in, and once again the mathematics of a renewed inventory build was responsible for half the GDP growth last quarter.
Commentary
Bleak Job Outlook, Consumer Reality Check and Bailouts
What really stands out in this recession is the permanency of job decay. The National Association of Manufacturers just announced that fewer than 30 percent of the manufacturing jobs lost in the sector will be recouped in the next six years. If this holds true for the economy as a whole, and assuming a normal cyclical upturn in the labor force participation rate, then the nationwide unemployment rate will be 15 percent in six years' time. How anyone can believe that we can squeeze inflation out of that scenario is a mystery.
Commentary
Greece, Europe and the Significance of Yesterday's Market Action
The Euro bounced back this morning, and the flight to higher quality German and French bonds has partly reversed course as markets swirl with speculation that the IMF will announce a stepped-up aid package. The problem, however, is that if Greece is bailed out then Portugal, Ireland, Spain and perhaps Italy may not be far behind. The inability of Greece - and others within European monetary union - to enact an independent monetary policy at a time of crisis has exposed the flaws of the union. The lack of a cohesive national government is another flaw in times of turbulence.
Commentary
Recovery U.S.A.?
Nobody would dispute that the U.S. government has spent the economy into some sort of statistical recovery. Look at the largesse - a 0 percent policy rate, a $2.3 trillion Fed balance sheet loaded up with mortgages, a $1.4 trillion fiscal deficit loaded with bailouts and freebies and accounting changes that have allowed the banks to mark-to-model their way back towards earnings heaven. The time gap between recessions is shortening, however, and growing government debt loads mean that next time the policy response will just not be there to turn things around.
Commentary
The Over-Under on Valuation
According to the Shiller P/E ratio, the S&P 500 is now 35 percent overvalued - a full one standard deviation event. It would be nice to say that a higher-than-normal P/E is justified by low inflation and low interest rates. Real bond yields are not that far from their long-run averages, but equity valuation is, and something is going to give at some point. The operative strategy is to buy low and sell high, not the opposite. Defensive income-oriented strategies make perfect sense right now.
Commentary
No Free Lunch
The fiscal mess will not be fixed through spending restraint because spending is increasingly being dominated by locked-in mandatory entitlement spending and interest costs on the rapidly rising stock of public debt. In addition, the fact that the Goldman Sachs revelation came at a time when bank earnings are being reported and showing that these guys are now making money hand-over-fist (mostly via trading and recoveries) thanks to the government's help is potentially huge from a political standpoint, especially since financial reform is front and center right in Congress right now.
Commentary
Deflation Pressures Mounting - And What To Do With It
The economy may be doing better, but it could take years to absorb all the slack evident in the labor, product and housing markets. Deflation remains the primary trend, notwithstanding the bounce in commodity prices, which will surely act as a significant margin squeeze for retailers. There is no shortage of complaints that the disinflation trend is being skewed by lower rents. Rent matters a lot in the consumption basket, and the fact that it is deflating is a sign of stress in both labor markets and the housing market.
Commentary
Where is Inflation Going?
Inflation is going down. Fully 87 percent of the time, for five decades, U.S. core inflation has been lower the year after a recession ended, while core inflation has been down 75 percent of the time two years after a recession ended. This is because, even as the economy moves off the bottom, the output gap lingers and exerts downward pressure on inflation. In addition, nominal GDP growth rates have been in the 3-4 percent range in U.S. and Canada over the past five to 10 years. This has big implications for assumed returns in pension funds as the population ages.
Commentary
What Correlates With Bond Yields: The Core and the CPI Are All That Matter
Monetary policy is the strongest single predictor of bond yields, with an 88 percent correlation. Inflation and inflation expectations, meanwhile, drive Fed policy, and core inflation commands a 75 percent historical relationship with bond yields. Slack in the economy drives inflation expectations, and we currently have tremendous spare capacity in goods, labor and housing. Rosenberg also comments on the tenuous prospects for a big recovery, despite hopeful signals from equity markets.
