The US economy may be in something resembling a business cycle recovery, but the recovery remains both feeble and highly vulnerable. That is apparent from the recent mix of data, including details of the just-released November employment report.
November nonfarm payrolls rose a disappointing 39,000 seasonally-adjusted, versus an aberrant outsized 172,000 revised October rise and a 24,000 September decline. The 39,000 November 2010 rise is even weak compared to the 64,000 seasonally-adjusted nonfarm payroll rise in November 2009. Without a 13,000 decline Government employment this November, total private employment was up 50,000. But even this rise was largely due to a 40,000 increase in temporary employment.
Even more disturbing was the jump in the November unemployment rate to 9.8%, from 9.6% in October and just under the 10.0% a year ago. Moreover, the November rise in the unemployment rate was due primarily to a 183,000 plunge in Household survey employment,and only a relatively slight 46,000 increase in the labor force. The Household survey, from which the unemployment rate is derived, is calculated separately from the nonfarm payroll survey and at economic turning points(as now)is widely considered to be a more reliable indicator of employment than the payroll survey. More worrisome, is the realistic prospect that as the sluggish economic recovery persists the unemployment rate will yet soar above 10.0%. That will occur as discouraged workers, who are no longer counted in the labor force, flock back to the labor force in hopes of finding work again. In November, the number of former workers counted as discouraged, because they have given up looking for work, rose an additional 63,000. As a consequence, the U-6 unemployment rate, which includes both discouraged workers and those only employed part-time because they could not find full-time employment, remains at 17.0%, just under its peak and 17.2% level just a year earlier.
Other data connected with the November employment report is equally disappointing. For example, total private average hours worked dipped to 33.5 in November from 33.6 in October and is unchanged from September. This series is often used to forecast real GDP growth. Accordingly, this report indicates only modest fourth quarter real GDP growth, far from the robust growth strength typical in economic recoveries. This suggests that even if the economic recovery persists, which is not a foregone conclusion, it will take many years to return to anything remotely approaching full employment.
When the various forms of economic stimulus expire or, even before, as the various pending sources of economic weakness impact the economy, the recovery could slip so far as to be erased. What are these pending sources of economic weaknesss? As the inventory rebuilding runs out of steam, there is likely to be insufficient demand from other sources to take up the slack.
With huge excess productive capacity there is little justification for an upsurge in US capital investment. The strength of the Chinese economy and other emerging economies cannot sustain the global expansion without parallel strength in the advanced industrial world.
State and local governments will be required to both raise taxes and cut expenditures this year to deal with their ballooning deficits. Major banks will be confronted with an effort to saddle them with the losses on subprime and other distressed mortgage-backed bonds they sold investors. A new wave of mortgage foreclosures is coming that will further depress home prices. And the risk of further contagion of the European credit crisis must be recognized.
Perhaps former Fed Chairman Paul Volcker put it best when he recently said that this country is "in the most difficult economic circumstances of the post-World War period and so is the almost all of the developed world."
What does all this imply for the outlook for the economy, inflation and investments? The prospect of a sluggish pace of economic growth implies continued subdued inflation and at least the threat of deflation. The close relationship of inflation fears and bond yields suggests the recent runup of Treasury bond yields to 3.0% is already overdone. However, pessimists on inflation expect the yield rise to persist. Even Mark Faber, with a well deserved reputation for accurate forecasts, expects inflation, commodity prices and bond yields to soar as early as next year. But,it is premature to expect inflation to escalate next year with grossly excessive unemployment and unused productive capacity, even with the strong demand for commodities from China and other rapidly growing emerging economies. Pricing power is still lacking. If I am wrong on inflation or investors choose caution, the emphasis should be on shorter term bonds. But, if I am correct, that emphasis is less critical. Nevertheless, a slow economy can create risks for some bonds credit worthiness, which would threaten declines in prices of affected bonds. Municipal bonds dependent on strong streams of revenue (such as power and water authorities)are likely to be continue to be preferred over weaker revenue sources and general obligations. Renewed concerns over financial institution bonds are also likely to prove a market negative. Until the equity market declines by 4.0% in a single week, its outlook should be seen as positive. Nevertheless, the rapid rise from the equity market lows and the prospect of slow economic growth and likely weaker earnings performance raise questions over the long-term sustainability of the stock market rally. The same set of concerns raises questions over the intermediate outlook for gold prices.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport New York, 11731
This and earlier reports can be accessed at philipbraverman@blogspot.com
I can be reached at philipbraverman@Gmail.com
Saturday, December 4, 2010
Saturday, November 6, 2010
The economic recovery remains vulnerable
There is so much wrong-headed thinking being bandied about, that there were seemingly endless alternative titles for this piece that came to mind. I will mention just a few as a synopsis of my current thinking.
Press reports of October employment are more fiction than fact.
The October BLS employment report reveals far more weakness than strength.
Markets are misguided in believing there will be a step-up in inflation any time soon.
Deflation remains a very real threat despite the Fed's planned buying of Treasuries.
Treasury yields are destined to decline.
The financial press trumpeted the 151,000 seasonally-adjusted increase in October nonfarm payroll employment as if this were proof positive that the economy is finally on track to not only a sustainable recovery, but to a significant growth in employment. Unfortunately, changes in the seasonal adjustment and other details are resposible for most of the seeming improvement in nonfarm payrolls in October and recent prior months. There is almost always a sizable rise in employment at this time of year, much of it temporary. In recent years the actual, not seasonally-adjusted, October rise was smaller than the seasonal adjustment expected, producing disappointing increases or declines in the seasonally-adjusted payroll data. Last year, for example, an 870,000 actual rise in October nonfarm payrolls was expected. Because the actual rise fell short it produced a seasonally-adjusted nonfarm payrolls October 2009 decline of 224,000. In an effort to avoid undercounting this year, the threshold for an October 2010 rise was reduced to 768,000, a cut of 102,000, boosting the seasonally adjusted October nonfarm payrolls by the same amount. But did they finally get it right? No.
Monthly nonfarm payrolls are also boosted by a fictional assumption that new small businesses that are not sampled, and for which there are no reliable data, hired additional workers. Excluding just these two variables, the entire October increase in nonfarm payrolls would disappear.
An even more convincing indicator of continuing employment weakness is provided by the Household survey, a particularly dependable indicator of employment in recoveries. In October Household survey employment plunged a startling 330,000. This huge decline calls the validity of the October rise in the nonfarm payroll survey as a correct indicator of employment into serious question.
There was also a 254,000 October decline in the Household survey labor force, as more unemployed workers became discouraged and left the labor force. Largely as a consequence,the unemployment rate remained unchanged at 9.6% in October rather than rising.
The Bureau of Labor Statistics Household survey is a far more reliable indicator of employment increases at the current stage of the business cycle because it is more attuned to small firms hiring, where much of the early cyclical job recovery occurs. In contrast, the payroll survey is limited to medium and large firms.
A still better measure of the true employment situation is the broader unemployment rate that includes those only marginally attached to the labor force, also called U-6. This unemployment rates includes the large number of discouraged workers who have given up looking for work and those temporarily employed part-time workers who were unable to find full time employment. This unemployment rate was 17.0% seasonally adjusted in October, down only marginally from 17.1% in September.
The various measures of the economy that provide evidence of recovery are benefiting from some temporary sources of strength that will soon be dissipating. This includes a rebuilding of inventories, which may have already (or soon will be) increased to excessive levels. That will remove roughly half of recent economic growth.Among new sources of economic weaknesss is a coming wave of foreclosures that will further depress housing prices, consumer confidence and spending. Many banks and other originators of packaged and securitized mortgages may soon be required to recognize losses on previously sold issues. State and local governments are likely to be further scaling back their spending and laying off workers as they respond to legaly mandated requirements to cut their fiscal deficits. And unless offset by new initiatives, Federal taxes will be rising. At best these trends will keep real GDP growth at a minimal rate next year of 2% or less.
