Words from the (investment) wise for the week that was (June 15 – 21, 2009)
Caution last week crept back into investors’ vocabulary for the first time in more than three months as they faced up to President Barack Obama’s plan to reform the US financial market regulations, weighed the prospects of a global economic recovery and whether the “green shoots” needed more monetary water, and also started pondering the second-quarter earnings season.
As risk-taking moderated, profit-taking on equities and commodities set in after a colossal advance since early March. Government bonds rallied further, high-yield corporate bonds met selling pressure, spreads on credit derivative indices widened, and the US dollar marked time. “We could be seeing one of those occasional ‘all-change signals’ in short-term trends,” said Fullermoney editor David Fuller from across the pond.
From his new abode at Gluskin Sheff & Associates, David Rosenberg said: “Post-credit collapse and asset deflation cycles are always gripped with fragility; the intermittent beta trades and flashy rallies only serve to tell us that nothing moves in a straight line. In the meantime, the incoming data do suggest that recession pressures are subsiding, but it is difficult to see what the sources of recovery are going to be outside of government spending.”
Source: Gary Varvel
The week’s performance of the major asset classes is summarized by the chart below. Not shown, the entire precious metals complex was again out of favor with investors, with gold bullion’s (-0.5%) high-beta cousins – platinum (-3.7%) and silver (-4.1%) – being sold off by cautious investors.
Source: StockCharts.com
The US dollar ended the week virtually unchanged after Russian President Dmitry Medvedev told a regional summit on Tuesday that new reserve currencies, in addition to the dollar, were needed to stabilize the global financial situation. Meanwhile Brazil, Russia, India and China went on the biggest dollar-buying binge in eight months during May, adding $60 billion to their reserves, as cited by MoneyNews (via Bloomberg).
Many stock markets on Monday registered their worst single-session losses in a month. Mature markets perked up towards the end of the week, but emerging markets, in a number of instances, were down for all five trading days. After a four-week winning streak, the MSCI World Index (-3.0%) and the MSCI Emerging Markets Index (-5.0%) closed the week at their lowest levels since the last week of May.
Facing lackluster volume, the major US indices all ended the week in the red, but less so than most European and emerging bourses, as seen from the movements of the indices: S&P 500 Index (-2.6%, YTD +2.0%), Dow Jones Industrial Index (-2.9%, YTD -2.7%), Nasdaq Composite Index (-1.7%, YTD +15.9%) and Russell 2000 Index (-2.7%, YTD +2.7%).
To put the decline in context, the biggest pullback in the S&P 500 since the March 9 low happened in late March when the Index dropped by 5.9% over the course of two days. The most recent decline took the Index down by 5.0% between May 8-15. The S&P 500 is currently a more modest 2.7% off its high of June 12.
After climbing into the black for the year to date in the prior week, the Dow fell back to -2.7% last week – the only major US index in the red for 2009 – and, along with the FTSE 100 Index (-2.0%), one of the few global indices in this unenviable position.
Click here or on the table below for a larger image.
As far as non-US markets are concerned, returns ranged from top performers – mostly African countries – Sri Lanka (+10.7%), Kenya (+9.5%), Namibia (+8.5%), Uganda (+7.3) and Côte d’Ivoire (+5.0%), to Russia (-9.8%), Qatar (-9.8%), Argentina (-8.4%), Ukraine (-6.9%) and Finland (-6.8%), which experienced headwinds.
In a bullish move, the Shanghai Composite Index – one of the leading markets in the advance over the last few months – bucked the downtrend with a gain of 5.0%. However, the Russian Trading System Index – the top-performer for the year to date (+70.7%) and since the November 20 lows (+104.8%), succumbed to profit-taking, losing 9.8% on the week. Also, the Bombay Sensex 30 Index (-4.7%) declined after rising for 14 consecutive weeks. (Click here to access a complete list of global stock market movements, as supplied by Emerginvest.)
John Nyaradi (Wall Street Sector Selector) reports that as far as exchange-traded funds (ETFs) are concerned, the leaders for the week included offshore “short” funds such as ProShares Short MSCI Emerging Markets (EUM) (+7.4%) and ProShares Short MSCI EAFE (Europe, Australia, Far East) (EFZ) (+3.3%). On the other side of the performance spectrum, losers centered in the energy sector, including Market Vectors Coal (KOL) (-13.4%) and iShares Dow Jones US Oil Equipment & Services (IEZ) (-11.6%).
In a white paper released on Tuesday night, the Obama administration detailed a number of proposals to overhaul the US system of financial regulations in an effort to restrain the reckless risk-taking that triggered the economic crisis.
The quote du jour this week is related to this regulatory reform and comes from Barry Ritholtz, editor of The Big Picture blog and author of Bailout Nation, a newly published and must-read book, who remarked: “The Federal Reserve, despite its role in causing the crisis, gets MORE authority. Under Greenspan, the Fed did a terrible job of overseeing banking, maintaining lending standards, etc. Why they should be rewarded for this failure with more responsibility is hard to fathom. It is yet another example of rewarding the incompetent.”
Ritholtz offers a better solution: “Have the Fed set monetary policy. They should provide advice to someone else – like the FDIC (Federal Deposit Insurance Corporation) – who hasn’t shown gross incompetence.”
Other news is that the US Treasury is planning to revamp securitization with new rules designed to reduce the incentive for lenders to originate bad loans and flip them on to investors. The aim is to restore confidence in and revitalize securitized markets, which financed more than half of all credit in the US in the years immediately prior to the credit crisis.
Next, a quick textual analysis of my week’s reading. No surprises here, with all the usual suspects such as “market”, “financial”, “credit”, “economy”, “stock”, “banks” and “China” featuring prominently.
Back to the stock markets: an analysis of the moving averages of the major US indices shows the S&P 500, the Nasdaq Composite and the Russell 2000 trading above their 50- and 200-day moving averages, albeit marginally so in the case of the S&P 500. On the other hand, the Dow Industrial and Dow Transportation are below the key 200-day line, but still a few points above the 50-day average. Only the Nasdaq Composite trades above its January peak. The levels from where the rally commenced on March 9 should hold in order for base formations to remain in force.
Click here or on the table below for a larger image.
Not only are the indices very close to important moving average support levels, but a short-term oscillator such as the rate-of-change (momentum) indicator is on the verge of giving a selling signal, i.e. crossing through the zero line in the bottom section of the S&P 500 chart below. Also note the negative divergence between the Index and the ROC line – typically a warning sign that a near-term trend change will take place.
Source: StockCharts.com
The Bullish Percent Index shows the percentage of stocks that are currently in bullish mode as a result of point-and-figure buy signals. With the figure at 64.8%, this indicator conveys the message that the majority of stocks are in uptrends, but the line has turned down and the chart has the appearance of at least a short-term top.
Source: StockCharts.com
Richard Russell, veteran writer of the daily Dow Theory Letters, commented on Monday: “I’m of the opinion that this bear market rally is in the process of topping out. When a counter-trend rally tops out within an ongoing primary bear market, the odds are that the stock market will break to new lows during the period ahead. That means that the stock market will break below its March 9 lows in coming weeks. A violation of the March 9 lows would be a shocker to most investors, and it would be a forecast of an even worse economy coming up.”
For more about key levels and the most likely short-term direction of the S&P 500, Adam Hewison of INO.com prepared another of his popular technical analyses. Click here to access the short presentation. (The analysis was done on Tuesday, but is still as relevant today as it was a few days ago.)
Turning to equity valuation levels, economist and strategist David Rosenberg, said: “The notion that we had moved to Armageddon lows in equities does not seem to hold water. After all, the forward P/E multiple on the S&P 500 at the lows was 11.7x. That was not a multi-decade low or some massive standard-deviation figure – we were actually lower than that at the October 1990 lows when the multiple was 10.5x and frankly, coming off the 1987 collapse, the forward P/E had compressed to 9.8x.
“As it now stands, the multiple is back very close to where it was at the October 2007 market high when the multiple had expanded to 15.0x. The range on the forward P/E over the last quarter-century is between 9.8x and 21.8x (excluding the tech bubble), so at 14.5x currently, it is hardly the case that this market can be viewed as a bargain. On a trailing earnings basis, the P/E multiple has actually widened, from 17.0x at the lows to 23.3x currently, a huge multiple expansion.”
Nouriel Roubini, professor at NYU’s Stern School and Chairman of RGE Monitor, shares the view that the stock market rally is long in the tooth. According to Yahoo, Tech Ticker, he pointed to three factors that would lead to a correction in the near future: (1) Volatility and uncertainty would increase; (2) Corporate earnings would disappoint; and (3) The global financial system still faced serious problems.However, Roubini was not convinced that the market would retest the rally lows.
