WRFest 26Apr(Economy): Between the Gust Front and the Storm
When a big....big...big storm is moving thru it's often preceded by smaller storms that make people think they've seen the worst, particularly because there's often a pause.. Well we're in such a pause now between the gust fronts in the financial markets that scared everybody and the real economic storm that you can hear growling over the horizon. Now if you've been reading along on this blog any time at all you'll know that this has been our position for months, many months in fact. Just as a sidebar we'd like to re-draw your attention to two category archives. In the Key Posts are priors that we think put up a sustainable piece of machinery or analysis that we find ourselves referring to over and over again. Any time you're looking for something here on Minsky moments, credit markets, business cycle structure, etc. you might check there first. Supplementing that is the sub-category of Key Post Tables which has a limited number of tables pointing to all the critical posts in a particular area, e.g. Economy, Market Analysis, usw. structured in a logical order with some annotations. Consider it our "guidebook" if you will. It turns out there's quite a bit of accumulated machinery that's been published and once we found ourselves loosing track well... Anyway the point being that you can search out all the gust front analysis there if you like.
After the break are this week's economic readings, which we won't review in detail, but leave to your skimming. Instead we'll point you to the bookends - the the first two excepts plus some vidclips on CNBC and the last four in a sub-section on Commentators. The first two pieces are a FT column by Mohammed El-Arrian of PIMCO in which he says shortly, eloquently and directly what we've been putting so much more crudely. All we've done is survive the breakdown in the credit markets and freed up the machinery for a normal cyclic downturn. A downturn in which we are in the very early stages of. BtW - if you read the very extensive posting on the state of the Finance Industry the bottomline there is that as the economy weakens a whole new wave of writedowns and loan losses is about to go ripping thru their balance sheets. All this capital raising they've done merely patches the damage from their own self-inflicted and occasionally fatal wounds. Think about it.
The second starter post we'll call out is Immelt's assessment of where we're at in which he argues, now like others, that this is going to get a lot worse. Now we happen to think that Immelt has done a magnificent job of re-structuring and re-positioning GE, as we've made clear. You might note that Warren Buffett shares our opinion, calling him one of the best CEO's in America. Which makes the clip all the sadder because it's clear that Jeff and GE, who appeared on Rose last summer with a fairly sanguine outlook which they repeated in their Q4 investor presentations and outlook. The sad part - there's nothing going on now that we and others didn't see thru the use of simple, readily understandable tools. In other words Immelt & GE, like a lot of other CEO's and therefore investment analysts, tends to be looking at the economy he sees now on the surface. Not at the deeper currents that are perceivable thru a bigger toolkit. He's likely learned that lesson but he's also likely to be in the vast minority. On how and why this works you might want to re-skim last weekend's reflective postsing in the Enterprise Performance archive that talk about earnings, analysts and performance.
The ending bookend are four commentators observations that begin with the standard view of it's likely over and work their way thru to why it's not and what's next. Needless to say we want to make sure you understand that the first of the four is there for contrast and the last three for substance. But between them they capture the Yin to the Yang.
Now we'll also admit that reading El-Arrian's column actually made us sad. Our comments may sound a little schadenfreudish but aren't so intended. Rather we're reviewing priors to make our case that if we, who're not professionals and don't get paid for this and use simple tools then the guys who in fact make their livings or control many $Bs of companies and many Ks of jobs and lives certainly ought to be doing better than this. On a final note we've posted links to five CNBC videos which taken all together will take you less than an hour to watch. We've finally figured out CNBC - watch the talking heads for amusement and the occasional insight or bon mot but understand their book, i.e. their biases. Pay real attention to folks like CEOs or hard-nosed observers like Wilbur Ross who really have something to say. In this case we've never seen a more steller cast. The co-host was Joe Stiglitz, they had another Nobel prize winner as a guest (Bob Engle) and Bob Hormats from G-S also co-hosting. Their guests also included El-Arrian, Roubini et.al.
