01.30.12
Posted in Economic News at 9:19 am by Kevin C. Kaufhold
The economy grew at a healthy pace in the fourth quarter, the best in some time. Still, it was below levels associated with solid job recovery. The Fed has just issued projections suggesting that a slow growth trend will likely continue for at least the next two years, and this assumes that slowdown occuring in Europe and the much of the world does not drag the domestic economy down. At best, we are apt to continue “muddling through” things as the financial and real estate sectors restructure their activities and consumers attempt to reduce debt having only weak levels of personal income at their disposal.
Growth in GDP. The US economy grew at a 2.8% annualized rate in the fourth quarter, the highest in 18 months and a significant jump for the 1.8% of the third quarter. Much of the pick-up was attributable to a one-time inventory restocking after better than expected product demand in the fall depleted inventory levels. Inventory accounted for 1.9% of the growth, leaving only 0.8% throughout the rest of the economy. Of particular concern was that capital goods spending slowed down, possibly in anticipation of lack of forward demand internationally. But consumer spending increased to 2.0% from 1.7% in the thrid quarter, being led by domestic auto sales after Japanese supplies had been disrupted from the 2011 tsunami. Source: Commerce Dept, 1-26-2011. The general belief among many anlaysts and invetsors alike is that growth may moderate into the spring and summer of 2012.
Other statistics were evident in the GDP report. A price index for personal spending rose at a 0.7% rate in the fourth quarter, the slowest increase in 1-1/2 years, after rising at a 2.3% pace in the July-September period. Core inflation increased at only 1.1%, after a 2.1% rate in the third quarter. The savings rate slid to 3.7, as many unemployed dipped into savings to pay bills. Some economists feel that that long-term growth potential is at 2.5% or less, due to the smaller work force. This becomes problematic for long-term growth, as it is commonly believed that 3% + growth is needed to make headway on employment statistics. Business spending growth only grew by 1.7%, while government spending shrank for a fifth straight quarter, due to reduced defense spending and fragile state and local government revenue base.
The Fed Acts. In a move towards transparency, The Federal Reserve Board has just issued its targets and projections on several important statistics. In the first ever guidance on inflation, the Fed announced that its long-term inflation target is 2%. Public news releases of the Fed noted that the target was over the course of business activity on a long-term basis. Presumably, inflation would be allowed to go higher if unemployment escalated too high, since the Fed has statutory goals on both inflation and employment.
The Fed further indicated that it expects to leave target short-term interest rates at near zero into 2014, which is at least six months longer than many economists had thought.
Forward projections were supplied by all Fed Board Governors and Members. Real GDP growth is estimated at 2.2 to 2.7% for 2012 and then gradually strengthening to 3.3 to 4.0% by 2014. Inflation is projected to remain under 2.0% throughout 2015, while unemployemnt may gradually decrease to 6.7 to 7.6% by 2014. Given the continuing wekaness in the aggregate economy, the probability of a European recession, as well as expected inflation to be under 2.0%, the Fed appears to be open to another round of bond buying or asset pruchases. Source: Washington Post, 1-26-2012.
The Huge Output Gap. The output gap between current vs. potential GDP is around 13%, which is unprecedented for any recession in modern times. The gap is equivalent to a range of $2 to $4 Trillion, or at least 10 million more jobs if we were on the long-term growth track. On an interesting note, a drop in demand of this enormous size should have resulted in significant deflationary tendencies in the aggregate economy. Instead, we have experience moderate levels of inflation since 2008.
Economic Activity Good in December. New orders for durable goods increased 3% in December, on top of November’s 4.3% gain. The 12-month rolling numbers of durable goods orders jumped 17%, which is a very healthy annual rate of increase. Source: Dept of Commerce. The gains have been broad-based, too. Other news is also good. A weighted average of 85 economic indicators show increases in December. Source: Chicago Fed National Activity Index.
Taking Care of Liabilities. Several businesses are using surplus cash to add to their defined benefits. After unfunded liabilities was one of the factors that pushed Kodak into bankruptcy, Raytheon announced that it is contirbuting $4.2 Billion to its pension plans. Lockheed Martin is spending $1.1 Billion on its pension trust. Source: Pension & Investments, 1-26-2012. Verizon plans to contribute $1.2 Billion; and Boeing, $1.5 Billion. A decreasing discount rate and lower rates of return were cited as reasons for the contributions. Some commentators also believe that investors and institutionals are becoming more cautious towards firms with significant unfunded liabilities.
Debt Around the World. In the last year, capital markets have focused on governmental debt. A broader view of debt load is probably just as important in determining systematic risk levels from all sources of debt. In many nations, corporate and even consumer debt levels are greater than national debt. In fact, household debt is as large in the US as the national debt, while total corporate debt is even greater. Japan, the UK, Spain, France, and Italy all have far greater debt exposure than the US, while Gremany, Australia, and Canada have similar overall debt loads as the United States. The following graph shows debt as a percentage of GDP for the various nations.
International Woes Continue. Japan just posted its first annual trade deficit since 1980, which is rather troublesome, given that its trade surplus has calmed investors in the face of Japan’s huge public and private debt. The IMF has cuts its forecast for global economic growth, and notes that Europe could yet push the world into global recession. Source: Reuters: 1-24-2012. The Bank of England may be planning on further monetary stimulus. Source: WSJ, 1-25-2012.
In response to the EU oil embargo, Iran has just threatened to stop all oil exports immediately. Some oil companies have already stopped buying oil from Iran, so it is unclear what the effect of a cut-off would be. Source: Financial Times.
Fitch is now the second credit agency to downgrade ratings in several EU countries, indicating an even chance of further cuts in the next two years. The credit rating agency felt that monetary and financial shocks made many nations vulnerable to debt repayments. Source: Reuters.
Investment News. Several investment-related working papers have been recently completed, and as are available at: www.kaufholdco.com/FinData.html. Subjects include Asset Valuation, Portfolio Theory and Management, and Liability Models.
Main Web-Site at: Kaufhold Company, LLC
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01.23.12
Posted in Economic News at 1:03 pm by Kevin C. Kaufhold
While much of the recent news has been quite favorable, ominous signs exist. With a recession in Europe and much of the rest of the world virtually certain, the real issue is how much will the US be affected. The following is a short summary of current economic trends.
The Good —
Consumer confidence increased for the second month in a row, now exceeding confidence levels in the early part of 2011; however, confidence is still far below peak level. Sources: The Conference Board, 12-27-2011; U of Michigan.
Inflation is continuing to slow. Commodity pricing is down 21 to 45% from a year ago. Natural gas prices are also falling. CPI-U was unchanged in December and November, while inflation less food and energy was only 0.1% in December. Core inflation has decelerated to 1.8% over the last three months. Sources: Commerce Dept; DOL; 12-27-11.
Initial unemployment claims took a big drop in December, down to 352,000. This is the lowest since April, 2008. Continued claims also dropped. The unemployment rate is also continuing to trend downward, most currently to 8.5%. Source: DOL, 1-6-2011; 1-19-2011. Low paying jobs predominated in the December job growth data, however. DOL figures also show that more older Americans than ever are working, but this may simply be due to people not having enough resources to retire on. There are also 7.77 million still on state and federal unemployment rolls.
New factory orders rose in November by 1.8%, orders for transportation equipment jumped 14.7%, and civilian aircraft demand also surged. Rail traffic for the end of December showed strong gains, up 11.9% from a year ago. Source: Assn. Amer. Railroads. A regional manufacturing survey has recently shown a notable and dramatic uptrend for current and future activity. Source: NY Fed Reserve.
The number of bank failures in 2011 fell to 92 from 157 in 2010, although there may be 844 institutions that still have some problems. Source: WSJ, 1-12-12.
There may be increasing sentiment within the Fed to not buy any more bonds at the current time. An explicit inflation target may also be in works, too. The Fed will begin making quarterly announcements on how long it expects to keep interest rates at existing levels, in another effort at increasing transparency. Source: Reuters, 1-8-2012. The Fed’s latest beige book showed ongoing improvements. Every region in the US and every sector except real estate and construction is now growing.
