FMX | Connect – www.fmxconnect.com - (Reported 10/22/2010)
Excerpt from MARKET MUSINGS & DATA DECIPHERING
WHILE YOU WERE SLEEPING
European equity markets are off today while Asian markets were broadly mixed (eking out a 0.3% advance). The U.S. dollar is now in consolidation after some soothing comments out of Treasury Secretary Geithner.
On the data front, Germany continues to rack up pleasant surprises, this time in the form of the Ifo business sentiment index, which rose to a three-year high of 107.6 in October from 106.8 in September — the consensus was at 106.5. As for the Fed, all we can say is that following the comments out of Messrs Hoenig and Fisher, Mr. Market may have jumped the gun believing that Mr. Bernanke has the green light to embark on a ‘shock and awe’ QE2 program come the FOMC meeting on November 2-3. Key on the docket today is the G20 meeting of finance ministers. At issue is any action that will be taken with respect to currency stability.
When one sifts through today’s FT, particularly the articles on page 3 (Portugal’s Deficit Target in Peril, France Faces More Strikes Over Pensions and Levy Hardest Hit on Big Banks), one starts to wonder whether it is the euro that should now be sold, rather than just the U.S. dollar. Alternatively, both are likely to go down in tandem against the item that everything else is being depreciated, devalued and debased. Gold.
ECRI WAS RIGHT ALL ALONG!
We rarely pay attention to blogs (John Mauldin, Barry Ritholtz and Tyler Durden aside) but yesterday yours truly was slammed by one Vincent Fernando (Here's Why It Was Ridiculous When David Rosenberg Used The ECRI To Predict A Double Dip — nice catchy title).
Well, if the truth be told, if things in the economy are so good and the ECRI was so wrong, why then did Bernanke hint about another major round of QE. No mention in this article, by the way, of how the Fed has now cut its forecast three times in the last four months. The fact that the 10-year Treasury note yield has plunged 150 basis points since April is actually telling you that there is an asset class out there that has responded forcefully to double-dip risks. And, let’s not forget that the Macroeconomic Adviser’s GDP figures show that the economy has contracted in three of the past four months.
It’s always encouraging to find yourself in the company of people you respect. To this end, have a look at the article on page C1 of the WSJ on Bridgewater’s Ray Dalio. To wit:
“One of the nation’s largest hedge funds is emerging as a big winner of 2010, earning its managers and clients billions in profits through a series of bearish bets on the U.S. economy.
Bridgewater Associates Inc. has scored a return of about 38% at its flagship fund, driven in part by a multifaceted wager that the U.S. economy would be in worse shape than many expected and the Federal Reserve would keep interest rates low....”
Then, we see this from Ken Goldstein, the Conference Board’s economist, on page 22 of the FT:
“More than a year after the recession officially ended, the economy is slow and has no forward momentum. The LEI suggests little change in economic conditions through the holidays or the early months of 2011.”
So you see, Vincent, it may not be a “double dip” per se, but stall-speed isn’t really altogether that far away from it either. And guess what? The ECRI actually did nail it!
QUICK SYNOPSIS OF YESTERDAY’S DATA
Bloomberg runs with a headline Leading Index Rises, Signaling Growth and the focal point was the +0.3% MoM print in the September index of leading economic indicators (LEI). Give me a giant break.
The way the LEI is now constructed, as long as the yield curve is positively sloped, it contributes to the LEI and it has done so even though the yield curve has flattened substantially. In fact, all of the gain in the LEI was due to the yield curve, even though the yield curve, when policy rates are zero, tells you absolutely nothing. Nada.
Strip out the yield curve and the LEI was flat as a pancake after being negative for three months in a row. Not only that, but strip out the curve and the S&P 500 — the LEI outside of these two financial variables then zones in on the “real variables” and actually has a higher correlation to growth than the LEI itself! — and the leading indicator fell 0.1% and has been down now for four months in a row, which is surely a double-dip event, having occurred less than 5% of the time in the past (see more below). Not only that, but the coincident-to-lagging index — which leads the leader — fell 0.4% MoM and is now down three months in a row.
Of course, there was even more jubilation over the Philly Fed index, which rang in at the oh so strong +1.0 level. Of course this is a green shoot after coming in at -0.7 in September and -7.7 in August but come on. Plus one-point? That is reason to go uber cyclical? The index was north of +20 back last April and May for crying out loud! The economy is, in two words, squishy soft. Not contacting, but not that far off either.
Oh yes, and jobless claims coming down to 452k. Well, they are still in a range and the best trick in the world is to revise up the prior week (as has been done 25 of the past 26 weeks) and voila — claims manage to decline in the latest week. The hand is definitely quicker than the eye.
As for earnings, it is completely true that an above average 83% of companies that have reported thus far have beaten their profit estimates. But it is also true that a below average 60% have beat on the revenue front. And when margins are already at a cycle high, that poses a bit of a problem, especially considering what commodity prices are going to do to margins — crushing them (just as Caterpillar suggested yesterday in its earnings release)— in the coming year.