Taking an opposite stance, Mario Gabelli, chief investment officer at Gamco Investors, sees rosy times ahead for the economy and stock market, as reported by MoneyNews. He noted that the Dow Jones Industrial Average was now at 8,500. “Twelve years ago it was 8,500 … In 10 years, 8,500 will look like a bargain, and it’s a bargain today. The best way to make money in the coming bull market is ‘plain old stock picking’,” said Gabelli.
In my opinion, it seems as if the spring rally has probably exhausted itself. It is difficult to envisage how much of a pullback we might see, but I maintain that it will still be part of a bottoming process. I would nevertheless assume a defensive position, as a bigger and longer correction than what many pundits are expecting cannot be excluded.
For more discussion on the direction of stock markets, also see my recent posts “Gold, gold, you’re making me old“, “Albert Edwards: Expect new equity lows in H2, China is global Achilles’ heel“, “Video-o-rama: Regulatory reform dominates debate“, “Stock markets: retreat in store?“, “The recession in historical context“, “Technical talk: S&P 500 turning down from 950 again” and “Have stock markets run away from reality?“. (And do make a point of listening to Donald Coxe’s webcast of June 19, which can be accessed from the sidebar of the Investment Postcards site.)
Economy
“Global business sentiment is much improved during the past three months. Most notable is the optimism regarding the economic outlook toward the end of this year. Assessments of current business conditions and the strength of sales have also measurably improved,” said the latest Survey of Business Confidence of the World conducted by Moody’s Economy.com. However, confidence is still weak and fragile, consistent with an ongoing global recession.
Although the European Central Bank (ECB) has warned that Eurozone banks face additional losses of more than $283 billion this year and next, German investor confidence, as measured by the ZEW Economic Sentiment Index, rose to a three-year high in June. The improvement suggests that investors are more confident that the worst of the financial crisis and recession has passed. However, the ZEW Current Situation Index remained around its six-year low in June, indicating that the German economy remains in recession.
Source: ZEW
“‘Green shoots’ is no longer the favorite phrase among policymakers. During last weekend’s meeting of Group of Eight (G8) finance ministers, the message shifted to emphasize that it was far too early to sound the all-clear for the world economy,” writes the Financial Times.
“I don’t think we’re at a point yet where we can say we have a recovery in place,” said Tim Geithner, US Treasury secretary, and continued this theme a day later by saying “it is early still” and “we have a way to go”. Britain’s finance minister, Alistair Darling, said “we’re not there yet”, and the IMF’s Dominique Strauss-Kahn said “the recovery is weak”.
Focusing on the country that seems to have cruised best through the economic malaise, the World Bank raised its forecast for China’s 2009 gross domestic product growth to 7.2% (from 6.5% three months ago), saying the apparent success of the government’s stimulus package had improved the outlook from March, as reported by the Financial Times. The bank estimates a full six percentage points of this year’s 7.2% GDP growth will come from investment and spending either carried out by the government or directly influenced by it.
According to US Global Funds, another validation of China’s economic recovery is provided by the recent growth in government revenue, thanks to rising business tax receipts. “Going forward, a virtuous cycle may set in when improving private sector activity encourages corporate expansion, which in turn benefits employment, income growth, and consumption.”
Source: US Global Funds – Weekly Investor Alert, June 19, 2009.
However, Albert Edwards, global strategist at Société Générale, said (via the Financial Times): “I believe the bullish group-think on China is just as vulnerable to massive disappointment as any other extreme or bubble nonsense I have seen over the last two decades. The fall to earth will be equally as shocking.”
In the world’s second largest economy, the Bank of Japan opted not to make any changes to its monetary policy, stating that economic conditions in Japan “have begun to stop worsening”.
A snapshot of the week’s US economic data is provided below. (Click on the dates to see Northern Trust‘s assessment of the various data releases.)
June 19
• June 23-24 FOMC meeting – coast is not clear yet, minor modifications of April statement likely
June 18
• Index of Leading Indicators suggests worst is over
• Continuing Claims post large decline
• Philadelphia Fed Survey points to improving factory conditions
June 17
• Subdued inflation data leave room for Fed
• Significant improvement in current account deficit
June 16
• Housing Starts – turning the corner?
• Factory Production and Operating Rate remain problematic
• Higher prices for energy and tobacco lift overall Wholesale Price Index
Also, Reuters reported that US credit card defaults rose to record highs in May, soaring to 12.5% from 10.5% in April in the case of Bank of America. This is yet another sign that consumers remain under severe stress.
Summarizing the outlook for the US economy, Asha Bangalore (Northern Trust) said: “For all purposes, although the nature of incoming economic data and current financial market conditions indicate that the worst is behind us, real GDP in the second quarter is projected to decline again. The headline reading of real GDP should show a noticeably smaller drop in the second quarter compared with the 5.7% drop in the first quarter.
“There is mixed opinion in the marketplace about the third-quarter performance of the economy. We expect the economy to gather steam only by the final three months of 2009. The FOMC’s projections show a decline of real GDP growth (Q4-to-Q4 basis) in 2009 to range between -2.0% and -1.3%. The bottom line is that the Federal funds rate will hold unchanged for several months ahead.”
Week’s economic reports
|
Date |
Time (ET) |
Statistic |
For |
Actual |
Briefing Forecast |
Market Expects |
Prior |
|
Jun 15 |
8:30 AM |
NY Empire Manufacturing Index |
Jun |
-9.41 |
-5.00 |
-4.60 |
-4.55 |
|
Jun 15 |
9:00 AM |
Net Long-Term TIC Flows |
Apr |
$11.2B |
NA |
$60.0B |
$55.4B |
|
Jun 16 |
8:30 AM |
May |
532K |
485K |
485K |
454K |
|
|
Jun 16 |
8:30 AM |
May |
518K |
500K |
508K |
494K |
|
|
Jun 16 |
8:30 AM |
May |
0.2% |
0.5% |
0.6% |
0.3% |
|
|
Jun 16 |
8:30 AM |
Core PPI |
May |
-0.1% |
0.1% |
0.1% |
0.1% |
|
Jun 16 |
9:15 AM |
May |
68.3% |
68.4% |
68.4% |
69.0% |
|
|
Jun 16 |
9:15 AM |
May |
-1.1% |
-0.7% |
-1.0% |
-0.7% |
|
|
Jun 17 |
8:30 AM |
May |
0.1% |
0.3% |
0.3% |
0.0% |
|
|
Jun 17 |
8:30 AM |
Core CPI |
May |
0.1% |
0.1% |
0.1% |
0.3% |
|
Jun 17 |
8:30 AM |
Current Account Balance |
Q1 |
-$101.5B |
NA |
-$85.0B |
-$154.9B |
|
Jun 17 |
10:30 AM |
Crude Inventories |
06/12 |
-3.87M |
NA |
NA |
-4.38M |
|
Jun 18 |
8:30 AM |
06/13 |
608K |
595K |
604K |
605K |
|
|
Jun 18 |
10:00 AM |
May |
1.2% |
1.0% |
1.0% |
1.1% |
|
|
Jun 18 |
10:00 AM |
Philadelphia Fed |
Jun |
-2.2 |
-18.0 |
-17.0 |
-22.6 |
Source: Yahoo Finance, June 19, 2009.
In addition to an interest rate announcement by the Federal Open Market Committee (FOMC) (Wednesday, June 24), the US economic highlights for the week include the following:
Source: Northern Trust
Click here for a summary of Wachovia’s weekly economic and financial commentary.
Markets
The performance chart obtained from the Wall Street Journal Online shows how different global financial markets performed during the past week.
Source: Wall Street Journal Online, June 19, 2009.
“The first panacea for a mismanaged nation is inflation of the currency; the second is war. Both bring a temporary prosperity. Both bring a permanent ruin. But both are the refuge of political and economic opportunists,” said Ernest Hemingway.
In these troubled times, let’s hope the news items and quotes from market commentators included in the “Words from the Wise” review will help Investment Postcards readers to spot the opportunities and invest wisely.
For short comments – maximum 140 characters – on topical economic and market issues, web links and graphs, you can also follow me on Twitter by clicking here.
Happy Father’s Day to all, and enjoy the longest summer’s day of the year (in the northern hemisphere)!
That’s the way it looks from Cape Town in the heart of winter (that I will shortly be leaving behind for a two-week visit to Slovenia and Switzerland).