The Bad —
Domestically, a vast under-capacity of production exists in the US, as we are generating only $16 Trillion in goods and services, but probably have the capacity to generate up to $20 Trillion. Indeed, ECRI continues to predict another US recession, first announcing such a call on Sept 30, 2011, and then reiterating it recently on 12-8-2012.
Many corporations are going through another round of cost-cutting, payroll reduction, and asset sales. For instance, BAC may sell more assets in an effort to raise up to $45 B in capital. Source: Reuters, 12-27-11. Alcoa is cutting capacity by 12%, in the face of decreasing aluminum prices. Source: WSJ, 1-6-12. Kodak filed Chapter 11 recently, while Pepsi may be cutting 4,000 jobs. RBS may also slash 10,000 jobs. Boeing will close a plant in Kansas because of reduced defense spending.
US home prices again fell in most major cities in the recent data. Prices are roughly back to 2003 levels, having fallen 32% from the peak in 2007. Source: S&P / Case-Shiller, AP, 12-27-2011. This is likely due to a shadow inventory of 1.6 million units still remaining. Despite 3 million distressed sales since January 2009, the shadow inventory is at the same level as January 2009. Source: CoreLogic Reports. At the commercial level, national office vacancy rates are at 17.3%, down only slightly from the 17.6% peak in vacancies in 2010. The Federal Reserve recently indicated to US lawmakers that few signs of recovery exist in the housing market, with house prices continuing to decline in most areas and the overhang of foreclosed and distressed properties still substantial. Source: Financial Times, 1-4-12.
Holiday sales started robustly after Thanksgiving, but retailers had to give out huge discounts, often up to 40%, to keep volume up. Retail sales were only up 3.4% for large retailers. Source: Reuters Survey, 1-12-2012. But total retail and food sales for December were even worse, at only + 0.4% from a year ago. Source: US Census Bureau.
Deleveraging may be occurring only in the finanical sectro, with non-financial debt in the US actually rising by $5 Trillion in the last four years. Corporations have added $500 billion alone in debt on balance sheets while consumer credit debt is back up, too.
Personal income in November was almost flat, with an increase of only 0.1%. Source: Bloomberg, 12-23-11. US consumer spending is expected to be weak throughout 2012, increasing by 2% possibly, compared with 3.6% in 2011. Source: Macro Economic Advisors, 1-2-12. The full impact of the 2008 recession on personal consumption is evident in the following graph. Note how a rather long-lasting down-shift in personal consumption has occurred. Source: Tom Duy, Seeking Alpha, 1-6-2012. Consumption is at least once again trending positive.
In recent months, banks have been again tightening lending, likely out of concern over Europe’s banking problems. Source: Reuters, 12-29-11. In particular, REITs, non-financial corporations, and hedge funds have been experiencing more restrictive credit terms.
Internationally, the news is dismal. The OECD reports that leading economic indicators over the last three quarters have turned negative throughout most of the world, with the US being one of the few economies still growing, but even that is very slow. The World Bank has cut global growth forecasts to 2.5% in 2012, which many analysts feel is still overly optimistic. Source: Bloomberg, 1-17-2012.
German retail sales declined in November 0.9%, industrial orders plunged 4.8%, and GDP dropped 0.25% in the fourth quarter. France consumer confidence is down to its lowest levels since 2008. Italian unemployment increased again, now to 8.6%. Spain’s industrial production fell 7% annualized. UK unemployment has hit a 17 year high, and the number of part-time jobs are the highest ever recorded. Source: The London Telegraph, 1-18-12. EU system-wide unemployment remains at 10.3% as of November.
European banks continue to make overnight deposits with the ECB, rather than trading with other banks. This reflects concerns about interbank lending, and highlights the abundance of ECB inspired liquidity in the financial system. Source: WSJ, 12-27-11. Banks are also using high quality assets for collateral on loans, including the recent ECB loans. These types of assets are running low in some of the banks, prompting fears that the banks could yet encounter severe problems. Source: WSJ, 12-29-11. Some feel that as a result of the ECB loans, Europe has moved past an imminent collapse, but may now be in a three year waiting period of malaise.
Meanwhile, the G7 countries will have to refinance over $7.6 Trillion in debt in 2012, alone. Japan by itself needs $3 Trillion in bond refinancing. With the world awash in debt, S&P just unleashed a wave of governmental ratings downgrades throughout Europe, including the EU bailout fund. Germany is now the only euro-zone nation to keep its AAA rating. Source: Reuters, 1-13-2012. Government bond yields have actually gone down however, probably as a result of the recent ECB liquidity injection.
Chinese GDP growth has slowed to 8.9%. Manufacturing is still contracting, although it improved a bit in December. Inflation also dropped to 4.1%, as the economy comes off its record growth of 10% +. The national bank is starting to inject funds into the national banking system there. On an interesting note, China’s urban population surpassed its rural population last year for the first time in the country’s 5,000-year history, which is likely putting stresses on resources designed for urban development. Source: Bloomberg, 1-17-2012.
Investing Ideas —
A new study suggests that failure of financial advisers and fund managers to learn from previous asset bubbles contributed to the financial crisis. Source CFA UK, 12-27-11.
Correlations between equities of all stripes have become very high recently. Bonds have become more negatively correlated with stocks, while gold has only shown a mild correlation. Thus, the traditional bond vs stock distinction seems to have reemerged as the leading tool for diversification purposes. Source: Boyd Erman, Seeking Alpha, 1-9-2012.
Because of heightened volatility and continuing low yields of both equities and bonds, the oft-noted rule of spending 4 to 5% of retirement every year may have to be revisited. In order to not run out of money, financial advisors should be planning on 3 to 3.5% withdrawal rates from retirement savings. Source: InvestmentNews, 1-22-2012.
Main Web-site at: Kaufhold Company, LLC
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01.09.12
Posted in Economic News, Investment News at 10:36 am by Kevin C. Kaufhold
Some portions of the domestic economy are firming up rather nicely. Several weak areas both in the US and abroad exist however, any of which could completely stall out the progress that has been made. The following is a quick highlight of the strengths and weaknesses of the economy as we head into 2012.
The Bright Spots —
Production. Domestic output has been increasing for some time, albeit at an uneven pace. One data series shows that manufacturing has increased for 28 months in a row. But other data tracts are indicating caution. The third quarter GDP has been once again revised downward, now to 1.8%. November economic activity may have actually decreased, as well, with industrial production and manufacturing slowing somewhat. Source: Chicago Fed National Activity Index. Non-defense capital goods orders also decreased by 1.2% in November, the third monthly drop in a row. Source: Commerce Dept, 12-22-11.
Employment. The jobs picture continues to slowly improve, although the improvement has been frustratingly in it slowness. Unemployment dropped in 43 states in November, and no states posted a statistically significant increase. Initial claims for unemployment dropped last week to 364,000, the lowest in 3 ½ years. Sources: Labor Dept 12-21-11; 12-22-11. The House GOP dropped objections to a two month extension of the payroll tax cut. This keeps the tax on wages at 4.2% through end of Feb. 2012. Many analysts believe that the unemployment rate will likely not return to truly low levels until an expansion takes hold, as small businesses begin generating new jobs and major businesses starting to hire again.
Consumer Confidence. Two different surveys indicate consumer sentiment is increasing, but confidence remains lower than a year ago and has eroded to level not seen since the recession in 1980. Sources: Reuters / U of Michigan Survey, 12-22-11; The Conference Board. But, consumer spending was essentially flat in November, increasing by only 0.1%. Source: Commerce Dept. Consumers will probably not feel overly happy about consumption until job prospects pick up much more and individual debt loads decrease.
The Weak Spots —
The Financial Sector. Domestic and foreign financial institutions are in the midst of a sea-change in mind-set as well as regulatory reform. The Federal Reserve Board is expected to agree to a global framework requiring financial institutions to expand their capital base. The Fed is also mandating that US banks limit their financial ties to one another to prevent a cascading collapse in the event of another severe financial stress. Source: WSJ, 12-19-11.