IF YOU TAKE AWAY NOTHING ELSE AND DO NOTHING ELSE WATCH THOSE VIDEOS ! TAKE NOTES !! AND THINK ABOUT IT !!! PLEASE 4! :)
Economy
| CNBC Vidclips |
| El-Erian: Crisis is Far From Over Insight on the financial crisis, with Mohamed El-Erian, Pimco co-chief investment officer/co-CEO, and CNBCs Michelle Caruso Cabrera Alphabet Soup of Recession Debate about what shape recession will take, with Nouriel Roubini, RGEmonitor.com chairman and CNBCs Carl Quintanilla Nobel Thoughts Discussing the future of the markets, with Joseph Stiglitz, Nobel Prize Winner 2001/Columbia University professor; Robert Hormats Goldman Sachs International and CNBCs Becky Quick Running Risk on Wall Street Perspectives on the current economic condition, with Robert Engle, New York University professor/ 2003 Nobel Laureate Economist and CNBCs Carl Quintanilla Center of the Storm Some research on derivative losses and which banks are holding the bag, with CNBCs Steve Liesman |
Why this crisis is still far from finished During the past few weeks we have seen a growing number of market participants predict an end to the dislocations that erupted last summer and claimed victims throughout the financial system and beyond. While their predictions are understandable, they are premature. The dynamics driving the disruptions are morphing and may again move ahead of both the market and policy responses. The optimistic view is based on two distinct elements. First, that the deleveraging process is reaching its natural end as valuations stabilise and institutions come clean about their losses and raise capital; second, that a series of previously unthinkable policy responses have been effective in restoring liquidity to the financial system. Yet, consistent with what we have seen since last summer, the dislocations are entering a new phase. As such, bold reactions on the part of policymakers may, once again, prove to be too little and too late. Persistent financial dislocations have now caused the real economy to become, in itself, a source of potential disruption. During the next few months there will be a reversal in the direction of causality: the unusual adverse contamination by the financial sector of the real economy is now morphing into the more common phenomenon of recessionary forces threatening to undermine the financial system. Economic data in the US have taken a notable turn for the worse. Most importantly, the already weakening employment outlook is being further undermined by a widely diffused build-up in inventory and falling profitability. History suggests that the latter two factors lead to significant employment losses. While the financial system has taken steps to enhance balance sheets, they speak essentially to addressing the consequences of excessive leveraging and imprudent financial alchemy. As such, the nasty turn in the real economy may fuel another wave of disruptions that, this time around, would also have an impact on mid-size and smaller banks. It is thus too early to declare the end of the turmoil that started last summer. Instead, during the next few months we may witness a new phase of dislocations, led this time by the real economy.
Housing's great depression - GE's Immelt General Electric CEO Jeff Immelt said the U.S. economy is in the worst condition since the burst of the dot-com bubble and that housing hasn't been in such dire straits since the Great Depression. Less than two weeks after the conglomerate shocked investors with a profit warning and revealed that its first-quarter earnings had unexpectedly fallen 6%, Jeff Immelt said things could get worse for the U.S. economy. Immelt told shareholders at the company's annual meeting that because of current conditions, GE will increase its planned cost cutting from $2 billion to $3 billion. Many investors felt broadsided because GE said as recently as March that the company would see profit and revenue growth of 10% in 2008. The company now projects earnings to be 5% or less. Immelt said GE executives are making changes in the company's operations and planning, including more internal forecasts, with Immelt reviewing the reports weekly. "In the last five or six years, I've sold $50 or $60 billion of business," he told reporters Wednesday. "I've acquired $70 or $80 billion of business. This has probably been the most active portfolio change in the history of the company and it would be hard to find another industrial company that's done anything close to what we've done." Under Immelt, GE sold off the company's plastics and insurance businesses and has been increasing its market share in emerging markets, such as Asia and Latin America.