The widespread concern that the Fed purchase of Treasuries will lead to an acceleration of inflation is misplaced. There are many ways to arrive at the exact same conclusion. The huge excess capacity to produce goods and services will prevent producers from exercising pricing power and disproportionately raising prices. The current 74.7% industrial capacity utilization rate is far from the 85%-87% area where bottle-neck pricing pressures typically even begin to emerge. The recent sharp trend decline in money volicity more than offsets the rise in the money supply. Even more significant, credit, a key determinant of economic activity and price pressures, is not expanding. The deleveraging of the credit expansion leading up to to the housing bubble still has further to run. Taken together these various appoaches to forecasting inflation point to at least a continuation of the recent 1% increase in consumer prices or (more likely) a further deceleration in consumer price inflation to or even below zero next and year and probably beyond.
Though the Treasury 10-year yield is already at a relatively low 2.53% (and it is likely rise with this week's Treasury borrowings), a further eventual decline to or close to 2.0% is likely. I recognize that such a forecast is difficult for most readers to accept, especially given all the press coverage of rising inflation projections and pronouncements that US Treasury prices are in a bubble. However, with a zero inflation rate increasingly likely, even a 2.0% ten-year US Treasury yield would still be high relative to the lows in Japanese yields and real US Treasury yields.
For the time being the outlook for equity prices appears bright. After the rapid rise in equity prices from their cyclical lows, especially in recent months, a price pull-back is probably long overdue. However, when the rise in the Value Line arithmetic index exceeds 4.0%, as it did last week, with a 4.1% increase, it has proven to be a relatively reliable advance indicator of further increases in the S&P 500 and other broad equity market indices. Indeed, past experience suggests that a long postion in the S%P 500 should be maintained until the Value Line index experiences a 4.0% decline,at which point the long position should be sold and a short position established. Though there have been exceptions, this investing approach has been sucessful over time. For more information on this relationship see The 4% Indicator Revisited by Michael J. Collins in the 2010 Annual of Technical Analysis of Stocks and Commodities.
This and prior reports can be accessed at philipbraverman.blogspot.com
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
I can be reached at philipbraverman@Gmail.com
Press reports of October employment are more fiction than fact.
The October BLS employment report reveals far more weakness than strength.
Markets are misguided in believing there will be a step-up in inflation any time soon.
Deflation remains a very real threat despite the Fed's planned buying of Treasuries.
Treasury yields are destined to decline.
The financial press trumpeted the 151,000 seasonally-adjusted increase in October nonfarm payroll employment as if this were proof positive that the economy is finally on track to not only a sustainable recovery, but to a significant growth in employment. Unfortunately, changes in the seasonal adjustment and other details are resposible for most of the seeming improvement in nonfarm payrolls in October and recent prior months. There is almost always a sizable rise in employment at this time of year, much of it temporary. In recent years the actual, not seasonally-adjusted, October rise was smaller than the seasonal adjustment expected, producing disappointing increases or declines in the seasonally-adjusted payroll data. Last year, for example, an 870,000 actual rise in October nonfarm payrolls was expected. Because the actual rise fell short it produced a seasonally-adjusted nonfarm payrolls October 2009 decline of 224,000. In an effort to avoid undercounting this year, the threshold for an October 2010 rise was reduced to 768,000, a cut of 102,000, boosting the seasonally adjusted October nonfarm payrolls by the same amount. But did they finally get it right? No.
Monthly nonfarm payrolls are also boosted by a fictional assumption that new small businesses that are not sampled, and for which there are no reliable data, hired additional workers. Excluding just these two variables, the entire October increase in nonfarm payrolls would disappear.
An even more convincing indicator of continuing employment weakness is provided by the Household survey, a particularly dependable indicator of employment in recoveries. In October Household survey employment plunged a startling 330,000. This huge decline calls the validity of the October rise in the nonfarm payroll survey as a correct indicator of employment into serious question.
There was also a 254,000 October decline in the Household survey labor force, as more unemployed workers became discouraged and left the labor force. Largely as a consequence,the unemployment rate remained unchanged at 9.6% in October rather than rising.
The Bureau of Labor Statistics Household survey is a far more reliable indicator of employment increases at the current stage of the business cycle because it is more attuned to small firms hiring, where much of the early cyclical job recovery occurs. In contrast, the payroll survey is limited to medium and large firms.
A still better measure of the true employment situation is the broader unemployment rate that includes those only marginally attached to the labor force, also called U-6. This unemployment rates includes the large number of discouraged workers who have given up looking for work and those temporarily employed part-time workers who were unable to find full time employment. This unemployment rate was 17.0% seasonally adjusted in October, down only marginally from 17.1% in September.
The various measures of the economy that provide evidence of recovery are benefiting from some temporary sources of strength that will soon be dissipating. This includes a rebuilding of inventories, which may have already (or soon will be) increased to excessive levels. That will remove roughly half of recent economic growth.Among new sources of economic weaknesss is a coming wave of foreclosures that will further depress housing prices, consumer confidence and spending. Many banks and other originators of packaged and securitized mortgages may soon be required to recognize losses on previously sold issues. State and local governments are likely to be further scaling back their spending and laying off workers as they respond to legaly mandated requirements to cut their fiscal deficits. And unless offset by new initiatives, Federal taxes will be rising. At best these trends will keep real GDP growth at a minimal rate next year of 2% or less.
The widespread concern that the Fed purchase of Treasuries will lead to an acceleration of inflation is misplaced. There are many ways to arrive at the exact same conclusion. The huge excess capacity to produce goods and services will prevent producers from exercising pricing power and disproportionately raising prices. The current 74.7% industrial capacity utilization rate is far from the 85%-87% area where bottle-neck pricing pressures typically even begin to emerge. The recent sharp trend decline in money volicity more than offsets the rise in the money supply. Even more significant, credit, a key determinant of economic activity and price pressures, is not expanding. The deleveraging of the credit expansion leading up to to the housing bubble still has further to run. Taken together these various appoaches to forecasting inflation point to at least a continuation of the recent 1% increase in consumer prices or (more likely) a further deceleration in consumer price inflation to or even below zero next and year and probably beyond.
Though the Treasury 10-year yield is already at a relatively low 2.53% (and it is likely rise with this week's Treasury borrowings), a further eventual decline to or close to 2.0% is likely. I recognize that such a forecast is difficult for most readers to accept, especially given all the press coverage of rising inflation projections and pronouncements that US Treasury prices are in a bubble. However, with a zero inflation rate increasingly likely, even a 2.0% ten-year US Treasury yield would still be high relative to the lows in Japanese yields and real US Treasury yields.
For the time being the outlook for equity prices appears bright. After the rapid rise in equity prices from their cyclical lows, especially in recent months, a price pull-back is probably long overdue. However, when the rise in the Value Line arithmetic index exceeds 4.0%, as it did last week, with a 4.1% increase, it has proven to be a relatively reliable advance indicator of further increases in the S&P 500 and other broad equity market indices. Indeed, past experience suggests that a long postion in the S%P 500 should be maintained until the Value Line index experiences a 4.0% decline,at which point the long position should be sold and a short position established. Though there have been exceptions, this investing approach has been sucessful over time. For more information on this relationship see The 4% Indicator Revisited by Michael J. Collins in the 2010 Annual of Technical Analysis of Stocks and Commodities.
This and prior reports can be accessed at philipbraverman.blogspot.com
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
I can be reached at philipbraverman@Gmail.com
Saturday, June 26, 2010
Much lower Treasury yields and stock prices will follow the double dip threat
The outlook is for a further sharp decline in Treasury yields and stock prices. But that is far from the consensus forecast.