In some ways, we may be returning to the 1950’s when it comes to credit availability and general attitudes towards debt. Long term, this is most likely a good thing, with personal and corporate finances being shored up in the process. In the short-term however, tight credit continues to be a major source of financial stress, and is probably a significant reason why the pace of the recovery has been so slow.
The Real Estate Sector. Six million people are 30 days late on their mortgages. This has generated distressed sales, with 46% of all homes being sold in November either being worth less than prior loan values or in repossession. Source: CNN Money, 12-21-11. Additionally, homes sales during the recession were 14.3% worse than previously reported. Source: Natl Assn of Realtors, 12-21-11. On a positive note, construction starts rose 9.3% in November, mostly from multi-family, and building permits increases 11%. Sources: Commerce Dept; WSJ, 12-21-11. 1 to 1.5 million starts may be needed however for a healthy market to exist, and this may not occur until 2015. Source: WSJ, 12-21-11.
The boom-to-bust cycle in real estate is clearly shown in the following graph. Not only has the drop been ferocious, new construction continues at depressed levels, far exceeding the experiences of prior recoveries where activity picked up quickly. We may very well stay in “recovery mode” until the real estate and construction sectors perk up in earnest, rather than continuing to bump along the bottom.
New Private Housing Units Authorized by Building Permits from 1960 to Present
Government Debt. US and foreign sovereign debt continues to be too high for credit agencies and investors alike. Fitch has again warned that the US cannot maintain its AAA status with its current debt burden. In addition to the $1.2 trillion in automatic cuts now scheduled, Fitch wants an additional $3.5 trillion in deficit reductions to stabilize the debt at around 90% of GDP by the last part of decade. Reuters, 12-21-11. Moody’s previously warned that the US rating would be downgraded if legislation reduces the automatic cuts. Aggregate output will probably experience a continuing drag as local and national governments world-wide begin to restructure their own balance sheets.
Europe / Rest of the World. While the US, Canada, and some other nations are still growing, many economies around the world are decelerating quickly. Over 500 banks are taking massive amounts of low interest rate, three year loans offered by ECB, some $643 Billion (US) so far. This increases bank liquidity and may avoid a cash crunch but does not shore up sovereign debt or solve bad bank loans. Source: BBC 12-21-11. Eurozone finance ministers plan to contribute $200 billion (US) to the IMF for crisis management. A member of the ECB policy making board has also called for quantitative easing similar to efforts in 2008. Source: Financial Times, 12-22-11. After the Italian economy dropped 0.2% in the third quarter, the Italian Senate approved a $40 billion austerity package to wipe out the budget deficit by 2013. Source: NY Times; BBC; 12-22-11.
China is considering measures to have more of its citizens invest overseas. Currently, Chinese can only exchange 50,000 yuan per year into foreign currency as a way to control its currency and exchange rate. China may now be focusing more on internal demand and emerging markets, anticipating a downturn in EU. Japan’s exports fell 4.5% in November, and the Bank of Japan has lowered its estimate for the economy. The IMF is suggesting that developing nations prepare for a recession in Europe, by building up foreign exchange reserves. Argentina is bracing for a slowdown along with inflation, trying to prevent capital flight and currency devaluation. Source: The Economist, 12-21-11.
It is rather ironic that the US may now be in a leading economic situation. But it does show that businesses, individuals, and even the various governments at home have at least been addressing some of the root economic problems. This is contrary to Europe, where many tough financial reforms have been stymied at both corporate and governmental levels. It is also contrary to China’s policies, with its over-dependence on exports and lack of a self-sustaining domestic economy. The real concern at this point is to what extent the US will be dragged into a global downturn. It may take most of 2012 to find out.
Investing Ideas —
Dividend stocks are becoming very popular, with some as high as 4.0% yields, which far exceeds the 10 year Treasury note and many growth stocks. The price to value ratios of dividend-paying equities have actually caught up with growth firms for the first time since the 1970’s. Critics contend that the run-up is unsustainable and may be the beginnings of a new bubble. Prudence suggests looking at fundamental valuation levels before investing in anything, whether it be equities, bonds, or other alternatives.
Main Web-Site at: Kaufhold Company, LLC
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12.20.11
Posted in Economic News at 9:05 am by Kevin C. Kaufhold
The much anticipated European Summit largely avoided current debt issues, focusing instead on budgetary controls of its member nations. But even those are in doubt, as many legal and political challenges remain to the agreement reached this last week (see news item, below). Many economies world-wide are now decelerating, and recession in some areas of the globe is inevitable. The slow improvement in the US economy faces the very real risk of being dragged into the quagmire if difficulties magnify abroad.
Domestic ——-
GDP is increasing, with prospects for the general economy improving to the point of being rosy. Macro-economic Advisors raised their growth estimates to 3.7% while Goldman Sachs also increased its evaluation to 3.4%. Recent economic news has been so good that the Fed does not currently plan on further stimulus. The open market committee is maintaining its benchmark rate at 0 to 0.25% with continued emphasis on long maturities. Sources: The Washington Post; Business Week; 12-13-11. Interest rates are likely to stay near zero until mid-2013, or longer. The Fed may see the primary risks currently as slowing global growth, risk from financial markets, and uncertainty over US budgetary actions.
Congress has avoided a repeat of the August budget debacle this week, approving a spending bill to keep the governments running through September 2012. A two month extension of the payroll tax cut was also approved in the Senate, but is being objected to in the House. Other hot-button issues remain, including a cut in Medicare payments to medical vendors, and a cut-off of extended unemployment benefits. Source: Reuters, 12-17-11.
Households are still struggling. The deleveraging of debt is continuing, but no real gains are being made on income. Indeed, the savings rate dipped in October to 3.5%. Consumers also lost net wealth, falling some $2.4 Trillion, which was the greatest decrease since September 2008. Source: Fed Reserve report, 12-9-11. Household debt decreased some 1.25% in the most recent quarter, but total consumer credit has been edging up again. General consumption has gone up, too. The following graph is indicative of the problem, with wages declining more than CPI is increasing. Source: Seeking Alpha, 12-15-11 (Dale Stewart commentary). This trend continued into November, with real average hourly earnings falling slightly. On the year, real earnings are down 1.5%. Source: DOL, BLS release, 11-16-11.
The forward hiring outlook continues to improve, according to the Conference Board, being the highest in three years. Initial unemployment claims fell to 366,000 in the last two weeks, a figure that may suggest job growth is underway. Source: US DOL.
Core inflation is tame, with the rate of inflation being unchanged in November. Energy pricing decreased but other categories increased. CPI thus remains at 3.5% from a year ago. Without energy and food, the core rate is 2.1%. Also, core producer prices increased by just 0.1% at the same time. Source: DOL BLS, 12-16-1. With world-wide demand for materials slowing, inflation over the coming year may ease significantly.
Industrial activity is somewhat mixed. Manufacturing indexes from New York and Philadelphia Fed Districts jumped dramatically to the highest level since May, much more than was expected. Sources: Fed Report; AP; 12-15-11. But overall US industrial production unexpectedly fell 0.2% in November. Source: Federal Reserve. R&D spending in the US is projected to rise 2% in 2012, to over $436 Billion. This is more than 30% of total world-wide R&D. China and Japan have the 2nd and 3rd largest research expenses. There continues to be wide-spread beliefs from governments and businesses alike that innovation is a key ingredient to long-term economic growth. Source: WSJ, 12-16-11.
The finance sector is continuing to re-trench. Fitch recently downgraded several US banks and financial institutions, while S&P has stated that the banking industry is undergoing its most radical structural change since the Great Depression. Many banks and financial firms have been cutting back across the globe. Source: WSJ, 12-16-11. For instance, Citigroup is cutting 4,500 jobs, citing continued deleveraging of consumer, business, and government interests, and Morgan Stanley is eliminating 1,500 jobs.
Europe —
Governmental leaders announced an agreement last week with stricter budgetary control in 26 of the 27 euro-zone nations. The bail-out fund was not increased in size, and a common euro-zone bond was once again ruled out. Sources: Bloomberg, WSJ, 12-10-11. The UK did not approve the arrangement. With less than unanimous approval to change the basic charter of the euro-zone, implementation is now subject to approval by each individual nation. This is less than certain to occur with many political pressures and legal obstacles expected in many nations.
