bizzXceleration: Performance, Value and Profit

Economic Situation

In an economic desert, signs of life ISI analysts, quite appropriately, ask, "Is anyone keeping score? Is it possible to keep score? Never in history has so much stimulus been applied on a global scale in such a short amount of time." Back in the darkest days of last winter, I feared that governments would try to go their own ways, raise tariffs to protect home industries and fail to coordinate on the monetary attack. Their initial steps and pronouncements hinted in that direction. But the financial collapse of Iceland and the near collapse of major money-center banks in Ireland, the United Kingdom and the United States in February appear to have slapped lawmakers across the face and made them realize we are all in this together. A grudging recognition of yoked fates -- and a set of decisions to save national banking systems at virtually any cost to taxpayers -- appears to have taken hold. With catastrophe averted, business that is merely awful seems pretty good. It's like a car crash victim emerging from the hospital all bandaged up and in a wheelchair, but feeling fantastic about being able to enjoy the sunshine and breathe. This is probably how a new normal emerges. Whether it's Banaga deciding that $900 every two weeks is a lot better than $600, or an executive deciding that it's time to bump up his sales staff's travel budget a bit from, well, nothing. Once you take financial Armageddon off the table, the appearance of a new normal looks like this across the world, according to ISI data: rising industrial production in Brazil; higher housing permits and retail sales in Australia; rising consumer confidence in the United States and Spain; higher Chinese vehicle sales; U.S. banks' willingness to lend is up for a second straight quarter; Chinese stimulus spending and bank lending that are absolutely monumental at more than $1 trillion; and purchasing managers indexes rising in the U.K., Russia, Singapore, India, Turkey, the United States and Japan.

• Update on Inventory Correction
• Unemployment Claims: Continued Claims Surge Past 6.5 Million

Cargo Ships Treading Water Off Singapore, Waiting for Work To go out in a small boat along Singapore’s coast now is to feel like a mouse tiptoeing through an endless herd of slumbering elephants. One of the largest fleets of ships ever gathered idles here just outside one of the world’s busiest ports, marooned by the receding tide of global trade. There may be tentative signs of economic recovery in spots around the globe, but few here. The root of the problem lies in an unusually steep slump in global trade, confirmed by trade statistics announced on Tuesday. China said that its exports nose-dived 22.6 percent in April from a year earlier, while the Philippines said that its exports in March were down 30.9 percent from a year earlier. The United States announced on Tuesday that its exports had declined 2.4 percent in March. “The March 2009 trade data reiterates the current challenges in our global economy,” said Ron Kirk, the United States trade representative. More worrisome, despite some positive signs like a Wall Street rally and slower job losses in the United States, is that the current level of trade does not suggest a recovery soon, many in the shipping business say. “A lot of the orders for the retail season are being placed now, and compared to recent years, they are weak,” said Chris Woodward, the vice president for container services at Ryder System, the big logistics company.

Consumer Caution Erodes Retail Sales  Sales at retail outlets from grocers to furniture stores fell in April, underscoring continued consumer caution and challenging hopes that the economy is on the cusp of recovery.Retail sales fell 0.4% last month from March, the Census Bureau said. The disappointing data on consumer spending prompted stocks to fall, pushing the Dow Jones Industrial Average down 2.2% for the day. "The big story is consumers are constrained," said Michael Carey, an economist at Calyon Securities in New York. "People are still concerned about keeping their jobs, and they want to increase their savings and pare down their debt." Sales at auto dealers ticked up. Excluding automobiles, retail sales were down 0.5% in April. The steepest declines were among sellers of big-ticket items, such as home-furnishing stores and appliance dealers, as households remain wary about major purchases. "People need food, people need electricity, but they don't need a brand-new piece of furniture right now so they just aren't buying," said Randy Weires, the sole employee working the 14,000-square-foot showroom of Carr's Furniture & Appliances in Old Town, Fla., a store his sister and her husband bought four years ago. Carr's is eliminating its appliance offerings -- including dishwashers, microwaves, and refrigerators -- because of weak demand and recently began selling used furniture alongside the pricier new options. A recent spate of upbeat reports -- including a rise in consumer confidence and a drop in new weekly claims for unemployment benefits -- had raised hopes that the U.S. economy might begin growing in the current quarter. Indeed, retail sales rose in January and February after sliding for six straight months. But those hopes were undermined by the 1.3% drop in retail sales in March as well as April's decline.

