Waiting for Geithner

Vincent Farrell, Jr. is Chief Investment Officer of Soleil Securities, a New York based investment management company. Over his long career on Wall Street, he has worked for numerous distinguished firms. Mr. Farrell graduated from Princeton University in 1969 and received his M.B.A. from the Iona College Graduate School of Business in 1972.

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Vincent Farrell
Chief Investment Officer
Soleil Securities Corporation
February 9, 2009

Monday was a good day to be out of the office visiting clients. Actually, any day you have clients to visit is a good day. Yesterday offered nothing in the way of market action but waiting for the stimulus and the financial rescue plan to move forward. Geithner should unveil Treasury’s rescue plan for dealing with toxic assets soon and it appears the contents are still a bit of a moving target. The stimulus plan, so “artfully” crafted by political forces, is really an assistance plan and the hoped for number of new jobs will be way short of the rhetoric.

A “stimulus” dollar given to someone via extended unemployment benefits or through aid to state Medicaid programs- two targets of the plan- might be a dollar that needs to be given, but it has to come from somewhere. It is either a tax on someone or borrowed from somewhere. If the recipient doesn’t spend that dollar in a way to equal the productive potential from where it came, the stimulus could even be negative.

The press has also picked up on the “bridges to nowhere” aspects of the stimulus plan. $86 million is scheduled to go to the Milwaukee School system for new school construction. The school system has 15 vacant schools, declining enrollment, and no plans to build new schools. Somebody got a political chit cashed. The National Endowment for the Arts probably needs a lot more than the $50 million it is tentatively scheduled to get, but it’s hard to see the stimulative action or the job creation possibilities of such a grant.

Money distributed will be spent though and will be added to the GDP tally during the quarter it’s distributed. That should start impacting the economy in the second half of the year. If I had to guess, the economy will exit the recession in the fourth quarter of this year, and maybe the third. That is such conventional wisdom it’s hardly worth saying. But there are reasons for the viewpoint. Q1 GDP will be impacted negatively by the rapidly rising savings rate, liquidation of inventories that I wrote about last week, and the continued punk business environment and rising unemployment. By the time the stimulus program, flawed or otherwise, starts to flow, the savings rate will have moved much closer to its ultimate level (I’m guessing 7% as that is the long term average), inventories will have been worked down and probably excessively so, and the pace of unemployment growth will at least have slackened. I was no fan of the rebate checks mailed out last year by the Bush Administration. Rebates don’t fool the American public. They tend to be viewed as a windfall and saved for the most part. Even so GDP jumped during their distribution since some of the money was spent. Flooding the American economy with several hundred billion dollars will move the needle. I do worry that all that money will not buy the bang for the buck it should.

If all the political angst can be overcome and the bureaucratic wheels move with some minor degree of urgency then the second half of the year will see a lot of dollars spread around. The stock market bottoms on average five months before the economy does. Let’s say the economy exits the recession in the middle of Q4. Discounting back to the average means the market could bottom in the summer. I think it’s fair to start the current bear market with the demise of Lehman in September of 2008. The process of forming a bottom usually takes about a year. This is getting a bit too cute but the timing of all of this can work.

I continue to think/hope that the November 2008 low of 740 intraday on the S&P will prove to be the bottom of this cycle. We entered the bear market some months before that and over the coming months we will have several more tests of the low. We will also have wonderful rallies like last Friday that we will want to believe marks the beginning of something good. Resist the temptation to get pulled in on the up moves but resist also the urge to panic when the tests come.