Investors were less than enthused with the effort, and capital market indexes fell throughout Europe. The euro currency continued to fall, as well. Analysts were also underwhelmed, stating that current government debt loads were not addressed. S&P put 15 nations on notice that they may be downgraded if systematic risk was not addressed. Moody’s downgraded three French banks and Belgium governmental debt, stating that it will be reviewing all sovereign debt in Europe. Fitch also announced that it was considering further downgrades in euro zone nations, feeling that a comprehensive solution to the debt crisis was beyond reach. Source: Reuters, 12-17-2011.
The ECB lowered its benchmark rate to 1.00%, and has also reiterated its stance that it is prohibited from monetary financing of government debt. The Bank of England kept its interest rate at 0.5% and maintained its bond-buying program, in a continuing effort at stimulus. Financial strain is evident in the numbers, as the ECB has now lent an astonishing 52 billion euro in US dollars to EU banks in currency swaps with the US Fed, while banks are bidding up short-term borrowing costs to each other. Source: WSJ, 12-15-11. EU leaders have also demanded over 100 billion euro in new capital for European banks. That may not even be enough, as a private/non-profit study showed that EU bonds will need to raise 200 billion euro or cut their balance sheets 20% in order to meet Basel III requirements. Source: Boston Consulting Group, 12-15-11.
Other news is also not good. Growth forecasts for Germany are now down to 0.4% in 2012; Source: Bloomberg, 12-13-11. Ireland’s GDP fell 1.9% in the just third quarter alone. France is now officially indicating that it will likely be in recession in 2012. Spending in Spain’s regional governments jumped over 20% in 2011, thwarting efforts to cut overall government debt. Source: AP, 12-17-11.
International —-
Inflation has slowed in China, falling to 4.2%, compared with 5.5% just a month ago. Source: LA Times, 12-8-11. Industrial output fell to 12.4% growth from 13.2%. Even India is now slowing, with GDP growth projected to be above 7%, down from 9% previously. Inflation is rampant there too, at close to 10%. The national currency is also falling in valuation. Source: WSJ, 12-14-11.
Investing Ideas —-
In these volatile times, the power of passive investing continues to shine in the results of mutual funds. Just 12% of large-cap active funds in the top 25% earlier in the decade remained in the top 25% in the latest five years. These figures would even be worse if it weren’t for survivorship bias, since fund companies merged or liquidated 41% of all large cap funds in the bottom 25% between 2001 and 2006. In the most recent five year period ending 9-2011, only 6% of all US stock funds held onto a top ranking for five straight 12 month periods. Sources: S&P; Morningstar; WSJ, 12-5-11, at C8.
Main Web-site at: Kaufhold Company, LLC
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12.06.11
Posted in Economic News at 9:29 am by Kevin C. Kaufhold
Several economic data tracts have becoming surprisingly strong. The unemployment rate dropped significantly this week, consumer confidence jumped, and the initial week of holiday sales has been strong. Production and small business activity is also encouraging. Several central banks around the world even agreed to credit swaps designed to maintain financial liquidity. The rest of the world is losing steam, however, and unease continues in Europe. Most importantly, with real estate, construction, and even consumer activity near their historic lows, significant slack exists in the US economy.
Domestic —-
Employment Looking Up. Private sector businesses sharply increased hiring by 206,000 jobs in October. Source: ADP, 12-1-11. Jobless benefits rose by 6,000 on the week, to 402,000 initial claims being filed. But the biggest employment news by far is that the unemployment rate dropped 0.4% to 8.6% in November. Source: US DOL, 12-2-11. This was a huge gain, considering that we have made only incremental and tiny progress in employment statistics throughout most of the year. Employment was concentrated in retail trade, leisure and hospitality. The concern exists that the data may be reflecting temporary hirings in the holiday rush, and certainly is not showing much improvement in higher earning positions. Additionally, with new job creation below the threshold level needed for real inroads to be made, the lowered unemployment rate may merely be showing that many individuals are dropping out of the jobs search in complete frustration.
Consumption. Consumers reduced their debt in the summer, but it was largely due to a drop in mortgage balances, with consumer debt actually increasing. Source: Federal Reserve, NY, 11-29-11.
Consumer confidence is up dramatically in the latest figures, far more than expected. The sharp rise in confidence may be part of the reason for the good holiday sales. The data remains markedly below historical standards however. Source: The Conference Board, 11-30-11. Credit standards and availability remain tight. Source for graph: TradingEconomics.com.
Production. This year, the US will probably become a net exporter of all sources of fuel (oil, gas, etc) for the first time in 62 years. The trend could continue for the rest of the decade, as lowered demand from home, increasing need from emerging markets, and many new production facilities domestically (shale, near-shore, small deposits) are within technological and economic feasibility. Source: US Energy Administration, 11-30-11.
Manufacturing increased on the month to an index of 52.7 from 50.8. Inventory demand and new orders were also both up, as well, suggesting several more months of good production may be in store. Source: ISM.
Small Business Activity. Small business lending is finally looking up, with an increase of 20% in recent volume. It is still not at 2005 levels however, but on another good note, loan delinquencies are also down. A positive lending environment for small businesses is a very important indicator of the business cycle, as small businesses will typically hire employees first, and then as a recovery moves into a solid expansion, larger businesses will begin hiring. Source: Reuters, 12-1-11.
Fed Watch. From the Beige Book, the US grew moderately in recent weeks, but hiring and housing continue to be weak. Inflation from earlier in the year has subsided, with cost pressures easing. Economic activity increased at a slow to moderate pace. Manufacturing expanded throughout the nation. Sources: Fed Reserve; Reuters, 11-30-11.
Various fed officials are continuing to think of another round of quantitative easing. Even with better data, heartburn still exists over Europe and the general budgetary stalemate in Washington. Source: WSJ, 11-30-11. In separate interviews this week, however, the Fed District Presidents of St. Louis and Dallas both stated that new stimulus may not be immediately needed. Citing to the recent economic data, and low amounts of demand for loans through the Fed discount window, the overall economy and US banks may be in better shape than in Europe. Still, the Fed Districts of NY, Chicago, and at least one Fed governor are known to be pushing for more stimulus.
The Fed continues working on more specific guidance and better articulation of policy objectives. The Fed informally may want inflation at 2% or lower, and some officials may also believe that unemployment could fall to 5 – 6% without triggering inflation. But without policy targets, some uncertainty remains. Source: WSJ, 12-5-11.
Retail Sector. Retail sales took a big jump on Black Friday by some 16%, and the first week of holiday shopping was also very good, at 15% increase. Many factors are involved however, most notably the earlier store openings which may have just pushed the same sales volume earlier into the season. It would be better to wait for the entire Christmas shopping stream before judging success. Source: Forbes, 12-4-11.
Real Estate Sector. The data is suggesting that people are buying smaller homes, with mortgages financed by Freddie and Fannie increasing; the value of total mortgages falling 17%; and new mortgage debt being at the smallest level since 2000. Real estate pricing again declined in the latest month, some 0.6% in September. Source: S&P / Case-Shiller Index. With real estate delinquency rates still at roughly 10%, more consumer deleveraging is likely to come, continuing to drag growth down near-term. Homes prices are off 31% from the 2006 peak even with the lowest mortgage rate in 60 years now available, at 4%. Spurred by lower prices, pending home sales increased in October. Source: Natl Assn of Realtors.
Europe —
The situation overseas remains difficult. The OECD reported that the global outlook has slowed significantly, with the Eurozone headed to a mild recession, and only modest growth of 1.6% globally. Source: OECD, 11-29-11. Heavy bets are occurring on the euro weakening further against the dollar, with net short positions of $ 14.4 US Billion. Source: CFA Institute Financial NewsBrief. With public market financing becoming more expensive, some national leaders are asking banks to act as lenders to the governments. Source: WSJ, 11-29-11. Bond and money markets are nearly closed to some European banks at the moment. Source: The Economist, 12-3-11.