• Economists React: 'Green Shoots Withering'
• Signs of Consumer Strain Hit Stocks

"The Worst Is Yet to Come": If You're Not Petrified, You're Not Paying Attention The green shoots story took a bit of hit this week between data on April retail sales, weekly jobless claims and foreclosures. But the whole concept of the economy finding its footing was "preposterous" to begin with, says Howard Davidowitz, chairman of Davidowitz & Associates. "We're in a complete mess and the consumer is smart enough to know it," says Davidowitz, whose firm does consulting for the retail industry. "If the consumer isn't petrified, he or she is a damn fool." Davidowitz, who is nothing if not opinionated (and colorful), paints a very grim picture: "The worst is yet to come with consumers and banks," he says. "This country is going into a 10-year decline. Living standards will never be the same." This outlook is based on the following main points: With the unemployment rate rising into double digits - and that's not counting the millions of "underemployed" Americans - consumers are hitting the breaks, which is having a huge impact, given consumer spending accounts for about 70% of economic activity. Rising unemployment and the $8 trillion negative wealth effect of housing mean more Americans will default on not just mortgages but student loans and auto loans and credit card debt. More consumer loan defaults will hit banks, which are also threatened by what Davidowitz calls a "depression" in commercial real estate, noting the recent bankruptcy of General Growth Properties and distressed sales by Developers Diversified and other REITs.

Strategic Economics

How the crisis is changing you Millions of Americans are rediscovering the merits of thrift during this deep recession. No surprise: We're cutting up credit cards, dining in more often, and forgoing trips - routine responses to any downturn. But this time something bigger is at work too, an intangible that is leading Goldberg and others like her, despite their financial struggles, to feel good about what's going on. A new set of American values is emerging from the ashes of 600,000 layoffs a month, a lost decade in stocks, and the worst housing crash ever. These values may ring familiar to anyone who lived through the Great Depression. But for most of us it amounts to a large-scale makeover of the way we think about money and life. We're not just cutting our bills, we're rejecting materialism. We're placing safety and intrinsic rewards like relationships and personal growth ahead of profit. We're embracing family and community and asking how we can help others, not just ourselves. "We've hit a hard pendulum swing," says Douglas Brinkley, a professor of history at Rice University in Houston. And he, along with many others, believes the changes in the nation's core values could last for decades. What does this pendulum swing look like? First, we have a sweeping new attitude about how to shepherd and deploy our assets. In an exclusive nationwide survey conducted for this magazine earlier this year by Marketing & Research Resources, nine of 10 respondents said they have changed the way they manage their money as a result of the economic crisis; seven of 10 said their priorities are shifting as well; and a whopping 94% said the recession will have a lasting impact on the way they handle their finances. The über-rich, we know, are doing fine. But everyone else - including, and perhaps especially, the mass affluent - has been touched in a visceral way. In the poll, only 36% of those who earned at least $75,000 said they were optimistic about the economy - vs. 44% of those who earn less. The new values transcend money. Nearly 10% said they were giving more time to charities. More than half said they now feel plain guilty buying things they don't need. Seven in 10 said they consider spending time with family more important than ever. Collectively, the poll data suggest that Americans are recalibrating the worth of everything, from their job and investments to their family relationships and what really makes them happy. Perhaps most interesting: The shift appears to be driven, at least in part, by a sense that the economic crisis is a long overdue catharsis; it's the jolt we needed to reverse a multitude of bad financial habits and destructive attitudes developed over many years. Value and Habits Results Graphic