Simon Johnson (The Baseline Scenario): Where are we now?
“1. Financial markets have stabilized – largely because people believe that the government will not allow Citigroup to fail. We have effectively nationalized any banking system losses, but we’ll let bank executives enjoy the full benefits of the upside. How much shareholders participate remains to be seen; there will be no effective reining in of insider compensation.
“2. The real economy begins to bottom out, although unemployment will not peak for a while and could stay high for several years. Longer term growth prospects remain uncertain – has consumer behavior really changed; if finance doesn’t drive growth, what will; is the budget deficit under control or not (note: most of the guarantees extended to banks and other financial institutions are not scored in the budget)?
“3. More broadly, there is sophisticated window dressing in the pipeline but no real reform on any issue central to (a) how the banking system operates, or (b) more broadly, how hubris in finance led us into this crisis. The financial sector lobbies appear stronger than ever. The administration ducked the early fights that set the tone (credit cards, bankruptcy, even cap and trade); it’s hard to see them making much progress on anything – with the possible exception of healthcare.
“4. The consensus from conventional macroeconomics is that there can’t be significant inflation with unemployment so high, and the Fed will not tighten before late 2010. The financial markets beg to differ – presumably worrying, in part, about easy credit leading to dollar depreciation, higher import prices, and potential commodity price inflation worldwide. In all recent showdowns with standard macro models recently, the markets’ view of reality has prevailed. My advice: pay close attention to oil prices.
“5. Emerging markets are increasingly viewed as having ‘decoupled’ from the US/European malaise. This idea was wrong in early 2008, when it gained consensus status; this time around, it is probably setting us up for a new bubble – based on a ‘carry trade’ that now runs out of the US. The ‘appetite for risk’ among investors is up sharply. The G7/G8/G20 is back to being irrelevant or merely cheerleaders for the financial sector.”
Source: Simon Johnson, The Baseline Scenario: June 13, 2009.
The Washington Post: Obama blueprint deepens Federal role in markets
“The Obama administration last night detailed a series of proposals to involve the government more deeply in private markets, from helping to steer borrowers into affordable mortgage loans to imposing new limits on the largest financial companies, in a sweeping effort to curb the kinds of reckless risk-taking that sparked the economic crisis.
“The plan seeks to overhaul the nation’s outdated system of financial regulations. Senior officials debated using a bulldozer to clear the way for fundamental reforms but decided instead to build within the shell of the existing system, offering what amounts to an architect’s blueprint for modernizing a creaky old building.
“The White House makes its case for this approach in an 85-page white paper that describes the roots of the crisis. Gaps in regulation allowed companies to make loans many borrowers could not afford. Funding came from new kinds of investments that were poorly understood by regulators. Big firms paid employees massive bonuses, while setting aside little money to absorb potential losses.
“‘While this crisis had many causes, it is clear now that the government could have done more to prevent many of these problems from growing out of control and threatening the stability of our financial system,’ the white paper says.
“The plan is built around five key points, according to a briefing last night by senior administration officials and a copy of the white paper obtained by The Washington Post.
“The proposals would greatly increase the power of the Federal Reserve, creating stronger and more consistent oversight of the largest financial firms.
“It also asks Congress to authorize the government for the first time to dismantle large firms that fall into trouble, avoiding a chaotic collapse that could disrupt the economy.
“Federal oversight would be extended to dark corners of the financial markets, imposing new rules on trading in complex derivatives and securities built from mortgage loans.
“The government would create a new agency to protect consumers of mortgages, credit cards and other financial products.
“And the administration would increase its coordination with other nations to prevent businesses from migrating to less regulated venues.
“Congressional leaders say they hope to pass some version of the plan by year’s end.”
Source: Binyamin Appelbaum and David Cho, The Washington Post, June 17, 2009.
CNBC: Sheila Bair on the regulation revamp
“The White House this week unveiled a new financial regulatory framework, and FDIC Chair Sheila Bair shares her outlook on the new policy initiatives with CNBC.”
Source: CNBC, June 19, 2009.
Barry Ritholtz (The Big Picture): Obama reform plan fails to fix what is broken
“So much for ‘not letting a crisis go to waste’.
“The initial read on the Obama Regulatory plan was an enormous disappointment. Both supporters and critics who expected him to take a hard turn to the Left have been left either surprised or disappointed, depending upon their leanings.
“To the pragmatic center, including your humble blogger, what stands out is the number of half measures and omitted actions that were viewed as necessary to prevent a replay.
“Some very obvious omissions from the plan include:
“1) No major changes for the ratings agencies!
“This is a giant WTF from the White House. It implies that the team in charge STILL does not understand how the problem occurred.
“The ratings agencies are not the only bad actors, but they are a BUT FOR – but for the rating agencies putting a triple A on junk paper, many funds could not have purchased them, the number of mortgages securitized would have been much less, the insatiable demand on Wall Street for mortgage paper would have also been much lower.
“Why is this important? If mortgage originators couldn’t sell a mass amount of loans, they would not have had the need to give a mortgage to anyone who could fog a mirror – and that means no Liar Loans, no NINJA loans, and no huge subprime debacle.
“Better Solution: Take apart the ratings oligopoly! Eliminate the Pay-for-Play/Payola structure. Strip Moody’s S&P and Fitch from their uniquely protected status – they have proven they are neither worthy nor competent. Open up ratings to competition – including open source.
“2) Turn derivatives into ordinary financial products: The Obama team does a series of minor steps for derivatives, but they don’t go far enough.
“Better Solution: Force derivatives to be traded like option/stocks, etc. (including custom one-off derivatives). Trade them only on exchanges, full disclosure of counter-parties, transparency and disclosure of open interest, trades, etc. REQUIRE RESERVES LIKE ANY OTHER INSURANCE PRODUCT.
“3) ‘If they are too big to fail, make them smaller.’
“That is the famous quote from Nixon Treasury Secretary George Shultz, and it applies to the banks as well as insurers, Fannie & Freddie, etc.
“We have a situation where 65% of the depository assets are held by a handful of huge banks – most of whom are less than stable. The remaining 35% is held by the nearly 7,000 small and regional banks that are stable, liquid, solvent and well run.
“Better Solution: Have real competition in the banking sector. Limit the size for the behemoths to 5% or even 2% of total US deposits. Break up the biggest banks (JPM, Citi, Bank of America).
“4) The Federal Reserve, despite its role in causing the crisis, gets MORE authority.
“Under Greenspan, the Fed did a terrible job of overseeing banking, maintaining lending standards, etc. Why they should be rewarded for this failure with more responsibility is hard to fathom. It is yet another example of rewarding the incompetent.
“Better Solution: Have the Fed set monetary policy. They should provide advice to someone else – like the FDIC – who hasn’t shown gross incompetence.
“5) Require leverage to be dialed back to its pre-2004 levels. Have we even eliminated the Bears Stearns exemption yet? This was a 2004 SEC decision to exempt five biggest banks from the mere 12-to-1 prior levels. Note that all five are either gone, acquired or turned into holding companies.
“Better Solution: 12-to-1 should be enough leverage for anyone.
“6) Restore Glass Steagall: The repeal of Glass Steagall wasn’t the cause of the collapse, but it certainly contributed to the crisis being much worse.
“Better Solution: Time to (once again) separate the more speculative investment banks from the insured depository banks.
“All of which suggests that the status-quo-preserving, sacred-cow-loving, upward-failing duo of Lawrence Summers and Tim Geithner are still in control of economic policy. The more pragmatic David Axelrod and the take-no-prisoners, don’t-give-a-shit-about-Wall-Street Rahm Emmanuel have yet to assert authority over the finance sector.”
Source: Barry Ritholtz, The Big Picture, June 18, 2009.
Roubini (Yahoo, Tech Ticker): New regulations “go in the right direction”, but not far enough
“The new Wall Street regulations announced by President Obama yesterday ‘go in the right direction’ but only accomplish about ‘75% of what needs to be done’, says Nouriel Roubini, professor at NYU’s Stern School and chairman of RGE Monitor.”
Click here for the article.
Source: Yahoo, Tech Ticker, June 18, 2009.
MoneyNews: Paul Volcker – put a brake on the bailouts
“Government bailouts should be limited and a clear policy set forth defining who would have access to the government’s financial safety net.
“That’s what former Federal Reserve chairman Paul Volcker told a meeting of the International Institute of Finance in Beijing recently, as reported in The Wall Street Journal.
“Volcker is also chairman of President Obama’s Economic Recovery Advisory Board, so his remarks on the economy may also reflect administration thinking on the subject, and may also be a forecast of reforms to come.