The ECB is still not buying government bonds, but may be poised to lower its policy rate to 1.00%. ECB leaders may be open to bond market intervention if the governments agree to a fiscal pact. The EU finance ministers have agreed to offer bonds guaranteed by each government, but rejected a joint backing of bonds. Sources: WSJ, 11-29-11; 12-1-11. China has indicated that it will not provide capital to solve Europe’s debt problems. Source: NY Times, 12-4-11.
And, systematic risk in Europe may be occurring not only from public debt problems, but from vulnerability of private debt. For instance, households in the Netherlands have an exorbitant 250% debt to income ratio, on average. This may be the result of Dutch banks routinely approving home mortgages at 125% of home value. With such a high debt load, the general economy may be more vulnerable to interest rate increases, increasing unemployment, and real estate fluctuations. Banking interests have defended the practice however, referring to huge private savings of Dutch home owners. Source: WSJ, 12-5-11.
International —-
The world’s central banks coordinated this past week, giving banks cheaper access to loans in US dollars. The move was designed to increase liquidity for the banks and avoid further credit crunches. Central banks also were willing to provide liquidity in local denominated currencies, if needed. Various euro-zone banks have been having greater difficulty recently in obtaining US dollars, as money has been flowing out of their banks and towards US money market funds. Without the action, EU banks were poised to sell assets so they could obtain dollar denominated currencies, possibly forcing many asset markets lower. In spite of the action not addressing the underlying problems, capital markets around the world posted huge one-day gains. Sources: AP, 11-30-11; WSJ, 12-1-11.
Separately, China lowered its capital reserve requirements for banks. This action signals the reemergence of domestic growth as the central priority of China, rather than reducing inflation, which is still at a rather high 5%. Source: WSJ, 12-11-11. JP Morgan is expecting Chinese growth to go down to 7.2% annualized, and the economy may be quickly decelerating from falling exports and a contraction of real-estate markets. Source: Reuters, 11-30-11.
Many other countries are experiencing slow-downs, too. Brazil is now starting fiscal stimulus, in an abrupt turnaround from recent central policies aimed at tightening. Several production indexes have also turned decidedly negative. With 50.0 being no growth in production, Brazil is at 48.7; Japan 49.1; UK at a dismal 43.8; and Germany at 47.9. The US is actually looking good in comparison, with a production index of 52.7, indicating some manufacturing growth. Source: ISM. Canada is also growing nicely, with its general economy at a 3.5% increase in the most recent period. Source: Reuters, 11-30-11.
S&P has cut ratings for 15 banks world-wide, and from a variety of reasons including EU exposure, CDO exposure, and low credit standards. Meanwhile, ratings were raised on several pacific region banks that have generally been supported by national governments. The rating changes were the first with a new ratings methodology designed for underlying risk evaluation. Many analysts believe the new method is a response to triple-A bonds being reduced to junk status during the 2008 recession. Others believe S&P’s current handling of both the US government downgrade as well as the new methodology amounts to a classic pendulum-type of over-reaction, with credit standards previously being too loose, and now the new initiatives being too stringent. Source: WSJ, 11-30-11.
Investment Ideas —
Traditionally, allocations have relied upon the assumption of a “normal” probability distribution in optimizing risk and return through means variance (MVO) techniques. With so many severe plunges regularly occurring in today’s economic climate, some theoreticians feel that severe stress events may be far more probable than what is modeled with MVO. In response to this concern, Morningstar has now developed model asset allocations which take into account extreme events through a “fat tails” type of mathematical distribution. Value at risk considerations are also being incorporated into the analysis. Source: Morningstar; FAJ, March / April, 2011.
Main Web-site at: Kaufhold Company, LLC
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11.29.11
Posted in Economic News at 9:45 am by Kevin C. Kaufhold
The US economy may be in a slow recovery mode, but the economic climate in Europe continues to degenerate. The situation has become so difficult that in recent days, the possibility of a euro currency break-up has been openly discussed in governmental and commercial settings. Proposals thought to be radical just a few weeks ago are now being given serious consideration, in an effort to stop the currency from unraveling.
At the root of the problem lies government debt. The central government’s debt of Greece and Italy is unsustainable, at well over 100% of GDP. Several other nations also have exorbitant debt loads. As the graph shows below, the central debt (as a percentage of GDP) of both the US and Germany is much smaller in comparison. Source: St. Louis Fed Reserve, FRED data. Not surprisingly, there has been continued demand for US bonds even with the downgrade by S&P of US ratings.
Investors have been fleeing most euro-zone bonds lately, and even Germany experienced low demand in its bond auction last week. While the initial phase of the debt crisis involved the periphery of Europe (Ireland, Greece), the current phase is hitting the core of the European economies. If the trend continues, some or all EU-based nations may be locked out of the public bond markets, unable to continue capitalizing their debt loads. Sources: Reuters, 11-23-11; WSJ, 11-23-11; AP, 11-28-11.
All the pandemonium is causing ripples, far and wide. Germany has lowered its 2012 output forecast to between 0.5% and 1.0%, down from a projection six months ago of 3%. Fitch has warned on France debt, believing that nation has limited ability to absorb further shocks. Hungary is now formally asking EU and IMF for assistance. Many banks on the continent have been losing deposits from both corporations and general investors. Several US financial institutions are reviewing their bond indentures for contingencies, while currency traders are dusting off old trading systems to develop quotes on older currencies. Sources: WSJ, 11-23-11; 11-28-11.
The ECB is planning closer coordination among member nations, but specifics are generally lacking. It may allow access of its longest bonds to commercial banks, but has been resistant to greater central control without approval by the EU nations. Germany is still opposed to pooling of resources through a system-wide euro bond, arguing that monetarizing debt through a central borrowing function will not install fiscal budgetary control by individual nations. Instead, German officials are reviewing a new proposal to force budgetary discipline upon all members. Under this proposal, the EU would move from a central currency to a fiscal union with a central treasury. Sources: WSJ; AP, 11-28-11. Such a move may bring us closer to a United States of Europe, but since this would take a long time to develop, the concern is that the euro currency will collapse far before a new economic and legal structure is worked out.
Better Conditions at Home. US GDP grew slightly less in the third quarter than previously thought, at 2%. Businesses sold inventories to meet stronger than expected consumer demand. Excluding inventories, the economy grew at 3.6%., an amazing figure compared to 1.6% GDP growth during the summer. Corporate profits rose 2.3% on the quarter and almost 8% over the last year. With inventories likely being re-stocked in the current quarter as well as other data being positive, growth may lean towards 2.5% to 3% by the end of 2012. All this assumes, however, that Europe does not implode. Sources: Dept of Commerce; Reuters, 11-22-11.
Financial Sector. Bank profits are up almost 50% from a year ago, but without much revenue growth. Most of the earnings increase comes from less being set aside to cover bad loans, and lending increased only marginally. Total loan balances also increased somewhat after three years of loan portfolio declines. Small business loan generation is still weak, however. The number of banks on the problem list decreased for the first time since 2006, at 844 institutions. Source: WSJ, 11-23-11. Volatility is increasing in bank stocks, reflecting the heightened uncertainty in Europe.
The Fed announced last week that new stress tests will occur on US banks, with more banks involved this time, and with more disclosure of results. The new test will look at the impact to capital buffers from the stresses of higher unemployment; lower GDP; and further declines in home prices and equity markets. Critics believe these parameters amount to overkill. Source: WSJ, 11-28-11. Further, a “hard landing” in China coupled with continued European turmoil may be more probable scenarios to run stress tests on than marginally worse domestic economic statistics. The tests at least may point towards heightened capital commitments by banks to stave off further problems, whatever the source.
Real Estate Sector. Sales of previously owned homes increased in October by 1.4%, but median prices continued to fall. One in three real estate agents report that at least one sales contract failed in October, due to difficulties in obtaining a loan as well as appraisals being too low to support the sales offer. Another report indicated that it might be until 2020 before all foreclosed properties and shadow inventories are worked through. Sources: Natl Assn of Realtors; WSJ, 11-22-11.
