04.23.12
Posted in Economic News at 9:01 am by Kevin C. Kaufhold
Analysts and investors continue to oscillate between over-optimism and undue pessimism. Market participants who only saw the bright side of the forecasts a few short months ago now have become increasingly concerned over data that may indicate a slowdown of growth. The truth is likely somewhere in the middle, with a slowly improving economy which contains both bursts of energy as well as periods of pause. This is typical of a recovery that has yet to find its full footing.
Domestic. Industrial production was unchanged in March while manufacturing fell slightly. Source: Federal Reserve, 4-17-2012. Capacity utilization decreased slightly, as well, and operating rates continue to trend below its long run average. The housing market has been mixed, with home building declining in March by 5.8%, but new permits increasing by 4.5%. Source: Commerce Dept. With real estate annualized sales of + 480,000 being far below the 1.5 million new home figure that has been typical for the last 50 years, the lack of construction has been a key factor in the slow pace of recovery and high unemployment levels. Source: WSJ, 4-18-2012. Previously owned home sales also fell in March by 2.6%, down to 4.348 Million annualized. Sources: Natl Assn Realtors, Bloomberg, 4-19-2012.
CPI rose 0.3% in March and 2.7% for the year. Excluding food and energy, core inflation rose 0.2%. Producer prices are unchanged in March.
Job creation has also slowed in the most recent data. Excluding agriculture, 120,000 jobs were added to the economy in March, around one-half the prior month. Private companies added 121,000 jobs in the month, while governments cut payroll by 1,000. Unemployment decreased to 8.1% from 8.2%, but the drop was attributable to fewer people seeking work, not more jobs being created. Source: Labor Dept. The latest weekly initial unemployment claims fell by only 2,000 also, adding to the belief that new job creation was slowing. The four-week average of initial claims, which is probably a better indicator of labor markets, also rose to a 2 ½ month high. Sources: Labor Dept; Reuters, 4-19-2012.
International. The IMF’s latest pronouncement is that Europe could be facing a prolonged downturn unless action is taken on containing sovereign debt. Europe is projected by the IMF to contract by 0.3% in 2012. Meanwhile Spain’s central bank believes that country is back in recession. Borrowing costs for Spain have doubled in the last month. This may reflect the simple fact that Spanish banks that have been buying governmental bonds are close to running out of surplus cash for new bond purchase. With no other financial institutions greatly desirous of government debt, yields have increased to entice other investors back into the bond markets. Source: WSJ, 4-19-2012.
Foreign investment in China feel for the fifth straight month, down 31% from the European area alone, and 6.1% form all regions. Chinese GDP growth has also dropped, down to 8.1% in the 1st quarter, and below projections of 8.3%. Dipping below 8% would likely push Beijing into a stimulus policy to avoid a hard landing there.
Main Web-site at: Kaufhold Company LLC
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04.02.12
Posted in Research Notes at 2:05 pm by Kevin C. Kaufhold
New material has been added to several portfolio management working papers. The papers are essentially a digest of several major portfolio and invetsment-related texts. They can be found at:
Portfolio Theory
Portfolio Management
Performance Evaluation
Additionally, a model curriculum for an advanced class in portfolio management is located at: Advanced Portfolio Curriculum
Main Web-site at: Kaufhold Company, LLC
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Posted in Economic News, Quarterly Reports at 11:01 am by Kevin C. Kaufhold
Most US economic numbers have now turned upward. Initial unemployment claims continue to go down, production has improved, and retails sales figures have jumped recently. The Fed is obviously pleased, so much so that there has been no serious discussion lately of another round of quantitative easing. The best guess is that 1Q GDP may come in at 2.0 to 2.5%. Leading indicators continue to improve, as well, with a dramatic increase from recession levels.
However, not everything is rosy. Consumer spending still leads personal income, while over 5 million remain unemployed in the US. The greatest drag on the economy continues to be real estate. Even though many feel a bottom has occurred in real estate markets, new home sales declined 1.6% in February and home prices declines by 3.9% in the recent S&P / Case-Shiller survey. Building permits was up from January, at least, and the rate of housing completions also increased.
On the corporate front, productivity gains have moderated, and earnings are moderating, since revenue increases are nil to small, while further cost reductions are unlikely to occur. And with oil prices surging again, some economists are concerned that sustained oil spikes may eventually stall out growth.
The European Economy. The credit crunch in Europe has eased for the interim, due to the ECB low interest rate loan policy which has effectively flooded financial markets with money, and without the stigma of a US styled TARP asset purchase. The Greek situation has also been defused for the time being, although great political unrest exists in that nation. With yields on new 10 year Greek notes at 21%, the capital markets are certainly expecting a default or the need for another bail-out. Other EU nations remain under pressure. Spain has 50% unemployment for young workers, and unemployment throughout the European Union remains at a 15 year high. Germany, France, and Italy are projected by OECD to have a negative 0.4% GDP for the first half of 2012. Overall, even with the ECB monetarization of the financial sector, Europe is just treading water at stagnant levels. Still, this is far better than the dire prospects as recently as November, 2011.