• MEW, Consumption and Personal Saving Rate

A New Normal  After all, recent months have been dominated by unprecedented volatility in factors that have conventionally anchored market relationships. Indeed, some of you have already heard us argue that the world is traveling on a bumpy road to a new destination – or what PIMCO has labeled the “new normal.” This reflects a growing realization that some of the recent abrupt changes to markets, households, institutions, and government policies are unlikely to be reversed in the next few years. Global growth will be subdued for a while and unemployment high; a heavy hand of government will be evident in several sectors; the core of the global system will be less cohesive and, with the magnet of the Anglo-Saxon model in retreat, finance will no longer be accorded a preeminent role in post-industrial economies. Moreover, the balance of risk will tilt over time toward higher sovereign risk, growing inflationary expectations and stagflation. The context for this year’s Secular Forum was defined by three distinct factors. First, delineating where markets are coming from – or, to use the PIMCO phraseology, the “initial conditions.” We found ourselves drawn back to the 2008 Secular Forum’s characterization of the global system having reached a “dead end:” unable to continue on its recent path due to debt exhaustion and poorly capitalized activities, yet also incapable of embarking smoothly on a different path as the ravages of de-leveraging result in disruptive overshoots and considerable collateral damage. Second, recognizing that since the last Secular Forum, the global economy and markets suffered what economists call a “sudden stop” after the disorderly failure of Lehman Brothers in mid-September: Third, arguing that recent events extended the de-leveraging dynamics into a broader phenomenon with longer-term consequences: the DDR, to use the terminology of one of Bill’s recent Investment Outlooks. This potent cocktail – a self-reinforcing mix of De-leveraging, De-globalization, and Re-regulation – inevitably entails economic and political forces that disrupt the normal functioning of markets and the global economy. Together, these factors constituted a strong unanticipated blow to the gut of virtually every economy. It was clear to us that, despite the very high hurdle that we always apply to such a statement, the world has changed in a manner that is unlikely to be reversed over the next few years. Put another way, markets are recovering from a shock that goes way, way beyond a cyclical flesh wound. It is not just about the major realignment of the financial system and the extent to which governments have intervened to offset market failures. And it goes beyond the massive increase in government deficits and government debt in virtually every systemically important country in the world (at a time when few countries can credibly pre-commit to the type of fiscal primary surplus required to subsequently reverse the massive deterioration in the debt dynamics). It’s also about the structural change in how savings are mobilized and allocated, nationally and across borders. It is about the shifting balance between the public and private sectors. And we should not forget the potentially long-lasting consequences of the erosion of trust in such basic parameters of a market system as the sanctity of contracts and property rights, the rule of law, and the robustness of the capital structure. Such trust can be lost quickly but takes a long time to restore. The result is a prolonged pause, or in some cases, a violent reversal in certain concepts that markets had taken for granted. We referred to it as the demise of the “great age” of private leverage, asset- and credit-based entitlements, self-regulation, policy moderation, and shrinking direct government involvement. Not surprisingly given the extent of the gains that were privatized and the losses that are now being socialized, the demise is occurring in the context of popular anger, confusion and what one of our speakers called “a morality play” in parliaments around the world.

Economics focus: Damage assessment AMID the hubbub over a few less-bad-than-expected statistics, America’s economic debate has turned to the nature of the recovery. Optimists expect a vigorous rebound as confidence returns, pent-up demand is unleashed and massive government stimulus takes effect. Most observers, including this newspaper, are bracing for a long slog, as debt-laden consumers rebuild their savings, output growth remains weak and unemployment continues to rise. There is, however, something that eventually will have a much bigger impact on Americans’ prosperity than the slope of the recovery. That is the effect of the crisis on America’s potential rate of growth itself. An economy’s long-term speed limit (its “trend” or “potential” rate of growth) is the pace at which GDP can expand without affecting unemployment and, hence, inflation. It is determined by growth in the supply of labour (the number of workers and how long they toil) along with the speed with which productivity improves. The pace of potential growth helps determine the sustainability of everything from public debt to the prices of shares. Unfortunately, the outlook for America’s potential growth rate was darkening long before the financial crisis hit. The IT-induced productivity revolution, which sent potential output soaring at the end of the 1990s, has waned. More important, America’s labour supply is growing more slowly as the population ages, the share of women working has levelled off and that of students who work has fallen. Since 1991 the labour supply has risen at an average annual pace of 1.1%. Over the next decade the Congressional Budget Office expects a 0.6% annual increase. According to Robert Gordon, a productivity guru at Northwestern University, America’s trend rate of growth in 2008 was only 2.5%, the lowest rate in its history, and well below the 3-3.5% that many took for granted a few years ago. Without factoring in the financial crisis, Mr Gordon expects potential growth to fall to 2.35% over the coming years. That alone is grim news. But has the Great Recession made things worse? In theory, it could do. Slumping investment may slow the pace of innovation. Soaring government debt could raise interest rates. Higher taxes, designed to reduce the debt, might dull incentives to work and invest. More regulation, in finance and beyond, could deter innovation. Workers’ skills may atrophy as a result of joblessness. On the plus side, well-targeted government spending on, say, infrastructure or education could boost potential output, while the huge wealth that Americans have lost may induce more of them to work for longer.

Economists Foresee Protracted Recovery  Economists in the latest Wall Street Journal survey see an end to the recession by autumn, but say it will take years for the economy to fully recover. On average, the 52 economists who participated in the survey project that the recession will end in August. They expect gross domestic product to contract 1.4% at a seasonally adjusted annualized pace in the current quarter, compared with the 6.1% drop recorded in the first quarter. Slow growth is expected to return by the third quarter, with the economy expanding more than 2% in the first half of 2010. Even before the new data were released, economists were expecting a major pullback in consumption. Nearly three-quarters of survey respondents said the recent increase in the U.S. saving rate is the beginning of a major behavioral shift. A consumer retrenchment is one factor that is likely to make any recovery a long slog. The economists on average expect the unemployment rate to climb to 9.7% by the end of the year, with two million more jobs lost over the next 12 months, even as growth returns to the economy. The depth of the downturn means it will take years to eat up the slack created by the recession. Nearly half of the economists said it will take three to four years to close the output gap, while more than a quarter say it will take five to six years.