Two million construction-related jobs disappeared in the recession, but the total fallout from the real estate bubble may be much higher. An estimated 800,000 jobs were lost in affiliated industries, and the entire sector was slowing before the official start of the recession. Altogether, 40% of jobs lost between 2007 and early 2010 have been traced to the devastation in the real estate and construction industries. Sources: St. Louis Fed paper of Juan Sanchez and Daniel Thornton; St. Louis PD, 11-27-11, p. D3.
Personal Income Statistics. Discretionary spending has been the lowest of all post-recession environments, at 2.8% in the first nine quarters. 2001 saw 5.8% increase in discretionary expenditures, while 1982 was at 13%. Spending on goods has been more moderate. Sources: Commerce Dept; WSJ, 11-25-11. It seems that people have put off non-essential spending this time around.
The Shifting Nature of Employment. For many years, the US was thought to have a more flexible employment structure than in Europe. US firms are generally free to shed jobs in a recession, generating quick losses in payroll, but also producing a quicker economic turn-around. In Europe, employment is more rigid, with many laws making firms reluctant to hire or fire. Since the 1990’s however, the US economy has developed statistics similar to Europe on youth unemployment, long-term unemployment, and overall joblessness. A theme of chronic and long-lasting unemployment is emerging in both places, but with different causes.
While Europe’s high unemployment is still considered structural in nature, a relative lowering of mobility among the adult US work force may be behind some of the changes at home. Source: WSJ, 11-28-11. This finding is rather new, as the more common thesis for the higher unemployment in post-recessions is that businesses have been using recessions since 1992 to restructure both its capital and labor forces. This generates a far different range of jobs and production techniques in post recessions, resulting in a search for workers with new and varied job abilities. Long-term, such restructurings produce higher productivity, but short-term, it means a far longer out-of-work status, and with some workers never being able to fully recover.
Other International Economies. With recent news focused on Europe, we should be remindful of important economic items in other countries. Japanese exports fell by 3.7%, compared to a year ago. This is mostly due to lowered European demand. The IMF has now warned Japan that its debt is too high, at almost 200% of GDP, which is actually worse than Greece or Italy. IMF; WSJ, 11-25-11.
US multinationals added 1.5 million workers to payrolls in Asia and Pacific in the 2000’s, as well as 475,000 in Latin America, compared to job reductions in the US of 860,000 +. Only some of this was due to outsourcing, with many new jobs simply coming from expansion into new territories abroad. Source: Commerce Dept, 11-22-11. Still, the data implies that lower costs abroad continue to be a larger factor to many corporations that higher productivity at home.
China’s production index is being closely monitored, as weaker demand from Europe and lower construction inside China may be impacting matters there. Export growth, adjusted for inflation and currency changes, may now be down to less than 10%. New housing starts fell 2.2% in the last year, as the government is attempting to reduce rents and real estate pricing. Capital investment in real estate has declined, accordingly. The big concern is whether China can coast to a more sustainable economic growth from its current export-dominated economy. If internal consumption does not make up for declining export activity, the fear is that China may go from a boom economy with inflationary tendencies, to a rather abrupt bust.
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11.22.11
Posted in Economic News at 8:43 am by Kevin C. Kaufhold
The US Congressional Super-Committee failed to reach agreement this week on a deficit reduction plan. The two sides were never that close at any time in their discussions, staying well within positions favored by their own constituent base. The US markets reacted negatively on the news. At least deficit reduction will still occur in the US, albeit rather painfully, with $1.2 trillion in across the board cuts unfolding over the next ten years.
Other countries have also failed to generate lasting budgetary reform. Any serious effort at deficit reduction has been met in numerous countries, including Greece, Italy, and Spain, with severe protests and loss of parliamentary majorities. Both representative and parliamentary democracies, it seems, have lost the ability of a middle-ground solution.
On more mundane (but critically important) economic news, several data tracts point toward continued recovery, with the primary dark spot now being the unfolding drama in Europe. More details below.
US Back in Spotlight. In the wake of the failure of the Congressional super-committee to reach agreement on deficit reduction, both sides immediately fired salvos at each other, with no end in sight to the blame game. In all, it was a rather predictable ending to any effort at sensibly reducing the size of the deficit. Automatic across the board cuts totaling $1.2 trillion over 10 years will now begin to kick in, with $600 Billion alone coming from defense. A constitutional amendment requiring a balanced budget was also rejected in the House. Congress did manage to pass a spending bill however, to keep the government operating and avoid a repeat of the debacle which occurred in August. Still to argue about, Congress will now debate renewing a payroll tax cut and jobless benefits set to expire at the end of the year.
Leading Indicators are Up. The leading economic indicators increased 0.9% in October, better than September when the leading index was essentially flat. Lack of consumer confidence may slow forward momentum however. Source: The Conference Board. Business inventories were flat in the latest month, but retail sales increased 0.5% on the month. Source: Census Bureau. Industrial production rose 0.7% in October, fueled by an increase in autos. Factory output was up 0.5%. Source: Fed Reserve, 11-17-11.
Inflation is Tame. The PPI fell 0.3% in October, but are up almost 6% in the last twelve months. Consumer prices also fell slightly in October, down 0.1%. Falling energy costs were the reasons cited for both indexes dropping. Source: DOL BLS. Excluding energy and food, core inflation has been nil over the past 10 months. This suggests that the inflation occurring earlier in the year was raw-material based, and not consumer demand driven. With many international economies now slowing down, CPI may continue to be moot.
Unemployment Down. Initial claims for unemployment benefits again fell last week to 388,000, the fourth decline in five weeks. Source: DOL BLS. Claims probably have to be above 375,000 however for job growth. Total unemployment benefits also dropped, to 3.6 million (plus another 3 million on extended benefits), which is the lowest level since September, 2008.
Real Estate Still in a Depression. Homes sales declined on a seasonally adjusted basis, to 4.8 million units, down some 10% on the year. New residential construction figures are at 628,000 homes, while building permits increased 11% on the month. Permits on apartment buildings increased markedly, some 30%. Construction of single family homes increased by 3.9% in October. Foreclosure processing is occurring again, but the overall amount of homes in economic distress may be declining, now down to 13%. Mortgage rates have continued to drop, down to 4% in some areas, but almost 15% of all real estate contracts do not close because of lack of bank financing. Sources: WSJ, 11-21-11; 11-17-11; Mortgage Bankers Assn; Natl Realtors Assn; Dept of Commerce. Some analysts believe that home prices will drop another 8% in the coming year, and the real estate market as a whole may not bottom until 2013.
Business Financing and Health. Unlike some areas of Europe, US companies continue to freely access banking and public debt markets, with the aggregate corporate bond premium holding steady at 2.3% above the US Treasury note. Indeed, with investors shying away from European sovereign debt, demand for US corporate bonds may be increasing among retail-level investors. Source: WSJ, 11-21-11. In a replay of the 1990’s S&L refinancing, JP Morgan is preparing to package together bad loan securities, believing there may now be a market for $300 billion in distressed commercial real estate loans.
Fitch is the latest to warn that if the EU debt problems continue, US banks and other businesses may have credit and cash flow difficulties going forward in time. Source: Reuters, 11-16-11. US Secretary Geithner also weighed in this week, stating that the general outlook in Europe is dire. Source: WSJ, 11-16-11. And while many larger US businesses are bulking up on their cash reserves, many corporations have also markedly increased their debt loads, possibly as an additional cushion against a Euro-led repeat of the 2008 US credit crunch.
Doom and Gloom in Europe. Merkel of Germany declared this week that Europe is in its most serious crisis since WW II. Not surprisingly, financial strains have been appearing throughout the continent. Italy sold $4 Billion (US) of bonds this week with a yield over 6%, and secondary markets have pushed yields of Italian debt over 7%. Spain paid 7% for an issuance this week of its 10 year note. Even stronger nations, such as Belgium and France, are experiencing higher band rates. Hungary’s debt could now be reduced to junk status (as a point of comparison, US ten year notes are at 2.01%). Industrial production in the EU dropped 2% in September, the steepest dive since 2009. GDP hardly grew in the third quarter, up only 0.6%, and this set off a severe sell-off in European equity and bond markets. Many economists feel that signs point to the beginnings of a new recession for Europe.