Recession threat rising - economists The odds the country will fall into its first recession since 2001 are rising sharply. Thirty percent of economists now believe the economy will shrink in the first half of this year, up from 10% who thought this in January, according to a survey being released Monday by the National Association for Business Economics, known by its acronym NABE. Under one rough rule, if the economy contracts for six straight months it would be considered in a recession. Many economist and the public believe we are in one. Even Federal Reserve Chairman Ben Bernanke recently acknowledged, for the first time, that a recession is possible. Forecasters "were notably downbeat about their own companies and the overall economy," Simonson said. The majority of forecasters polled - 51% - thought the economic growth during the first half of this year would clock in between zero and 1%, which would still mark a feeble showing. Sixteen percent pegged growth in the first half at between 1 and 2%, while only three percent put it at between 2 and 3%. No forecaster believed growth during this period would exceed 3%. The economy nearly stalled in the last three months of 2007, growing at a pace of just 0.6%. Many analysts say the economy's normal growth rate should be just over 3%.
UPS, FedEx Shipping Decline Signals No Significant Rebound From Recession Falling shipments at United Parcel Service Inc. and FedEx Corp., which together deliver 80 percent of packages in the U.S., show the economy is in a recession and unlikely to rebound this year. UPS, whose domestic volume has outperformed the gross domestic product for almost a century until last year, said April 8 that deliveries dropped in the first quarter. UPS also said earnings for the three months through March will miss its previous projection by as much as 7.4 percent, just the third time the Atlanta-based company has made a new forecast that was below an earlier one. FedEx's U.S. shipments dropped 2 percent last quarter, and the company said last month it would have ``limited earnings growth'' this year because of the slowing economy. Both companies are also struggling with soaring jet-fuel, gasoline and diesel costs after crude oil surged 80 percent in the past year.
Many states appear to be in recession as deficits grow Many states appear to be in recession; tax revenue is dropping and deficits are growing. The finances of many states have deteriorated so badly that they appear to be in a recession, regardless of whether that's true for the nation as a whole, a survey of all 50 state fiscal directors concludes.The situation looks even worse for the fiscal year that begins July 1 in most states. "Whether or not the national economy is in recession -- a subject of ongoing debate -- is almost beside the point for some states," said the report to be released Friday by the National Conference of State Legislatures. The weakening economy is hitting tax revenue in a number of ways: People's discretionary income is being gobbled up by higher food and fuel costs, while the tanking housing market means people are spending less on furniture and appliances associated with buying a house. The situation is grim in Delaware, with a $69 million gap this year, and bleak in California, with a projected $16 billion budget shortfall over the next two years, the report said. Florida does not expect a rapid turnaround in revenue because of the prolonged real estate slump there. By mid-April, 16 states and Puerto Rico were reporting shortfalls in their current budgets as the revenue those budgets were built on -- typically, taxes -- fell short of estimates. That's double the number of states reporting a deficit six months ago. The NCSL said the news is even worse for the upcoming fiscal year, with 23 states and Puerto Rico already reporting budget shortfalls totaling $26 billion. More than two-thirds of states said they are concerned about next year's budgets.
Housing
Existing Home Sales Fall as Housing Slump Continues Sales of existing homes fell in March, the seventh drop in the past eight months, as the spring sales season got off to a rocky start. The median price of a home was down compared with a year ago, and some economists predicted home prices could keep falling for many more months given all of the troubles weighing on housing, from a severe credit crunch to a rising tide of foreclosures. The National Association of Realtors reported Tuesday that sales of existing single-family homes and condominiums dropped by 2 percent in March to a seasonally adjusted annual rate of 4.93 million units. The median price of a home sold last month was $200,700, a decline of 7.7 percent from a year ago and the seventh consecutive year-over-year price drop. It was also the second biggest decline following a record 8.4 percent drop in February. These records go back to 1999. Patrick Newport, an economist with Global Insight, said he believed existing home sales would keep declining for another six months with home prices falling well into 2009 given all the headwinds facing the housing market from tight credit to rising job losses and sinking consumer sentiment.