• Fed official: recovery will be a 'very slow slog'

International Situation

Euro zone contracted by massive 2.5 pct in Q1 The economy in the 16 countries that use the euro shrank by a massive 2.5 percent in the first quarter as a global recession sapped the industrial exports that Europe relies on for growth and jobs. Germany, the euro zone's biggest economy, saw output plunge by 3.8 percent as demand for its cars and factory machinery collapsed -- its biggest economic contraction since at least 1970, when West Germany started to compile records. The euro zone has now seen output decline for four consecutive quarters. The first quarter slump is the biggest since figures began in 1995, but most analysts think the region is in its worst slump since the end of World War II. The drop was bigger than the 1.6 percent decline recorded in the U.S., which is widely seen as the epicenter of the recession. Many analysts argue that the European economy is too dependent on exports as opposed to domestic demand, and that its policymakers have been slower than their counterparts in the U.S. in responding to the crisis with increased government spending. Governments across the continent are hoping that big interest rate reductions by central banks, increased government spending and efforts to prop up troubled banks will mean that the first quarter marked the low point of the recession. "This sharp decline very probably will not be repeated," German government spokesman Thomas Steg said of his country's figures at a regular news conference in Berlin. "We will now wait and see what happens, but there are clear indications that the first quarter will have been the most difficult." Recent surveys have begun to hint that businesses and consumers are becoming a little bit less pessimistic -- though they are nowhere near optimistic at this point. As a result, there are some tentative hopes that the European economy may start to grow again towards the end of this year.

• German GDP Posts Sharpest-Ever Fall

Poorly made Why so many Chinese products are born to be bad. THE recent scandals about poisoned baby milk, contaminated pet food and dangerous toys from China have raised questions about manufacturing standards in the country that has become factory to the world. In China’s defence, it was probably inevitable that as production grew so would the problems associated with it, at least in the short term. Similarly, it could be argued that China is going through the same quality cycle that occurred during Japan’s post-war development or America’s manufacturing boom in the late 19th century—but in an environment with infinitely more scrutiny. A response to both these observations can be found in “Poorly Made in China” by Paul Midler, a fluent Chinese speaker who in 2001 moved to China to work as a consultant to the growing numbers of Western companies now replacing factories in Europe and America with subcontracting relationships in the emerging industrial zone surrounding Guangzhou. Most of Mr Midler’s work is coping with what he calls “quality fade” as the Chinese factories transform what were, in fact, profitless contracts into lucrative relationships. The production cycle he sees is the opposite of the theoretical model of continuous improvement. After resolving teething problems and making products that match specifications, innovation inside the factory turns to cutting costs, often in ways that range from unsavoury to dangerous. Packaging is cheapened, chemical formulations altered, sanitary standards curtailed, and on and on, in a series of continual product debasements. In a further effort to create a margin, clients from countries with strong intellectual-property protection and innovative products are given favourable pricing on manufacturing, but only because the factory can then directly sell knock-offs to buyers in other countries where patents and trademarks are ignored. It is, Mr Midler says, a kind of factory arbitrage. The first line of defence against compromised products are the factory’s clients, the importers. The moment they begin suspecting a Chinese manufacturing “partner” and want to discover what might be unfolding is the moment they become particularly eager to find people in China like Mr Midler. That suggests they want information. But, as Mr Midler discovers, they are finicky about what is found. When suspicions turn out to be reality, all too often they become unhappy—miserable about resolving something costly and disruptive, yet terrified about being complicit in peddling a dangerous product. This is particularly true if the problems could go undetected by customers.

• Investment Into China Drops 23%

IEA: Oil Demand Recovery Months Away The International Energy Agency Thursday said the steep fall in global oil consumption may be nearing its trough, but cautioned that any recovery in demand for crude oil is still many months away and will be sluggish. In its widely watched monthly oil report, the IEA, like many other analysts, said the recent jump in oil prices to six-month highs was basically misplaced. Demand is at its weakest level in two decades and oil inventory in big consuming nations continues to swell to its fattest level also in two decades, it said. The Paris-based agency made a relatively small downward revision of 200,000 barrels a day to its 2009 global oil demand outlook. Half of that revision was driven by historical data changes, underlining a slowdown in the drop in consumption. "We do expect a tapering off in the demand contraction, but we are still left with a very big drop in demand and, in our view, recovery really doesn't start to take root until 2010," said David Fyfe, editor of the report.