Some countries are seriously considering direct bond sales to their own citizens, while financial entities are planning on raising capital, reducing banking-related services, and slashing jobs. Industrial-based firms have been accessing public bond markets while they can, but are finding higher borrowing costs. Banks have been curtailing their lending of even the larger public companies. Annual costs of insuring corporate debt have soared recently, too. Source: WSJ, 11-11-11. Central banks have been buying massive amounts of gold. The Euro Commission has now suggested a euro-zone wide debt instrument. Germany is adamantly opposed however, believing that it may be eventually stuck with defaults occurring in other countries.
China. The trade surplus in China is down 43.5% from a year ago, to $57.8 Billion in third quarter. The surplus as a percentage of the GDP is also down to 3%, being as high as 10% in 2007. Critics argue that the decline in the surplus is only temporary, and will reverse once the global economy improves again. The changing ratios may largely be driven by domestic investment and not by consumption, which is thought to be necessary for a self-sustaining economy, rather than one overly dependent upon exports. Some businesses are arguing that pegging the yuan to the US dollar amounts to an unfair export subsidy that would trigger WTO tariff penalties. Source: QSJ, 11-16-11.
Main Web-Site at: Kaufhold Company, LLC
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11.14.11
Posted in Economic News at 2:35 pm by Kevin C. Kaufhold
After taking a pounding for the last three years, the US national economy may ironically being faring better than many economic systems abroad. Growth has been modest, but continuing technological innovations, increasing net equity positions by many US businesses, and a work-force that will expand for an entire generation all points toward the resiliency of US economic conditions. Contrast that with overseas, with Europe severely lagging in necessary economic and financial reforms, and China continuing to use centralized policy rather than market dynamics to generate growth. The greatest risks facing the US economy right now may not be from internal constraints but from possible downturns flowing out of international malaise.
The US Economy. 4.4 million job openings now exist, the largest in 7 months. Source: DOL, BLS. This is still below the 5.0 million openings pre-recession, however. With state and local governments contracting, total employment gains may be small in forward months. Many private sector employers are complaining that the openings are not from product demand, but being unable to find the right skill sets. Indeed, much of the current growth in the economy is due to businesses and consumers spending again after rising gas prices and Japanese supply disruptions were felt earlier in the year.
The following graph shows that leading indicators are continuing to improve modestly, after dropping horribly during the recession. Source: St. Louis Federal Reserve, FRED data.
Home prices fell 4.7% in the third quarter, caused by weak demand and over-supply of distressed properties. Source: Natl Assn of Realtors. As a result of increasing grain prices, land previously earmarked for residential development is again being turned back to agricultural use. Source: WSJ, 11-14-11.
Exports have been strong throughout the down-turn, and this trend is continuing, with a record $180.4 billion in exports in September. Source: Dept of Commerce. With a slowdown occurring in Europe however, the real question is how long will exports stay in a good position? Already, GM has lost $300 Million in the most recent quarter in Europe alone.
From a generational perspective, domestic prospects may be in decent shape. The US remains the leader in many technological innovations. Most importantly, the workforce is expected to grow by 37% in 2050, while EU work population will shrink up to 21% in the same time period (from lower birth rates and anti-immigration policies). Even China may experience a decreasing work force, down some 10%. Source: WSJ, 11-12-11.
Europe in Shambles. The long-time Prime Minister of Italy has now resigned after losing a routine vote on budgetary matters. The new government is being led by an economist who pledges growth policies. It will be a difficult task, as bureaucratic and legal inefficiencies are so entrenched that even family-owned businesses tend to not grow once they achieve a niche market. Source: WSJ, 11-14-11. Overall, Italian GDP is only 3% higher than a decade ago. Investor confidence has been shaken, with Italian bond yield briefly going over 7% earlier in the week. Italian debt is now at 120% of GDP, and there is growing concern that the government cannot afford to pay current bond costs, let alone to make new borrowings in the public markets.
Greece has picked an economist from MIT as its leader. The new government wants to take steps towards budgetary constraints, but is facing continuing protests and social unrest from its own population. France is also coming under pressure to meet deficit reduction targets. French debt financing costs have been rising, as result. This was the case even before S&P mistakenly sent out an alert to its subscribers announcing a French ratings downgrade (which was retracted 2 hours later).
Meanwhile, the ECB is having trouble developing a $1.36 trillion (US equiv.) bailout fund. There has been little success in developing external public and private sources. The EU Executive Committee has now dropped growth forecasts markedly for the next year, down to 0.6%. The official comments are even more startling, with the risk of a deep and prolonged recession and continued market turmoil not being excluded.
European banks will likely have to boost capital reserves or reduce their balance sheets. Thus, commercial loan financing is becoming scarce as banks are trying to reduce loan positions. Some businesses have been going to the bond markets in anticipation of future credit freezes. Other firms, such as BMW, have been expanding their credit lines to include numerous banks. There is also an issue with banks not fully disclosuring their exposure to bond defaults. Even when they do disclose their hedges against default, questions remain as to whether the counter-parties on the hedges may have financial difficulties during times of stress. Sources: WSJ, 11-9-11; 11-14-11. In general, many professional-level investors believe that EU banks have not undertaken the painful, but necessary, steps that numerous US financial institutions have already engaged in.
Rest of World. After two years of governmental effort in China, housing prices are starting to fall. But with 25% of its economic growth coming from real estate, it may be a tricky game for centralized governmental policies to lower prices without producing problems in growth. Chinese inflation is falling, as well, coming down to 5.5% in October from over 6% in September. Source: WSJ, 11-10-11. These price increases would be very difficult to accept within a decentralized system, and it is a question how long they can continue in China without an implosion occurring there.
Trade agreements have been sprouting up recently. Russia will be joining the World Trade Organization, after 18 years of negotiations. Also, a Pacific-America Trade agreement finalized last weekend involves eight countries, but may provide the foundation for up to 21 economies to streamline rules of origin and other regulations. This may pose an eventual trading problem for both China and Japan, with both of these governments being known for their excessive trade restrictions that many in the US have complained as being grossly unfair. Source: WSJ, 11-10-11.
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11.08.11
Posted in Economic News at 1:08 pm by Kevin C. Kaufhold
The 2008 recession was the longest and deepest of any drop in US economic activity in the last 70 + years. Gross domestic output is just now returning to pre-recession levels, taking longer than any recession since WWII. On a per capita basis, output remains 3% lower than at the end of 2007. Source: WSJ, 10-31-11. Unemployment will likely remain stubbornly high into 2013, maybe even longer. The current economic climate is certainly not as desperate as it was in the Depression, but is becoming known as the “Great Recession”, with lingering financial after-shocks and tepid growth that will take years to overcome. Now for interesting financial news items.
The Fed Watch. At the latest Federal Reserve meeting, Fed officials stated that EU fiscal and banking concerns have restrained financial markets, with adverse impacts to growth world-wide. Unemployment is now projected at 8.6% into 2012, falling to between 6.8% and 7.7% by 2014. Significant downside risks exist in the Fed’s forward economic outlook. Source: Federal Reserve Board release.
No new actions were taken at the meeting. Chairman Bernanke did indicate that he was ready to take further actions as necessary, however. Buying additional mortgage back securities appears to be high on the agenda. Short-term rates are likely to stay near zero at least through mid-2013. Source: WSJ, 11-3-2011. Fed Chicago President Evans has publicly advocated interest rates being kept at 0% until unemployment drops below 7% or the inflation outlook for the mid-term is over 3%. The implied inflation rate is well contained at the present, hovering at 2.2%.
US Statistics. US manufacturing activity dropped in October to 50.8 from 51.6 in September, with businesses reducing inventory levels. New orders rose; however, and prices for raw materials remained unchanged. Source: ISM Survey. US aggregate auto sales rose 7.5% in October, even though two Japanese auto companies decreased sales as a result of parts shortages occurring from the tsunami and earthquake there. The rise in big ticket items, such as auto sales, is a closely watched indicator of consumer activity. At this point, the increase may simply be due to older vehicles wearing out, and not evidence of a broader consumer-led economic pick-up.