Despite the recent declines in both US Treasury yields and equity prices, the majority of forcasters are still calling for significantly higher Treasury yields and equity prices. That disparity in viewpoint in large part reflects the difference in what forecasters are focusing on. The optimists expecting yields and stock prices to rise are emphasizing the economic recovery and an array of other seemingly positive yield and equity price boosting forces. These include the presumed inflationary huge Federal budget deficit, the Fed's extended stimulative monetary policy, the potential for higher oil and sea food prices due to the Gulf oil spill, and the already extraordinarily low level of interest rates. Also, seemingly persausive to many analysts is the rise in corporate profits and projections of still higher levels of profits next year. That will lower price-earnings levels to below historic averages, which to many seems a fool-proof assurance of higher equity prices. Given these and other wide ranging considerations that seemingly support their view, it is difficult for many analysts to recognize that instead it is far more likely that Treasury yields and stock prices will decline. Lets explore some of the contrary reasons that to this observer seem far more compelling that economic weakness and a deflation threat will force yields and equity prices down to significanly lower levels.
The financial meltdown was a reflection of a huge overleveraging and debt explosion accross virually every sector of the US and global economy. The economic contraction and deleveraging that followed was arrested and reversed only temporarily by a huge stimulus, Federal bailout and change in accounting practices that delayed the day of reckoning. The losses involved have not been fully recognized or written down against capital. Now the effects of the economic stimulus are beginning to run their course. That is already evident in housing. The result is a pronounced double dip in the housing sector that is already evident and likely to persist. Employment was appreciably boosted by census employment which will disappear in the next employment report. There will be an increasing recognition that the unemployment rate will remain high for years to come. That will, in turn, constrain consumer spending. But, that view runs counter to the reality that the consumer sector has been more resilient than a persistantly high unemployment rate would warrant. Unfortunately, the partial explanation is that far too many home owners with an outstanding mortgage balance that exceeds the market value of their home have decided not too make their mortgage payments. That has allowed them to maintain their life style. But that source of consumer spending will not persist as a new wave of foreclosures forces consumer spending retrenchment and new downward pressure in home prices in affected areas.
The adverse consequences of the Gulf oil spill and moritorium on deep water drilling is an additional negative for the US economy. The new financial regulation legislation, though less onerous than feared, will still crimp financial earnings and already contrained lending.
State and local governments are running huge deficits and will be forced by law to cut spending and/or raise taxes, which will appreciably curtail economic growth.and their credit worthiness.
The global economic recovery is bound to slow with the eroding pace of US GDP growth, constaints on European credit and economic growth stemming from the fiscal austerity imposed in response to the European credit crisis and China's efforts to puncture both its housing bubble and inflated growth pace. That combination, and the stronger dollar, will slow US export demand and with it, US growth.
The Federal credit expansion is not inflationary because it is only offsetting a contraction of private and other public credit. Banks are still reluctant to lend.But there is likely to be a new contraction of credit in the wake of the credit crisis abroad and state and local finance problems.
These and other economic and credit market contraints will keep inflation surpressed and deflation fears alive. That will maintain the 10-year Treasury yield downtrend to well below 3.0% later this year and next from the 3.11% on Friday. A 2.5% or lower 10-year yield is even possible later this year and quite likely next year. That will drive the yields on the best corporate and municipal credits comensurately lower as well. However, the quality yield spread on lesser credits will likely rise significantly, reflecting the renewed increase in both default risk and realty.
A downtrend in equity prices is also in place and is likely to be extended amidst disappointment with corporate earnings and economic prospects. The equity market will remain in a secular downtrend. What we have experienced since March last year has has been nothing more than a bear market rally. Just because the current price-earnings ratio is slightly below the long run average of 15 offers no protection against a further sharp decline in equity prices. Indeed, there has been a long-term cylical pattern of the price-earnings ratio. Historically, after the price-earnings ratio has topped out at or above 20-plus, as it has with a vengence at its most recent high, the ratio has then usually trended down over years to well into the single digits. That pattern is likely to be repeated. In that case, it goes without saying that investers will be far safer to be short than long.
Philip Braverman, President
Braverman Financial and Economic Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to Internet explorer and typing inthe following: philipbraverman.blogspot.com
I can be reached at philipbraverman@gmail.com
Despite the recent declines in both US Treasury yields and equity prices, the majority of forcasters are still calling for significantly higher Treasury yields and equity prices. That disparity in viewpoint in large part reflects the difference in what forecasters are focusing on. The optimists expecting yields and stock prices to rise are emphasizing the economic recovery and an array of other seemingly positive yield and equity price boosting forces. These include the presumed inflationary huge Federal budget deficit, the Fed's extended stimulative monetary policy, the potential for higher oil and sea food prices due to the Gulf oil spill, and the already extraordinarily low level of interest rates. Also, seemingly persausive to many analysts is the rise in corporate profits and projections of still higher levels of profits next year. That will lower price-earnings levels to below historic averages, which to many seems a fool-proof assurance of higher equity prices. Given these and other wide ranging considerations that seemingly support their view, it is difficult for many analysts to recognize that instead it is far more likely that Treasury yields and stock prices will decline. Lets explore some of the contrary reasons that to this observer seem far more compelling that economic weakness and a deflation threat will force yields and equity prices down to significanly lower levels.
The financial meltdown was a reflection of a huge overleveraging and debt explosion accross virually every sector of the US and global economy. The economic contraction and deleveraging that followed was arrested and reversed only temporarily by a huge stimulus, Federal bailout and change in accounting practices that delayed the day of reckoning. The losses involved have not been fully recognized or written down against capital. Now the effects of the economic stimulus are beginning to run their course. That is already evident in housing. The result is a pronounced double dip in the housing sector that is already evident and likely to persist. Employment was appreciably boosted by census employment which will disappear in the next employment report. There will be an increasing recognition that the unemployment rate will remain high for years to come. That will, in turn, constrain consumer spending. But, that view runs counter to the reality that the consumer sector has been more resilient than a persistantly high unemployment rate would warrant. Unfortunately, the partial explanation is that far too many home owners with an outstanding mortgage balance that exceeds the market value of their home have decided not too make their mortgage payments. That has allowed them to maintain their life style. But that source of consumer spending will not persist as a new wave of foreclosures forces consumer spending retrenchment and new downward pressure in home prices in affected areas.
The adverse consequences of the Gulf oil spill and moritorium on deep water drilling is an additional negative for the US economy. The new financial regulation legislation, though less onerous than feared, will still crimp financial earnings and already contrained lending.
State and local governments are running huge deficits and will be forced by law to cut spending and/or raise taxes, which will appreciably curtail economic growth.and their credit worthiness.
The global economic recovery is bound to slow with the eroding pace of US GDP growth, constaints on European credit and economic growth stemming from the fiscal austerity imposed in response to the European credit crisis and China's efforts to puncture both its housing bubble and inflated growth pace. That combination, and the stronger dollar, will slow US export demand and with it, US growth.
The Federal credit expansion is not inflationary because it is only offsetting a contraction of private and other public credit. Banks are still reluctant to lend.But there is likely to be a new contraction of credit in the wake of the credit crisis abroad and state and local finance problems.
These and other economic and credit market contraints will keep inflation surpressed and deflation fears alive. That will maintain the 10-year Treasury yield downtrend to well below 3.0% later this year and next from the 3.11% on Friday. A 2.5% or lower 10-year yield is even possible later this year and quite likely next year. That will drive the yields on the best corporate and municipal credits comensurately lower as well. However, the quality yield spread on lesser credits will likely rise significantly, reflecting the renewed increase in both default risk and realty.
A downtrend in equity prices is also in place and is likely to be extended amidst disappointment with corporate earnings and economic prospects. The equity market will remain in a secular downtrend. What we have experienced since March last year has has been nothing more than a bear market rally. Just because the current price-earnings ratio is slightly below the long run average of 15 offers no protection against a further sharp decline in equity prices. Indeed, there has been a long-term cylical pattern of the price-earnings ratio. Historically, after the price-earnings ratio has topped out at or above 20-plus, as it has with a vengence at its most recent high, the ratio has then usually trended down over years to well into the single digits. That pattern is likely to be repeated. In that case, it goes without saying that investers will be far safer to be short than long.