“‘One unfortunate consequence of the massive public assistance provided both banks and nonbanks in dealing with the present crisis is that moral hazard may, I am afraid, become more deeply embedded.’
“Moral hazard is defined as an absence of incentive to protect against risk if you are insured against risk.
“Volcker, in his speech, cited as a conflict of interest among those institutions which ‘engaged in substantial risk-prone proprietary trading and speculative activities.’
“Financial institutions beyond the government ‘safety net’ should not count on government protection, said Volcker. But they may be subject to government oversight.
“In an effort to prevent another disastrous financial crisis, the Obama administration wants to empower the Federal Reserve as a ‘systemic risk regulator’ with the right to seize large financial firms tottering near failure.”
Source: Marc Davis, MoneyNews, June 17, 2009.
Financial Times: Treasury plans strict rules for securitisation
“The US Treasury is planning a sweeping overhaul of securitisation markets with tough new rules designed to restore confidence by reducing the incentive for lenders to originate bad loans and flip them on to investors.
“The authorities plan to force lenders to retain part of the credit risk of the loans that are bundled into securities and to end the gain-on-sale accounting rules that helped spur the boom of the markets at the heart of the financial crisis.
“The aim is to revitalise the markets for securities backed by mortgages and other assets without re-creating the systemic risks that turned boom to bust in 2007. The plan is part of a wider overhaul of regulation to be unveiled on Tuesday.
“A Treasury spokesman said that while securitisation had made credit more widely available, breaking the direct link between borrower and lender had ‘led to a general erosion of lending standards, resulting in a serious market failure that fed the housing boom and deepened the housing bust’.
“Securitised markets – which financed more than half of all credit in the US in the years immediately preceeding the crisis – are essential for the US economy. Without a recovery in these markets, the flow of credit will not return to more normal levels, even if US banks overcome their problems.”
Source: Krishna Guha, Tom Braithwaite, Francesco Guerrera and Aline van Duyn, Financial Times, June 15, 2009.
Bloomberg: Congress backs war-funding bill, “cash for clunkers”
“A $106 billion war-spending bill won final congressional approval after the Senate voted to retain a ‘cash for clunkers’ provision aimed at helping the auto industry.
“Action by the Senate today sends the measure to President Barack Obama for his signature. The Senate passed the bill on a 91 to 5 vote; the House approved the measure earlier this week.
“Senator Judd Gregg, a New Hampshire Republican, led the effort to drop a provision providing as much as $4,500 to people who trade in their vehicles for more fuel-efficient models. He said the plan, which would cost $1 billion, was a poor use of tax dollars when the government is projected to run its biggest budget deficit since 1945.
“‘It is a clunker,’ Gregg said of the plan. ‘Why should our children and our grandchildren have to pay the bill’ for the government subsidizing ‘somebody to buy their car today? How fiscally irresponsible is that?’ he said.
“The legislation provides more than $82 billion to fund military operations in Iraq and Afghanistan, which would bring total spending on the wars to more than $900 billion.
“Lawmakers agreed to Obama’s request to include $5 billion to secure $108 billion in aid, primarily in the form of a line of credit, to the International Monetary Fund. The legislation would permit US representatives to the IMF to agree to its planned sale of 13 million ounces of gold, one-eighth of the organization’s holdings, to help finance aid to poor countries.
“The bill also would provide $7.7 billion for pandemic flu programs.
“Other provisions would allow the Pentagon to transfer suspected terrorists held at the military prison at Guantanamo Bay, Cuba, to the US for trial, though not for long-term incarceration or release.”
Source: Brian Faler, Bloomberg, June 18, 2009.
Financial Times: “Green shoots” wilt
“‘Green shoots’ is no longer the favourite phrase among policymakers. During last weekend’s meeting of Group of Eight finance ministers, the message shifted to emphasise that it was far too early to sound the all-clear for the world economy.
“‘I don’t think we’re at a point yet where we can say we have a recovery in place,’ said Tim Geithner, US Treasury secretary, who continued this theme yesterday by saying ‘it is early still’ and ‘we have a way to go’. Britain’s finance minister said ‘we’re not there yet’. The IMF’s Dominique Strauss-Kahn said ‘the recovery is weak’.
“Financial markets dutifully responded to this message. It is a great example of effective jawboning – the attempt to influence by persuasion rather than by exertion of force or one’s authority, although weak economic data played its part.
“Stock prices fell, bond prices rose. Perhaps most importantly, commodity prices fell too. A persistent rise in oil and other commodities could lead to a return to high inflation expectations. With the US central bank pumping billions of dollars into the economy through purchases of government bonds and mortgage debt, any need to suck that out to curb inflation fears could be messy and lead to a surge in borrowing costs.
“Though there is now a plan to come up with ‘exit strategies’ – the G8 has asked for an analysis of how best to handle this – policymakers are clearly showing they do not want to repeat the mistakes made by Japanese officials in the 1990s, that of pulling back economic stimulus and credit expansion too quickly. This balancing act will be needed for some time. According to Ajay Rajadhyaksha, at Barclays Capital: ‘Policymakers want to see if they can buy another year or year-and-a-half without inflation expectations building up.'”
Source: Aline van Duyn, Financial Times, June 15, 2009.
SmartMoney: Red herrings – false signs of an economic rebound
“Because of the magnitude of the recent downturn, experts say some of the statistics that are widely used to track the economy are now red herrings – misleading, at best, when it comes to predicting a rebound. Here are three indicators that could lead investors astray.
What housing glut?
“Housing inventory measures the supply of unsold homes on the market. Right now it’s high – a 10-month supply of homes, up from the average of about five – and conventional wisdom says the housing market won’t recover until it declines. This time around, however, waiting for ‘normal’ could cost you. In fact, an improving economy might mean more homes on the market, not fewer. Some banks are sitting on foreclosed properties, waiting for a friendlier economic climate before putting them on the market, and many homeowners are essentially doing the same thing. Stephen Kim, senior analyst at Alpine Global Real Estate fund, thinks home-building stocks ‘will rally while inventory levels are still high.’
The hidden jobless
“It seems like a no-brainer: Once more people are working, stocks should rebound. But investors who rely solely on the official unemployment rate – the percentage of workers who are jobless – could be misled. The statistic excludes so-called discouraged workers who have given up looking for a job. And the data doesn’t capture companies that force employees to take pay and benefit cuts or furloughs. ‘You’d get a better idea just asking people on the street if they’re employed,’ scoffs John Williams, founder of economic research firm Shadowstats.com. Strategists put more trust in weekly unemployment-claims data, a different figure that gives a clearer sense of companies’ hiring and firing.”
Inflated expectations
“Many market watchers are hoping for a modest increase in inflation, as a sign that the global economy is starting to crawl out of recession. But investors who watch the so-called core consumer price index (CPI), the most widely used gauge, might miss the first stages of a rally and lose out on run-ups in stocks of energy and raw-materials companies. Core CPI excludes the cost of food and energy, and analysts like Strategas economist Don Rissmiller think energy is where prices may surge first, as billions of stimulus dollars pumped into infrastructure projects stoke demand for metals and fuel. Investors looking for a better indicator than the CPI should watch prices for commodities like copper and oil.”
Source: SmartMoney, June 18, 2009.
The Capital Spectator: A bull market in false dawns?
“Flat to a slight upside bias. That about sums up the prevailing state of inflation at the moment, based on this morning’s latest from the US Bureau of Labor Statistics.
“Seasonally adjusted consumer inflation rose 0.1% last month, up from zero the month before and a modest decrease in March. On its face, that’s good news, as it suggests that the risk of deflation, if not quite passed, is looking more and more like a shadow of its formerly threatening self. Meanwhile, inflation as a clear and present danger also remains thin as an imminent menace.
“We are in a transitory state, passing from severe danger to something less so. Anything’s possible, of course, especially in the current climate. But barring some extraordinary and largely unexpected event, we’re likely to press on through what we’ll call a pre-recovery period, when the economic numbers improve relative to the recent past yet the numbers don’t quite show the traditional bounce that typically accompanies the end of recessions.
“‘The economy seems to be out of intensive care,’ says David Shulman, senior economist at UCLA Anderson School of Management. ‘The freefall stage in dropping output and employment seems to be over, but the economy is still sick.’
“The prospect of false starts in the data looks quite high in the months ahead. The good news on one day will be reversed by bad news the next, and quite a bit of treading water at other times. The transition state that carries us from recession to growth, in short, will last longer than usual. The evidence will be particularly obvious in the lagging indicators, employment being the most conspicuous example.