• Oil slips to near $58 as weak economy slows rally
• Oil Inventory, Imports Decline as Do Prices
• Crude Defies Bearish Report

Market Situation

SPY Gaps  (May 15th, 2009 ) This is the pattern that I mentioned in the comments yesterday. When SPY fell from its February peak, it left behind a large un-filled gap on the 17th. It made three attempts to fill the gap over the next three days, failed, and rolled over (click chart to enlarge): SPY just repeated the same pattern: (click for chart). SPY tried to fill Wednesday’s gap three times, failed, and rolled over today. Wednesday’s gap wasn’t as large as the February 17th gap, but SPY has left behind an addition, sizable gap this time. Monday’s gap is un-filled also. This is very bearish behavior. Don’t forget, it was many weeks before the February 17th gap was filled. Let’s see if history continues to repeat. On the fourth day of the sequence in February, the 20th, the market opened down on another large gap.Three days of fighting to close a gap, and failing, is very disheartening for the bulls. Without a positive catalyst popping up over the weekend, the bulls likely won’t have much fight in them next week.

Merrill's Rosenberg: Goodbye, Thank You, Yes It's Just a Sucker's Rally Risk is much higher now than it was 18 weeks ago.  The nine-week S&P 500 surge from 666 at the March lows to 920 as of yesterday has all but retraced the prior nine-week decline from the 2009 peak of 945 on January 6 to the lows on March 9. We believe it is appropriate to put the last nine weeks in the perspective of the previous nine weeks. To the casual observer, it really looks like nothing at all has happened this year, with the market relatively unchanged. But something very big has happened because the risk in the market, in our view, is much higher than it was the last time we were close to current market prices back in early January, for the simple reason that we believe professional investors have covered their shorts, lifted their hedges and lowered their cash positions in favor of being long the market. Employment, output, income, sales still in a downtrend. Considering what transpired from an economic standpoint, the decline in the first nine weeks of the year was rather appropriate in the midst of the worst three-quarter performance the economy has turned in roughly 70 years. The rally of the past nine weeks appears to be rooted in green shoots. While it may be the case that the pace of economic decline is no longer as negative as it was at the peak of the post-Lehman credit contraction, the reality is that employment, output, organic personal income and retail sales are still in a fundamental downtrend.  Need to see an improvement in the first derivative. We have evidence that the consumer, after a first-quarter up-tick that was front- loaded into January, is relapsing in the current quarter despite the tax relief (didn’t we see this movie last year?). Not until improvement in the second derivative morphs into improvement in the first derivative with respect to the important economic data will it really be safe to declare what we are seeing as something more than a bear market rally, as impressive as it has been. This is a bear market rally that may have run its course. The investing public is still holding tightly to their long-term resolve, but much of the buying power at the institutional level seems to have largely run its course, in our view. That leaves us with the opinion, as tenuous as it seems in the face of this market melt-up, that this is indeed a bear market rally and one that may well have run its course. We have “round-tripped” from the beginning of the year and there is real excitement in the air about how these last nine weeks represent evidence that the economy will begin expanding sometime in the second half of the year.

So, You Think This Is Another Great Bull Market... Jubliation has replaced fear, and the consensus is now that the second-worst bear market in US history ended on March 9th and it's all champagne and roses from here. Let's hope. In the meantime, let's review what happened after the two other biggest bear market bottoms of the past century, 1932 and 1974 (see Prof Shiller's chart above).  In both cases, as now, the market had a sharp rally off the lows. In real terms (after adjusting for inflation), the 1932 market almost doubled in a year.  The 1974 market, meanwhile, jumped about 35% over two years. But it's what happened after that that matters now. After doubling off the low, the 1930s bear market pushed another 50% higher over the next three years to 1937 (not bad!).  But it then got cut in half again, and it remained below the 1937 peak for 15 years.  In 1949, 17 years after the 1932 bear-market low, when the next secular bull market finally began again, the market was 50% below the 1937 rebound peak and about 70% below the 1929 bull-market peak. In 1974, the market rebounded 35% in a couple of years.  In 1982, however, eight years later, when the actual bull market began, it was back below the 1974 low.  The 1973 peak, of course, was lower than the 1966 high, so the bear market that ended in 1982 was actually 16 years long. That's why they call them "secular" bear markets.So even if March 9th was the bottom of a Great Bear Market that took stocks down 60%+ in 9 years from the 2000 peak (in real terms), let us not celebrate too much about what is likely coming next.  As Jeremy Grantham has said, the great bear markets don't hurry, and this one probably has a long way to run.

• A Great New Bull Market? Why?

