Notes from my scorecard
October 29, 2009
I have been busy the last two weeks preparing for a “back up the truck” idea that was sent to daily update subscribers and executed yesterday. If you would like to subscribe it is only $1 per day and ALL of the proceeds go to Food on Foot, a Los Angeles charity that feeds, clothes and finds job opportunities for the homeless and poor. Subscription details can be found here.
The following are a few of the highlights subscribers received in the past two weeks. I publish Sunday through Thursday evenings around 10pm with my thoughts on the day’s economic and market driven events with many hand crafted charts and graphs that give subscribers a needed edge in these turbulent times.
10/18: Economics 101
We are all taught in school that an increase in prices will lower demand and a decrease will create buyers and we are seeing that now in low priced houses. If the Fed increases the Funds rate to 2.0% (as Barron’s suggested) will that stimulate demand for credit? Please take the time to open the following link to a chart that shows the path of credit demand and bank investment in the past three months. The right side represents the level of loans and leases in bank credit (pink line) which has declined by more than $300 billion since July. The left side shows the level of investment in Treasury and agency securities banks own (blue line) and has risen by just under $300 billion since July. With interest rates low the demand for credit supplied by banks is near zero and banks feel more comfortable investing their money in government securities.
I spend a good part of every weekend reading the transcripts from company earnings calls with analysts (when I am not feeding the homeless). The Bank of America analyst call had a few nuggets worth sharing because they clearly show the current thinking of big banks. CEO Ken Lewis was asked when BofA was going to ramp up loan volume. He answered that if the economy gets better we will be there to supply credit. CFO Joe Price was asked what BofA was going to do with the extra money available from a decline in outstanding loans. He answered the bank is going to spend money buying back its debt. Both of these answers were indicative of where large banks are headed in the next year.
The Fed’s weekly h.8 report released Friday October 16 showed a decline of $10 billion in commercial and industrial loans and $10 billion in real estate loans. Cash assets held at the Fed rose by $100 billion last week with $30 billion coming from the sale of Treasury and agency securities. I urge all readers to take a couple of minutes and review the first page of last week’s report (summary) and focus on line 3 (Treasury and agency securities), line 9 (loans and leases in bank credit) and line 25 (cash assets). When banks begin to lend again they will decrease their holdings of bonds and draw down their balances held at the Fed. Yes it really is that simple but as BofA CEO Lewis told analysts last week it won’t happen until they see the economy (not just the stock market) recover because the last thing a bank wants is collateral that is declining in value.
Given the above facts do you think a increase in short term interest rates of 2% will have a positive impact on loan demand?
10/18: If we build it they will occupy?
Since we only see the future from our own experiences and every dip in real estate prices as always turned out to be a great buying opportunity why wouldn’t builders be building for the next boom in prices? According to the Charlotte Observer two developers are building more than 300,000 of new industrial space even though the current vacancy rate is 12.9%. These developers are either brilliant or unaware of economics 101 where an increase in supply almost always results in lower prices and rents.
10/20: The Fed
Fed Chairman Bernanke spoke at a SF Fed Conference on Monday but without the usual press coverage. His remarks centered around a plea from the Fed head for an increased US savings rate and more consumption and less savings for China. In theory this sounds like a great solution to world trade imbalances but in reality the only way we will see China consume more and save less is if the one child per family limit is lifted giving parents more certainty of being taken care of in their senior years. For the US a confusing message seems to be coming out of Washington. The Treasury Secretary and President have created fiscal stimulus hoping to jump start spending and investment that will result in more jobs. The Fed Chairman has increased the supply of money but appears to be telling the world that he is afraid of future inflation and the Fed is preparing for an exit to its quantitative easing strategy. But Mr. Bernanke wants increased savings from US consumers and investors which would replace foreign investor purchases of Treasury debt. Increased savings is always a result of declining spending unless the government plans on sending every tax payer a check for $1000 with the requirement it must be used to purchase government bonds. Increased personal savings would be better for the long run health of the US economy but in the short run (3-5 years) create a massive amount of pain for the country and guarantee more government stimulus plans, bigger deficits and probably a much lower dollar. (higher gold?) If inflation stays low (0%) and long term interest rates remain at 3%+ the real rate of return will be sufficiently high to attract world capital into our debt markets allowing the savings rate to increase without a severe setback for GDP. It’s a true tight wire act that will take the skill of circus performers to accomplish in the next couple of years.