Philip Braverman, President
Braverman Financial and Economic Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to Internet explorer and typing inthe following: philipbraverman.blogspot.com
I can be reached at philipbraverman@gmail.com
Sunday, May 23, 2010
New declines in equities, commodities and yields are foreshadowed
Despite Friday's relief rally in both equities and some commodities, the outlook for these markets has turned decidedly bearish. At the same time, the outlook is for still lower US Treasury yields, despite the significant decline over the past month. That combination of prospects should come as no surprise to readers of this blog and to those aware of recent economic, financial and technical events. Added to these developments are ever more apparent and widespread uncertainties, including the European credit crisis, bearish views on China's growth rate, the consequences of new financial regulations and the inevitable renewed downtrend in the Euro.
While the US economy remains in recovery, even without taking the latest devlopments into consideration, the vigor of that recovery has been disappointing. It has been far from the V shape that many had hoped for. At best, that points to sluggish economic growth that will keep unemployment high for years to come, preventing any meaningful consumer led recovery and capping inflation fears.
But now new adverse developments, which had been only threats on the far horizon, have become either realities or imminent dangers. To start with, the vitality of the US recovery is faltering. Housing's rebound is fading (to be expected after the end of the homebuyer tax stimulus), the index of leading indicators has dipped, and consumer confidence has given ground. Commercial real estate is still in a slide as those who made purchases at inflated prices in recent years are having pronounced difficulty in meeting their mortgage payments amidst declining rents and rising vacancies. Bank sales of foreclosed commercial properties have met a spate of foreign buying at unsustainably high prices that will likely soon wane as it becomes clear that inflation is far from imminent. A new spurt in residential mortgage foreclosures is likely to place renewed downward pressure on home prices. Far too many homeowners are simply walking away from their mortgages when they realize that their home's market value is well under the amount they owe on their mortgage. That array of fundamentals and prospects suggest more sluggish economic growth in the second half this year and 2011. That by itself raises serious questions over the pace of demand for goods and services, business pricing power, profits and earnings performance. Unfortunately the litany of bad news is has much further run.
Much of the projected favorable performance of the US economy and US companies was dependant on US exports to a burgeoning global economy. But, that major prop under favorable US economic expectations is now in serious jeopordy. Slower economic growth in Europe is the almost certain outgrowth of the crisis of confidence in the Euro and the bailout of Greece and growing concerns over the sovereign debt and banking system of the other nations threatened by a run among the so called "PIIGS". In addition to Greece, the threatened countries that have most lived beyond their financial means include Portugal,Italy,Ireland and Spain. The near $1 trillion bailout package threatens all of Europe, putting it into an era of pronounced fiscal restaint. Even with the weaker Euro, and the prospect of a still weaker Euro to come, which tends to make European products more competitive, European trade will be significantly dampened by investor uncertainty and lending restraint.
Even further afield, there are justified and growing concerns that China's concerted efforts to slow its economic growth, and especially its housing sector, will slow not only its growth rate but that of the global economy. Already there are legitimate concerns that residential real estate prices in the major cities in China will plunge 30% to 40% or more from inflated levels. That will further depress real estate developer stock prices. The adverse impact of such developments will constrain Chinese consumer and investor confidence, spending and investment. Perhaps even more significant is an increasing willing of global investors to short specific Chinese stocks. That willingnes to short Chinese stocks stems from a strong suspicion of fraudulent earnings reports based on a wide disparity between reports of good earnings to the SEC and in some instances a lack of earnings to Chinese authorities. Keeping a double set of bookkeeping accounts, one for domestic and one for foreign consumption, is apparently a common practice in China. But its complete significance is unclear. Nevertheless, it makes confident reliance on the growth and earnings reports of suspect Chinese firms virtually impossible.
As if all of the forgoing were not a sufficient justifcation for caution, a number of advance technical indications of equity market prospects are flashing sell signals, portending far deeper declines to come. The decline in a key stock index, made up of Goldman Sachs, Morgan Stanley, Monsanto, Mosiac and Freeport McMoRan Copper and Gold, alredy points to a further 100 point decline in the S&P 500 according John Roque of WJB Capital Group, who created the leading index. Other indicators are also bearish. Crude oil prices are down sharply. Though, that in large part reflects the rise in the dollar, it is also seen as a precurser of weak demand and lower equity prices. Whenever equity prices decline by 4% or more in a single week, as it did last week, especially across the spectrum of various stock indices, it is seen as a signal to not only sell out of long positions, but to establish comparble short positions. To many this is likely to seem a further confirmation of the long standing adage to sell in May and go away and not to buy again until October.
Taken together, these strands in the economic and financial envirionment point to not only low inflation, but to at least a renewed threat of deflation, as well as persistant Federal Reserve accomodation through this year and quite likely 2011 as well. That combination, in turn, indicates a further decline in Treasury bond yields,despite their already significant retreat in recent weeks. For example, the Treasury 10-year note yield,already down to 3.24%, will again break well below 3.00%.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to Internet Explorer and typing in the following: philipbraverman.blogspot.com
I can be reached at philipbraverman@Gmail.com
While the US economy remains in recovery, even without taking the latest devlopments into consideration, the vigor of that recovery has been disappointing. It has been far from the V shape that many had hoped for. At best, that points to sluggish economic growth that will keep unemployment high for years to come, preventing any meaningful consumer led recovery and capping inflation fears.
But now new adverse developments, which had been only threats on the far horizon, have become either realities or imminent dangers. To start with, the vitality of the US recovery is faltering. Housing's rebound is fading (to be expected after the end of the homebuyer tax stimulus), the index of leading indicators has dipped, and consumer confidence has given ground. Commercial real estate is still in a slide as those who made purchases at inflated prices in recent years are having pronounced difficulty in meeting their mortgage payments amidst declining rents and rising vacancies. Bank sales of foreclosed commercial properties have met a spate of foreign buying at unsustainably high prices that will likely soon wane as it becomes clear that inflation is far from imminent. A new spurt in residential mortgage foreclosures is likely to place renewed downward pressure on home prices. Far too many homeowners are simply walking away from their mortgages when they realize that their home's market value is well under the amount they owe on their mortgage. That array of fundamentals and prospects suggest more sluggish economic growth in the second half this year and 2011. That by itself raises serious questions over the pace of demand for goods and services, business pricing power, profits and earnings performance. Unfortunately the litany of bad news is has much further run.
Much of the projected favorable performance of the US economy and US companies was dependant on US exports to a burgeoning global economy. But, that major prop under favorable US economic expectations is now in serious jeopordy. Slower economic growth in Europe is the almost certain outgrowth of the crisis of confidence in the Euro and the bailout of Greece and growing concerns over the sovereign debt and banking system of the other nations threatened by a run among the so called "PIIGS". In addition to Greece, the threatened countries that have most lived beyond their financial means include Portugal,Italy,Ireland and Spain. The near $1 trillion bailout package threatens all of Europe, putting it into an era of pronounced fiscal restaint. Even with the weaker Euro, and the prospect of a still weaker Euro to come, which tends to make European products more competitive, European trade will be significantly dampened by investor uncertainty and lending restraint.
Even further afield, there are justified and growing concerns that China's concerted efforts to slow its economic growth, and especially its housing sector, will slow not only its growth rate but that of the global economy. Already there are legitimate concerns that residential real estate prices in the major cities in China will plunge 30% to 40% or more from inflated levels. That will further depress real estate developer stock prices. The adverse impact of such developments will constrain Chinese consumer and investor confidence, spending and investment. Perhaps even more significant is an increasing willing of global investors to short specific Chinese stocks. That willingnes to short Chinese stocks stems from a strong suspicion of fraudulent earnings reports based on a wide disparity between reports of good earnings to the SEC and in some instances a lack of earnings to Chinese authorities. Keeping a double set of bookkeeping accounts, one for domestic and one for foreign consumption, is apparently a common practice in China. But its complete significance is unclear. Nevertheless, it makes confident reliance on the growth and earnings reports of suspect Chinese firms virtually impossible.