“Indeed, the labor market is still shrinking and will probably continue to do so in the months ahead, perhaps followed by an extended bottoming-out period over several quarters. The economy’s capacity to create jobs is likely to come later and be more tepid than has typically been the case following the end of recessions in the post-war era.
“Extending the medical metaphor, Bruce Kasman, chief economist for JPMorgan Chase, predicts in BusinessWeek.com yesterday that ‘the economy will return to growth but not to health’.
“Last week we wrote of the ‘technical end’ of the recession and our expectation that NBER would eventually get around to declaring the downturn’s finish at, well, right about now, give or take a few months. That’s good news relative to the recent standard of economic activity. But the technical demise of the recession isn’t likely to bring easily recognizable good news on Main Street anytime soon.
“As frustrating as that outlook is, it’s even more hazardous than is generally recognized. If we’re facing an unusually long transition period, there are specific risks linked to this abnormal state of affairs. That includes figuring out how and when to adjust monetary policy to balance two conflicting forces: deflation and inflation. As the former gives way, the latter isn’t likely to suddenly pop out and yell ‘boo’. Nonetheless, the future inflation risk isn’t trivial, given the massive liquidity that’s been created of late and the historical lessons that go with fiat currencies.
“Tightening monetary policy too soon may risk choking off a nascent but weak recovery; waiting too long to raise interest rates may give inflation a solid foundation to thrive, an especially troubling thought, given the massive amount of debt incurred over the last 12 months or so.
“Overall, economic analysis faces unusually tough times in reading the incoming data and drawing reasonable conclusions about the implications for the future. As a basic example, our proprietary index of economic indicators, published in each issue of The Beta Investment Report, is currently flashing a robust sign of recovery, although this may be misleading because much of the rise has come from monetary policy and, so far, isn’t convincingly corroborated in the real economy.
“In short, interpreting the economic outlook promises to be quite difficult going forward, much more so than usual. Beware: The risk of false dawns is rising.”
Source: The Capitol Spectator, June 17, 2009.
Financial Times: Fed faces key policy decisions
“The sharp increase in both US bond yields and mortgage rates presents the Federal Reserve with two key decisions next week: whether to increase its purchases of Treasuries and whether to push back against expectations of early interest rate rises.
“With the US central bank unlikely to authorise large increases in Treasury purchases, the debate is between stopping at the declared $300 billion, or increasing this total modestly to enable a gradual phase-out.
“Some Fed officials think there could be merit in redirecting some money slated for purchases of mortgage-related securities towards Treasury purchases – giving it more latitude in this market without increasing overall purchases.
“Meanwhile, the Fed is likely to reiterate that it expects to keep rates near zero for an ‘extended period’, challenging market expectations of early tightening. But it will also repeat – and might sharpen – the message that it is not tied to any course of action.
“Fed hawks are getting edgy. ‘As the economy recovers, even at a modest pace, resource demands will begin to increase,’ Tom Hoenig, president of the Kansas City Fed, said on June 3. ‘At this point the current level of monetary accommodation will need to be withdrawn.’
“But some Fed officials highlight the low level at which activity is stabilising. ‘Not enough attention is being paid to how much ground we will need to cover before we return to our pre-recession level of activity,’ said Sandra Pianalto, president of the Cleveland Fed, on June 4.
“The Fed leadership – which puts considerable weight on spare capacity – almost certainly shares this view. Officials probably do not expect to raise rates late this year or early next, assuming sub-trend growth, projected drag as the fiscal stimulus fades and the phasing out of some financial market programmes first. However, the statement may accommodate some of the hawks’ concerns.”
Source: Krishna Guha, Financial Times, June 14, 2009.
MoneyNews: Prechter – US likely to lose AAA rating
“Technical analyst Robert Prechter on Monday said he sees the United States losing its top AAA credit rating by the end of 2010, as he stuck by a deeply bearish outlook on the US economy and stock market.
“Prechter, known for predicting the 1987 stock market crash, joins a growing coterie of market heavyweights in forecasting the United States will lose its top credit rating as the government issues trillions of dollars in debt to fund efforts to bail out the economy.
“Fears about the long-term vulnerability of the prized US credit rating came to the fore after Standard & Poor’s in May lowered its outlook on Britain, threatening the UK’s top AAA rating. That move raised fears that the United States could face a similar risk, with the hefty amounts of government debt issued in both countries to pay for financial rescues causing budget deficits to swell.
“Prechter, speaking at the Reuters Investment Outlook Summit in New York, said he sees investors’ confidence in an economic rebound fading, a trend that will drag the S&P 500 stock index .SPX well below the March 6 intraday low of 666.79 by the end of this year or early next.
“‘There will be a leg down in stock prices, and it will affect all other areas,’ including corporate bonds and commodities, said Prechter, who is executive officer at research company Elliott Wave International, based in Gainesville, Georgia.
“Prechter, who is known for his bearish views, has repeatedly forecast a steep decline in stocks this year, even as the stock market has rebounded from 12-year lows set in March as optimism about an economic recovery has risen.
“Despite the government and Federal Reserve’s massive rescues for financial companies and securities markets, Prechter expects credit markets to clam up again as they did in the first phase of the global financial crisis and for the US economy to sink into a depression.
“The economy ‘is obviously heading toward a depression’, despite the government’s efforts to dodge one, said Prechter.”
Source: MoneyNews, June 16, 2009.
Asha Bangalore (Northern Trust): Index of Leading Indicators suggests worst is over
“The Conference Board’s Index of Leading Economic Indicators (LEI) rose 1.2% in May after a revised 1.1% increase in the prior month. This is the best back-to-back performance of the index since the November-December 2001 period. On a year-to-year basis, the index declined 1.76%, the smallest drop since December 2007.
“The bottom for the year-to-year change appears to have occurred in March 2009 (-4.0%), which is subject to revision. On a quarterly basis, the trough of the year-to-year change of the LEI is probably the first quarter of 2009 (-3.91%), also subject to revision. The 3-month moving average of the index per se hit a low in March 2009 (98.2), with the latest 3-month moving average at 99.03. The 6-month change of the LEI was positive for the first time in two years. The main message from these numbers is that an economic recovery is not too far away.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 18, 2009.
Asha Bangalore (Northern Trust): Factory production and operating rate remain problematic
“Industrial production fell 1.1% in May after a downwardly revised 0.7% drop in April. Output at the nation’s utilities and the mining industry fell 1.4% and 1.1%, respectively. Excluding these two sectors, factory production declined 1.0%, led by a 7.9% plunge in production in the auto industry. Production in the high-tech sector was down 0.9% in May.
“The operating rate of the factory sector at 65% in May is the lowest in the post-war period. The historically low operating rate of the factory sector offers support to maintain the current easy monetary policy stance of the Fed for an extended period.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 16, 2009.
Casey’s Charts: Unemployment rate with and without the recovery plan
“This chart from innocentbystander.net clearly shows Team Obama’s projections in the American Recovery and Reinvestment Plan are overly optimistic. May’s 9.4% unemployment rate, a 25-year high, far exceeded expectations. But don’t worry, your tax dollars are hard at work.
“About 1.6 million jobs were shed since the stimulus bill was passed in February, while the roughly $44 billion borrowed and spent from the recovery act has ‘saved or created 150,000 jobs’, claims the White House.
“As the president repeats his tales of an improving economy and spending our way back to prosperity, perhaps it’s time to start reading between the lines.”
Source: Casey’s Charts, June 16, 2009.
Asha Bangalore (Northern Trust): Housing Starts – turning the corner?
“Home builders broke ground to construct more homes in May, both multi-family and single-family homes, compared with April. Housing starts increased 17.2% to an annual rate of 532,000 after posting a 12.9% drop in April and a 9.2% decline in March. The headline number reflects swings in the multi-family sector in both April (-49.4%) and May (+61.7%).
“The 7.9% jump in permits issued for single-family homes and the fact that it is the third monthly increase in the last four months strengthens the bullish outlook gleaned from production of new homes.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 16, 2009.
Asha Bangalore (Northern Trust): Significant improvement in current account deficit
“The current account deficit of the US economy was $101.5 billion in the first quarter from $154.9 billion in the previous quarter. This is the smallest deficit since the fourth quarter of 2001. The current account deficit as a percentage of GDP fell to 2.88%, the smallest in ten years.
“The deficit on goods declined nearly $55 billion from the fourth quarter of 2008 to $124.04 billion in the first quarter. This is the single largest quarterly narrowing of the deficit on goods on record.