As for the holiday shopping season, we just received some findings from a survey conducted by First Command Financial Services — 71% of middle-income families intend to spend less this season compared to last year. In the name of frugality, 38% intend to spend less than $500 on gifts this year — more than double 18% a year ago. To think, we are viewed as being bears on the economy — the consumer is about to take on the role of Scrooge.
Read more of the details below on these macro thoughts.
As for the markets, all we can say is that equities have become oversold with twice as many bulls than bears in the Investors Intelligence poll. The last time there was such giddiness heading into a political and economic event as we have on our hands now between QE2 and the mid-term elections was back in November 2008 (TARP getting passed, the Obama rally and of course, the Fed dropping rates to zero and hinting at QE1). That ended up being a classic case of much ado about nothing and selling the fact after buying the rumor. Of course, the sagging coincident-to-lagging indicator correctly flagged a super-soft economy ahead, much as it is doing now.
Patience is always a virtue, more so now than at any time in the past two years.
CLAIMS STUCK IN A RANGE
Initial jobless claims in the U.S. came in slightly better than expected at 452k for the week of October 18. The headline was probably the most positive aspect of the report as the prior week saw a significant upward revision to 475k. Given that this week’s data encompassed the Columbus Day holiday and many States reported office closures, this number could actually turn out to be higher in the final tally.
Note that this particular week was the nonfarm payrolls survey reference week and compared to last month’s survey week, claims barely budged suggesting a modest payroll number, at best. In fact, this has been the story for most of 2010: claims have been stuck in a range, averaging around 430-470k, which is not consistent with meaningful employment growth.
LEADING INDICATORS: DEVIL IN THE DETAILS
On the surface, the Conference Board’s index of leading economic indicators (LEI) report seemed decent enough, registering a 0.3% monthly gain for September, exactly as expected. But the details of the report were to be desired and in fact, suggest sluggish economic growth ahead.
One of the 10 components of the composite index is the level of the Treasury yield curve. Given that short rates have been at virtually zero since the end of 2008, it is really no surprise that the yield curve has consistently made a positive contribution to the index since then. We think it’s much more meaningful in a zero-interest rate environment to look at the LEI excluding the yield curve, which was flat in September after three straight monthly declines.
If we strip out the S&P 500 as well to get a sense of how the “real economy” is doing. On this measure, the LEI fell 0.1%, the fourth consecutive monthly decline. This is actually a rare event when the economy is not in recession: going back to the early 1960s, four consecutive monthly declines in the LEI excluding the yield curve and S&P 500 has happened only 4% of the time (or is a 1-in-25 event).
As aside, when we ran some quick correlations with the LEI, LEI excluding the yield curve, LEI excluding the stock market, and the LEI excluding the yield curve and stock market, the latter had the highest correlation with GDP growth. In other words, the “real economy” components of the LEI historical have the strongest link to GDP growth.
The coincident-to-lagging ratio (a leading indicator of the LEI) fell 0.4% MoM in September and is the weakest since January 2009. Moreover, the ratio is now down three months in a row and we have not seen this happen since we were in recession in 2008-2009.
All in, the details of the report suggest sluggish growth ahead for the U.S. economy. And don’t take our word for it: Conference Board economist Ken Goldstein said in yesterday’s press release that “More than a year after the recession officially ended, the economy is slow and has no forward momentum. The LEI suggests little change in economic conditions through the holidays or the early months of 2011”.
EARNINGS UPDATE: PROFITS GOOD, REVENUES NOT AS MUCH
The U.S. earnings season is off to a good start, with a large chunk of earnings reports coming in better than expected (about 15% of companies have reported). In fact, over 80% of companies are above analyst estimates, about 10% in line and the remainder below. The average surprise factor is 8% (in other words, actual results are about 8% higher than analyst expectations). This is certainly better than the near-term trends — over the last four quarters, 77% of the companies have beat. And, all sectors seem to be surprising on the positive side. The current tracking of overall S&P earnings for Q3 is about 25% YoY, a few percentage points better than at the start of the season.
Revenues have not been as good. Sixty percent of companies have beat expectations of top-line growth, while 40% are below, which is below average. The average surprise factor is zero. And sector distribution has been quite varied with a huge positive surprise in Materials while revenue in Industrials and Financials has come in short of expectations. Overall, revenue growth is running at 7% YoY for Q3. It’s still very early on, but from our lens the great earnings numbers so far are not being supported by revenue growth, which is worrisome for the earnings outlook going forward.
BANK OF CANADA: BELOW CONSENSUS
We noted yesterday that the Bank of Canada had made very deep cuts to their economic forecasts. It is worth noting again how deep they cut, especially to the global outlook. For next year, the Bank expects world GDP to come in at 3.5% (a haircut from their earlier estimate of 3.8%). The consensus of private economists is much more bullish, expecting 4.0% growth. And, it’s not just their views on the U.S. (the Bank is a percentage point below the consensus view of 2.4% growth) and Canada (at 2.3% versus 2.5% consensus) — they are not as bullish on other advanced economies and emerging economies.
David A. Rosenberg
Chief Economist & Strategist Economic Commentary
drosenberg@gluskinsheff.com
+ 1 416 681 8919
Source: Market Musings & Data Deciphering
http://www.fmxconnect.com/
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