As if all of the forgoing were not a sufficient justifcation for caution, a number of advance technical indications of equity market prospects are flashing sell signals, portending far deeper declines to come. The decline in a key stock index, made up of Goldman Sachs, Morgan Stanley, Monsanto, Mosiac and Freeport McMoRan Copper and Gold, alredy points to a further 100 point decline in the S&P 500 according John Roque of WJB Capital Group, who created the leading index. Other indicators are also bearish. Crude oil prices are down sharply. Though, that in large part reflects the rise in the dollar, it is also seen as a precurser of weak demand and lower equity prices. Whenever equity prices decline by 4% or more in a single week, as it did last week, especially across the spectrum of various stock indices, it is seen as a signal to not only sell out of long positions, but to establish comparble short positions. To many this is likely to seem a further confirmation of the long standing adage to sell in May and go away and not to buy again until October.
Taken together, these strands in the economic and financial envirionment point to not only low inflation, but to at least a renewed threat of deflation, as well as persistant Federal Reserve accomodation through this year and quite likely 2011 as well. That combination, in turn, indicates a further decline in Treasury bond yields,despite their already significant retreat in recent weeks. For example, the Treasury 10-year note yield,already down to 3.24%, will again break well below 3.00%.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to Internet Explorer and typing in the following: philipbraverman.blogspot.com
I can be reached at philipbraverman@Gmail.com
Saturday, April 17, 2010
The blame game will reinforce sluggish economic growth and deflation risk
The SEC fraud charges against Goldman Sachs appear to be part of a politically motivated anti-Wall Street and anti-capitalist Administration attack. The specifics of this particular case appear to favor Goldman rather than the SEC. The seeming objective is to shift voter anger away from Washington and to reinforce the effort to enact punitive and restrictive anti-financial institution legislation. This is an all too typical post-crisis legislative response. After every crisis some legislative remedy is enacted to which Washington can point as forestalling a repetition of the event, whether there is any merit to the claim or not. Unfortunately, as in the past, many will be taken in. And worse, it will do damage to the economy and deflect attention from the real causes of the the financial meltdown and ensuing economic distress.
It is difficult to cite a participant or sector that is not at least partly responsible for the our financial fiasco. That includes the political, regulatory, financial, and consumer sectors.
Congress went on a deregulatory binge. But, more important than that,they encouraged efforts to increase home ownership at the expense of prudent lending. They approved an expansion of mortgage lending to marginal or financially challanged borrowers (to put it charitably),and a vast enlargement of subsidized Fannie Mae and Freddie Mac. Borrowers with a downpayment of 5% or even less and with inadequate income were encouraged to buy homes. It must be recognized that Congresses' main priority is to be reelected using promises of how taxpayer money will be spent to achieve that objective. Spending far beyond our country's means and running huge Federal budget deficits is no barrier if that is what it take to be reelected. Knowing that, Congress created the Federal Reserve and other regulatory authorities to exercise politically unpopular restraint at the appropriate time and take the political heat for that unpopular move in place of Congress and the President. One Fed Chairman aptly described the Fed's job as taking the punchbowl away as soon as the party got going.
Unfortunately,the principal regulatory authorities did not take the punchbowl away. They actually spiked the punch with ever more hard liquor. At the very least, it is clear that they were asleep at the switch as financial institutions took on excessive risk with leveraged funds. Worse, lenders were allowed to sell imprudent loans with no further financial liability. These financial engineering innovations eroded the basic home mortgage lending practices that had effectively kept home mortgage lending safe as well as correcting the short-term mortgage lending problems that contributed to widespread real estate distrees in the Great Depression of the 1930s. Thirty-year fixed-rate self-amortized mortgages for 80% or less of conservative market value appraisals to borrowers with mortgage payments of 25% of income had become a mainstay of home-mortgage lending. That template of conforming mortgage loans gave way to to all sorts of abominations, from loans of up to 125% of excessively appraised value, to borrowers with no income, for terms of a few years at variable rates. It is no wonder that such mortgages, approved or encouraged by housing authorities, regulators, Congress and the Federal government, were the first to get into trouble. The ensuing home-asset bubble, as with other asset bubbles, was left by the Fed and other authorities to balloon with little or no effort at appropriate retraint. Fed Chairman Greenspan appeared to believe that the financial system and economy was self-correcting. That is exactly the wrong belief for a regulator.
The basic tenant of good lending is to know your borrower. That principle also was forgotten. Dubious mortgages were packaged into pools and sold as bonds with triple A ratings. Where is the resposibility and culpability of the rating agencies for mislabling "liars" mortgage loans as AAA bonds. Those often worthless bonds were sold to pension funds around the globle without recourse to the original lenders, appraisers, packagers, rating agencies, regulators, etc. Why was that allowed? It is not enough to say that few if any knew that home prices could decline.
There is enough blame to go around. That includes the current Administration, that made the solutions to the problem of the previous Admistration their own.
Where is the massive effort to keep homeowners in their homes? The efforts in that direction has so far proven feeble and inadequate at best.When the FDIC was first chatered thre was a moritorium on foreclosures for owner occupied homes. That should the minimum first step. If there were jobs there would be an increase in the demand for homes and an end to the price declines. TAX INCREASES WILL REDUCE JOBS, NOT HELP CREATE THEM.
It is a mistake to assume that the economy is now so safely on the road to recovery that there are no risks to adopting an anti-business, anti-finance stance in the expectation that such a tack will win votes for Democratic candidates in November. There is a grave risk that the effort will actually backfire.
There are signs that the economy is mending. But, those signs are tentative and all too often suspect. And they may not last beyond the stimulus. The course of the economy could remain sluggish at best, or it could even threaten to slide back into recession.
Housing has gained a temporary and meager lift from the home buyer tax credit. Car sales benefited from Toyota's steep price cutting in the wake of its woes and competitors partially matching price incentives. The tax refunds have been spent, boosting retail sales. But it is difficult to see how that pace can be maintained with slight increases in income growth and cuts in borrowing. There has been a modest improvement in employment by some measures and a worsening by others. The 162,000 increase in March nonfarm payrolls is largely due to special factors, including census workers, a tax incentive boost in construction and a rise in temporary jobs. There were still 15 million officially unemployed in March for a 9.7%unemployment rate. But 9.1 million were working part time because they could not find the full-time employment they sought. There were also 1 million discouraged workers who gave up looking for employment because there are no jobs to be found. That is up 309,000 from a year ago. The broadest unemployment rate,U-6, rose to 16.9%seasonally adjusted in March, up from 16.8% in February and 16.5% in January.
Inflation is quiet and will remain so. Deflation remains a risk, especially if and when the seeming signs of economic recovery fade with the end of the stimulus.
Home foreclosures are still rising, placing downward pressure on home prices. Some at the Fed argue that it is that phenomenon that is primarily responsible for slow overall inflation while price pressures are beginning to build in some sectors. However wiser heads are likely to continue to prevail, keeping Fed policy accomodative for an extended period. There is far too much idle excess productive capacity and far too much unemployment and underemployment for significat price and wage pressures to be sustained. That promises to not only keep bond yields low, but to eventually drive them lower.
Even with concerns over state and local budget deficits, tax-exempt yields have been declining. But, there are still 5% tax-exempt yields available. The liberty bonds in New York, backed by both Goldman Sachs and its new office building, are but one example. Yes, Goldman Sachs is still a buy, both its stock and bonds. Treasuries are also still a safe haven. There are financial problems that have yet to fully emerge, including commercial real estate and credit unions, and others that have not yet run their course.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport New York 11731
This and prior reports can be accessed by going to Internet Explorer and typing in
Philipbraverman.blogspot.com
I can be reached at philipbraverman@Gmail.com
It is difficult to cite a participant or sector that is not at least partly responsible for the our financial fiasco. That includes the political, regulatory, financial, and consumer sectors.
Congress went on a deregulatory binge. But, more important than that,they encouraged efforts to increase home ownership at the expense of prudent lending. They approved an expansion of mortgage lending to marginal or financially challanged borrowers (to put it charitably),and a vast enlargement of subsidized Fannie Mae and Freddie Mac. Borrowers with a downpayment of 5% or even less and with inadequate income were encouraged to buy homes. It must be recognized that Congresses' main priority is to be reelected using promises of how taxpayer money will be spent to achieve that objective. Spending far beyond our country's means and running huge Federal budget deficits is no barrier if that is what it take to be reelected. Knowing that, Congress created the Federal Reserve and other regulatory authorities to exercise politically unpopular restraint at the appropriate time and take the political heat for that unpopular move in place of Congress and the President. One Fed Chairman aptly described the Fed's job as taking the punchbowl away as soon as the party got going.