- From CalculatedRisk: March Existing Home Sales, More on March Existing Home Inventory, DataQuick: California Foreclosure Activity Up Sharply in Q1, More on March New Home Sales,
- Why Haven't Existing Home Sales Fallen Further? Clearly new home sales have fallen faster than existing home sales. Based on various reports, it appears new home builders cut their prices quicker than most existing home sellers. So why have new home sales fallen faster than existing home sales? There could be a number of possible explanations:… Whatever the reason - and I'm always a little skeptical of the NAR's numbers - existing home sales are still above the normal range. The second graph shows annual existing home sales and year end inventory. As the NAR recently noted 2007 was the fifth highest sales year on record. If the red columns (inventory) is as high as the blue column (sales) - something I expect to happen this summer - then the "months of supply" number will be 12. The third graph shows the annual sales and year end inventory since 1982 (sales since 1969), normalized by the number of owner occupied units. This graph shows that inventory is at an all time record level by this key measure. This also shows the annual variability in the turnover of existing homes, with a median of 6% of owner occupied units selling per year. Currently 6% of owner occupied units would be about 4.6 million existing home sales per year. This indicates that the turnover of existing homes - March sales were at a 4.93 million Seasonally Adjusted Annual Rate (SAAR) - is still above the historical median. This suggests that sales of existing homes could fall significantly more in 2008.
Yale’s Shiller: U.S. Housing Slump May Exceed Great Depression Yale University economist Robert Shiller, pioneer of Standard & Poor’s/Case-Shiller home-price index, said there’s a good chance housing prices will fall further than the 30% drop in the historic depression of the 1930s. Home prices nationwide already have dropped 15% since their peak in 2006, he said. “I think there is a scenario that they could be down substantially more,” Mr. Shiller said during a speech at the New Haven Lawn Club. Mr. Shiller, who admitted he has a reputation for being bearish, said real estate cycles typically take years to correct. Home prices rose about 85% from 1997 to 2006 adjusted for inflation, the biggest national housing boom in U.S. history, Mr. Shiller said. “Basically we’re in uncharted territory,” he said. “It seems we have developed a speculative culture about housing that never existed on a national basis before.” Many people became convinced that housing prices would increase 10% annually, a notion Mr. Shiller called crazy.
No help for 70% of subprime borrowers Seven out of 10 seriously delinquent subprime mortgage borrowers are still not getting the help they need to keep their homes, according to a report released Tuesday by state officials working to stem the foreclosure crisis. "We're still way behind," said Iowa Attorney General Tom Miller, who helped form the State Foreclosure Prevention Working Group, a coalition formed last year by 11 state attorneys general and bank regulators.The coalition is working with lenders and companies that service mortgages to try to keep people from losing their homes. It drew its statistics from 13 of the 20 major servicer companies, which handle about 58% of all subprime loans.More than 1 million of those loans, or nearly 25% of the total, were delinquent as of Jan. 31. And foreclosure proceedings have begun on 300,000 of them - an 8% increase since October.
- State FC Prevention Working Group Report The State Foreclosure Prevention Working Group released its second report on loss mitigation efforts yesterday, and frankly it is just as disappointing as the first one. I see our colleage PJ at Housing Wire has already blown his stack over it. Allow me to pile on; someone has to. The lesson of the "stated" disaster--stated income, stated assets, stated appraised values, oral "promises" of loan originators rather than clear written disclosures, the whole cluster of practices that removed the "barrier" of "paperwork"--is apparently still lost on the Working Group. We started this by being "efficient" about the documentation and casual about the borrower's own statements; we aren't going to get out of it that way. This report just reeks of political grandstanding. I'm sure I know at least one journalist who will love it.