Yes earnings beat expectations -- but sales didn't Phillip Coggan in the Economist makes an important point about the "positive surprise" of corporate earnings in Q1: Earnings beat expections, but revenue didn't: “Optimists point to America’s first-quarter results, in which 66% of reporting companies beat expectations, according to HSBC...  [But] Andrew Lapthorne at Société Générale points out that 62% of American companies have missed expectations for sales. That implies the profit improvement is coming from higher margins, something that it is hard to believe can persist given the economic backdrop.The earnings surprise is good.  But you can't fire your way to prosperity.”  Until companies start surprising on revenue, all this particular "green shoot" shows is that companies are reacting quickly to the recession.

• Happy days are here again 

Risk in Market's One-Track Mind Bears dismiss the proverbial light at the end of the tunnel as an oncoming train. If only: U.S. railroad freight traffic is running about a fifth lower than a year ago. It is one of several less-obvious indicators that all isn't well, despite the financial-market rally since early March. The slump in weekly rail traffic reflects sluggish industrial activity and consumption. Shipments of industrial products are down almost a third in the past year, while raw materials like coal, metals and crops also show steep drops. The pace of decline has picked up relative to the first quarter's 16% fall, according to Credit Suisse analyst Chris Ceraso. In commodities, while crude oil and copper have been on a tear, prices for lumber and natural gas remain depressed. Lumber is exposed to construction and has been in a bear market since 2004, so it might be regarded as a special case. Still, there is little sign of a rebound. Natural-gas prices, meanwhile, are perhaps half the marginal cost of production. Such weakness reflects a glut of natural gas, exacerbated by falling electricity demand, down 6% in March. That can't be put down merely to quiet building sites. Companies' spending plans also sit oddly with this rally. Analysts are predicting a strong rebound in earnings next year. Jefferies & Co. said analysts also are predicting cuts to capital expenditure as a proportion of revenue and relatively flat earnings before interest, taxes, depreciation and amortization margins in 2009 and 2010. Unless productivity rises sharply, boosting revenue, that doesn't add up. As companies try to protect profits, the losers will be employees. Carl Riccadonna, an economist at Deutsche Bank, calculates that wages and benefits accounted for 68% of U.S. household income over the past 10 years. With other forms of income, particularly gains on assets, flat or in reverse, rising employment income will be critical to fostering a real recovery. April's headline payroll number, skewed by government hiring, obscured big declines across industry sectors, as well as falling temporary hires, a leading indicator in the labor market. Hourly earnings growth slowed, year on year. In addition, more than two-thirds of the 3.3% year-on-year increase in aggregate disposable personal income in the first quarter came in the form of lower tax payments. Washington is similarly providing a crutch in the form of quantitative easing, helping homeowners refinance at cheaper rates. Against this, lending conditions remain tight. Moreover, the threat of unemployment limits demand for credit, as demonstrated by the rising savings rate. Overall, spending power is leaching out of the economy even as funds desperate not to miss out on "the turn" pump money into riskier asset classes. Another old bearish saw, about selling in May and going away, is looking apposite.

Credit Rebound Running Out of Steam Too far, too fast? Investors have rediscovered their risk appetites, leading to a remarkable rally across all asset classes. But the recovery in the credit markets -- still at the heart of the crisis and central to any durable improvement in the economic outlook -- now looks to be running out of steam. Over-bullish equity investors should take note. Some recovery was overdue. Once it became clear governments had averted the complete collapse of the financial system, credit markets were bound to rally from prices that discounted a deeper downturn than the Great Depression. Since March 9, the iTraxx Europe credit derivatives index has tightened by 38%, reaching levels last seen in early October, while the S&P 500 has risen 34%, leaving it marginally higher on the year. The rally has been the equivalent of a huge sigh of relief. But there are three reasons to believe the credit market rally has gone far enough. First, any economic recovery is still an article of faith rather than a matter of fact. First-quarter earnings for S&P 500 companies may have beaten expectations, but revenues were down 14%, suggesting any improvement is the result of cost cuts rather than increased private-sector demand. Second, the global corporate default rate only hit 8.3% in April, according to Moody's Investors Service. That is still a long way below many analysts' forecasts of 14%-15% over the course of this cycle. Many investors believe that the credit market cannot recover fully until defaults peak -- expected in the fourth quarter. Third, investment grade corporate borrowers have had the market to themselves for the last few months but now face growing competition as banks step up unguaranteed debt issuance, a move that could reduce scope for further spread tightening. Rising yields on government debt could also lure cash away from riskier assets. Credit investor attitudes may already be shifting, particularly in the riskiest parts of the market that are closely linked with equities. Credit derivative market volatility has risen, triggering a sharp reversal in the Crossover index. Meanwhile, in the high-yield bond market, two-thirds of European investors now plan to keep holdings at their current levels even with fund inflows set to rise, according to a survey by J.P. Morgan. That is a big shift since February, when nearly half of investors planned to buy.