Unfortunately,the principal regulatory authorities did not take the punchbowl away. They actually spiked the punch with ever more hard liquor. At the very least, it is clear that they were asleep at the switch as financial institutions took on excessive risk with leveraged funds. Worse, lenders were allowed to sell imprudent loans with no further financial liability. These financial engineering innovations eroded the basic home mortgage lending practices that had effectively kept home mortgage lending safe as well as correcting the short-term mortgage lending problems that contributed to widespread real estate distrees in the Great Depression of the 1930s. Thirty-year fixed-rate self-amortized mortgages for 80% or less of conservative market value appraisals to borrowers with mortgage payments of 25% of income had become a mainstay of home-mortgage lending. That template of conforming mortgage loans gave way to to all sorts of abominations, from loans of up to 125% of excessively appraised value, to borrowers with no income, for terms of a few years at variable rates. It is no wonder that such mortgages, approved or encouraged by housing authorities, regulators, Congress and the Federal government, were the first to get into trouble. The ensuing home-asset bubble, as with other asset bubbles, was left by the Fed and other authorities to balloon with little or no effort at appropriate retraint. Fed Chairman Greenspan appeared to believe that the financial system and economy was self-correcting. That is exactly the wrong belief for a regulator.
The basic tenant of good lending is to know your borrower. That principle also was forgotten. Dubious mortgages were packaged into pools and sold as bonds with triple A ratings. Where is the resposibility and culpability of the rating agencies for mislabling "liars" mortgage loans as AAA bonds. Those often worthless bonds were sold to pension funds around the globle without recourse to the original lenders, appraisers, packagers, rating agencies, regulators, etc. Why was that allowed? It is not enough to say that few if any knew that home prices could decline.
There is enough blame to go around. That includes the current Administration, that made the solutions to the problem of the previous Admistration their own.
Where is the massive effort to keep homeowners in their homes? The efforts in that direction has so far proven feeble and inadequate at best.When the FDIC was first chatered thre was a moritorium on foreclosures for owner occupied homes. That should the minimum first step. If there were jobs there would be an increase in the demand for homes and an end to the price declines. TAX INCREASES WILL REDUCE JOBS, NOT HELP CREATE THEM.
It is a mistake to assume that the economy is now so safely on the road to recovery that there are no risks to adopting an anti-business, anti-finance stance in the expectation that such a tack will win votes for Democratic candidates in November. There is a grave risk that the effort will actually backfire.
There are signs that the economy is mending. But, those signs are tentative and all too often suspect. And they may not last beyond the stimulus. The course of the economy could remain sluggish at best, or it could even threaten to slide back into recession.
Housing has gained a temporary and meager lift from the home buyer tax credit. Car sales benefited from Toyota's steep price cutting in the wake of its woes and competitors partially matching price incentives. The tax refunds have been spent, boosting retail sales. But it is difficult to see how that pace can be maintained with slight increases in income growth and cuts in borrowing. There has been a modest improvement in employment by some measures and a worsening by others. The 162,000 increase in March nonfarm payrolls is largely due to special factors, including census workers, a tax incentive boost in construction and a rise in temporary jobs. There were still 15 million officially unemployed in March for a 9.7%unemployment rate. But 9.1 million were working part time because they could not find the full-time employment they sought. There were also 1 million discouraged workers who gave up looking for employment because there are no jobs to be found. That is up 309,000 from a year ago. The broadest unemployment rate,U-6, rose to 16.9%seasonally adjusted in March, up from 16.8% in February and 16.5% in January.
Inflation is quiet and will remain so. Deflation remains a risk, especially if and when the seeming signs of economic recovery fade with the end of the stimulus.
Home foreclosures are still rising, placing downward pressure on home prices. Some at the Fed argue that it is that phenomenon that is primarily responsible for slow overall inflation while price pressures are beginning to build in some sectors. However wiser heads are likely to continue to prevail, keeping Fed policy accomodative for an extended period. There is far too much idle excess productive capacity and far too much unemployment and underemployment for significat price and wage pressures to be sustained. That promises to not only keep bond yields low, but to eventually drive them lower.
Even with concerns over state and local budget deficits, tax-exempt yields have been declining. But, there are still 5% tax-exempt yields available. The liberty bonds in New York, backed by both Goldman Sachs and its new office building, are but one example. Yes, Goldman Sachs is still a buy, both its stock and bonds. Treasuries are also still a safe haven. There are financial problems that have yet to fully emerge, including commercial real estate and credit unions, and others that have not yet run their course.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport New York 11731
This and prior reports can be accessed by going to Internet Explorer and typing in
Philipbraverman.blogspot.com
I can be reached at philipbraverman@Gmail.com
Saturday, February 6, 2010
Despite signs of economic recovery, a clouded outlook will keep markets stressed
Markets are increasingly concerned over the sustainability of the economic recovery. There are new head winds. Worries abound over some troubled soverign credits. The current focus is on Greece, Portugal and Spain. But there could well be others.
US commercial real estate (office buildings, apartments, retail space and hotels) is undergoing a significant and grim price retreat as vacancies rise and rents accordingly drop. That makes it difficult for commercial real estate owners who recently purchased their properties at inflated prices to either meet their mortgage payment or refinance. That is producing a wave of delinquecies,defaults and foreclosures. In turn, that creates major difficulties for mortgage lenders, especially regional banks, that have large holdings of such loans.
The signs of economic recovery are primarily a response to the widespread stimulus spending in the US and abroad. But if, as is likely, the economy cannot maintain its modest forward momentum once stimulus is withdrawn, the economy will falter. With growing concern over its astronomical budget deficits, the US and other nations will not be able to extend these outsized deficits for long and certainly not without triggering a crisis of confidence in one currency after another.
There is no basis for expecting a vigorous revival of consumer spending, the typical mainstay of the US economic recoveries. Consumers are in the process of deleveraging their already excessive reliance on debt. That is leading to a decline in consumer credit and a rise in consumer savings. That argues against a sustainable consumer spending led recovery.
There is justifiable and significant concern over the likely strength of export demand ahead. There is a risk that China, and perhaps other nations, are building speculative inventories of key commodites, such as copper, and spurring construction for which there is no current demand, in an effort to keep employment up and protect against a sustained and outsized rise in commodity prices. Such demand can not be maintained. That points to a slowdown in export growth and a decline in the demand for and the price of commodities. That development would lessen concern over an early and prounounced acceleration in inflation and Fed interest rate tightening to stem its advance.
There is also a concern over a seeming antibank populist tack taken by Congress and the Admistration.
Such an array of concerns is likely behind the recent apparent topping out of the equity market. Also, at its recent peak, the equity market had rallied to levels roughly as much above the 200-day moving average as it had been below its 200-day moving average at its March 2009 lows. Just as an excessive decline helped trigger the market rebound, the reverse can also be true. That suggests that if speculative bubble levels have not already been reached, they soon will be. The equity market is also reponding to the seeming economic significance of recent reports.
The equity market edged up slightly on Friday, after being conflicted by cross currents in the January employment report that caused it to flip back and forth between losses and gains. The unemployment rate declined to 9.7% from 10.0% in December. But, January nonfarm payrolls fell 20,000, a disappointment considering that a rise was expected. The Friday slight rise in equity prices followed a Thursday selloff over disappointment at a jump in initial claims for unemployment benefits. This is just a suggestion of what lies in store for the markets if, as I expect, economic growth slips from its heady pace in the fourth and possibly first quarter, to a crawl or a new decline later this year or early next. That development would keep Fed interest rate policy highly accomodative for an extended period, raise the renewed threat of outright deflation and reinforce the decline in Treasury bond yields already in place.