10/21: Rents declining
Apartment rents (A&B buildings) continue to decline across the country according to a survey of more than 3.2 million units. It’s hard for rents to rise when unemployment is rising and competition for space is increasing due to the number of single family houses available for lease. San Jose led the nation in the past year with an average decrease in rents of 10%. For those that own buildings where vacancy is increasing you might want to use a method that always seems to work no matter the state of the economy: allow pets in your building.
10/22: Japan
Every day I am becoming more bearish on the path of the Japanese Yen and tonight I want to present a few charts that every reader should review because of the similarity to what is going on in the US. The first chart shows money growth (M2) versus the GDP of Japan from 1981 until today. The high flying 1980’s were accompanied by double digit growth rates in money supply. Money supply has increased between 0-5% for the past 15+ years and the GDP straddled the zero line with quite a few years of negative growth. In the last few years money growth has been constant but the GDP fell sharply as a recession turned into a mini-depression. The second chart shows the declining velocity of money and how the Japanese are borrowing less each year thus making it harder for GDP to grow despite positive money growth. The third chart destroys the myth that positive economic growth is always followed by a pick up in the inflation rate. Annual GDP growth is plotted against the inflation rate and for most of the past decade price levels have fallen despite an economy that grew by 1-2%. Lastly we look at consumer credit which peaked in 1992 and has been one of the main reasons the Japanese economy has been unable to grow at rates that would increase employment and income. In a few years we will see similar charts for the US as we are being led down the same path as the Japanese but twenty years later. History does repeat but not when we expect it to happen.
10/25: Gold finds a new buyer
The quote of the day comes from the director of research at the Teachers Retirement System ($95 billion in assets) of Texas, Shayne McGuire. He said: “I think the largest institutions like our own are realizing that we barely own any gold, the same thing applies to most of the pension funds which manage trillions of dollars in world wealth.” Mr. McGuire is the portfolio manager of a new $250 million fund for the Teachers that is invested in precious metals, mining stocks and exchange-traded funds. We now have China buying on dips to hedge against their massive dollar holdings and a state teachers retirement plan diversifying its assets into gold. I continue to believe gold will reach at least $1300 in the next year and the safest way to play is long gold/short yen. I do NOT want to chase strength in this trade and readers should wait for a pullback to just under 95,000 before initiating long positions.
10/26: The downside of a weak currency
Iceland’s economic woes have been chronicled over the past couple of years: a weak currency, massive budget deficits and double digit interest rates that attracted “hot” capital. When the capital left for other destinations the country crumbled and is not doing much better today than when the crises first hit. Today McDonald’s announced they will be closing their three stores in Iceland. The franchisee said: Even though sales have never been better low margins and the collapse of the Icelandic krona forced them to close.”
10/27: Japan saves less
Because we only see the future from our own past experiences and the fact the only recent experience of a severe recession/mini-depression is from Japan has everyone using their last decade as a model for the US. There is a MAJOR difference between the Japanese experience in the past 20 years and today’s US economic landscape. The Japanese entered their period of no growth and no inflation with a very high savings rate that was used to cushion the blow of low income and production. In 1980 the savings rate was 8% and they began the 90’s with a healthy 6% rate but these savings have been used to replace the decline in income from an annual increase of 6% to this year’s actual decline in household income. Japan must find a way to increase income levels and since it has very little natural resources (oil, grains, etc.) it’s only viable choice is to allow its currency to depreciate giving expor ts a chance to compete with China and other Asian countries. Gold’s up move this year is more about a move away from paper currencies than a fear of inflation and if I’m correct about the yen moving to 120 it will give gold more momentum on the upside as yen holders will flee to gold (with the Chinese, Europeans, British, etc.)
10/28: US stocks
The S&P fell for the fourth consecutive day on Wednesday and has now fallen 5.04% since the high on Monday October 19th. Since the March low the only larger decline was in July (7%) and was quickly followed by a move to new highs. To analyze the current state of the market we must review our two leading indicators. The Nasdaq/S&P ratio has pulled back to its recent trading range while the S&P has not yet broken the pattern of higher highs and higher lows seen in the advance since the bottom in March. The Aussie dollar which led the S&P upward since March has an identical pattern to the S&P and has not yet broken its uptrend line (green) or its pattern of higher highs and lows. The benefit of the doubt must be given to the bulls for a move back to last week’s highs unless we see a lot more weakness in the Nasdaq and Aussie dollar.