Business

Retailers Respond to Recession Shopping Habits The nation's retailers have begun to embrace the new cost-conscious consumer, developing products they can sell at lower prices without driving themselves out of business in the post-splurge era. Retailers have absorbed the lessons of a ruinous holiday season. Caught with shelves full of unsold merchandise, they slashed prices to draw in shoppers. But the strategy was unsustainable: It decimated profits and resulted in massive layoffs, killing off a number of chains, including Circuit City. Serving recession-era shoppers, retailers realized, would require a long-term strategy featuring lower prices. "What we have is retailers reacting to a very low-appetite consumer and a consumer that has been now taught to wait," said Michael Silverstein, senior partner at Boston Consulting Group. The new consumer has curtailed spending and increased savings to 10-year highs. Smaller houses are newly coveted, bringing the average size of a new home down in 2008 for the first time in 35 years, according to the National Association of Home Builders. Fancy dinners out have been scaled back, prompting restaurants to reconfigure their menus. (Clyde's created a cheaper entree by offering one crabcake instead of two last month.) A recent survey by Boston Consulting Group found that 48 percent of consumers said they traded down on products last year, an increase from 41 percent in 2007. The number of shoppers trading up fell by six percentage points. Retailers reassess their prices and their assortment of products every season. But this year, they are being particularly conservative. They are less willing to take risks on trendy, unproven merchandise and are stocking tried-and-true customer favorites. They have been reducing inventories; import cargo fell to the lowest level in seven years in February, according to an industry trade group. Many are putting more emphasis on lowering prices on the cheapest version of their products.

• Wal-Mart Says Its Market Share Is Rising

"Bill Ackman Is Wrong" About Target: REIT Plan Is "Madness," Retail Expert Says The proxy war between Target and Pershing Square's Bill Ackman heated up Thursday. "We believe Pershing Square has presented no plan or strategy to justify a change in your Board or management team," Target said in a letter to its shareholders. Furthermore, the retailer "is expected to take aim at Mr. Ackman's nominees to the board for the first time since he launched the fight in March," The NYT's DealBook reports. Bill Ackman is a brilliant investor but "he's wrong about Target," and the proxy fight is doomed to fail, says Howard Davidowitz, chairman of Davidowitz & Associates. Ackman's plan to spin-off Target's real estate assets was "madness" says Davidowitz, a veteran retail industry consultant. He compares Ackman's efforts to revamp Target with Eddie Lampert's involvement in Sears Holdings, which hasn't worked out so well for the retailer or its shareholders.  Furthermore, Davidowitz asserts there's 100s of other company's more deserving of shareholder activism than the big box retailer. Target is well managed, very charitable and doing the right things to adapt to a changing retail landscape, he says. Sill, Davidowitz gives the hedge fund manager kudos for pushing Target to exit the credit card business - even if the firm only went half way. (Last year, Target sold 47% of its credit card business to JPMorgan.)

Panasonic slumps to $4 billion annual loss Panasonic Corp. slumped deep into the red last fiscal year, joining the expanding club of big Japanese brands shellshocked by their rapid descent from cash cow to money loser. The world's biggest plasma TV maker Friday reported a 378.96 billion yen ($4 billion) loss for the fiscal year ended March -- its first loss in seven years -- and expects to stay in the red in the current year. Business slumped across all segments amid lackluster demand for everything from flat-screen TVs and digital cameras to home appliances and semiconductors. Sales were down 14.4 percent to 7.77 trillion yen, and operating profit tumbled 86 percent to 72.9 billion yen. For the January-March quarter, Panasonic booked a record net loss of 444.3 billion yen compared with a profit of 61.6 billion yen a year earlier. The results represent a swift reversal of fortune for Panasonic, which just last year posted a record net profit of 281.9 billion yen. But it is only the latest among a score of bellwether brands in Japan releasing grim results as the world's second-biggest economy gets battered by the unprecedented slump in global demand. On Thursday, rival Sony Corp. said it lost $1 billion yen last fiscal year. Toyota Motor Corp., meanwhile, swung from a record profit to its worst annual loss since being founded in 1937. Panasonic vowed to press ahead with "drastic business structural reforms" to try to engineer a recovery. For the 12 months through March 2010, it forecasts a steeper-than-expected net loss of 195 billion yen on sales of 7 trillion yen. It predicts that operating profit will climb 3 percent to 75 billion yen, though analysts say the projection looks overly optimistic. President Fumio Ohtsubo has said he wants to shutter unprofitable business lines, shift resources to those with growth potential and improve product quality. The firm is slashing capacity and aims to cut about 5 percent of its 300,000-strong global work force by next spring. The company will close 40 production facilities worldwide by March 2010 to help save 135 billion yen this year, said Panasonic official Makoto Uenoyama, according to Kyodo news agency