Commentary
Setting the Record Straight on the Bond Debate
Bond bears argue that the U.S. government has never before raised so much debt to finance the bloated fiscal deficit and roll over existing obligations. With credit contracting, rents deflating, the broad money supply measures now declining and unit labor costs dropping at a record rate, however, it hardly seems plausible that inflation is a risk at any time on the near- or intermediate-term forecasting horizon. Rosenberg also comments on currency, equity, commodity and corporate bond valuations, as well as money and credit contractions.
Commentary
Market Thoughts
The recent rally shows us that markets can stay overvalued far longer than many people realize. While technicals and momentum could take the market higher in the near term, investors should still not abandon capital-preservation strategies. The primary trend is what is important, not the noise surrounding it. Right now the primary trend is one of private sector credit contraction, as well as excess supply in finished goods, retail space, houses and labor, all of which is deflationary. This makes an ongoing emphasis on income-gathering securities and assets critical.
Commentary
Stylized Facts, U.S. Earnings Update and the Unemployment Numbers
Things are not really as they appear. U.S. consumer spending is higher because the savings rate has slipped. Organically, spending is actually doing quite poorly as wage-based incomes remain under pressure. The earnings outlook is bright, however, and regressions suggest that we will get 15 percent earnings per share growth in 2010. Finally, while it may be encouraging to see employment finally begin to rise after such a lengthy and precipitous decline, especially in the business sector, the labor market still remains in the grips of a serious deflationary undertow.
Commentary
Market Thoughts
The market is overvalued by more than 25 percent, but is also extremely overbought after going 24 sessions without a decline of 1 percent or more. Eighty-nine percent of the stocks on the S&P 500 are now trading above their 50-day moving averages, and the Dow has advanced in 17 of the last 24 days. This suggests that the prop desks at the five large banks are all selling securities, with leverage, to each other. There is no sign of any other major buyer, including the Fed. This provides reason for caution, because the banks could decide to switch direction at any time.
Commentary
Market Thoughts and Shiller Valuations
With a stronger U.S. dollar, rising bond yields, lower commodity prices, slower growth and the stock market flirting with post-crisis highs, the stars are aligning for something big to happen. Bond yields are rising temporarily, and this will very likely prove to be a good buying opportunity. In the near term, however, higher yield activity may well persist and the question is how the equity market is going to handle this backup in market rates. In addition, the latest Shiller data shows that the S&P 500 is overvalued by at least 30 percent, benchmarked against historical norms.
Commentary
What Is Priced In?
The cyclically sensitive segments of the S&P 500 have priced in an extremely robust economic landscape. Sentiment is also very bullish, with the latest Investors Intelligence poll finding 46.2 percent bullish sentiment versus 21.3 for bears. Some of this bullish sentiment may be a product of complacency, however. Most leading economic indicators have peaked, indicating a slowdown ahead.
Commentary
Jobless Claims, Inflation and Retail Pricing Power
Jobless claims are down to 457,000, the same place they were in late 2001 after the terrorist attacks. Sustained job creation does not occur, however, until claims drop below 400,000. The headline inflation rate was 2.1 percent in February and the core was 1.3 percent, the lowest core inflation rate since February 2004. Pricing trends suggest that airlines, shipping and hospital services have retained pricing power, while restaurants, home improvement, apparel, movies, telecoms, books and newspapers have not.
Commentary
Market Comment
Government stop-and-go policies have fostered an environment of intense volatility for equity markets over the past 12 years. The market has basically been flat for a buy-and-hold investor during this period. While this may make a great case for active portfolio management, chasing performance at this juncture is probably unwise. Housing is the quintessential leading indicator for economic activity, and many realtors still say business is slow. As the Japanese experience shows us, a double-dip recession may come faster than we think.
Commentary
Credit Contraction Continues
Consumer credit fell by $4.6 billion in December, according to a revision released Friday of the previous $1.7 billion figure. Revolving credit fell $1.7 billion in January, to $864.4 billion, the lowest figure since October 2006. The only gain in credit was a $10 billion increase in federal government loans due to a student loan program. Overall, lending and borrowing behavior suggests an ongoing credit contraction.
Commentary
Damned If You Do...