“The significant improvement of the current account deficit places a smaller burden for raising funds from capital inflows. However, the large increase in the federal budget deficit requires the capital to continue flowing.
“Foreign owned assets (net capital inflows) declined $78.1 billion in the first quarter, following a decrease of $11.9 billion in the fourth quarter of 2008.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 17, 2009.
Asha Bangalore (Northern Trust): Subdued inflation data leaves room for Fed
“Inflation is not and will not be a top priority in Fed policy decisions in the near term. Inflation is a lagging economic indicator which peaks long after a recession is underway and gathers steam long after an expansion is visible. A convincing economic recovery and strong expectations of a growing economy are necessary for the Fed to consider suitable actions to prevent inflation.
“At present time, the enormous slack in the economy supports expectations of subdued inflation data, which is what we see at the moment. In May, the Consumer Price Index (CPI) edged up 0.1% after a steady reading in the prior month. The CPI is down 1.3% from a year ago, the largest drop since April 1950, mostly due to the sharp 27.3% drop in energy prices. The energy index rose 0.2% after posting declines in March and April. Food prices fell 0.2%, the fourth monthly decline.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 17, 2009.
Asha Bangalore (Northern Trust): Higher prices for energy and tobacco lift Wholesale Price Index
“The Producer Price Index (PPI) of Finished Goods rose 0.2% in May, following a 0.3% gain in the prior month. The 2.9% jump in the energy price index reflecting a 13.9% increase in gasoline prices and higher prices for heating oil combined with a 0.7% increase in cigarette prices led to an increase in the overall PPI. However, food prices fell 1.6% in May, following a 1.5% increase in April. Excluding food and energy, the core PPI of finished goods price index fell 0.1% in May, putting the year-to-year increase at 3.0%. The peak year-to-year increase of the core PPI was 4.7% in October 2008.”
Source: Asha Bangalore, Northern Trust – Daily Global Commentary, June 16, 2009.
CNBC: Marc Faber – hyperinflation looming
“Why the US has a good chance of hyperinflation, with Marc Faber, ‘The Gloom, Boom, & Doom Report’ editor and CNBC’s Erin Burnett.”
Source: CNBC, June 19, 2009.
Reuters: US credit card defaults rise to record in May
“US credit card defaults rose to record highs in May, with a steep deterioration of Bank of America Corp’s lending portfolio, in another sign that consumers remain under severe stress.
“Delinquency rates – an indicator of future credit losses – fell across the industry, but analysts said the decline was due to a seasonal trend, as consumers used tax refunds to pay back debts, and they expect delinquencies to go up again in coming months.
“‘I find it hard to believe that it is really a trend. You need to see stabilization in unemployment before you see anything else,’ said Chris Brendler, an analyst at Stifel Nicolaus. ‘It is too early to see some kind of improvement.’
“Bank of America Corp – the largest US bank – said its default rate, those loans the company does not expect to be paid back, soared to 12.5% in May from 10.47% in April.
“The bank is paying the price of expanding rapidly in recent years and of holding one of the highest concentrations of subprime borrowers among the top card issuers, analysts said.
“In addition, American Express Co, which accounts for nearly a quarter of credit and charge card sales volume in the United States, said its default rate rose to 10.4% from 9.9%, according to a regulatory filing based on the performance of credit card loans that were securitized.
“Citigroup – the largest issuer of MasterCard branded credit cards – reported credit card chargeoffs rose to 10.5% in May from 10.21% in April.
“Credit card losses usually follow the trend of unemployment, which rose in May to a 26-year high of 9.4% and is expected to peak over 10% by the end of 2009.”
Source: Juan Lagorio, Reuters, June 15, 2009.
Fox Business: Mortgage and credit delinquencies climb
“Perspective on the state of the credit and lending market from TransUnion Director of Consulting & Strategy Ezra Becker.”
Source: Fox Business, June 17, 2009.
Gretchen Morgenson (The New York Times): Debts coming due at just the wrong time
“To get a fix on how much work remains to be done, consider the substantial amount of short-term debt coming due at financial companies in the next year or two. As you absorb these figures, keep in mind that many of the entities that bought this debt when it was issued aren’t around now – they’ve either left the market or are gone, casualties of the crisis.
“As a result, they’re not around to step up and buy the debt again. So issuers can’t roll it over. They’ll be forced to buy back the debt, at a time when they’re already wallowing in other forms of troublesome debt and short on liquidity.
“Barclays Capital has analyzed financial company debt among US institutions coming due over the next decade. During the rest of the year, for example, roughly $172 billion in debt will mature; in 2010, an additional $245 billion comes due. That amounts to about $25 billion a month in debt rolling into a market with a shortage of buyers willing to invest in it.
“Of the $172 billion coming due by year-end, Barclays says, $123 billion was floating-rate debt. And of the $245 billion maturing next year, some $141 billion pays a variable rate.
“This much is evident: it is too soon to celebrate the end of the banking crisis. Less debt is the answer, but shrinking balance sheets is hard.”
Source: Gretchen Morgenson, The New York Times, June 13, 2009.
China Daily: China’s holding of US bonds drops first time in 11 months
“For the first time in 11 months China’s holdings of US Treasury bonds fell – to $763.5 billion in April, US government data showed.
“The figure, down from March’s $767.9 billion, was the lowest since June 2008.
“The decline in the China holding ‘seems to stem from net selling of Treasury bills’, said Chirag Mirani of Barclays Capital Research.
“On the whole, foreigners decreased holdings of Treasury bills by $44.5 billion in April, the data showed.
“As the largest holder of US Treasury bills, which are crucial to funding Washington’s multi-trillion-dollar recovery plans, China had expressed concerns recently over what it called the safety of its dollar-linked assets.
“US Treasury Secretary Timothy Geithner traveled to Beijing about two weeks ago to reassure Chinese leaders, saying their money is ‘very safe’ despite the US budget deficit, which he pledged to cut.
“The United States has been running large budget shortfalls since the tenure of Democratic President Barack Obama’s Republican predecessor George W. Bush.
“Obama administration officials estimate a deficit of $1.841 trillion for the 2009 budget and $1.258 trillion in 2010.”
Source: China Daily, June 16, 2009.
BCA Research: US corporate credit quality warning
“Corporate credit quality remains weak according to our indicator, based on a composite of six key financial ratios from the non-financial corporate sector.
“The latest update to our Corporate Health Monitor confirms that the credit quality of the non-financial corporate sector has been in decline since the fourth quarter of 2006. Its persistent warning of weak balance sheet fundamentals in the current cycle should not be taken lightly. True, corporate spreads have narrowed sharply in recent months, but this largely reflects a reduction in the premium for liquidity and other factors unrelated to credit risk. The boost to corporate bond performance from this source is largely over. Any further compression in spreads must now come from a decline in corporate credit risk, which may take some time to unfold.
“Bottom line: We expect a significant deceleration in the relative outperformance of corporate bonds, until the outlook for corporate profits begins to improve.”
Source: BCA Research, June 16, 2009.
Dhaval Joshi (RAB Capital): Pricing debt
“When it comes to pricing debt, investors who are overly focused on the huge levels of government borrowing are missing the point, says Dhaval Joshi, economist at RAB Capital.
“Government debt may be ballooning but corporate and household debt is shrinking, he says. ‘So the total stock of debt in the economy is not rising. And the price of debt should depend on the supply of all debt, not just part of it.’
“Mr Joshi notes that one of the big holes that US government borrowing must fill has been left by the shutdown of the shadow banking sector.
“‘Between 2004 and 2007, over $4,000 billion of mortgages were lent in the US. However, most of this did not come from the conventional banking system but from the shadow system, where mortgages were packaged into securities and sold on, rather than held on the banks’ own books.’
“These securitised mortgages accounted for $1,900 billion of lending, equal to 13% of US GDP, he says. This mountain is now collapsing, as borrowers default and the underlying collateral (housing) plunges. Whether debt is reduced by default or repayment, it is a drag on demand, as spending power or net worth falls.
“‘Governments must offset this with more debt, effectively acting as borrower of last resort. Markets should not focus just on government issuance, but look at the bigger debt picture. If they do, the recent rise in bond yields may be short-lived.'”
Source: Dhaval Joshi, RAB Capital (via Financial Times), June 18, 2009.