Banks appear to be on a better footing than in 2008, with total equity capital now at $1.5 Trillion. Some banks have even started to loosen lending standards after tightening them severely over the last two years. But fears in Europe are triggering higher costs of insuring against bank defaults, while US money market funds have been pulling away from many European assets, favoring US, Canada, and Japan. Source: WSJ, 11-3-11; 11-7-11.
October employment was up 80,000 jobs, mostly driven by private sector increases in professional services, leisure, hospitality, health care, and mining. However the unemployment rate changed very little, moving down only 0.10% to 9.0%. Source: DOL, BLS, 11-4-11. Job growth probably needs to be above 120,000 per month to keep pace with overall population growth, and more critically, growth in the work force. Analysts had been expecting 90,000 to 100,000 new jobs. New unemployment claims dropped below 400,000 on a seasonally adjusted basis and productivity increased 3.1% annualized since June, 2011. Productivity dropped earlier in the year, so the higher rate currently may be mostly from firms evening out business flows over a year’s time.
US businesses are now holding up to $2 Trillion in cash, acting as cushion against lowered forward growth or a new credit freeze. Of course, not reinvesting the cash into new capital projects has a negative growth impact by itself. Companies are on edge over Europe; however, as the EU accounts for $200 Billion in US income earned abroad, roughly 50% of world-wide totals. The loss of confidence in Europe is definitely making larger US businesses more cautious in their forward commitments. Source: WSJ, 11-7-11.
Drama in Europe. At the outset of the week, the Greek Prime Minister surprised almost everyone by announcing a referendum on the latest bailout proposal. This rocked the capital markets, with spreads between Greek and German yields widening sharply. Source: WSJ, 11-2-11. Germany and France quickly responded, openly threatening Greece with expulsion from the European Union if it proceeds with a referendum. Within a few days, the call for a referendum was withdrawn. But the end of the week, the Prime Minister announced that there would be co-sharing of his elected duties, so that a unity approach could be developed with the political opposition in that country. And so it goes in Greece.
The European Central Bank surprised markets by cutting its interest rate to 1.25% after raising rates twice earlier in the year. ECB continued to resist making itself the lender of last resort. All of this turmoil has caused the issuance of the EU stability bond, the very instrument necessary to actually fund the bail-out, to be put on hold. European banks are increasing their hedges against Greek exposure. They may have bigger problems in any event, with greater total exposure to US CDO’s, credit market assets, and real estate holdings than all bond holdings from the troubled governments. Source: Credit Suisse.
Manufacturing contracted in October at the steepest rate since July, 2009, with the PMI in EU below 50 for the last three months. New orders also contracted for the fifth straight month. Italy has not reduced its regulatory and tax environment, as thought to be necessary to encourage growth there. With Italian borrowing costs now escalating, investors are further shunning Italian debt. Meanwhile, Spain unemployment is a shocking 22.6%, almost as high as US unemployment was in the Depression, and Spain’s GDP was flat in the latest quarter. But Germany, Austria, and the Netherlands are onto a stable if slow recovery, and thus the divergence continues among the 17 member nations of the EU. Unemployment rose throughout the union as a whole, to 10.2%, with 16.2 million now looking for work. CPI is 3.0% throughout the system, while the stated goal is 2%. Amidst all of these problems, copper prices world-wide fell 2% on weaker demand expectations. Even gold has been falling somewhat (although it is still $1,700 / ounce), with foreign investors having to contend with quickly moving currency exchange fluctuations. Source: WSJ, 11-1-11.
Rest of World. A slow-down in world-wide economic growth is becoming more evident in the data. Brazil industrial output has now decreased the last 2 quarters, with the blame being pointed at its soaring currency, crumbling infrastructure, and government bureaucracy. Manufacturing in Asia is also slowing, being somewhat dependent upon exports to EU. The Australian central bank is easing its monetary policy, following both Pakistan and Indonesia. The Taiwanese production managers index (PMI) fell considerably, and output in South Korea is continuing to shrink. China continues to slow its growth rate, as well. Many world leaders are hoping for a “soft landing”, as the staggering 9.1% growth rate in China’s economy is generally considered unsustainable, and may prove difficult for central policy makers to manage.
Main Web-Site at: www.kaufholdco.com
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10.31.11
Posted in Economic News at 11:02 am by Kevin C. Kaufhold
With the economy modestly growing again after sliding earlier in the year (see below graph and commentary), the real issue is the depth of the growth. European activity has been dragged down by continuing problems overseas, while domestically, disposable income has actually turned downward when adjusted for inflation. With much of the world including the US treading water, growth in the domestic economy will be prone to continuing macro-economic shocks and heightened volatility in the capital markets.
Not Enough Growth. The economy grew in the third quarter by 2.5%, driven by consumer spending and capital business investment. Source: Dept of Commerce, BEA. At the same time, inflation-adjusted after-tax income dropped 1.7%. And with less real money to spend, savings dropped as consumption increased on necessary items. Coupled with this, median household income fell 3.2% during the recession, and another 6.7% in the last two years. Source: US Census Bureau.
Even with jobs being added to the economy, it would take 150,000 newly created jobs per month to account for the growing population. The general consensus is that GDP growth must be over 3% for unemployment to drop dramatically. The lack of a solid expansion is leaving many workers still out of work or in part-time status. Budget cuts at all levels of government coupled with a slowing economy abroad may slow GDP growth into the fourth quarter and beyond to 2% or lower. Source: WSJ, 10-28-11; 10-31-11.
Federal Activities. The Fed may be coming closer to new security purchases, with an emphasis on mortgage-backed issues. At least two Fed governors (NY and Boston) are openly in support of another round of quantitative easing, but three others have been concerned about inflationary effects and adverse structural impacts on real estate capital markets. The Fed is also mulling about some options to become more transparent in its economic goals.
The Congressional Super-Committee rejected initial opening positions along partisan lines this week. The Committee faces a Nov. 23 deadline before $1.2 trillion in cuts start to kick in over a 10 year horizon. The cuts would affect both defense and domestic programs.
Income Gap Widens. While many of the objectives of the Occupy Wall Street movement are ill-defined and fuzzy at best, one statistical fact is stark: the gap between rich and poor has been widening for the last 30 years. After-tax disposable income since 1979 has dropped for 80% of the population, with only the top 20% increasing their income levels. The top 1% has more than doubled its income share, by some 275%. Source: US CBO, 10-26-11. With that kind of data, it is no wonder that social protests not seen since the 1960’s have sprung up recently, not only in New York, but around the nation as well.
Corporate Activities. S&P 500 earnings are up 14% so far this year, energized by continued cost cuts and modestly rising revenues. With wages stagnant but health and retirement benefits continuing to increase, many businesses are eyeing further options. Indeed, the latest company to announce cutbacks is Whirlpool, who is shutting down two plants and eliminating 5,000 jobs, or 7% of its workforce. North America demand is down 30% below expectations, with consumers buying new appliances only if something breaks and is beyond repair. The second largest appliance manufacturer, Electrolux, is also under pressure. Other large businesses, including HP and Kodak, are facing restructuring costs arising from technological changes and obsolescence in some of its product offerings. Most recently, MF Global, a large security firm, is now facing re-structuring or bankruptcy protection after multi-billion dollar bets on European sovereign bonds went awry. Sources: WSJ, 10-31-11; 10-28-11.
Europe. The risk of recession may be rising across the European continent. Italy’s GDP has dropped the past four straight months, and France may also be having trouble sustaining a recovery. Germany is growing slightly at the moment. Source: EU PMI Survey. With governments now in the midst of budget cuts, EU economic activity dropped in October for the first time since 2009. Some companies are cutting production, reducing costs, and restructuring operations, believing that Europe is in for a lengthy decline. Source: WSJ, 10-31-11.
Meanwhile, a new restructuring was announced this week, with Greek debt to be cut by 50%; the size of the bailout fund increased; banks having to hold more capital reserves; and Greek bond reimbursement to banks reduced by 50%. However, many details on how all of this will occur are yet to be firmed up. Source: WSJ, 10-26-11. The prior plan fell apart when its many nuances failed to garner broad enough political support across 17 member nations.
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