The potential for adverse economic prospects and other developments have also helped tax-exempt State and municipal bond yields decline. The proposals to raise marginal Federal income tax rates are certainly a factor. Also contibuting to that downtrend in tax-exempt yields is the issuance of taxable state and local bonds under the Build America Bond program (BAB), which involves a payment to the issuer by the Federal Government for a portion of the interest payment. The consequent minimal volume of new issuance of tax exempt bonds has helped to reduce their yields to or below the yields on US government debt of comparable maturities, where they have more traditionally been. Tax exempt State and municipal yields have typically been at 80% to 90% of the yield on a US Treasury bond. Thus a 30-year US Treasury bond yield of 4.5% would normally suggest a high-grade municipal yield of 4.0% or less. Even with State and local entities experiencing financial difficulties that raises concerns over credit quality, high-grade tax-exempt municipal yields are dropping to well below 5.0% again. But there are still exceptions available in the market that yield 5.0% or more. In New York, there are the 5.25% coupon 2035 maturity tax-exempt Liberty revenue bonds backed by both Goldman Sachs and their new headquarters building, and there are the tax-exempt Hudson Yards 2047 maturity revenue bonds, which are partially supported by the State. Puerto Rico tax exempt bonds are also available with 5.0% or higher yields, as are bonds in various other states and localties.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to internet explorer and typing the following: philipbraverman.blogspot.com
I can be reached at philipbraverman@gmail.com
US commercial real estate (office buildings, apartments, retail space and hotels) is undergoing a significant and grim price retreat as vacancies rise and rents accordingly drop. That makes it difficult for commercial real estate owners who recently purchased their properties at inflated prices to either meet their mortgage payment or refinance. That is producing a wave of delinquecies,defaults and foreclosures. In turn, that creates major difficulties for mortgage lenders, especially regional banks, that have large holdings of such loans.
The signs of economic recovery are primarily a response to the widespread stimulus spending in the US and abroad. But if, as is likely, the economy cannot maintain its modest forward momentum once stimulus is withdrawn, the economy will falter. With growing concern over its astronomical budget deficits, the US and other nations will not be able to extend these outsized deficits for long and certainly not without triggering a crisis of confidence in one currency after another.
There is no basis for expecting a vigorous revival of consumer spending, the typical mainstay of the US economic recoveries. Consumers are in the process of deleveraging their already excessive reliance on debt. That is leading to a decline in consumer credit and a rise in consumer savings. That argues against a sustainable consumer spending led recovery.
There is justifiable and significant concern over the likely strength of export demand ahead. There is a risk that China, and perhaps other nations, are building speculative inventories of key commodites, such as copper, and spurring construction for which there is no current demand, in an effort to keep employment up and protect against a sustained and outsized rise in commodity prices. Such demand can not be maintained. That points to a slowdown in export growth and a decline in the demand for and the price of commodities. That development would lessen concern over an early and prounounced acceleration in inflation and Fed interest rate tightening to stem its advance.
There is also a concern over a seeming antibank populist tack taken by Congress and the Admistration.
Such an array of concerns is likely behind the recent apparent topping out of the equity market. Also, at its recent peak, the equity market had rallied to levels roughly as much above the 200-day moving average as it had been below its 200-day moving average at its March 2009 lows. Just as an excessive decline helped trigger the market rebound, the reverse can also be true. That suggests that if speculative bubble levels have not already been reached, they soon will be. The equity market is also reponding to the seeming economic significance of recent reports.
The equity market edged up slightly on Friday, after being conflicted by cross currents in the January employment report that caused it to flip back and forth between losses and gains. The unemployment rate declined to 9.7% from 10.0% in December. But, January nonfarm payrolls fell 20,000, a disappointment considering that a rise was expected. The Friday slight rise in equity prices followed a Thursday selloff over disappointment at a jump in initial claims for unemployment benefits. This is just a suggestion of what lies in store for the markets if, as I expect, economic growth slips from its heady pace in the fourth and possibly first quarter, to a crawl or a new decline later this year or early next. That development would keep Fed interest rate policy highly accomodative for an extended period, raise the renewed threat of outright deflation and reinforce the decline in Treasury bond yields already in place.
The potential for adverse economic prospects and other developments have also helped tax-exempt State and municipal bond yields decline. The proposals to raise marginal Federal income tax rates are certainly a factor. Also contibuting to that downtrend in tax-exempt yields is the issuance of taxable state and local bonds under the Build America Bond program (BAB), which involves a payment to the issuer by the Federal Government for a portion of the interest payment. The consequent minimal volume of new issuance of tax exempt bonds has helped to reduce their yields to or below the yields on US government debt of comparable maturities, where they have more traditionally been. Tax exempt State and municipal yields have typically been at 80% to 90% of the yield on a US Treasury bond. Thus a 30-year US Treasury bond yield of 4.5% would normally suggest a high-grade municipal yield of 4.0% or less. Even with State and local entities experiencing financial difficulties that raises concerns over credit quality, high-grade tax-exempt municipal yields are dropping to well below 5.0% again. But there are still exceptions available in the market that yield 5.0% or more. In New York, there are the 5.25% coupon 2035 maturity tax-exempt Liberty revenue bonds backed by both Goldman Sachs and their new headquarters building, and there are the tax-exempt Hudson Yards 2047 maturity revenue bonds, which are partially supported by the State. Puerto Rico tax exempt bonds are also available with 5.0% or higher yields, as are bonds in various other states and localties.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to internet explorer and typing the following: philipbraverman.blogspot.com
I can be reached at philipbraverman@gmail.com
Saturday, January 9, 2010
Despite some signs of economic recovery, the 2010 outlook is far from bright
The signs of economic recovery are at risk of fading with the end of the Federal economic stimulus, which currently appears likely to largely disappear in the second half of this year. That development could even lead to a second dip into recession. Of course there could be an additional round of Federal stimulus, in an attempt to shore up employment and limit the loss of Democratic seats in Congress in the November elections. But, that would only postpone the inevitable economic retreat. Moreover, a new stimulus would pose other dangers. The percentage of US Federal debt held by the public to GDP, already at 60% and promising to exceed 80% in the next decade under current law, would be pushed into a danger zone threatening dollar stability.
There are too many continuing negatives underlying the fragile economic recovery to make it anything but vulnerable. That points to no meaningful change in the Fed's highly accomodative policy throughout the year. growing inflation fears will give way to renewed deflation fears and quite likely deflation realty. Inflation will inevitably materialize, but not this or even next year. Treasury bond yields will decline anew. And the stock market, which appears to be in a relentless uptrend, will eventually give up significant ground, perhaps later this quarter or next. Though it may seem like an extreme forecast, it is even possible that the entire equity market advance will come to be viewed as a bear market rally. Following are some of the reasons.
Corporate profits may be rising, but that is more a continued reflection of cost cutting (which cannot long persist)than of a vigorous rise in basic demand. And much of the rise in demand that does exist is spured by domestic and foreign stimulus which will not be mantained indefinitly. Thus, even with a rise in projected S&P 500 index operating earnings to some $72 to $75 a share this year,up 25% from last year, the equity market rally, predicated on that rise, is vulnerable.
Consumer spending, which has accounted for some two-thirds or more of GDP, will remain contrained as consumers attempt to reduce their excessive indebtedness. That process of debt reduction is counted as savings,and naturally cuts their discretionary spending. The reasons for consumer spending caution are obvious. There is a vast number of unemployed and underemployed that has forced a reduction in consumer spending. The threat of additional increases in unemployment will continue to engender spending caution ahead, despite the slight year-over-year increases in Christmas holiday spending. Consumers are continuing to experience a rise in consumer and credit card debt delinquencies, defaults and bankruptcies. And there are still billions of dollars of supposedly liquid auction rate securities held by individuals that remain frozen in limbo.