Bespoke: Barron’s Roundtable head scratcher
“This weekend’s Barron’s provided a mid-year update to its annual ‘Roundtable’ report, and as the title of the article suggested, the consensus among panelists was that the market has come ‘too far, too fast’. While that view is certainly not a minority opinion, we are confused with the logic behind it. As noted in the article, ‘Many predicted at our January 5 confab that the stock market, oversold and under-loved, was due for a major bounce. Now they think stock prices have overshot corporate fundamentals and a correction is in order.’
“So on January 5, when the S&P 500 was at 927, the members of the Barron’s Roundtable were looking for a major bounce. Now, with the S&P 500 up 2% since then, they think the market has come too far, too fast?”
Source: Bespoke, June 15, 2009.
Roubini (Yahoo, Tech Ticker): Nouriel Roubini’s three reasons why stocks are bound to fall
“Believe it or not, Nouriel Roubini – professor at NYU’s Stern School and Chairman of RGE Monitor – has some good news: aggressive government intervention prevented a great depression.
“The bad news: Roubini says the stock market rally is long in the tooth. (They don’t call him Dr. Doom for nothing.) He points to three factors that will lead to a correction in the near future:
“1. Volatility and uncertainty will increase. Note: the CBOE Volatility Index is currently down more than 50% since the October panic.
“2. Corporate earnings will disappoint. He says the market is pricing in a robust ‘V’-shaped recovery. However, when earnings miss expectations, buyers will turn into sellers, as was the case this week with FedEx.
“3. The global financial system still faces serious problems. Roubini thinks unemployment will rise to 11%, bank losses will increase across the globe, and the recession in Europe will get worse.
“The silver lining: Roubini isn’t convinced the market will retest the lows.”
Source: Yahoo, Tech Ticker, June 19, 2009.
David Fuller (Fullermoney): How much of a pullback lies ahead
“I maintain that new lows for Wall Street and most other OECD country stock markets in March 2009 were not dissimilar to the October 2002 trough during the base building process following the previous bear market. Monetary policy was accommodative back then and a strong rally followed to retest an earlier high within the developing base. Most of those gains were subsequently retraced during the build-up to the invasion of Iraq, when everyone feared that Saddam Hussein had weapons of mass destruction.
“The rally commencing in March 2009 occurred against a background of record monetary stimulus and it reflected a belated acceptance that the world was not going to experience a 1930s style depression after all. This was not exactly a conversion on the road to Damascus because a number of leading emerging (progressing) markets such as China and Chile had bottomed in October and were already in uptrends as the US’s S&P 500 Index began to recover from its lows.
“Something very similar happened during the 2001 to 2003 base building process because leading markets at the time, such as India and Thailand had either not retested their lows in 2002, or were in a much stronger position as they completed bases shortly after the invasion of Iraq commenced.
“The S&P 500 rally from its March 2009 low was much stronger than its 2002 rally from the October trough. I attribute this to a realisation that the world was not ending, plus the market inflating success of quantitative easing, against the background of record cash levels for institutional investors.
“So, with the S&P 500 losing upside momentum, how much of a pullback might we see this time, considering that there is no obvious equivalent to the invasion of Iraq for investors to worry about, although the economic background is arguably much worse?
“I suspect we will see a bigger pullback, which lasts longer than most people expect. Technically, the stalk-like rally looks unbalanced compared to the earlier portion of the base formation, although I appreciate that this may seem like an esoteric point to some of you. Many of the optimists are recent converts, sucked in by a momentum move. I suspect that some of those ‘green shoots’ of spring will prove to have been no more than a mirage as a hot summer progresses.
“The risk, I maintain, is that we see a multi-month correction, of at least 10% but which could be 20% or more for some indices. Needless to say, this would weigh on sentiment. The good news is that it should ensure no change in monetary policy, which remains extremely accommodative. I also think that for the better performing emerging (progressing) markets to date, corrections may be little worse than mean reversion in terms of the 200-day moving averages.”
Source: David Fuller, Fullermoney, June 16, 2009.
Bespoke: Market breadth pulls in
“The percentage of stocks in the S&P 500 above their 50-day moving averages fell to its lowest level in two months after yesterday’s [Tuesday’s] decline. As of this morning, 71% of the stocks in the index were trading above their 50-days.
“Health care, both consumer sectors, and telecom have seen the biggest decline in breadth, while the utilities sector has increased recently up to 91%. This increase in utilities breadth indicates that investors are rotating money into the most defensive sector as the market takes somewhat of a breather.”
Source: Bespoke, June 16, 2009.
Credit Suisse: Market rally is more than an illusion
“The stock market rally which started in March is still continuing. And the signals from the financial sector are far less dramatic than some months ago. We asked Giles Keating, Head of Global Research at Credit Suisse, how bright the situation in the financial markets really is.”
Click here for the article.
Source: Credit Suisse, June 15, 2009.
MoneyNews: Gabelli bullish on economy, stocks
“Mario Gabelli, chief investment officer at Gamco Investors, sees rosy times ahead for the economy and stock market.
“‘Business is getting better, coming back to some normalcy,’ he told CNBC.
“‘Look at the consumer wealth,’ Gabelli says. ‘We all know about the housing, we all know about the stock market.’
“Replenishment of dwindled inventories will buoy the economy, he says. ‘And then we get the stimulus checks,’ Gabelli adds.
“‘And then we have the global economy. China is going to work. (Its fiscal stimulus package) of $585 billion is going to work.’
“In the US, ‘the economy … is going to pick up slowly but surely. And 2010 and 2011 will be pretty good,’ Gabelli says.
“As for the stock market, we’re now at about 8,500 on the Dow Jones Industrial Average, he notes. ‘Twelve years ago it was 8,500 … In 10 years, 8,500 will look like a bargain, and it’s a bargain today.’
“The best way to make money in the coming bull market: ‘Plain old stock picking,’ Gabelli says.
“‘You look at specific stocks. Do I want to look at the broad market, do I want to look at fancy engineering?’ he asks rhetorically.
“‘We’re back to old simple things, plain old stock picking. What makes money?'”
Source: Dan Weil, MoneyNews, June 15, 2009.
MoneyNews: Birinyi – the bull is here, get on
“Those who say this isn’t a bull market are just plain wrong, says Birinyi Associates CEO Laszlo Birinyi, who expects the market to continue to climb for the next couple of years.
“‘Anxiety is in the part of the people who have missed the rally,’ Birinyi told CNBC. ‘And they’re trying to talk the market down so that they can get back in.’
“‘The market can adjust and adapt,’ Birinyi says. ‘This time it’s taken a little bit longer.’
“Right now, Birinyi says, the market is in a phase of getting better, which ‘makes it hard to pick the best of the best’.
“He advises investors to buy individual stocks, not funds, especially those of exchange-traded variety.
“‘We find that (on) 25% of the trading days, even the SPDRs don’t track the S&P by 20 basis points or more.’
“Birinyi also finds exchange-traded funds (ETFs) ‘terribly inefficient’, noting that returns for investors who bought an oil ETF in the beginning of the year are now flat while oil as a commodity is up nearly 40%.”
Source: Julie Crawshaw, MoneyNews, June 15, 2009.
Barry Ritholtz (The Big Picture): Are stocks cheap?
“Not really – but how ‘not cheap’ depends upon how you measure earnings and handle one time write downs.
First up: NDR:
“‘Ned Davis Research looked at market valuations after bear markets since 1929. The firm found that in the first three months after bear markets, the market’s P/E tends to climb by about 10%. And the multiple has traditionally expanded 22% in the first six months after a major market downturn.
“But since March 9, when the recent rally began, the P/E of the S&P 500 has jumped nearly 40%. Such a surge in P/E ratios may be warranted if the recession ends soon and profits recover quickly. While there are some signs that the worst of the recession may be behind us, few analysts expect profits to stage a major rebound. And, of course, it’s still unclear whether the recession and the bear market have ended.’
“The article also notes, however, that stocks are not terribly cheap ex-one time write-downs. If we look at just operating earnings – excluding one-time write-offs – the P/E of the S&P500 is 22, hardly bargain priced.
“NDR also looks at P/E in an interesting way – instead of just adding up all the SPX earnings them dividing into price, they assess each individual stock P/E ratio. Then, they find the median P/E for the group – the midpoint, with 250 stock P/Es above and 250 stock P/Es below.
“The result? The median P/E of the S&P 500 is 15.6 – well above the median P/E of 12 in March, but below the market’s historical median of 16.5.”
Source: Barry Ritholtz, The Big Picture, June 14, 2009.
Barry Ritholtz (The Big Picture): Looking at corporate profits
“Ron Griess of The Chart Store takes a close look at SPX profitability and comes away unimpressed.”
