Sep 13, 2009

Approaching the Last Quarter of the Decade

Approaching the Last Quarter of the Decade

September 13, 2009

“How do you turn an industry that costs $700 million annually into one that eats $6 billion? Nationalize it, as Congress did airport screening after September 11, 2001.”—Becky Akers, Author of TSA: Taxes Spent Absurdly

Weekly percentage performance for the major indices
Based on last Friday’s official settlement...

INDU: 1.7%
SPX: 2.6%
COMPQ: 3.1%
RUT: 4.1%

The market rallied in a rather ho-hum holiday shortened week. It’s seems strange to refer to a 2.6% gain in the market as ho-hum, but given the fireworks in the market over the past 18 months, it truly was a mundane week.

Market leadership has definitely shifted, with the IME sectors (industrial, materials and energy) once again taking center stage. The weak dollar combined with strength in China is driving these mid/late cycle sectors higher. Transport stocks were strong, led by Fed Ex and UPS after the former raised guidance for the upcoming quarter.


Actual Consensus Prior
Consumer Credit -21.6 bil -4.0 bil -15.5 bil
Initial Claims 550K 560K 576K
Continuing Claims 6.1 mil 6.2 mil 6.25 mil
Trade Balance -32.0 bil -27.3 bil -27.5 bil
Michigan Consumer Sentiment 70.2 67.5 65.7
Wholesale Inventories -1.4% -1.0% -2.1%
Treasury Budget -139.5 bil -111.9 bil

The big drop in consumer borrowing (see chart below, year over year growth of consumer credit courtesy of means that business and government spending will lead any type of strength in this quarter’s GDP report. Again, Cash for Clunkers probably pulled some demand from future quarters into this quarter, strengthening reported GDP at the expense of future quarterly growth. Without continued strength in business spending or a pickup in consumer spending, we are set up for a potential double dip recession.

The September Michigan Consumer Sentiment index (see chart blow courtesy came in strong at 70.2 versus consensus of 67.5. Given the index tends to be highly correlated with the tone of media reports and stock market performance, it’s not surprising that the index was up given the positive economic chatter coming from the press recently. The key to economic recovery hinges on this improved sentiment leading to an uptick in consumer spending, which doesn’t seem likely anytime soon given the unemployment picture and the drop in consumer borrowing.

“Consumer spending remained soft in most districts,” the Fed said in its Beige Book report. The central bank said 11 of its 12 regional banks reported signs of a stable or improving economy in July and August. Manufacturing showed “modest improvements” in most regions, the Fed said. Companies were “cautiously optimistic,” with New York among three districts reporting expectations of “modest growth later this year or early 2010.”

The government’s “cash for clunkers” program increased spending and had an impact on payrolls. General Motors Co. last month called back 1,350 union workers, its biggest one-time increase in jobs since 2006, as it boosted second-half production in part because of the trade-in program.

Health Care
This week the President came out firing with both guns in a push to get health care reform passed as the cornerstone of his domestic economic policy. I listened to six or seven post speech responses by Democratic lawmakers, and was struck by both their inability to grasp the plan and their reluctance to explain how the plan would financed without adding to the budget deficit. Some of the suggestions were tax increases on the wealthy, fees on existing plans and “immoral” insurers, eliminating billions in waste and fraud in Medicare and Medicaid, and $100-$200 billion in improved efficiencies.

The last two I find entertaining. If there is billions in waste and fraud in the two big health care systems we are already running, why haven’t we been able to eliminate them over the past 45 years? The other, improved efficiencies, isn’t exactly a strength of government programs, and this one will be especially challenging with 53 new bureaucracies being created.

Wall Street-Business as Usual
We all know the Street has been busy issuing paper like crazy, with 2009 going down as a record year for corporate debt issuance. Contacts at Merrill Lynch tell me they have done 102 deals since April alone.

Profits on the Street should be big this year, as long as the markets hold up.


Satya Pradhuman at Cirrus Research notes “risk taking has reached speculative levels (+35% as measured by their Cirrus Risk Score (CRX)). In just three months, this reading has jumped well north of +1 standard deviation, based on readings dating to 1980.”

CRX has reached these levels only three times: Sept. 1999 (height of the Tech bubble), August 2003 and Sept. 1980. History shows that such optimism portends a heightened risk of disappointment in the coming months and quarters. When CRX and estimate revisions reached these levels in the past, value sensitivity has out-earned the benchmark by 10%-13% per annum, while higher quality companies generated excess returns of approximately 8% per annum.

Gold topped $1000 this week as concerns about the dollar continue. Peter Bockvar wrote that the CFTC reported the net speculative long position in gold rose to an all time record high, up 22% on the week. The chart below, courtesy of, shows the ounces of gold required to buy the Dow Jones Industrial average.