• Sony Posts First Annual Loss in 14 Years
• Sony's Stringer Will Sell You a TV and a Movie, Too
• Sony Losses Raise Pressure on Stringer

GM Dealers Expect Word on Plans to Cut 1,100 Shops A day after Chrysler LLC told a quarter of its dealers that it won't renew their contracts, owners of General Motors Corp. dealerships are awaiting word on whether they will be next. GM said it will notify 1,100 U.S. dealers on Friday that their franchise agreements will not be renewed. Dealers expect to hear either by telephone or FedEx letters that will begin arriving Friday morning. The cuts will come just a day after crosstown rival Chrysler announced it was dropping 789 of its roughly 3,200 dealerships by around June 9. Both companies have too many dealerships for too few sales are slashing costs as they race to restructure. GM's dealer cuts are part of the company's plan announced last month to cut more than 2,600 dealers by 2010. The remaining cuts will come from closed Saturn and Hummer dealers, along with 400 dealers that the company expects will close voluntarily. Another 500 would be consolidated into other dealerships. The GM dealer cuts are likely to have a much greater impact than Chrysler's. While many Chrysler dealers also sell other brands and will stay open after losing their franchises, a large number of GM dealers sell only GM vehicles. So if their franchises are revoked, they run a greater risk of closing for good. In both cases, the cuts will cost thousands of jobs, create holes in local tax bases, eliminate community pillars and create economic ripple effects across the country. GM is continuing to restructure out of court and faces a government-imposed deadline of May 31 for doing so. Several difficult hurdles remain, and many experts say that it is all but inevitable that it will follow Chrysler into Chapter 11 bankruptcy. To remake itself outside of court, GM must persuade its bondholders to swap $27 billion in debt for 10 percent of its risky stock. In addition, it must work out deals with its union, announce factory closures, cut or sell brands and shutter dealers. Swapping its bond debt for equity may be its most difficult task. The company is trying to get 90 percent of its bondholders on board for the so-called debt-for-equity swap. A committee representing the bondholders has rejected the swap, saying it unfairly favors the government and the United Auto Workers union. They have counteroffered seeking a 58 percent ownership stake, which the automaker in turn rejected.On Thursday, GM said that bankruptcy is possible if it doesn't get enough takers on the exchange. If that happens, it likely would sell most of its assets to a new company and liquidate the rest, the automaker disclosed in a regulatory filing.

• Chrysler Plans to Shut 1 in 4 of Its U.S. Dealers

Businesses Quit Slashing IT Budgets After reducing their budgets sharply for months, many businesses across the U.S. have stopped slashing information-technology spending, a shift that could stem revenue declines at tech companies, including Hewlett-Packard Co. and Cisco Systems Inc.Spending on computer hardware, software and services used to be one of the fastest growing segments of the economy, increasing 9% in 2006 and 13% in 2007, according to Forrester Research. But growth in corporate tech spending -- the primary source of revenue for such behemoths as International Business Machines Corp., Dell Inc. and Oracle Corp. -- slowed to 8% in 2008, and it is expected to contract 3% in 2009. The shift toward stability isn't likely to show up when H-P and Dell report quarterly earnings over the next two weeks. Both companies are expected to announce declines in profit and revenue from a year earlier. But interviews with more than a dozen chief information officers and corporate technology executives who oversee tech spending indicate that a range of U.S. businesses have finished cutting. The stabilization doesn't mean the good times are back in tech. While spending may have hit a bottom, the executives say they don't intend to boost their budgets again until after their businesses and the economy as a whole have shown stability for several quarters. For 2010, they anticipate tech budgets that are mainly flat. Over the past year, the tech sector has had to grapple with rapid revenue declines. But in recent weeks, several prominent tech-industry chief executives, including Cisco's John Chambers, Intel Corp.'s Paul Otellini and EMC Corp.'s Joe Tucci, have said publicly that tech spending has started to stabilize. The change won't show up on tech-company balance sheets for awhile. Cisco's revenue for its most recent quarter was down 17% from a year earlier, EMC's fell 9.2%, and Intel's dropped 26%. Nonetheless, each company's CEO said that other metrics gave them confidence the worst is over. At Cisco, for instance, the number of orders placed by customers in the April quarter fell more than in the January quarter. But in a break from the recent past, the declines didn't get worse as the quarter progressed.