Source: Barry Ritholtz, The Big Picture, June 17, 2009.
Yahoo: Medvedev calls for new reserve currencies
“Russian President Dmitry Medvedev says the world needs new reserve currencies.
“Medvedev told a regional summit Tuesday that the creation of new reserve currencies in addition to the dollar is needed to stabilize global finances.
“Medvedev has made the proposal before. It reflects both the Kremlin’s push for greater international clout and a concern shared by other countries that soaring US budget deficits could spur inflation and weaken the dollar.
“Airing it at a summit meeting underlined the challenge to US clout.
“Medvedev spoke at a summit of the Shanghai Cooperation Organization, which includes China and four Central Asian nations.”
Source: Yahoo, June 16, 2009.
MoneyNews: Russia, China buy dollars, despite trash talk
“Recent talk from Russian and Chinese officials showing wariness about their huge dollar holdings and suggesting an alternative reserve currency has roiled financial markets.
“But while the Russians and Chinese are walking the walk, they aren’t talking the talk.
“Brazil, Russia, India and China (BRIC, as Goldman Sachs termed them) went on the biggest dollar-buying binge in eight months during May, adding $60 billion to their reserves. That’s according to data compiled by central banks and strategists, cited by Bloomberg.
“Brazilian officials have trashed the dollar just like the Chinese and Russians.
“So why the hypocrisy?
“First, these nations are protecting their exports. A stronger dollar makes their goods cheaper in dollar terms, boosting the exports.
“Second, the BRICs already have huge reserves of dollars, so a drop by the dollar would devalue their own holdings. The more they sell dollars, the less their remaining dollars will be worth.
“And finally, big dollar sales by the BRICs could exacerbate the global financial crisis.
“‘It would be shooting yourself in the foot to sell US assets and move away from dollars too quickly,’ Mitul Kotecha, Calyon’s head foreign exchange strategist, tells Bloomberg.
‘As much as we are seeing in terms of rhetoric, the central banks have so much exposure they will be very careful.’
“Most experts agree that the dollar isn’t going anywhere. ‘I think the dollar is the dominant currency for a while to come,’ hedge fund legend George Soros told CNBC.”
Source: Dan Weil, MoneyNews, June 12, 2009..
Bespoke: Commodity snapshot
“Even after a pullback in portions of the commodity sector over the last couple of weeks, most are still up year to date. As shown below, copper is up the most with a gain of 63.58%, and oil is not far behind at +60.85%. Platinum, silver, orange juice, coffee, and gold are the other commodities that are up year to date. Corn is down 5.76%, wheat is down 11%, and natural gas is still down the most at -26.98%.”
Source: Bespoke, June 19, 2009.
David Fuller: Timing gold’s next significant move?
“We have maintained a cautious view on gold and other precious metals since the key day reversal on 3 June. However the short-term overbought condition has been replaced by a short-term oversold reading, as one can see on the stochastics indicator, which in my view is useful after temporary contra-trend reactions, although it can be early.
“More importantly, gold’s last rally towards $1,000 had been flattered by the USD’s weakness. We know this because gold had not rallied against all currencies, which we look for as a signal that a major move is developing. Therefore Fullermoney has been looking for a consolidation, in line with quiet seasonal factors, which would balance bullion’s big medium-term pattern, from March 2008 to the present. Given the comparatively quiet nature of gold’s pullback over the last three weeks, I doubt that the previous reaction low near $865 will be tested.
“We have been looking for a reaction to the mid to lower $900 region. Consequently I now regard gold as being back in an accumulation zone, prior to renewed strength in 4Q 2009 and 1Q 2010. However the reaction low during this short-term consolidation is likely to come sooner. The clearest signal would be an upward dynamic.”
Source: David Fuller, Fullermoney, June 19, 2009.
Bloomberg: Pickens says oil will average $80 to $85 a barrel
“Crude oil will rise to an average $80 to $85 a barrel in the coming year as inventories decline, billionaire investor T. Boone Pickens said in Calgary today.
“Natural gas will average about $7 per million British thermal units, Pickens, 81, the founder and chairman of Dallas-based BP Capital, said at an event sponsored by the city’s Chamber of Commerce. Falling inventories will also lift gas, he later told reporters.
“‘I bought a 12-month gas strip for $6.02 the other day and I expect to make $1 on it,’ Pickens said during the presentation to about 700 people.
“The hedge-fund manager is promoting an energy plan that relies on US-produced natural gas to cut the country’s dependence on foreign oil.
“‘In this market you’re going to see oil inventories work off,’ Pickens said. ‘There’s no question what the Saudis want; they want a balanced market and they want $75 minimum for their oil.'”
Source: Reg Curren, Bloomberg, June 17, 2009.
Financial Times: World Bank raises China GDP forecast
“The World Bank raised its forecast for China’s 2009 gross domestic product growth to 7.2% on Thursday, saying the apparent success of the government’s stimulus package had improved the outlook from March – when the bank predicted 6.5% growth for the year.
“But the World Bank said a sustainable recovery was not yet assured, in spite of the government’s Rmb4,000 billion ($590 billion) fiscal stimulus, and that Beijing might have little room for additional measures this year.
“‘Government-influenced investment will strongly support growth in 2009. However, there are limits to how much and how long China’s growth can diverge from global growth based on government-influenced spending,’ said Ardo Hansson, the bank’s lead economist for China. ‘It is too early to say a robust, sustained recovery is on the way.’
“With government revenues falling and expenditure rising rapidly, the bank predicts that China’s fiscal deficit will climb to almost 5% of GDP this year, well above the 3% budgeted by Beijing and a large jump from last year’s deficit of 0.4%.
“‘On current projections it is not necessary, and probably not appropriate, to add more traditional stimulus in 2009,’ said Louis Kuijs, senior economist and main author of the quarterly update released on Thursday. ‘One reason is that the fiscal deficit is on course to be significantly higher than budgeted this year and additional stimulus now would reduce the room for stimulus in 2010.’
“Market-based investment and consumption are unlikely to rebound until the rest of the world starts to recover convincingly and the collapse in Chinese exports is reversed. Chinese exports fell about a quarter in the first five months of the year from the same period a year earlier.
“China’s economy grew 6.1% year-on-year in the first quarter, faster than any other leading country but well below the government’s full-year target of 8%.
“The World Bank said it expected China’s economy to grow 7.7% in 2010, a much slower pace than the 13% reached in 2007 and the 9% rate of last year.
“The bank estimates a full 6 percentage points of this year’s 7.2% GDP growth will come from investment and spending either carried out by the government or directly influenced by it.”
Source: Jamil Anderlini, Financial Times, June 18, 2009.
Albert Edwards (Société Générale): China bulls will be let down
“The wholehearted belief in China’s economic recovery could turn out to be the biggest disappointment yet for investors, warns Albert Edwards, global strategist at Société Générale.
“‘The ongoing enthusiasm for all things China reminds me of the way investors were almost totally blind to the fact the US growth miracle was built on sand,’ he says.
“‘We saw this same investor mania 13 years ago with the Asian Bubble, which the consensus thought was a growth miracle.’
“At the heart of Mr Edwards’ scepticism lies doubts about the accuracy of official data releases.
“‘The Chinese data is derided by economic commentators,’ he notes. ‘Many have highlighted that GDP growth seems inconsistent with other data, such as electricity output. Yet few dare to point out that the emperors’ clothes might be absent – and when they do, they are met with robust official rebuttals.’
“‘That is not to say that the fiscal stimulus has not had a beneficial effect on Chinese activity this year. What I question is the quaint notion that the Chinese economy can grow at a respectable rate when the rest of the world is in a deep recession.
“‘I believe the bullish group-think on China is just as vulnerable to massive disappointment as any other extreme of bubble nonsense I have seen over the last two decades.
“‘The fall to earth will be equally as shocking.'”
Source: Albert Edwards, Société Générale (via Financial Times), June 17, 2009.
Charlie Rose: Iranian election results
“Iranian election results with Nicholas Burns, Flynt Leverett, Abbas Milani and Hooman Majd.”
Source: Charlie Rose, June 15, 2009.
You Tube: George Friedman – Iranian elections, Israel and the United States
“In the latest instalment of the Stratfor Insights video series, CEO George Friedman discusses the tense future of the Middle East following the recent Iranian elections. With Israel offering a Palestinian state on terms that are unacceptable to the Palestinians, and freshly re-elected Iranian President Mahmoud Ahmadinejad expected to continue his hard-line policies, how President Barack Obama moves forward merits close observation.”
Source: You Tube, June 15, 2009.
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