Fed Ex raised its forecast on improving international priority shipment volumes. Consistent with the rest of the transport industry, the company is seeing some stabilization but yields on each shipment are much lower than a year ago.

Saudi Oil Minister Ali al-Naimi said this week that the current level of oil prices are “good for everybody” between $68 and $73 per barrel. I don’t mean to be overly cynical, but it seems to me that whenever OPEC has felt they couldn’t control the price of oil with curbs on supply, they have attempted to stabilize the price through verbal subterfuge.

Presently there is 62 days worth of inventory in storage, and OPEC would like to see that closer to 52 days. Demand will have to pick up to get inventories down to those levels, especially given the cartel’s decision not to impose production cuts this past week.

Finally Pulling Back Some of the Bailout
According to the Associated Press, the U.S. government's guarantee for money-market mutual funds that was set up during the credit crunch will close as scheduled Sept. 18. The program was launched after assets of a big money-market fund, the Primary Fund, fell to less than $1 for every dollar invested by a customer, an event known as "breaking the buck." The collapse of Lehman Brothers triggered the loss.

Real Estate
RealtyTrac released its August 2009 U.S. Foreclosure Market Report, which shows foreclosure filings were reported on 358K U.S. properties during the month, a decrease of less than 1 percent from the previous month but an increase of 18% from August 2008. The report also shows one in every 357 U.S. housing units received a foreclosure filing in August.

“The August report demonstrates that there is still an ample supply of properties filling the foreclosure pipeline even while the outflow of bank-owned REO properties onto the resale market is being more carefully regulated,” said James J. Saccacio, chief executive officer of RealtyTrac. “After hitting a high for the year in July, REOs dropped 13 percent in August, but we also saw a record high number of properties either entering default or being scheduled for a public foreclosure auction for the first time.”

The Washington Post reported that, according to Fitch Ratings, another round of residential foreclosures is on the verge of sweeping through the U.S. housing market. Many homeowners might be unable to cope with higher monthly payments after hundreds of thousands of option adjustable-rate mortgages reset, the credit rating agency said. Between now and 2011, roughly 70% of option ARMs, with a total value of about $189 billion, will reset. "It's a ticking time bomb for some people," said Brian Bethune, an economist at IHS Global Insight.

Fed Beige Book
The Fed Beige Book came out this week, and the report cited and categorized various sectors and their relative strength or weakness in the economy. We have listed some below:

Sectors that were weak but are now improving include tourism, staffing, railroads, automotive, paper products, chemical manufacturing, semiconductors, grocery, and apparel retailing. Sectors that were strong and remain strong include health services, pharmaceuticals, aerospace, discount stores, IT services, and food manufacturing. Sectors that were strong but are showing signs of weakness include tobacco and oil and gas drilling. Sectors that remain weak include financial services, luxury goods retailers, appliance manufacturers, high-end real estate, commercial real estate, coal mining producers, and home and garden centers.

A report by the Congressional Oversight Panel concludes that there is little chance U.S. taxpayers will recover all of the billions spent on rescuing Chrysler and General Motors. "Although taxpayers may recover some portion of their investment in Chrysler and GM, it is unlikely they will recover the entire amount," according to the report. It is "highly unlikely" all of Chrysler's money will be recouped, the report states, and GM's stock price would have to hit record highs to recover all of that company's money.

Grand Theft Home?
From Yahoo Finance: A Wells Fargo & Co. executive who oversees foreclosed properties hosted parties and spent long summer weekends in a $12 million Malibu beach house, moving into the home just after it had been surrendered to Wells Fargo to satisfy debts, neighbors said.

"It's outrageous to take over a property like that, not make it available and then put someone from the bank in it," said a woman who lives a few homes away from the property. Residents said the bank employee, along with her husband and two children, often hosted guests at the home, including a large party the last weekend of August.

Wells Fargo said in a written statement that it would conduct a thorough investigation of the allegations by neighbors, but said it wouldn't "discuss specific team member situations/issues for privacy reasons."

I wonder if the value of using that home will count towards their compensation limits laid out by TARP?

Economic releases this week include PPI, retail sales for August (should be helped by Cash for Clunkers), CPI, capacity utilization, building permits, and jobless data. With the exception of the retailers, earnings reports are basically non-existent. The earnings focus will be on the retailers as Best Buy and Kroger are joined by a myriad of smaller retailers in reporting earnings and comps for the month. Among non-retailers Oracle, Adobe, Discover, Carnival and Palm will also be reporting this week. Expect to hear more from Washington on the health care plan.

Have a great week.


“A fanatic is one who can’t change his mind and won’t change the subject.”—Winston Churchill

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