Window Dressing
Dear Reader,
Kicking off today’s edition, I’m handing the controls over to the tireless Bud Conrad, chief economist here at Casey Research. He provides the latest update on the state of the U.S. consumer and their ability – or lack thereof -- to return to the economic driver’s seat anytime soon.
His report follows…
The Consumer and Business Are Both Tapped Out
Bud Conrad
Data published on Oct. 7 confirms what we all know, that the U.S. consumer is not borrowing to spend. In a world where credit has become so important to consumer spending, and where consumer spending drives 70% of GDP, the indicator confirms that the economy is still in slow-growth territory:
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While overall consumer credit continues slowing and is now declining at a rate of close to 5%, the subset of revolving credit, namely credit cards, is slowing even more – by 7.8%.
And consumer credit isn’t all that’s on the decline: commercial and industrial loans are off 12%.
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Borrowing tends to be a lagging indicator, as the aftermath of a recession still lingers in the minds of consumers, and is reflected in more cautious banking practices. As the charts clearly show, the whole private sector is still in record-low borrowing mode.
The government, on the other hand, is doing the opposite – borrowing like crazy – in an attempt to counteract the Great Deleveraging. If we didn’t have the government directly supporting specific markets, the trends in private-sector borrowing would likely be even worse. And, with them now falling at a record pace, they are already about as bad as it gets – confirming how serious the current recession is.
Push for Performance
David again. As we ponder the dichotomy between the fundamentals of the economy, which could be correctly summed up as “miserable,” and the continued rise in stocks, it’s hard not to wonder if the vision of the trading herd extends past the tips of their collective noses.
Don’t they see the data on struggling U.S. consumers, the former workhorses of the U.S. economy? Aren’t they aware that there is a trillion-dollar commercial real estate debacle coming? Or that housing is set up to take it in the neck again over the next two years as millions more homes are foreclosed? That double-digit unemployment is a certainty? The terrible consequences of a government run amuck?
The answer comes in two parts, “Yes” and “We don’t care.”
Any trader having achieved the point in their career where they have license to bet millions of dollars of client money in a single trade are usually reasonably well informed. So, yes, they have to be looking at much the same data we are and recognizing the dark clouds on the horizon for what they are. (A friend of mine who operates in some of the most rarified air of high finance confirms this.)
The “We don’t care” part increasingly has to do with the fact that we are now in the final quarter of the year. Which is to say, the home stretch for 2009 – a period of time when maintaining one’s performance record for the year becomes job #1.
That desire to hang on to performance is, of course, a combination of securing one’s bragging rights – no one likes to be a laggard – and, even more important, being able to calculate performance bonuses.
Which begs the question, can the trading herd create a self-fulfilling prophecy? To some extent, they actually can. That’s because the U.S. stock market is relatively small, compared to other markets. For instance, the average daily trading volume of the New York Stock Exchange is $40 billion, a pittance compared to the $840 billion daily volume in U.S. bonds. As such, it is not immune from being pushed around.
Now, that is not to say that anyone is deliberately pushing around the stock market – though they certainly could be. Rather, it is that the big money managers are acting in much the same way a herd of wildebeests do when in self-protection mode – say, when being stalked by lions. Run together and you’re safe. Break off from the herd and the odds soar that you’re what’s for lunch. Or, in the human context, it’s coal for Christmas.
Of course, while money managers may be able to push the market about, they can’t wave a magic wand over the economy and heal all that ails it. Thus, the big unspoken plan seems to be for the herd to continue running on a generally bullish path past the end of the year, and then break in formation as the chasm of 2010 looms. Which is to say, run back into short-term Treasuries and the likes just before the really bad news breaks. The retail investor, not getting the signal, will keep running – right over the edge.
If no black swans land between now and the end of December, the herd should be able to keep the market within a fairly tight range from here. Gold, which has been moving sympathetically with the market of late, will probably also trade in a range, with both markets susceptible to the inevitable corrections. After December, all bets are off.
In an ideal world, that’s how it’s likely to work out. However, as you don’t need me to tell you, we don’t live in an ideal world. And so it would be a mistake to discount a black swan landing in the middle of the herd and spooking it into a panicked sell-off… an every-man-for-himself scramble to lock in what performance they have to that point.
The temporary failure of Congress to pass the initial bank bailout in September of 2008 was enough to send the DJIA down by over 700 points in a single trading session. What could it take this time around to alter the generally pacific scenario just described?
While I could attempt to identify what such a bird might look like, the list is too long to contemplate here, and so I won’t try. But that the list is long, and that there is real danger lurking ahead that the herd is well aware of, means that playing this bear market rally has little to do with investing at this point and everything to do with speculating. Or, if you are a member of the trading herd, performance enhancing.
Russia Drops the Dollar?
Much has been made of the fact that the major oil-producing countries have been engaged in discussions about dropping the dollar as the official trading currency for global oil markets.
The Russians were one of the participants in this discussion. As they well should be, last month they took the lead as the world’s largest oil producer, producing almost 25% more oil than #2 Saudi Arabia. You can see the increase in their production in the chart below, which the folks at U.S. Global Investors were kind enough to forward. (The U.S. Global site has a lot of useful research on resources, check it out at www.usfunds.com.)
If you think things are geopolitically tenuous now, with our reliance on the Middle East for our oil, just wait until the Russians begin throwing around their weight in world energy markets. If the power politics they’ve played with Europe over natural gas are any indication, times will be a-changing.
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And That, Dear Readers, Is That.
David Galland
Managing Director
Casey Research
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