The Chinese and Pacific Economies. News in the Pacific region is not good. Japan is mired in debt problems, and it is looking increasing likely that the landing in China is going to be anything but soft. Almost all Chinese economic data is in a tailspin, from employment, to new orders, to manufacturing and real estate. Even the detail in the data is bad – car sales are down, cement production if off, and steel production has dropped dramatically. China recently experienced its largest trade deficit in ten years. This is definitely not good for the world’s second largest economy, given that China is still overly dependent upon exports and likely does not have self-sustaining internal economic processes. The GDP goal is now down to 7.5%.
Reaction of the Markets. With the domestic economy definitely in recovery mode as well as the doom and gloom EU scenarios fading, equity markets world-wide have markedly advanced in the first quarter. Almost all equity indexes registered a 10% + gain in the last three months alone, which is a very healthy figure for an entire year. The surge initially caught many market participants off guard, and their entry into the markets only furthered the gains. In fact, the 1Q 2012 results are among the best in the last 10 years. The real question now is how much further equity markets can realistically go, given the breadth of the gains.
Investing Ideas – Staying Invested. The recent and sharp increases in asset pricing highlights the fact that capital markets will often surge dramatically or plunge unexpectedly within very short time spans. By staying fully invested up to the level of risk tolerance, investors can in an automatic fashion take advantage of these huge swings. Long-term investors will even find the dramatic sell-offs to be opportunities to seek out under-valued situations.
Main Web-site at: Kaufhold Company, LLC
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03.26.12
Posted in Economic News, Investment News at 8:43 am by Kevin C. Kaufhold
On May 6, 2010, equity markets suddenly dropped 900 points without any dramatic news event occurring. High frequency trading and other trading patterns were blamed for the event. Prior news articles can be found at On the Structure of Capital Markets and The May 6, 2010 Market Plunge.
A smaller version of the same phenomenon occurred on March 23, 2012. Exchange operator BATS Global Markets, Inc, issued its own IPO on that day. From an initial price of $16 per share, 176 trades then occurred on the stock sending the pricing down to under one penny per share. The trades took only 900 milliseconds to execute. Trading in Apple was temporarily suspended when a few trades of that stock went through the BATS exchange around the same moment as the BATS IPO activity. Within a short time, BATS withdrew its IPO and cancelled trades which already had occurred. The withdrawal was most embarrassing for the company, since the listing was designed as the first IPO on its own electronic exchange. BATS blamed the debacle on a software glitch that rendered opening stock orders inaccessible.
Founded in 2005, the BATS exchange has 11 percent of U.S. equity market volume and is now the third-largest platform in the U.S., after the NYSE and NASDAQ. In addition to the trading problem, BATS is also contending with an on-going investigation by the SEC into its role in various high-frequency trades. Confidence in the exchange is likely to suffer in the wake of the day’s trading problems. The episode is already being likened to an airplane on a maiden flight of a new airline crashing on take-off.
Some observers see the BATS event as another indication that high-speed electronic trading has made capital auction markets vulnerable to instabilities. SEC regulators are openly concerned that rapid electronic trading and increasingly automatic markets are making the process unstable and perhaps unfair in trading and pricing execution.
Sources: Reuters, Bloomberg, 3-23-2012.
Main Web-site at: Kaufhold Company, LLC
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03.22.12
Posted in Investment News at 12:57 pm by Kevin C. Kaufhold
With so much of the investing world focused on short-term gyrations in the capital markets, investors often have no place to go for their long-term investments. Even many mutual funds who suggest that investors not trade often will frequently themselves have very high turnover rates.
A model portfolio has therefore been developed by Kaufhold Company, LLC, that is designed for longer time horizons. Dubbed the Long-Term Equity Portfolio, selection of equities are limited to those businesses possessing superior quality characteristics, strong financial strength, and significant balance sheets. Dominant market positions and “moat” like firm characteristics are emphasized in asset selection.
Low turnover and tax impacts are stated objectives of the portfolio, with a 5 year + time horizon on all portfolio assets. Reasonable pricing volatility levels are also desired.
Reasonable to attractive valuation levels are necessary for any equity to be made part of the portfolio, and margin of safety concepts apply to the selection of assets, as well. The ultimate goal or the model portfolio is out-performance on a long-term basis.
The goals and objectives of the Long-Term Equity Portfolio can be found on the main web-site under “Model LT Portfolio“.
Main Web-site at: Kaufhold Company, LLC
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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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