The equity market refuses to go down, even in the face of a slate of disappointing economic news over the course of the past month. Forty-seven companies in the S&P 500 boosted their dividends in February, while only one company cut. Stock buybacks increased 37 percent year-over-year in the fourth quarter of 2009. Mergers and acquisitions are up 13 percent this year, to 1,579. Valuation may prove to be an impediment, however. Shiller places the normalized real P/E multiple at 20.64x, while the long-term trend is 16.36x. This suggests that the S&P is currently overvalued by 26 percent.
Commentary
Bank Credit Still Contracting
Outstanding bank credit fell $33 billion during the week of February 17, adding to a seven-week cumulative decline of $150 billion. Bank lending to households and businesses fell at a 12 percent annual rate over the past 13 weeks. As long as bank credit is shrinking, the jury will still be out on Fed rate hikes during the second half of this year and the ability of the economy to sustain above-potential growth. In addition, the revised Q4 GDP numbers indicate a lack of pent-up consumer demand with most spending directed to essentials, reinforcing a bearish, deflationary U.S. economic outlook.
Commentary
Focus on the Forest, Not the Trees
Despite the reflexive rebound in global equity markets, deflation is still the primary trend for consumer prices and asset values as households rebuild balance sheets and as governments face sovereign default risks. Investors should focus on bonds, hybrids, and dividends with consistent yields as they search for safety and income at a reasonable price.
Commentary
Lacking Confidence
U.S. consumer confidence fell 10.5 points in February, to 46.0, the lowest reading since last April. The consensus estimate was 55.0. While some blame a seasonal bias or winter storms for the decline, news about European default risks, a declining stock market and continued employment difficulties may also be at play.
Commentary
My Take on the Fed
The Federal Reserve's decision to increase the discount rate from 0.5 percent to 0.75 percent was only a surprise because of the timing. The rate hike was part of the Fed's long-discussed exit strategy from its emergency stimulus plan. A number of other emergency measures are also scheduled to end this month.
Commentary
The Return of the Primary Trend
If credit, equity prices and the economy are on a downward primary trend this year and 2009 was indeed a counter-trend bounce, then the appropriate course of action is to capitalize off the rally in assets last March and figure out how to still make money on a risk-adjusted basis. Rosenberg also examines February's recovery in the National Association of Home Builders housing market index and fiscal woes at the state level.
Commentary
Bernanke Ain't Doin' Nothin' plus Comments on Commercial Real Estate and Employment
David Rosenberg of Gluskin Sheff says Federal Reserve Chairman Ben Bernanke won't try to tighten up liquidity conditions until after the deleveraging cycle runs its course. Bank lending to households and businesses shrank $28 billion last week, and is down by $100 billion since mid-January. He also takes a look at declining commercial real estate figures and improving jobless claims numbers.
Commentary
Breakfast with Dave
Rosenberg's bearish thesis is based on his belief that the "great policy reflation experiment is over." He notes that China, India, Canada and most of Europe are tightening budgets. The 2009 stimulus "cushioned the blow;" 2010 and beyond look much different. He recommends a conservative asset allocation.
Commentary
Breakfast With Dave
Rosenberg provides an update to his bearish outlook. He says credit flows remain constrained, amid new bank failures last week. The spending freeze announced by the Obama administration will provide what amounts to a ?rounding error? of improvement in the context of the unemployment situation. Investors should consider a defensive allocation ? similar to what would have worked in 2008 but did not work in 2009.
Commentary
The Houdini Recovery
?The growth bulls are out in full force today in the aftermath of the headline 5.7% QoQ annualized print on fourth quarter GDP growth in the U.S. We offer a slightly different perspective.? Rosenberg
Commentary
This is Not Supposed to Happen
Rosenberg comments on the State of the Union Address, yesterday?s FOMC statement, the latest Investors Intelligence poll and the continuing flows of money into the bond markets. Most importantly, he
Commentary
Breakfast with Dave: Market Musings and Data Deciphering
In my view, three years after the detonation in residential real estate, it is still all about housing. And it will be interesting to see how the markets handle (i) a near-term renewed decline in the