The details underlying the December employment report help make employment pessimism a more realistic prospect. While the official unemployment rate remained at 10.0%, that was only because of a huge 661,000 plunge in the labor force (largely reflecting a 589,000 drop in employment), rather than the trend rise in the labor force that is to be expected in more normal times or the surge that is bound to emerge when jobs are percieved to be available. If the labor force had not dropped, the December unemployment rate would have spiked to 10.4%. It is only a matter of time until the official unemployment rate reaches and exceeds that level. Even 11% is quite possible. But the official unemployment rate grossly understates the degree of economic distress. The U-6 unemployment rate, called the under-employment rate, is 17.3%, just under its 17.4% peak. This measure includes the unemployed, the marginally employed temporary workers who could not find the full time employment they seek and those so discouraged by the lack of work they have given up looking. But even this measure does not include very long-term discouraged workers and those who have gone back to school because of frustration in finding employment. And aggegate hours worked were unchanged in December, suggesting less forward momentum in the economy heading into the first quarter than widely expected.
Though the Fed has increased the money supply, credit remains constrained. Banks are not lending. Nor is there likely to be any significant increase any time soon considering the continuing heavy burden of bad loans and investments that they hold on their books. The write off of capital to compensate for losses on holdings was postponed by the change in the Federal Accounting Standards Board rules that gave the institutions discretion to avoid write-downs of assets that they do not intend to sell. Without a significant expansion in bank lending there can not be a vigorous or sustained economic expansion.
State and local governments are running ever increasing budget deficits as tax receipts are cut by the recession and medicare and other required expenditures rise. Their combined deficits are projected at $350 billion in both 2010 and 2011. That is understanably forcing a cut in their discretionary spending and employment, even with increased taxes.
Commercial real estate is contracting as vacancies in offices, retailing, hotels and apartments cut revenues and market values. That makes it virtually immpossible for owners to keep up with payments on mortgages on recent purchases. Already some 6%of these mortgages are delinquent, with that rate potentially doubling by year-end. Market values of commercial real estate have plunged, making resales of recent purchases without major losses unlikely. That distress will create steep losses for regional banks, significant lenders on commercial properties. Some $40 billion of commercial mortgage backed bonds will mature this year creating strains since funds are not likely to be readily available to fully pay them off, nor is the market likely to renew them at acceptable yields. That situation risks one or more major commercial real estate failures.
In addition, the one-family residential market is likely to continue depressed despite signs of a seeming turn-around. A continuing or increased wave of residential foreclosures is likely. Across the country almost one in four home mortgage borrowers is under water on their homes, with a market resale value lower than their outstanding mortgage balance. The rate is almost half in Florida and Arizona and 65% in Nevada. Being under water on their mortgage has been among the primary catalysts for foreclosure. As if that were not enough of a problem, the Fed is scheduled to end its purchases of mortgages by the end of March, which could spur a rise in mortgage rates. And the stimulus of a tax benefit for home purchases ends in April, by which time contracts to purchase must be signed. In November, long before those potential depressants come into play, pending home sales had already plunged 15.5% and new home sales fell 11.3%. Expect another 10% drop in home prices, largely centered in upscale homes.
Taken together, these various trends will depress the economy anew, most likely in the second half of the year.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
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There are too many continuing negatives underlying the fragile economic recovery to make it anything but vulnerable. That points to no meaningful change in the Fed's highly accomodative policy throughout the year. growing inflation fears will give way to renewed deflation fears and quite likely deflation realty. Inflation will inevitably materialize, but not this or even next year. Treasury bond yields will decline anew. And the stock market, which appears to be in a relentless uptrend, will eventually give up significant ground, perhaps later this quarter or next. Though it may seem like an extreme forecast, it is even possible that the entire equity market advance will come to be viewed as a bear market rally. Following are some of the reasons.
Corporate profits may be rising, but that is more a continued reflection of cost cutting (which cannot long persist)than of a vigorous rise in basic demand. And much of the rise in demand that does exist is spured by domestic and foreign stimulus which will not be mantained indefinitly. Thus, even with a rise in projected S&P 500 index operating earnings to some $72 to $75 a share this year,up 25% from last year, the equity market rally, predicated on that rise, is vulnerable.
Consumer spending, which has accounted for some two-thirds or more of GDP, will remain contrained as consumers attempt to reduce their excessive indebtedness. That process of debt reduction is counted as savings,and naturally cuts their discretionary spending. The reasons for consumer spending caution are obvious. There is a vast number of unemployed and underemployed that has forced a reduction in consumer spending. The threat of additional increases in unemployment will continue to engender spending caution ahead, despite the slight year-over-year increases in Christmas holiday spending. Consumers are continuing to experience a rise in consumer and credit card debt delinquencies, defaults and bankruptcies. And there are still billions of dollars of supposedly liquid auction rate securities held by individuals that remain frozen in limbo.
The details underlying the December employment report help make employment pessimism a more realistic prospect. While the official unemployment rate remained at 10.0%, that was only because of a huge 661,000 plunge in the labor force (largely reflecting a 589,000 drop in employment), rather than the trend rise in the labor force that is to be expected in more normal times or the surge that is bound to emerge when jobs are percieved to be available. If the labor force had not dropped, the December unemployment rate would have spiked to 10.4%. It is only a matter of time until the official unemployment rate reaches and exceeds that level. Even 11% is quite possible. But the official unemployment rate grossly understates the degree of economic distress. The U-6 unemployment rate, called the under-employment rate, is 17.3%, just under its 17.4% peak. This measure includes the unemployed, the marginally employed temporary workers who could not find the full time employment they seek and those so discouraged by the lack of work they have given up looking. But even this measure does not include very long-term discouraged workers and those who have gone back to school because of frustration in finding employment. And aggegate hours worked were unchanged in December, suggesting less forward momentum in the economy heading into the first quarter than widely expected.
Though the Fed has increased the money supply, credit remains constrained. Banks are not lending. Nor is there likely to be any significant increase any time soon considering the continuing heavy burden of bad loans and investments that they hold on their books. The write off of capital to compensate for losses on holdings was postponed by the change in the Federal Accounting Standards Board rules that gave the institutions discretion to avoid write-downs of assets that they do not intend to sell. Without a significant expansion in bank lending there can not be a vigorous or sustained economic expansion.
State and local governments are running ever increasing budget deficits as tax receipts are cut by the recession and medicare and other required expenditures rise. Their combined deficits are projected at $350 billion in both 2010 and 2011. That is understanably forcing a cut in their discretionary spending and employment, even with increased taxes.
Commercial real estate is contracting as vacancies in offices, retailing, hotels and apartments cut revenues and market values. That makes it virtually immpossible for owners to keep up with payments on mortgages on recent purchases. Already some 6%of these mortgages are delinquent, with that rate potentially doubling by year-end. Market values of commercial real estate have plunged, making resales of recent purchases without major losses unlikely. That distress will create steep losses for regional banks, significant lenders on commercial properties. Some $40 billion of commercial mortgage backed bonds will mature this year creating strains since funds are not likely to be readily available to fully pay them off, nor is the market likely to renew them at acceptable yields. That situation risks one or more major commercial real estate failures.
In addition, the one-family residential market is likely to continue depressed despite signs of a seeming turn-around. A continuing or increased wave of residential foreclosures is likely. Across the country almost one in four home mortgage borrowers is under water on their homes, with a market resale value lower than their outstanding mortgage balance. The rate is almost half in Florida and Arizona and 65% in Nevada. Being under water on their mortgage has been among the primary catalysts for foreclosure. As if that were not enough of a problem, the Fed is scheduled to end its purchases of mortgages by the end of March, which could spur a rise in mortgage rates. And the stimulus of a tax benefit for home purchases ends in April, by which time contracts to purchase must be signed. In November, long before those potential depressants come into play, pending home sales had already plunged 15.5% and new home sales fell 11.3%. Expect another 10% drop in home prices, largely centered in upscale homes.
Taken together, these various trends will depress the economy anew, most likely in the second half of the year.
Philip Braverman, President
Braverman Economic and Financial Consulting
One Hewitt Square #249
East Northport, New York 11731
This and prior reports can be accessed by going to Internet Explorer and typing in philipbraverman.blogsot.com
I can be reached at philipbraverman@Gmail.com
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