- Credit Suisse Forecast: 6.5 million Foreclosures by 2012
Commetators
Why the sky isn't falling on Wall Street Are we at the start of a deep recession and a crushing decline in stock prices? And however serious the problems, how can you best protect your investments? I'd argue that if you apply a little long-term thinking to the worries that are keeping you up at night, you may well conclude that the outlook for your portfolio isn't so bad - and in fact, that it may even be mildly encouraging. Bear markets that are set off by a shock can be severe. The Great Depression of the 1930s, the stagflation caused by the oil crisis in the 1970s and the real estate bust in Japan in the 1990s all crushed stock returns for years. Other gloomy forecasters take more measured positions, but many still believe that the decline in housing prices is at best half over. They expect that stocks will suffer another significant decline and that any near-term rebound in prices will prove only a temporary respite. I'm inclined to agree that the outlook for the economy is more encouraging than most investors seem to think. For one thing, it appears likely that most of the damage has been done and that stock prices today reflect what are now widely recognized problems. Moreover, while you can find similarities between the three big shocks of the past 80 years and today's situation, none really matches present circumstances. As for how big a decline might be, past bear markets have split into two categories: those in which blue chips drop by an average of 22% and much bigger declines in which the drop averages 39%. The S&P 500 has been down as much as 18% from its October high, so I don't expect much more downside. That said, my optimistic outlook for stocks does rest on two reasonable, though by no means surefire, assumptions.
Comments on Roubini Interview Yesterday I posted three videos of an interview with Professor Nouriel Roubini on Canadian TV. Professor Roubini believes the U.S. is currently in a recession, and that the recession will be deep and long - "the most severe recession and financial crisis that the US has experienced for decades" - lasting 12 to 18 months. I agree that the economy is probably already in a recession, but I think Roubini may be too pessimistic. My view is the recession will be less than severe (with unemployment peaking at less than 8%), although I agree the effects - especially related to employment - will probably linger for some time. Let me point out a few points in the interview where I believe Roubini is too pessimistic…Roubini: "The worst is ahead of us"
What Do They Know That We Don’t? The stock market is up but the economy is down. Why? The customary explanation: The economy in general, and corporate earnings in particular, are set to rebound in the second half of this year because the good news - in the form of falling interest rates, tax rebates and surging exports – will more than offset the bad news – in the form of weak housing and rising gasoline prices. Maybe so, but today’s Wall Street Journal entitled “Firms ‘Notably Downbeat’ on Economy,” provides reason for doubt: “U.S. companies, burdened by worries about slow sales and tighter credit, have turned pessimistic, a new survey shows… “Companies in several industries, including manufacturing, telecommunications, finance, and retailing, reported falling profit margins and slumping demand for their products during the first three months of 2008, according to a quarterly survey by the National Association for Business Economics…… So much for the experts. What do ordinary folks think? The chart below measures the Conference Board’s survey of consumers’ confidence in the economy. You can see the last entry in the chart was about 90. Now update it with the most recent reading: 64.5 in March. That’s just about where the economy was at the bottom of the last downturn when our invasion of Iraq began. If it slips below 60, we’re in real bad news. Makes you kind of wonder what the stock-market optimists know that no one else knows.
As loans dry up, so will economy Those who say that the worst banking news is already out are more wishful than watchful. Take a look at what happens when businesses can't borrow what they need. Credit is the fuel of industry, and it is a vanishing resource despite a campaign of unprecedented swiftness by the Federal Reserve to slash short-term interest rates. As it disappears from the landscape, so, too, will hopes of a broad, lasting recovery. This is a relatively new phenomenon in America, which is why it is so hard to comprehend. Few investors have seen the effects of constricted credit, as banks until now adeptly summoned, bottled, distributed and marketed it. Credit has been like an aquifer that businesses figured they could depend on to be there when they needed it -- maybe more expensive at some times than others, but always available. Yet banks' egregious greed and misdeeds of the past few years have made credit dry up, and so they're keeping what they can get to themselves. The banks seem to be under the impression that hoarding capital to shore up their balance sheets will return them to health, but my sources believe they are badly mistaken. By refusing to lend to businesses as they did before the advent of exotic and expensive derivatives, they risk killing their own business as well. If this is true, as I suspect, then banks' recent mild recovery will be short-lived, and investors should continue to avoid them. The central problem… is that banks have entered a time of secular, not cyclical, change that will keep them from regaining their place atop the food chain for the next few years. It's this shutdown of the securitization market that is showing up now on banks' balance sheets as a big smokin' hole. Despite many bank executives' wishful comments to the media over the past few weeks that "the worst is behind" them, the business that supported million-dollar salaries to 25-year-old bankers fresh out of graduate school is dead.